| Roger Farmer, Oxford University Press, May 2010, 189
pages, £25 |
This is a more technical book than is usually
reviewed in this journal, indeed more technical than I usually read
these days. The reason for this is that some months ago I read the
popular version of Farmer’s work, How the Economy Works (OUP, £14.99),
much of which seemed very sensible. But it ended with the argument that
monetary authorities should target a stock-market index, which seemed
very much not sensible. Would that not just lead to overly-volatile
policy, given the overshooting of rational asset-markets, never mind the
scope for non-rational bubbles? Taking account of asset prices as a
supplementary indicator for monetary policy is one thing; a target is
quite another.
That review is online at
http://blog.enlightenmenteconomics.com/blog/_archives/2010/5/25/4536957.html
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| Still, there was enough there to persuade me to take
a look at the theoretical work underpinning the argument. For those
interested in the state of our understanding of the macroeconomy and
monetary policy, this book is well worth working through. (The equations
are pretty straightforward differential calculus of the kind familiar
from masters and PhD courses.) There are two important contributions.
One is to incorporate in a macro framework the kind of search model of
the labour market for which Chris Pissarides along with Peter Diamond
and Dale Mortenson won the economics Nobel Prize in 2010. The other is
to incorporate wealth effects (which is the source of the recommendation
to target asset prices). |
| Both of these seem giant strides on the way to a
more coherent framework for macromodelling. After all, it is plain that
conventional DSGE models have failed utterly in the past decade and we
do not yet have a new consensus about what to put in their place. Farmer
is at great pains to place himself in the tradition of Keynes’s General
Theory and the spiritual debt is obvious, but I think his approach is
acceptable to all but the most committed real business-cycle, Ricardian-equivalence
merchants, given the emphasis he places on microfoundations. |
| Having said all this, I do have some quibbles.
Mostly these concern the chapter on business-cycle data, which plunges
into presenting real GDP in terms of wage units without ever explaining
what this means or why it is preferable to conventional statistical
approaches. In my PhD work I specialized in time-series econometrics and
although this was a long time ago, I thought this confrontation of
theory with facts was weak and difficult to follow. |
| In addition, this second book did not persuade me
either about the sense of targeting the stock market. When I worked in
the Treasury in the mid-1980s (the era of monetary targeting), the
monthly briefing for the interest rate meeting included many of the
indicators the Monetary Policy Committee looks at now, but added a range
of asset prices and quantities. For example, agricultural land prices,
house prices, the stock market, and activity in the corporate debt
market, were all included. As inflationary pressure can emerge in any of
a number of asset markets, I think this dashboard approach has much to
recommend it, rather than a formal target for a single index. |
Diane Coyle
Enlightenment Economics |
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