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Nick Rowe Continues His War on New Keynesian Macroeconomics

Nick Rowe:

Worthwhile Canadian Initiative: What's wrong with New Keynesian macroeconomics: New Keynesian models lead good economists, who correctly diagnose the monetary nature of the recession, at the same time to believe that monetary policy is powerless at the zero lower bound. And recommend fiscal policy instead. This is like correctly diagnosing magneto trouble, then recommending we all get out and push the car, rather than fixing the magneto. I just refuse to accept that that's the best we can do. We need to understand that monetary magneto better, and learn how to fix it. And it is my frustration with this lack of correspondence between diagnosis and policy prescription that has lead me on my three year search for something better….

All equilibrium theories have a disequilibrium story on the side. If the demand curve for apples shifts right, that creates excess demand for apples at the old equilibrium price, so individual sellers can raise their prices above other sellers' prices and still sell their apples, and this process is what gets the price to the new equilibrium. In monetary economics we call this disequilibrium story the monetary policy transmission mechanism. The interest rate transmission mechanism is the New Keynesian disequilibrium story. It's not the only possible story. It's not even a very good story, as I argue above.

My MX6 developed "magneto" trouble last Summer, 100kms away from home. Replacing the alternator is a 2 hour job, and I didn't want to do it at the side of the road. So I bought a new battery at Canadian Tire, replaced the old battery when it finally died, and that got me home. I replaced the alternator the next morning. There are circumstances when a bodge job is the best you can do. But it's not really satisfactory.

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