Must-Read: Olivier Blanchard and Lawrence Summers: Rethinking macro stabilization: Back to the future

Must-Read: I read this as saying, in one respect: “the neoclassical synthesis, and the resulting decision by MIT Keynesians to focus on the errors of Cambridge Keynesians and to build bridges not to them but to Chicago monetarists was, in retrospect, a big mistake”. I remember Larry saying in, I think 1981, “there are a lots of careers to be made and knowledge to be gained by mathing up Keynes’s General Theory properly”. Yet, the honorable examples of Roger Farmer and a number of others notwithstanding, too much macro has instead been off chasing squirrels for two generations:

Olivier Blanchard and Lawrence Summers: Rethinking macro stabilization: Back to the future: “Lessons from past crises…

…The Great Depression: The economy can implode…. Need for aggressive policies…. Apparent success, from 1940 to the late 1960s. The stagflation of the 1970s: The Keynesian approach…. Think of fluctuations as “business cycles”…. With predictable policy rules, economy will be stable…. Apparent success, from the mid 1980s to the mid 2000s

The three main lessons we draw from this crisis…. Centrality of the financial system… nature of fluctuations… low rates (“secular stagnation”)… interact[ing] with the first two. One should add, but we leave it aside: The increasing salience of inequality (interacting with low growth)….

Think of events of last ten years: Runs… liquidity trap for nearly 10 years… remaining unemployment gaps… utput far below the pre-crisis trend in AEs. Business as usual? No: Economies do not self stabilize… implo[sion] hysteresis… need strong pro-active and reactive policies…. In many ways, “Back to the future” and the Keynesian revolution

Slight (but productive) tensions between the two authors…. Evolution or Revolution?

  • The case for Revolution
    • Financial crises very likely again. Poorly understood
    • Economies unstable. Non linearities essential
    • Secular stagnation here to stay.
    • Not amenable to VAR, DSGEs. Need new approaches
  • The case for Evolution
    • Models can be extended. Much wisdom to be kept
    • Non linearities mostly in “dark corners’’
    • Financial crises will remain rare events
    • Can be handled with the right combination of the 3 policies.

But common agreement on the need for change.

October 13, 2017


Brad DeLong
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