Tuesday, April 2, 2013

Macroeconomists have always been full of it

Olivier Blanchard, former MIT professor and current chief economist at the IMF, recently offered five lessons that economists should have learned from fhe recent financial crisis.  He should have said that "macroeconomists" should have learned the lessons, because many actual economists already knew them.
  1. Humility is in order: Yes, macroeconomists are full of it and it's shocking how arrogant they are given how little they know.
  2. The financial system matters - a lot:  Why yes, but the financial system is too difficult to put into little toy models.  It's best to assume the financial system away so that macroeconomists can focus on important things like attending conferences in exotic places.
  3. Interconnectedness matters: Why yes, the U.S. economy is connected to the rest of the world and models of closed economies might not be realistic enough.  But then again, that would make the math hard, and it's all about the math.
  4. We don't know if macro-prudential tools work: Actually, we do know that when the economy is in the hands of politicians whose objective is to inflate housing bubbles to curry favor with selected constituents, things will go wrong.  If anything, traditional tools of fiscal and monetary policy can wreak havoc in financial markets when they're in the wrong hands.
  5. Central bank independence wasn't designed for what central banks are now asked to do:  When politics trumps sound economics, it's left to central banks to pick up the pieces.  Central banks themselves were, and continue to be, a big part of the problem because they were instrumental in inflating the housing bubble and are now distorting financial markets so much that they are holding back what little recovery we might be able to have given our dire fiscal and regulatory regime.
Ricardo Caballero has an excellent update of Hayek's view that macroeconomists labor under a pretense of knowledge. He concurs with Blanchard about how macro has neglected financial markets.