Must-read: Narayana Kocherlakota: “Fragility of Purely Real Macroeconomic Models”

Must-Read: This strikes me as DeLong and Summers (1986) done right and done better with the zero lower bound included–i.e., how we would have done it had we been smarter (and had not the 1982 but today’s math macro econ toolkit). The ability of the price level as a whole to jump discontinuously and instantaneously matters a lot in virtually any expectational model…

Narayana Kocherlakota: Fragility of Purely Real Macroeconomic Models: “Purely real models that abstract from the presence of nominal rigidities…

…(at least implicitly) assume that the Phillips curve is vertical…. Such models are fragile, in the sense that their implications change significantly when the Phillips curve is even slightly less than vertical…. In the perturbed models… [with] a lower bound on the nominal interest rate… outcomes necessarily depend on agents’ beliefs about the long-run level of economic activity. The magnitude of this dependence becomes arbitrarily large as the slope of the Phillips curve becomes… loser to vertical…. The limiting purely real model ignores this form of monetary non-neutrality and macroeconomic instability. I conclude that purely real models are too incomplete to provide useful guides to questions about business cycles. I describe what elements should be added to such models in order to make them useful.

January 28, 2016

AUTHORS:

Brad DeLong
Connect with us!

Explore the Equitable Growth network of experts around the country and get answers to today's most pressing questions!

Get in Touch