Antonio Fatas Has 4 Excellent criticisms of Current Macroeconomic Research

The post is too good to excerpt so just go read it.

To edit ruthlessly

1. The business cycle is not symmetric.

2. As much as the NBER methodology emphasizes the notion of recessions (which, by the way, is asymmetric in nature), most academic research is produced around models where small and frequent shocks drive economic fluctuations, as opposed to large and infrequent events.


3. There has to be more than price rigidity.

4. The notion that co-ordination across economic agents matters to explain the dynamics of business cycles receives very limited attention in academic research.

I am aware that they are plenty of papers that deal with these four issues, some of them published in the best academic journals. But most of these papers are not mainstream. Most economists are sympathetic to these assumption but avoid writing papers using them because they are afraid they will be told that their assumptions are ad-hoc and that the model does not have enough micro foundations

My thought is that the problem isn’t just insistence on micro foundations. Especially on points 3 and 4, there was an active literature in which coordination failures cause business cycles. The cycles could be asymmetric and recessions could be rare. Google scholar Benhabib and Farmer.

In general it is quite possible to micro found models of coordination failure and, more generally, models in which the deviation from a real business cycle model isn’t price rigidity. For one thing, general equilibrium theory has moved on from the models which macroeconomists adopted for micro foundations. In particular, general equilibrium models with incomplete markets can have spontaneous fluctuations. Now economics doesn’t get more micro founded than general equilibrium theory, but these models are ignored by macroeconomists.

Fatas mentioned that these literatures exist. I think there must be a quite different reason why none is the main stream.

I think the problem is that with coordination failures, multiple equilibria are possible. Not just two or two hundred either, but a large infinite number. There is no theory which tells us how likely different equilibria are. Worse, policy shifts can cause the economy to jump from one equilibrium to another in unpredictable ways.

This does not strike me as an argument against the validity of models of coordination failure. In fact recessions are hard to predict and, well, look like panics. The problem is that models which say that macroeconomists will not be able to predict well are not popular.

In any case, I’m pretty sure that the limit isn’t just that macroeconomists are required to micro found. There are agreed assumptions about the proper behavior of models (of the conclusions not the assumptions) which are very strong even though they are not based on evidence. In particular it seems to me that it has been assumed that the macro turf can be divided up into cycles and growth so that the factors which cause cycles are required to have only temporary effects.