Surprisingly, given the structural changes which have taken place in recent decades, macro theory still takes a back seat to other factors in our economic debates. Even if theoretical issues are highlighted, they generally lack the depth of theoretical discussion which took place during the Great Recession.
While this is unfortunate, perhaps it also indicates that something more is needed in terms of stories and explanations. In particular, some believe that macro theory should further evolve in order in to remain fully useful. However, mainstream economists are reluctant to advance the horizons of economic theory, indeed some have also noted that economists are the only ones with "rights" to do so. Inexplicably, this approach means economists are becoming more inclined to follow the lead of policy makers. And since the latter have become quite polarized, economist are also less inclined to agree among themselves about theoretical constructs.
In particular, the lack of attention to general equilibrium dynamics in a time of non tradable sector dominance, makes it difficult for economists to productively respond to long term fiscal budgetary burdens. For instance, excess fiscal policy means more taxation later on. Scott Sumner recently mused on what this means:
I don't think the fiscal stimulus is a good idea, but not because I expect much inflation. The inflation rate will be determined by the Fed. Rather, it's a reckless policy because it will lead to higher tax rates in the future and won't do much to generate growth beyond Q3. (Deficits do cause higher interest rates, but only slightly higher in a country like the US.)
And continued:
For 250 years of American history politicians have held the peacetime budget deficit in check because of fears of either inflation or higher interest rates (or perhaps a loss of confidence in the gold standard). What would happen if they began to sniff out that the actual risk is not inflation or much higher interest rates next year, rather the risk is higher taxes in 20 years, after they've safely retired. How would they respond to this information? I fear that we are about to find out.
Meanwhile, many policy makers are drifting towards an MMT rationale, despite its lack of theoretical validity. Noah Smith notes the lack of academic depth in current discussions, and suggests:
it seems fairly clear to me that the reason is that everyone quietly stopped believing in the usefulness of academic theory.
Tyler Cowen in turn responds to Noah Smith:
His whole Substack post is very good, though I give the entire matter a different interpretation. I do not view contemporary macroeconomics as wonderfully predictive, but it does put constraints on what you can advocate for or for that matter on what you can predict. I saw the Republicans go down this path some time ago, and now the Democrats are following them - it ain't pretty. I think what we are seeing now is that (some, not all) Democrat economists want Democrats to be popular, and to win, and so they will rearrange macroeconomic thinking accordingly.
Some also appear to believe that revision of macroeconomic theory is needed, so that economists might feel better about their profession. But is that really enough? I suggest that a better understanding of macro theory could provide more insight, how 20th century general equilibrium dynamics allowed nations to introduce knowledge based endeavour for citizens. Alas, this was only an introduction! As it turns out, these methods are insufficient for more complete levels of economic integration in the 21st century. Will we, can we, meet the challenge?
In short, macroeconomic theory may not prove truly useful, until it creates potential for all communities, not just the economic prospects of governments and prosperous regions. Part of getting to a better place in this regard, is understanding how no level of fiscal policy is going to address the aggregate demand realities of regions which were left behind. No economic theory is going to be complete, if it does not take today's built in supply side limitations into account. All the more so, since many future attempts to pour fiscal policy into the bottomless buckets of supply side constraints, will be doomed to fail. It's time to bring supply side considerations to what have become the general equilibrium equations of the 21st century.
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