Macro, what have you done for me lately? What has macro done for the human race in the last 40 years?… Today, in 2012, do we know much more about the "shocks" that cause recessions than we knew in 1972?… The question of whether these shocks are mainly "real" or mainly "monetary" is not settled…. [T]he actual cause of recessions is basically still one huge mystery.
What about the question of how the economy responds to the shocks?… [I]n terms of impulse responses… we have as many different guesses as we have macro theory papers. And macro theory papers are as numberless as the stars in the night sky.
What about the question of policy? Do we know how governments can damp out the swings in the business cycle? Here there seems to be very little agreement… huge diversity of opinion on both the efficacy and the proper conduct of monetary policy, fiscal policy, and other recession-fighting measures. That there is no consensus means that the question is still unanswered…. [M]odern macro models - at least, the DSGE variety - are basically not regarded as useful by private industry…. Given this state of affairs, can we conclude that the state of macro is good?…
[The] policy consensus (basically interest rate targeting by the Fed, with a Taylor Rule… [that led to the] Great Moderation… [was] mostly inspired by the Volcker episode rather than by the models that came after it; the New Keynesian "consensus" was always rather fragile, accepted by central banks but pooh-poohed by the academics that Krugman calls "freshwater" macroeconomists; and Taylor-type rules were originally estimated as Fed reaction functions, describing Fed behavior rather than prescribing it….
From my perspective, back in 2007 there were three groups of macroeconomists:
- financial-history macroeconomists drawing on Bagehot, Minsky, Kindleberger who knew a lot;
- central-bank macroeconomists who had settled on (i) open market operations as the stabilization policy rule of choice, (ii) following some feedback rule, (iii) with worries about what to do if the ZLB came into play, and (iv) some concerns about regulation and macro-financial stability, and who were having an active policy-relevant conversation; and
- academic macroeconomists, who had modeling ideas none of which had yet produced or promised to soon produce what would be, in Blanchard and Fischer's language, "useful models".
Thus back in 2008-10 there were a number of economists who knew a lot--or could have known a lot--about what the hammer coming down on the economy was and how to deal with it. Those economists who had paid attention to Bagehot, Wicksell, Fischer, Keynes, Hicks, Minsky, Tobin, Lerner, Kindleberger, and company had a great deal useful to say. And those who had built central-bank level models of policy at the ZLB had a good deal useful to say as well.
But back in 2008-10, from where I stood at least, it appeared that their political masters in the Republican Party had called for economists willing to produce arguments (i) against Bagehot-Minsky-Kindleberger lender-of-last-resort policies to halt financial meltdown, (ii) against Fisher-Friedman print-money-and-buy-assets policies to boost private spending, and against Wicksell-Hicks policies of having the government undertake the financial intermediation--borrow money and buy stuff--that the financial meltdown was keeping the private sector from undertaking. And it appeared that a great many economists who had simply not done their homework responded to the call from their political masters--felt compelled to opine with certainty about things on which they were, at a minimum, grossly underbriefed, and to reassure the Paul Ryans of the world that slashing taxes and slashing government spending more in the short run while having the Federal Reserve sell off its bond portfolio in order to raise interest rates was the road to a strong short-run recovery and a rapid fall in unemployment.
A great many macroeconomists knew stuff. But we were, largely, neutralized by a great many who had not done their homework yet felt compelled for some reason to opine with certainty.----
A historical curiosity: Narayana Kocherlakota's views on what he saw as the state of academic theoretical macroeconomics back in 2009:
I’ve read many commentaries in 2008 and 2009 on the state of macroeconomics. For what it’s worth, I thought that I’d offer my own thoughts…. I’ve come to ten conclusions.
1. Macroeconomists don’t ignore heterogeneity: For virtually all of these [modern] scholars… some form of heterogeneity has played a major role in most of their work.…
2. Macroeconomists don’t ignore frictions: Point 1 pretty much implies point 2, because heterogeneity is typically not all that interesting without frictions… price rigidity. Some papers have labor market frictions… asset market frictions… incomplete markets models… overlapping generations models…. Frictions are all over the place in modern macroeconomics.
3. Macroeconomic modeling doesn’t ignore bounded rationality: A lot of macroeconomic modeling does treat all agents as fully rational. But a lot does not – see work by Angeletos, Laibson, Piazzesi, Reis, Schneider, Werning, and Williams (probably among others). These people work at some of the top departments in the country – they are hardly shunned as heterodox pariahs.
4. Macroeconomic models do incorporate a role for government interventions: Once you start using macroeconomic models with heterogeneous agents and frictions, government intervention is almost inevitable. The Minnesota and Chicago Ph. D.’s are probably best known for being anti-government. Yet, to pick three of the people on the list, Golosov (Minnesota), Tsyvinski (Minnesota), and Werning (Chicago) have been studying government insurance/taxation systems for most of their careers.
5. Macroeconomists use both calibration and econometrics: Some macroeconomists use calibration, some use econometrics, and some use both. There’s no real methodological debate left in the field on this issue. What is true is that most people outside of macro do not like calibration. I don’t know why. I spent seven years of my life thinking about whether econometrics was better than calibration… and pretty much decided that the answer is: “it depends”.
6. There is no freshwater/saltwater divide – now: These scholars work on different questions and use different models. But it’s hard to see obvious ways to slice them into freshwater/saltwater camps….
7. These researchers have been much more interested in the consequences of shocks than in their sources: Why do we have business cycles? Why do asset prices move around so much? At this stage, macroeconomics has little to offer by way of answer to these questions…. The sources of disturbances in macroeconomic models are (to my taste) patently unrealistic. Perhaps most famously, most models in macroeconomics rely on some form of large quarterly movements in the technological frontier… collective shocks to the marginal utility of leisure… large quarterly shocks to the depreciation rate in the capital stock…. None of these disturbances seem compelling, to put it mildly….
8. The modeling of financial markets and banks in macroeconomic models is stark: It is not true that all macroeconomic models assume complete financial markets…. However, few macroeconomic models capture an intermediate messy reality…. [W]e don’t understand the sources (or costs/benefits) of large-scale daily (or even quarterly) financial asset re-allocation…. [R]ecent events may well lead to a re-ordering of priorities.
9. Macroeconomics is mostly math and little talk: [I]ntuition necessarily plays a limited role in macroeconomics…. [W]e’ve made enormous progress in the kind of realistic complications that we can usefully model. Of course, there is always more left to be done – and recent events have certainly pointed out useful directions for future work.
10. The macro-principles textbooks don’t represent our field well: Little of the exciting work that’s been done by this group has made its way into undergrad textbooks. That’s probably inevitable. But it leads to a real misunderstanding about what macroeconomists do – both among lay-people and among economists in other fields. I hope that some of our gifted textbook writers rectify that situation soon!
And David Glasner:
The State We’re In: I diagnose the problem with macro a bit differently from how Scott does. He is chiefly concerned with getting policy right, which is certainly important, inasmuch as policy, since early 2008, has, for the most part, been disastrously wrong. One did not need a theoretically sophisticated model to see that the FOMC, out of misplaced concern that inflation expectations were becoming unanchored, kept money way too tight in 2008 in the face of rising food and energy prices, even as the economy was rapidly contracting in the second and third quarters. And in the wake of the contraction in the second and third quarters and a frightening collapse and panic in the fourth quarter, it did not take a sophisticated model to understand that rapid monetary expansion was called for….
[I]t was Friedman himself who started modern macroeconomics down the fruitless path it has been following for the last 40 years…. Friedman was explicitly adopting a conception of an intertemporal general equilibrium as the unique and stable solution… suggesting that such a concept was operationally useful as a policy benchmark…. Friedman’s direct and indirect followers, most notably Robert Lucas, used that analysis to transform macroeconomics, reducing macroeconomics to the manipulation of a simplified intertemporal general-equilibrium system…. I find it inconceivable that Friedman could have been pleased with the direction taken by the economics profession at large, and especially by his own department when he departed Chicago in 1977…. The rational-expectations assumption is simply a deus-ex-machina method by which to solve a simplified model, a method with no real-world counterpart. And the suggestion that rational expectations is no more than the extension, let alone a logical consequence, of the standard rationality assumptions of basic economic theory is transparently bogus. Nor is there any basis for assuming that, if a general equilibrium does exist, it is unique, and that if it is unique, it is necessarily stable….
An especially pretentious conceit of the modern macroeconomics of the last 40 years is that the extreme assumptions on which it rests are the essential microfoundations without which macroeconomics lacks any scientific standing. That’s preposterous. Perfect foresight and rational expectations are assumptions required for finding the solution to a system of equations describing a general equilibrium. They are not essential properties of a system consistent with the basic rationality propositions of microeconomics….
[T]he entire field of study called macroeconomics is the result of long historical experience strongly suggesting that persistent, even cumulative, deviations from general equilibrium have routine features of economic life since at least the early 19th century. That modern macroeconomics can tell a story in which apparently large deviations from general equilibrium are not really what they seem is not evidence that such deviations don’t exist; it merely shows that modern macroeconomics has constructed a language that allows the observed data to be classified in terms consistent with a theoretical paradigm that does not allow for lapses from equilibrium. That modern macroeconomics has constructed such a language is no reason why anyone not already committed to its underlying assumptions should feel compelled to accept its validity….
So I certainly agree with Krugman that the present state of macroeconomics is pretty dismal. However, his own admitted willingness (and that of his New Keynesian colleagues) to adopt a theoretical paradigm that assumes the perpetual, or near-perpetual, existence of a unique stable intertemporal equilibrium, or at most admits the possibility of a very small set of deviations from such an equilibrium, means that, by his own admission, Krugman and his saltwater colleagues also bear a share of the responsibility for the very state of macroeconomics that Krugman now deplores.