UNIVERSITY OF THESSALY
2nd International Conference on Economic and Social History
"Markets" and Politics
Private interests and public authority (18th-20th centuries)
Volos, 10-12 February 2012
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Abstracts
- George Argeitis & Athanassios Koratzanis The ‘New Consensus’ model: unrealistic theory-incredible policy
Over the past two decades, orthodox economic analysis and policy-making have been dominated by a ‘new consensus in macroeconomics’ (NCM, henceforth). The basic NCM model is typically presented by a set of three equations: a) an aggregate demand function emanated from economic agents’ optimisation behaviour that links the output gap inversely to the real rate of interest; b) an ‘expectations-augmented Phillips curve’ that positively relates the rate of inflation to the output gap in the short-run; and c) a monetary policy reaction function, where the nominal rate of interest is based on the output gap, the deviation of actual inflation from a pre-determined inflation target and the equilibrium interest rate. Because of temporary nominal rigidities, there is a short-run effect of monetary policy on the level of output and employment. In the long-run, yet, the level of economic activity is assumed to correspond to a ‘natural’ equilibrium (the so-called Non-Accelerating Inflation Rate of Unemployment, the NAIRU), which is exclusively determined by supply side factors, especially by the structural workings of the labour market. The role of fiscal policy as a stabilisation instrument is severely downgraded and is practically restricted to support the central bank in meeting its policy targets.
The paper argues that the abovementioned general relationships and ideas have provided the theoretical guidance for a redefinition of states’ macroeconomic policies towards non-accommodating policies against inflation and the incorporation of that commitment into a disciplinary, stability-oriented macroeconomic regime, that seeks to prove the credibility, consistency and predictability of the implemented policies to an emerging global financial structure of power embedded in the post-Bretton Woods international financial architecture. This content and purpose of the NCM model is, in principal, reflected in the policy prioritisation of inflation fighting through: the introduction of nominal anchors, i.e. inflation targets; the adoption of a rule-based monetary policy strategy for enhancing the credibility of the anti-inflationary commitment, central bank’s political independence, as well as complementary rigid institutional arrangements set in monetary, fiscal and wage policy areas that attempt to discipline politicians and labour and remove potential politically-induced inflation bias.
The paper criticises the realism of the NCM’s theoretical underpinnings and policy prescriptions from a Post-Keynesian theoretical standpoint. Broadly summarised, the critique focuses on the axiom of the long-run neutrality of money and the assertion of inflation control by means of short-term interest rate manipulation and fiscal restraint. Particularly, it is questioned the independence of the NAIRU from the time path of the current level of unemployment determined by aggregate demand and there are underlined the adverse effect of interest rate manipulation to target inflation and fiscal retrenchment on real investment, long-run capital stock and productivity growth; the NCM’s single minded view of inflation as a demand phenomenon and the associated inability of the inflation targeting regime to deal with cost-push inflation; the impact of interest rate variations as the monetary policy tool on income distribution; the absence of the role of banks and financial risk in the NCM model; the indeterminacy of the ‘natural’ interest rate and therefore its inappropriateness as a guiding device of monetary policy interventions.
Related to this critique, there is also the critique of the institutional design of central banks operating inflation targeting and the failure of disciplinary fiscal arrangements to secure sustainable public finances in the long-run. The paper finally quotes a series of empirical studies indicating that there is no convincing evidence that inflation targeting has so far been associated with improved economic performance in terms of lower inflation rates, stable inflationary expectations, higher output growth rates and greater macroeconomic stability; and it may even lead to a deterioration of some performance indicators.
The abovementioned evidence suggests that the NCM policy paradigm lacks realism, conceptual adequacy and analytical competence to explain and describe the essential relationships that make up contemporary monetary production economies and hence to propose a coherent and credible macro policy framework. Based on unrealistic theoretical assumptions, its policy proposals instead of shaping a credible to financial markets environment conducive to sustainable long-run growth and macroeconomic stability, they appear to contribute to weak economic performance, income inequality, and eventually excessive financial and monetary instability, as it is vividly evident in the ongoing global financial and economic crisis. Against this background, the paper concludes by stressing the need for a more growth friendly and socially inclusive redirection of macroeconomic policy as a necessary prerequisite for avoiding periods of deflationary stagnation and crisis and re-establishing conditions of sustained macroeconomic and financial stability.
