New-Keynesian Economics Today: The Empire Strikes Back
Snowdon, Brian, Vane, Howard, American Economist
". . . there is no single doctrine taken to be a scientific truth without the diametrically opposed view being similarly upheld by authors of high repute . . . in other fields of science these conflicts usually come to an end . . . It is only in the field of economics that the state of war seems to persist and remain permanent."(1)
In a recent 'Symposium on Keynesian Economics Today' (Journal of Economic Perspectives, Winter 1993) David Romer, James Tobin, Robert King, Bruce Greenwald and Joseph Stiglitz offered a variety of perspectives with respect to the current resurgence of Keynesian ideas which has characterized the macroeconomics literature during the last decade. In his introduction to the symposium Gregory Mankiw noted that the '. . . literature that bears the name Keynesian is broad and it does not offer a single vision of how the economy behaves.' However, as a leading new Keynesian he did not present his own views in the symposium. In February 1993 we interviewed Gregory Mankiw at Harvard University(2) and here we present his perspective of the current state of macroeconomics in general and what he has called the 'Reincarnation of Keynesian Economics' (Mankiw, 1992a).
We first briefly review the background to the current debate before presenting Mankiw's assessment of some of the important issues in modern macroeconomics. In conclusion we compare the varieties of Keynesian vision presented by some recent contributors to this debate.
Breakdown of the Consensus
In 1977 James Tobin, the United States' most distinguished 'old' Keynesian economist asked the question 'How dead is Keynes?' (see Tobin, 1977). That Tobin was even asking this question highlights the turmoil which had begun to plague macroeconomics in the early 1970s and has continued ever since. Following the publication of Keynes's General Theory macroeconomists have been broadly split between those who believe that the price mechanism, unaided by the visible hand of government, is capable of stabilizing a capitalist market economy which is subject to periodic shocks and those, like Tobin, who doubt the capacity of the system to self-equilibrate at a satisfactory level of employment. The synthesis of Keynesian and neoclassical analysis which formed the basis of a consensus in the 1950s and 60s appeared to have achieved an uneasy reconciliation between these two competing views. The theoretical debate relating to the consistency of macroeconomic equilibrium with an excess supply of labour appeared to have been won by supporters of the invisible hand view, but as a practical matter it was accepted that the self-righting properties of the market were too weak and needed the helping hand of fiscal and monetary policies in order to achieve and maintain the primary stated objective of full employment. Keynesians of all persuasions accepted the possibility of widespread and frequent 'effective' demand failures together with prolonged involuntary unemployment. Nevertheless, apart from a small but highly vocal anti-neoclassical group of heretics centered at Cambridge University, the majority of Keynesians were also adherents, and seminal contributors, to the neoclassical paradigm (Paul Samuelson and Robert Solow are the most obvious examples). This schizophrenia could not last.
During the 1960s the synthesis became increasingly associated with an acceptance of a stable long-run trade-off between inflation and unemployment. With the breakdown of the Phillips curve in the late 1960s/early 1970s it became apparent that the microeconomic underpinnings of the supply side of Keynesian models were fundamentally flawed. The impact of the first OPEC oil shock in 1973 made this even more apparent. As a result Keynesianism was rejected by a growing number of academic economists during the 1970s, especially in the USA, who were increasingly attracted to the work of the emerging new classical school led and inspired by Robert Lucas who for many is '. …