‘New Keynesian’ nonsense taught at our economics departments

12 December, 2016 at 19:10 | Posted in Economics | Comments Off on ‘New Keynesian’ nonsense taught at our economics departments

What can the central bank do to counter the bad animal spirits?

If it cuts [real interest rate] r(t) below [rate of time-preference] n, even temporarily, we know there exists no rational expectations equilibrium in which there is always full employment. All we know is that we must have negative equilibrium growth in consumption for as long as r(t) remains below n. It is not obvious to me how making people expect negative growth in their incomes from now on should cause everyone to expect a higher level of income right now from a higher level of everyone else’s consumption right now.

nk-2Sacrificing a goat sounds more promising as a method of restoring full employment.

Did every other New Keynesian macroeconomist already know about this, and just swept it under the mathematical rug? Didn’t I get the memo?

Here’s Gali:

“Under the assumption that the effects of nominal rigidities vanish asymptotically [lim as T goes to infinity of the output gap at time T goes to zero]. In that case one can solve the [consumption-Euler equation] forward to yield…”

Bullshit. It’s got nothing to do with the effects of nominal rigidities. What he really means is “We need to just assume the economy always approaches full employment in the limit as time goes to infinity, otherwise our Phiilips Curve tells us we will eventually get hyperinflation or hyperdeflation, and we can’t have our model predicting that, can we?”

That Neo-Wicksellian/New Keynesian nonsense is what the best schools have been teaching their best students for the last decade or so. They have been teaching their students to just assume the economy eventually approaches full employment, even though there is absolutely nothing in the model to say it should.

Nick Rowe


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