Macroeconomics: en route
The Institute for New Economic Thinking (INET) hosted its inaugural conference this weekend at King’s College Cambridge, an experiment of sorts. I had the pleasure of attending the conference, my first time to Cambridge. John Maynard Keynes wrote his *General Theory* at King’s College. And as if that wasn’t enough, I dined with blogging legends, Mark Thoma and Yves Smith! The photo was taken at the conference by another attendee, Pierpaolo Barbieri: “Lord Skideslky, easily Keynes’ finest biographer”.
The conference was a spectacular fireworks display of economic panels, featuring experts across a broad spectrum of applied macroeconomic theory and policy, including banking and development. (You can see the speaker list, presentations, and video here). Definitely read other conference pieces by Marshall Auerback, Mark Thoma, and Yves Smith.
Through INET, George Soros is funding a vision: that new and innovative macroeconomic theory prevent, rather than fuel, future “Superbubbles”. INET’s goal is the following:
“to create an environment nourished by open discourse and critical thinking where the next generation of scholars has the support to go beyond our prevailing economic paradigms and advance our understanding of the economic system as a tool to meet social objectives.”
That’s a tall order, and likely not the intended output from the inaugural conference. But what Rob Johnson, Executive Director of INET, probably did have in mind was something of a declaration of war against outdated, disproved, or even deleterious macroeconomic policy and research. And there, I believe that he succeeded.
There was no shortage of criticism at the INET conference.
- Joseph Stiglitz reiterated the sharp divergence between representative agent models and reality.
- James Galbraith went the even more aggressive route by suggesting that REH (rational expectations hypothesis), EMH (efficient markets hypothesis), RAM (representative agent models), and DSGE (dynamic stochastic general equilibrium models) be buried beneath a bed of garlic below Keynes’ quarters with guards standing atop the burial site. (This was not a direct quote but very close.)
- Simon Johnson pressed the need for more action to relieve the systemic pressures coming from the still top-heavy US banking system.
- Dominique Strauss-Kahn charged global policymakers of being complacent with monetary and fiscal policy over the last decade. They were lured in by ostensibly stable growth, when in fact the financial foundation was crumbling below (after, of course, he was disrupted by a globalization protest with the catch phrase “the IMF is the Problem not the solution”).
In my view, the fact that economists were in some sense accepting blame for policy ignorance is a step in the right direction. So what’s the next step? What will it take to move macroeconomic theory and policy in a truly innovative and novel direction? I don’t know; but I do see two issues that will likely drag the process.
Problem #1: the financial crisis has rendered much empirical and theoretical research obsolete; clearly, this is a solid chunk of what I refer to as the “aggregate Curriculum Vitae”. There’s a host of refereed and published literature with now documented spurious results, or entire literature reviews citing papers with theses that tread water at best.
It’s going to take time to break through the concrete wall of neo-classical macroeconomic denial (among other types of denials). This is the “old boys club”, where careers and prestige are on the line. It’s the true sense of economics as a falsifiable science: some disproved and obsolete macro theory remains ingrained in the profession as some academics, some policymakers, and some politicians cling to their reputations. This “enables” bad economic policy.
The good thing, though, is with funding and support from Institutes like INET, this enabling behavior cannot last forever. The aggregate may enable the profession now; but if the foundation starts to crack, i.e., the next wave of graduate students and new tenure track researchers break the mold, the profession will rebuild. I hope.
Problem #2. Talented researchers, early in their tenure careers or currently registered in Ph.D. programs, need incentives and professional support to publish alternative views in top journals. It’s so easy to be shunned from the academic community; just take on an unorthodox research agenda, and bang, you’re bright and shiny career may be over before you know it. So what’s the incentive to rock the boat before establishing tenure? If tenure, by definition, is conditional on top-journal peer-refereed publications?
The new thinking must come from within the Ph.D programs. Building a base of new and sometimes controversial macroeconomic research that is accepted within the top academic community requires funding, but more importantly, a shift in the construct of the labor force. Macro Ph.D. programs across the world need restructuring and innovative teaching that includes an even stronger collaboration between student and adviser than existed before.
They say that lightning never strikes twice. Let’s hope that the economics profession avoids the second strike…this time around.
It takes a generation for this to happen Keynes was regarded by many in 1930 as nearly mad. 30 years later he had become gospel. In many respects what will be happening in economics is similar to the scientific revolution of Kuhn (all be it the economics is not a science in that sense). The other issue is to bring behavioral econ into macroeconomics to measure the herd effect (or the madness of crowds or animal spirits) whatever you want to call it. Clearly comments like Chuck Prince’s about leveraged finance, indicate that if the herd is going one way and you know its going to end badly it takes a very certian person, or one that doesn’t care what the others think to go against the herd. I think the herd effect needs to be looked at in light of macro economics as people merrily are lead lemming like off the cliff because the music has not stopped yet.
I was pleased to note that Wm White, former Economic Advisor, Head of the Monetary and Economic Department at the Bank for International Settlements, Basel, SW was provided an opportunity to present his paper during the session on Anatomy of Crisis – The Living History of the Last 30 years: Economic Theory, Politics and Policy.
White introduced the key counterparts to the financial crisis, some of which are routinely ignored in discussions about the global financial crisis. I’ve highlighted the key counterparts in bold below.
The general failure to recognize the roles of trade policy and the resulting explosion of global trade imbalances that led up to the period of the financial crisis is unfortunate considering that such policies remain in force. There should be no expectation that employment and wages in various countries will not resume the general range of patterns undertaken prior to the financial crisis, absent the presence of new technology and related production that can not be offshored from advanced economies or shifted quickly from one developing nation to another, say China to Vietnam. If anything, more offshoring is likely to occur whether such involves production source shifting or simply production of next cycle goods at offshore locations.
Remarks by William White
INET Conference Session 1
“Anatomy of Crisis- the Living History of the Last Thirty Years:
Economic Theory, Politics and Policy?”
King’s College, Cambridge, United Kingdom
April 9, 2010
George Soros in his comments implied that the current crisis had its roots in the 1960’s. I agree, but will restrict my comments to some particular contributions made by policy since the late 1980’s.
The expansion phase of the last credit cycle, and the associated buildup of “imbalances” began in the summer of 2003. First, virtually any asset price you can think of, including most commodities, experienced an inflection point at that moment and then continued to rise rapidly to inexplicably high levels. Second, credit standards were repeatedly lowered, leading to a massive increase in sub prime lending to households, cov-lite loans to corporations and similar increases in other loans (not least commercial property) based on rising collateral values. Credit and term premia collapsed as did the cost of insurance against bad events. Through both lower lending standards and increased leverage, the risk exposure of banks and financial institutions rose sharply.
These financial developments also had real counterparts. A third imbalance was a sharp decline in household saving rates (and an associated increase in debts) in many English speaking countries, and an unprecedented rise in investment ratios in China. Fourth, with consumption in the former highly import intensive, and investment in the latter geared to exports, global trade imbalances exploded. Fifth, the structure of production became highly skewed towards goods and services in high demand (banking services, construction, wholesale distribution etc.), and towards manufacturing capacity being increasingly concentrated in developing Asia.
The crisis erupted at a “Minsky moment” in the summer of 2007, catalyzed by BNP’s decision to halt withdrawals from three of its off balance sheet vehicles. However, its underlying cause was the nexus of credit driven imbalances described above. It was an accident waiting to happen, and could have started anywhere.
“Talented researchers, early in their tenure careers or currently registered in Ph.D. programs, need incentives and professional support to publish alternative views in top journals”.
It’s nice to see somebody else saying (albeit in a roundabout way) that economics is no more than complicated PR for the ruling class.
Dominique Strauss-Kahn charged global policymakers of being complacent with monetary and fiscal policy over the last decade. They were lured in by ostensibly stable growth, when in fact the financial foundation was crumbling below
If real wages aren’t going up, but ‘growth’ is paramount for the private owners of production, then there is a problem. Any fool (probably making less than $50 K a year) can see that.
No matter. Western MNC’s can step over the carcass of the Western consumer, and sell to China and India. After all, China and India aren’t brilliant enough to develop their own companies for their own domestic consumer . Right ?
Long time no talk to. I have all your answers, but you must be open minded to what I am going to say:
In a nutshell, from a quick scan at 4 AM, economists cannot figure out what is going on. They should have tossed in the name of Al Capone!
Want America to survive? It’s “Impeach or Die”, and I was never more serious in my life as Mad King Ludwig (if anyone doesn’t know what he did go to Wikipedia and look up Ludwig II of Bavaria and his castles) is an ignoramus and he is going to destroy this nation by “change”. He doesn’t have an economic theory. He is “Rule by Thugocracy”.
To use an analogy, we all have limited resources, but Ludwig owns the police and he knows what bank is going to get hit next.
Yes, William White gave a very nice talk; and you highlighted the imbalances that policymakers must contend with. He spent some time talking about the reaction of policymakers to the crisis: he called it the “school of what is different” and the “school of what is the same”. The idea being that if this time was truly different, then policymakers find this more comforting since “it must be the bankers’ fault”. Well, it wasn’t. And forward-looking and effective regulation is a germane policy response.
But so is the fiscal response. He mentioned a new analytical framework – look to the medium term. And part of that new framework must be further deficit spending in order to “facilitate” household deleveraging. If not, well this is unlikely to be the sole Minsky Moment over the medium term. Richard Koo was also there – he found that in Japan’s case, official forebearance and financial deleveraging requires “substantial public spending”. His talk was very good. (Mark Thoma has it posted at his blog).
It does kind of seem that way. But on the positive side, there venerable researchers, like Nobel Laureate Joe Stiglitz, are on the side of “change”. The problem is: his student base is diminishing quickly, so his pull in shifting the labor supply mix is relatively weak.
That’s a good point. Behavioral economics was mentioned several times. But other applications from the hard sciences should also be considered. For example, a physical networking model is now being applied to systemic risk and the behavior of networks. That is a worthy application. Another point that came up is that perhaps economists should be more open to other sciences than physics, biology or engineering perhaps, when assessing mopdels with real application. Information flow is key – and applying models from outside disciplines will be integral to the “movement” to improve/change (see Mark Thoma’s post – he chaired a session on macro theory) macroeconomics.
This makes no sense at all.
Well done Rebecca. Next week I will be be away where there is no cell phone service, no internets, no carrier pigeon service. There will be running water on occasion, but not in pipes. Work fast please, otherwise the week becomes less novel and less about research and more about future living standards leveling out globally. Clean water is not a luxury btw in my mind. Best, Dan
Their choir is among the finest if you have an opportunity.
“advance our understanding of the economic system as a tool to meet social objectives.”
And so what are these Social Objectives exactly that Soros is so concerned about? I can’t imagine it has anything to do with economic freedom.
I wonder whether “change” is really likely. A lot of important people are heavily invested in current economic theory, and it still gains support from its role in Cold War-style propaganda, as seen most recently in the US health care debates. There are considerable interests out there who are glad to use “economic theory” to prove that Pres. Obama is a communist, Govt. action is bad, welfare is bad and deregulation is good. From that angle, we see economics as more a theology than any kind of objective study of the world.
Maybe the way forward isn’t to change economics, but just to abandon it, and develop new ways of looking at production, consumption, trade and credit from the ground up. That’s what happened to scholastic philosophy in the Renaissance – people didn’t reform it, they just abandoned it in favour of the new humanism. I think you can still find scholastic philosophy being taught in some RC seminaries, just the way it was in late mediaeval Paris, but nobody else pays any attention.
…and what, pray tell, is “economic freedom”? I keep hearing Me and Bobby McGee.
(“freedom’s just another word for nothing left to lose”)
Definition #1 – Economic freedom is the fundamental right of every person to control his or her own labor and property. In an economically free society, individuals are free to work, produce, consume, and invest in any way they please, with that freedom both protected by the state and unconstrained by the state.
Definition #2 – The freedom to produce, trade and consume any goods and services acquired without the use of force, fraud or theft.
If you open your eyes and see the government’s hand, and accept that the oligarchs are being fed in the extreme, it makes perfect sense. All else if folly if one tries to analyze what the mkts are doing. The economics of America are now akin to the Chicago Thuggery that got them into power. Why should anyone be surprised that it is not packaged nicely and fits any economic model?
I’m sorry you failed to understand th Wall Street corruption. I worked there for over 25 years. I know of what I speak.
The problem is the corruption in the system by this administratio in America. There are no regulations that are enforced by the SEC, the CFTC, or the FBI, and no one falls on a sword anymore.
If some of the higher-ups in a firm such as Goldman Sachs were duck walked out of their office is handcuffs and leg irons – and they deserve no less – then you’d see an end to this.
If you have not read Simon Johnson’s “The Quiet Coup” in May 2009’s “The Atlantic Monthly”, by all means do. As the IMF president in 2007 and 2008 his advice was to stop making the oligarchs more powerful or they will own the government by posessing the ability to threaten to take the system down. He said if we were to continue, we are only increasing the risk of a deoression.
The US has a GDP of around $14 trillion. I have read that the government has added $3 trillion to it. Remove that and what are we in? The term would be “a depression”.
I am not in academia, which is why a PhD in Economics who I have been discussing this with believes this all to be true, but to state it would be cause to be looking for another profession.
As 92 year old Anna Schwarrtz wrote of Bernanke, he is pushing on a string of demand destruction and thinking that by allowing no one to fail, the system will be saved while it demands failure to work. So if you are necessary to the politicians, you are saved. If not, join those who are unemployed as they don’t care about you. We have exceeded Lord Acton’s wildest dreams regarding his thoughts on power and corruption.
Sounds nice. Lots of things do. In such economic freedom there is room for, say, a Chamber of Commerce or a Grocers Association or corporate holding companies. So there must be room for groups of other types like, say, Unions (whether of workers or consumers or anything else)? What about room for government, in its role as protector of economic freedom, to regulate with an even hand to ensure that “force, fraud, and theft” are not occurring when such groups with different constituents interact?
Of course, while “fraud” and “theft” have specific meanings in law, the same can’t be said of “force.” One could say that government cannot fulfill its role as Protector without force; that it’s impossible to protect economic freedom as you define it without constraining it at the same time. Unless, of course, what you mean by “economic freedom” is freedom of the powerful to act at the expense of the economic freedom of the less powerful or freedom of the wealthy to act at the expense of the economic freedom of the poor.
“The law, in its majestic equality, forbids rich and poor alike to sleep under bridges, to beg in the streets, and to steal their bread.” ~Anatole France