A Keynesian Resurgence
Lucas’s obituary of Keynesian economics can now be seen to have been
premature because Robert Barro’s ‘bad guys’ have made a comeback (Barro,
1989a). By the mid-1980s Howitt (1986) was commenting on ‘The Keynesian
Recovery’, and Blinder was discussing ‘Keynes After Lucas’ (1986) and ‘The
Fall and Rise of Keynesian Economics’ (1988b). By the early 1990s Blinder
had announced that ‘A Keynesian Restoration is Here’ (1992b), Mankiw
(1992) proclaimed that Keynesian economics had been ‘reincarnated’ and
Thirlwall (1993) enthusiastically discussed the ‘Keynesian Renaissance’. While
in the late 1980s the Keynesian promised land was not yet in sight, Blinder
(1988a) believed that ‘we may at long last be emerging from the arid desert
and looking over the Jordan’.
In answering his own (1977) question about the ‘death’ of Keynesian
economics, Tobin (1987) later provided an unequivocal answer in his essay,
‘The Future of Keynesian Economics’:
One reason Keynesian economics has a future is that rival theories of economic
fluctuations do not … I hazard the prediction that neither of the two species of
business cycle theory offered by new classical macroeconomics will be regarded
as serious and credible explanations of economic fluctuations a few years from
now. Whatever cycle theory emerges in a new synthesis will have important
Keynesian elements … Yes, Keynesian economics has a future because it is
essential to the explanation and understanding of a host of observations and
experiences past and present, that alternative macroeconomic approaches do not
illuminate.
Tobin (1996) was particularly critical of the ‘elegant fantasies’ of the ‘Robinson
Crusoe macroeconomics’ of real business cycle theory because it ignores the
coordination question in macroeconomics (see Chapter 6). To economists
such as Akerlof, Stiglitz, Tobin and Leijonhufvud, an essential task for macroeconomic
theory is to explain in what circumstances the invisible hand
does, and does not, efficiently coordinate the economic behaviour of numerous
diverse agents. Leijonhufvud (1992) has succinctly summed up this
issue:
The co-ordination question, simply stated, is this: Will the market system ‘automatically’
co-ordinate economic activities? Always? Never? Sometimes very well,
but sometimes pretty badly? If the latter, under what conditions, and with what
institutional structures, will it do well or do badly? I regard these questions as the
central and basic ones in macroeconomics.
Certainly the persistence of high unemployment in Europe during the 1980s
and 1990s also called into question the plausibility of equilibrium explanations
of the business cycle while also providing increasing ‘credibility to
Keynesian theory and policy’ (Tobin, 1989; Arestis and Sawyer, 1998).
We have seen in Chapter 5 and 6 how new classical macroeconomists
resolved the tension between neoclassical microeconomics and Keynesian
macroeconomics by abandoning the latter. An alternative approach to this
problem has been put forward by those economists who feel that the neoclassical
synthesis contained some fundamental truths and that, suitably modified,
Keynesian economics could once again dominate macroeconomics. The central
analytical message of the orthodox Keynesian school comprised the
following main propositions (Greenwald and Stiglitz, 1987, 1993a; Tobin,
1996; Lindbeck, 1998):
1. an unregulated market economy will experience ‘prolonged’ periods of
excess supply of output and labour in contradiction to ‘Say’s Law’ of
markets; that is, in Keynes’s terminology, market economies will exhibit
‘unemployment equilibrium’;
2. aggregate macroeconomic instability (business cycles) are mainly caused
by aggregate demand disturbances;
3. ‘money matters’ most of the time, although in very deep recessions
monetary policy may be ineffective (Blanchard, 1990a; Krugman, 1998);
4. government intervention in the form of stabilization policy has the potential
to improve macroeconomic stability and economic welfare.
While ‘new’ Keynesian economists would agree with these ‘old’ Keynesian
propositions, we shall see that the new Keynesian models are very different
in many aspects from their distant (1960s) cousins. While new Keynesians
disagree with the new classical explanations of instability, they do share two
new classical methodological premises. First, macroeconomic theories require
solid microeconomic foundations. Second, macroeconomic models are
best constructed within a general equilibrium framework. However, as
Greenwald and Stiglitz (1993a) point out, real business cycle theorists adopt
microfoundations that describe a world of perfect information, perfect competition,
zero transactions costs, and the existence of a complete set of markets.
Problems associated with asymmetric information, heterogeneous agents and
imperfect and incomplete markets are assumed away. The essence of the new
Keynesian approach is to recognize the importance of a whole variety of realworld
imperfections (Stiglitz, 2000; 2002). By rebuilding the microfoundations
of Keynesian economics utilizing the findings of modern microeconomic
theory, new Keynesian theorists have established a research programme aimed
at rectifying the theoretical flaws which permeated the supply side of the
‘old’ Keynesian model (see Snowdon and Vane, 1995). Because the typical
market economy is riddled with numerous imperfections, aggregate supply
does respond to changes in aggregate demand.
For a detailed and critical discussion of the new Keynesian literature, we
refer the reader to McCallum (1986); Greenwald and Stiglitz (1987, 1993a);
Rotemberg (1987); Fischer (1988); Barro (1989a); Blanchard (1990a); Gordon
(1990); Phelps (1990); Colander et al. (1992); Hargreaves-Heap (1992, 2002);
Stiglitz (1992); King (1993); D. Romer (1993); Tobin (1993); Davidson
(1994); Dixon (1997); Snowdon and Vane (1997a); Lindbeck (1998). Most of
the important papers are collected in the twin volumes edited by Mankiw and
Romer (1991), who also provide an excellent tour of the early literature in
their introductory survey.
Lucas’s obituary of Keynesian economics can now be seen to have been
premature because Robert Barro’s ‘bad guys’ have made a comeback (Barro,
1989a). By the mid-1980s Howitt (1986) was commenting on ‘The Keynesian
Recovery’, and Blinder was discussing ‘Keynes After Lucas’ (1986) and ‘The
Fall and Rise of Keynesian Economics’ (1988b). By the early 1990s Blinder
had announced that ‘A Keynesian Restoration is Here’ (1992b), Mankiw
(1992) proclaimed that Keynesian economics had been ‘reincarnated’ and
Thirlwall (1993) enthusiastically discussed the ‘Keynesian Renaissance’. While
in the late 1980s the Keynesian promised land was not yet in sight, Blinder
(1988a) believed that ‘we may at long last be emerging from the arid desert
and looking over the Jordan’.
In answering his own (1977) question about the ‘death’ of Keynesian
economics, Tobin (1987) later provided an unequivocal answer in his essay,
‘The Future of Keynesian Economics’:
One reason Keynesian economics has a future is that rival theories of economic
fluctuations do not … I hazard the prediction that neither of the two species of
business cycle theory offered by new classical macroeconomics will be regarded
as serious and credible explanations of economic fluctuations a few years from
now. Whatever cycle theory emerges in a new synthesis will have important
Keynesian elements … Yes, Keynesian economics has a future because it is
essential to the explanation and understanding of a host of observations and
experiences past and present, that alternative macroeconomic approaches do not
illuminate.
Tobin (1996) was particularly critical of the ‘elegant fantasies’ of the ‘Robinson
Crusoe macroeconomics’ of real business cycle theory because it ignores the
coordination question in macroeconomics (see Chapter 6). To economists
such as Akerlof, Stiglitz, Tobin and Leijonhufvud, an essential task for macroeconomic
theory is to explain in what circumstances the invisible hand
does, and does not, efficiently coordinate the economic behaviour of numerous
diverse agents. Leijonhufvud (1992) has succinctly summed up this
issue:
The co-ordination question, simply stated, is this: Will the market system ‘automatically’
co-ordinate economic activities? Always? Never? Sometimes very well,
but sometimes pretty badly? If the latter, under what conditions, and with what
institutional structures, will it do well or do badly? I regard these questions as the
central and basic ones in macroeconomics.
Certainly the persistence of high unemployment in Europe during the 1980s
and 1990s also called into question the plausibility of equilibrium explanations
of the business cycle while also providing increasing ‘credibility to
Keynesian theory and policy’ (Tobin, 1989; Arestis and Sawyer, 1998).
We have seen in Chapter 5 and 6 how new classical macroeconomists
resolved the tension between neoclassical microeconomics and Keynesian
macroeconomics by abandoning the latter. An alternative approach to this
problem has been put forward by those economists who feel that the neoclassical
synthesis contained some fundamental truths and that, suitably modified,
Keynesian economics could once again dominate macroeconomics. The central
analytical message of the orthodox Keynesian school comprised the
following main propositions (Greenwald and Stiglitz, 1987, 1993a; Tobin,
1996; Lindbeck, 1998):
1. an unregulated market economy will experience ‘prolonged’ periods of
excess supply of output and labour in contradiction to ‘Say’s Law’ of
markets; that is, in Keynes’s terminology, market economies will exhibit
‘unemployment equilibrium’;
2. aggregate macroeconomic instability (business cycles) are mainly caused
by aggregate demand disturbances;
3. ‘money matters’ most of the time, although in very deep recessions
monetary policy may be ineffective (Blanchard, 1990a; Krugman, 1998);
4. government intervention in the form of stabilization policy has the potential
to improve macroeconomic stability and economic welfare.
While ‘new’ Keynesian economists would agree with these ‘old’ Keynesian
propositions, we shall see that the new Keynesian models are very different
in many aspects from their distant (1960s) cousins. While new Keynesians
disagree with the new classical explanations of instability, they do share two
new classical methodological premises. First, macroeconomic theories require
solid microeconomic foundations. Second, macroeconomic models are
best constructed within a general equilibrium framework. However, as
Greenwald and Stiglitz (1993a) point out, real business cycle theorists adopt
microfoundations that describe a world of perfect information, perfect competition,
zero transactions costs, and the existence of a complete set of markets.
Problems associated with asymmetric information, heterogeneous agents and
imperfect and incomplete markets are assumed away. The essence of the new
Keynesian approach is to recognize the importance of a whole variety of realworld
imperfections (Stiglitz, 2000; 2002). By rebuilding the microfoundations
of Keynesian economics utilizing the findings of modern microeconomic
theory, new Keynesian theorists have established a research programme aimed
at rectifying the theoretical flaws which permeated the supply side of the
‘old’ Keynesian model (see Snowdon and Vane, 1995). Because the typical
market economy is riddled with numerous imperfections, aggregate supply
does respond to changes in aggregate demand.
For a detailed and critical discussion of the new Keynesian literature, we
refer the reader to McCallum (1986); Greenwald and Stiglitz (1987, 1993a);
Rotemberg (1987); Fischer (1988); Barro (1989a); Blanchard (1990a); Gordon
(1990); Phelps (1990); Colander et al. (1992); Hargreaves-Heap (1992, 2002);
Stiglitz (1992); King (1993); D. Romer (1993); Tobin (1993); Davidson
(1994); Dixon (1997); Snowdon and Vane (1997a); Lindbeck (1998). Most of
the important papers are collected in the twin volumes edited by Mankiw and
Romer (1991), who also provide an excellent tour of the early literature in
their introductory survey.
No comments:
Post a Comment