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1. Tilting at Windmills: Bernanke and Blanchard’s Obsession with the Wage-Price Spiral

Author:
Servaas Storm
Publication Date:
04-2024
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
Bernanke and Blanchard (2023) use a simple dynamic New Keynesian model of wage-price determination to explain the sharp acceleration in U.S. inflation during 2021-2023. They claim their model closely tracks the pandemic-era inflation and they confidently conclude that “… we don’t think that the recent experience justifies throwing out existing models of wage-price dynamics.” This paper argues that this confidence is misplaced. The Bernanke and Blanchard is another failed attempt to salvage establishment macroeconomics after the massive onslaught of adverse inflationary circumstances with which it could evidently not contend. It misrepresents American economic reality, hides distributional issues from view, de-politicizes (monetary and fiscal) policy-making, and sets monetary policymakers up to deliver significantly more monetary tightening than can be justified on the basis of more realistic model analyses.
Topic:
Economics, Monetary Policy, Inflation, Macroeconomics, and Wages
Political Geography:
North America and United States of America

2. Good Policy or Good Luck? Why Inflation Fell Without a Recession

Author:
Thomas Ferguson and Servaas Storm
Publication Date:
09-2024
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
This paper analyzes claims that the Federal Reserve is principally responsible for the decline of inflation in the U.S. We compare several different quantitative approaches. These show that at most the Fed could plausibly claim credit for somewhere between twenty and forty percent of the decline. The paper then examines claims by central bankers and their supporters that a steadfast Fed commitment to keeping inflationary expectations anchored played a key role in the process. The paper shows that it did not. The Fed’s own surveys show that low-income Americans did not believe assurances from the Fed or anyone else that inflation was anchored. Instead, what does explain much of the decline is the simple fact that most workers nowadays cannot protect themselves by bargaining for higher wages. The paper then takes up the obvious question of why steep rises in interest rates have not so far led to big rises in unemployment. We show that recent arguments by Benigno and Eggertson that shifts in vacancy rates can explain this are inconsistent with the evidence. The biggest factor in accounting for the strength in the economy is the continuing importance of the wealth effect in sustaining consumption by the affluent. This arises, as we have emphasized in several papers, from the Fed’s quantitative easing policies. Absent sharp declines in wealth, the continuing importance of this factor is likely to feed service sector inflation in particular.
Topic:
Economics, Monetary Policy, Federal Reserve, Inflation, and Macroeconomics
Political Geography:
North America and United States of America

3. Macroeconomic Modeling in the Anthropocene

Author:
Yannis Dafermos, Andrew McConnell, Maria Nikolaidi, Servaas Storm, and Boyan Yanovski
Publication Date:
10-2024
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
Recent years have seen an increasing use of environmental dynamic stochastic general equilibrium (E-DSGE) models for analyzing the macroeconomic effects of the climate crisis. This paper explores to what extent these models are fit for purpose. We identify the limitations of the benchmark E-DSGE framework and explain how these limitations restrict the ability of this framework to meaningfully capture the macroeconomics of the climate crisis. We then explain how the assumptions behind these limitations can be relaxed, but argue that simply relaxing some of these assumptions in isolation is insufficient to address the problem. We therefore call for a broader use of other macroeconomic models, such as ecological stock-flow consistent (E-SFC) and ecological agent-based (E-AB) models, that address these limitations simultaneously. We explain how these models do not suffer from the pitfalls of the E-DSGE framework and outline how they need to improve to increase their usefulness as tools that can inform macroeconomic policy making in the Anthropocene.
Topic:
Climate Change, Environment, Monetary Policy, and Macroeconomics
Political Geography:
Global Focus

4. The Art of Paradigm Maintenance: How the ‘Science of Monetary Policy’ tries to deal with the inflation of 2021-2023

Author:
Servaas Storm
Publication Date:
10-2023
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
The macroeconomic models used by major institutions including the Federal Reserve and the International Monetary Fund (IMF) failed to predict the inflation surge during 2021-2023. The output gap, the unemployment gap, the New Keynesian Phillips curve and inflation expectations did not give timely and relevant signals. The re-emergence of inflation thus threw the ‘science of monetary policy’ off the rails. Faced with the choice between changing their paradigm and proving that there is no need to do so, the ‘scientists of monetary policy’ got busy on the proof. As a result, a number of ad-hoc epicycles have been added to the New Keynesian analytical core—with the help of which one can claim to be able to explain the sudden acceleration of inflation post-factum. This paper critically reviews the theoretical and empirical merits of three recent tweaks to the New Keynesian core: using the vacancy ratio as the appropriate measure of real economic activity; hammering on the considerable risk of an imminent wage-price spiral; and the resurrection of the non-linear Phillips curve. The paper concludes by drawing out sobering lessons concerning the art of paradigm maintenance as practiced by the ‘scientists of monetary policy’.
Topic:
Economics, Monetary Policy, Institutions, Inflation, and Macroeconomics
Political Geography:
Global Focus

5. Cordon of Conformity: Why DSGE models Are Not the Future of Macroeconomics

Author:
Servaas Storm
Publication Date:
02-2021
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
The Rebuilding Macroeconomic Theory Project, led by David Vines and Samuel Wills (2020), is an important, albeit long overdue, initiative to rethink a failing mainstream macroeconomics. Professors Vines and Wills, who must be congratulated for stepping up to the challenge of trying to make mainstream macroeconomics relevant again, call for a new multiple-equilibrium and diverse (MEADE) paradigm for macroeconomics. Their idea is to start with simple models, ideally two-dimensional sketches, that explain mechanisms that can cause multiple equilibria. These mechanisms should then be incorporated into larger DSGE models in a new, multiple-equilibrium synthesis – to see how the fundamental pieces of the economy fit together, subject to it being ‘properly micro-founded’. This paper argues that the MEADE paradigm is bound to fail, because it maintains the DSGE model as the unifying framework at the center of macroeconomic analysis. The paper reviews 10 fundamental weaknesses inherent in DSGE models which make these models irreparably useless for macroeconomic policy analysis. Mainstream macroeconomics must put DSGE models, once and for all, in the Museum of Implausible Economic Models – and learn important lessons from non-DSGE macroeconomic approaches.
Topic:
Economics, Economic Growth, Macroeconomics, Money, Demand, and Models
Political Geography:
Global Focus

6. Lessons for the Age of Consequences: COVID-19 and the Macroeconomy

Author:
Servaas Storm
Publication Date:
03-2021
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
Based on comparative empirical evidence for 22 major OECD countries, I argue that country differences in cumulative mortality impacts of SARS-CoV-2 are largely caused by: (1) weaknesses in public health competence by country; (2) pre-existing country-wise variations in structural socio-economic and public health vulnerabilities; and (3) the presence of fiscal constraints. The paper argues that these pre-existing conditions, all favorable to the coronavirus, have been created, and amplified, by four decades of neoliberal macroeconomic policies – in particular by (a) the deadly emphasis on fiscal austerity (which diminished public health capacities, damaged public health and deepened inequalities and vulnerabilities); (b) the obsessive belief of macroeconomists in a trade-off between ‘efficiency’ and ‘equity’, which is mostly used to erroneously justify rampant inequality; (c) the complicit endorsement by mainstream macro of the unchecked power over monetary and fiscal policy-making of global finance and the rentier class; and (d) the unhealthy aversion of mainstream macro (and MMT) to raising taxes, which deceives the public about the necessity to raise taxes to counter the excessive liquidity preference of the rentiers and to realign the interests of finance and of the real economy. The paper concludes by outlining a few lessons for a saner macroeconomics.
Topic:
Global Recession, Economic Inequality, Macroeconomics, Austerity, Public Health, COVID-19, Health Crisis, and Public Spending
Political Geography:
Global Focus

7. Lost in Deflation: Why Italy’s woes are a warning to the whole Eurozone

Author:
Servaas Storm
Publication Date:
04-2019
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
Using macroeconomic data for 1960-2018, this paper analyzes the origins of the crisis of the ‘post-Maastricht Treaty order of Italian capitalism’. After 1992, Italy did more than most other Eurozone members to satisfy EMU conditions in terms of self-imposed fiscal consolidation, structural reform and real wage restraint—and the country was undeniably successful in bringing down inflation, moderating wages, running primary fiscal surpluses, reducing unemployment and raising the profit share. But its adherence to the EMU rulebook asphyxiated Italy’s domestic demand and exports—and resulted not just in economic stagnation and a generalized productivity slowdown, but in relative and absolute decline in many major dimensions of economic activity. Italy’s chronic shortage of demand has clear sources: (a) perpetual fiscal austerity; (b) permanent real wage restraint; and (c) a lack of technological competitiveness which, in combination with an overvalued euro, weakens the ability of Italian firms to maintain their global market shares in the face of increasing competition of low-wage countries. These three causes lower capacity utilization, reduce firm profitability and hurt investment, innovation and diversification. The EMU rulebook thus locks the Italian economy into economic decline and impoverishment. The analysis points to the need to end austerity and devise public investment and industrial policies to improve Italy’s ‘technological competitiveness’ and stop the structural divergence between the Italian economy and France/Germany. The issue is not just to revive demand in the short run (which is easy), but to create a self-reinforcing process of investment-led and innovation-driven process of long-run growth (which is difficult).
Topic:
Economics, Capitalism, Global Political Economy, Macroeconomics, and Eurozone
Political Geography:
Europe and Italy

8. The Secular Stagnation of Productivity Growth

Author:
Servaas Storm
Publication Date:
12-2019
Content Type:
Working Paper
Institution:
Institute for New Economic Thinking (INET)
Abstract:
The concern that an economy could experience persistent stagnation, caused by a structural weakness of aggregate demand, goes back to Alvin Hansen’s (1939) thesis of ‘secular stagnation’. Hansen’s thesis has been revived in recent times, when it became clear that productivity and potential growth in the OECD countries have been declining for decades. However, in line with deep-rooted theoretical beliefs, that inadequate demand can only affect growth in the short run, secular stagnation (of potential growth) is treated as an exclusively supply-side problem, the root of which is a worrying steady decline in productivity growth. This paper argues that it is a mistake to dismiss secular demand stagnation as main cause of declining potential growth in the OECD. We argue that the theoretical case for demand-caused secular stagnation is strong and empirical evidence that it has affected the U.S. economy after the mid-1970s is entirely convincing. Demand is leading supply, also in the long run. Hansen had it right, after all.
Topic:
Economics, Political Economy, Economic Growth, Macroeconomics, Demand, and Stagnation
Political Geography:
United States