Disputes don't get resolved, they get swept under the rug
By Scott Sumner
This post will be about macro theory, but let’s begin with a related example. You are a libertarian and your best friend is also a libertarian. You tend to see eye to eye on most issues, favoring small government. Then some new issues arise, and your views don’t quite align. Maybe Muslim terrorists, illegal Mexican immigration and gay rights become big issues. What is the libertarian position? Suddenly your friend supports a candidate that seems wildly non-libertarian to you. “What’s happened to that guy?”
Now consider macroeconomics during the Great Moderation. Monetary policy seems pretty successful, targeting inflation at close to 2%. The Taylor Principle and other New Keynesian ideas are increasingly popular. This successful policy has many fathers, all happy to take credit. Keynesians points to discretionary use of interest rates to stabilize the economy. Monetarists point to the new realization that monetary policy drives the nominal economy, no long run inflation/unemployment trade-off, and fiscal stabilization policy is out of the picture. New classical types are happy that New Keynesian models feature rational expectations, and that people approach policy issues from a “policy rule” perspective, thinking in terms of policy credibility, and what’s best in the long run. Policy is working and there seems to be some sort of a consensus that we are on the right track, or at least pretty close. Even Milton Friedman grudgingly accepts the fact that Greenspan’s policy seems effective.
And then it all blows up. Now elite economists can’t believe all the crazy things their colleagues believe. “I thought that guy was rational.” Keynesians drift back to primitive old Keynesian concepts, such as the paradox of thrift, and jealousy over trade surpluses. Monetarists are predicting high inflation from QE. New classicals are saying that fiscal stimulus is snake oil. Paul Krugman and John Cochrane can’t believe how silly the other guy is.
The disputes of the 1960s and 1970s were never really resolved during the Great Moderation, they were simply swept under the rug, as a compromise policy seemed to work—and indeed might have continued working if not for the zero bound. If in the 1990s the Fed had decided that Volcker’s 4% inflation was low enough, then I would not be a blogger today.
So here’s my claim. A new consensus will eventually coalesce around a new and more effective policy approach, and the current debates will not be resolved. Instead they’ll merely be swept under the rug, just as they were in the 1980s and 1990s.
For instance, assume I was to get my dream policy. The Fed targets NGDP growth at 4%/year, level targeting, and they do so by stabilizing NGDP futures prices. Since there is no zero bound on NGDP futures, the entire liquidity trap debate fades away. We will never know how much the central banks could have done with QE at the zero bound, but it won’t matter anyway. “That which has no practical implications has no theoretical implications.”
Or say that Miles Kimball gets his way, and we move to a monetary system with negative interest on money, and hence no zero lower bound. Then we are right back to the successful policy regime of the 1990s. Again, the current debates about what could have been done short of adopting Miles’s proposal become a moot point, of interest only to antiquarians, like the debate about how much the Fed could have done in the 1930s.
Macroeconomic debates never get resolved; rather policy innovations make them irrelevant.