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April 11, 2010
David Warsh, Proprietor


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The Hunt for New Ideas

The year was 1985. The new annual would be devoted to real economic problems, specializing in articles of two kinds: the first seeking answers to specific questions; the second demonstrating the empirical relevance of potentially important new ideas.

Like what? Well, in the first instance, in that first issue, like why European unemployment rates were so high, or the Japanese current account surplus so great, or the nature of the link between the US budget deficit and the dollar; in the second instance; the prospects for efficiency wages, profit sharing, business cycle analysis without money.

Last week the National Bureau of Economics held its Twenty-Fifth Annual Conference on Macroeconomics; and, in due course, its 2010 Macroeconomics Annual will appear. Taken together, those twenty-five volumes make up a pretty good record of where macro has been for the quarter of a century since the computer became ubiquitous, easy-to-use and practically free.

Toy models of the business cycle morph into the more elaborate and realistic versions known as dynamic stochastic general equilibrium; caricatures of forward-looking behavior become dynamic public finance; monetary policy becomes an experiment with various rules; development becomes a preoccupation; political economy returns.

What could you learn from this meeting?  For one thing, that economists continue to zero in on the role of leverage and rapidly-changing margin requirements, to the extent that significant new vocabulary is emerging (if not yet entirely ready for prime time) to describe what happened in the recent crisis.

In “Two Monetary Tools: Interest Rates and Haircuts,” Adam Ashcraft, of the Federal Reserve Bank of New York, Nicolae Gârlenu, of the University of California at Berkeley business school, and Lasse Heje Pedersen, of New York University, studied the ways in which various lending facilities of central banks around the world provided collateralized loans at more favorable rates than could otherwise be obtained – wielding “the haircut tool” (meaning manipulating margin requirements) as a means of avoiding desperate fire sales of otherwise unsalable assets. The Term Asset-backed Securities Lending Facility (TALF), which once seemed to loom up out of the October mist like the Loch Ness monster, becomes a revealing natural experiment.

For another: that the furious debate which accompanied the fiscal stimulus in the spring of 2009 – the greatest since the New Deal – may have had different affects from those claimed for it. Gauti Eggertsson, of the Federal Reserve Bank of New York, argued that measures to stimulate supply could have perverse effects when the interest rate is near zero, that they could subtly add to deflationary pressure; that the emphasis should be on policies that stimulate spending:  government spending, if it is targeted and temporary;  sales tax cuts and investment tax credits; even a commitment to inflate.

For a third: that “graduation” from the tendency to suffer financial crises can take much longer than is commonly supposed. Carmen Reinhart, of the University of Maryland, and Kenneth Rogoff, of Harvard University, joined by Rong Qian, of the University of Maryland, returned to the question with which they began the series of empirical studies that became last year’s best-selling This Time Is Different, to ask, is twenty years really long enough to keep a watchful eye out for default in an emerging country?  The answer, they say, is no. False starts are to be expected; it may take forty years before relative maturity arrives; and banking crises remain “an equal-opportunity menace” throughout the developed world.

A useful adjunct to the Macroeconomics Annual is the new 2010 Annual Review of Economics. a journal which made its debut last year (along with Annual Reviews of financial economics and resource economics) – all the more so, since the view of the field is from the West Coast. Edited by Kenneth Arrow and Timothy Bresnahan, both of Stanford University, the economics volume aims to produce broad surveys of swiftly developing fields.

Here, too, though, the spotlight is on the vast expansion of the banking system in the years since 1980. Tobias Adrian, of the Federal Reserve Bank of New York, and Hyun Song Shin, of Princeton University, are writing on “The Changing Nature of Financial Intermediation and the Financial Crisis of 2007-2009” for the new volume, scheduled to appear in September.

The hunt for new ideas is on all over, from Cambridge University, where George Soros’s Institute for New Economic Thinking rolled out with a three-day meeting, to George Mason University, in Fairfax, Virginia, where the Mercatus Center operates, among other things, a multimedia center. If you haven’t watched Fear the Boom and Bust, by John Papola and  Russell Roberts, you owe it to yourself to do it now.  You won’t spend a better seven minutes on the Web anytime soon.

But Cambridge, Massachusetts, remains the center ring in which economics is performed (and a fair amount of finance, too). That it should be so owes more to Paul Samuelson, who died last December, than to any other man. His decision in 1940 to leave Harvard for the Massachusetts Institute of Technology gave MIT the best economics department in the world for the next fifty years, eventually reenergized Harvard, and brought the NBER to Cambridge from New York in 1967.

It was not a hard decision, his friend Robert Solow told a crowded Kresge Auditorium memorial service last week. Samuelson was a man who loved home, and all it meant to him, at least at first, was that when leaving the front door of his Ware Street apartment he turned left instead of right.

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