Classical and keynesian's new consensus
The "New Consensus" in macroeconomics refers to the convergence of ideas between classical and Keynesian economists in the 1980s and 1990s. This convergence was driven by the recognition of the limitations of both classical and Keynesian approaches and the need for a more nuanced understanding of the economy.
Key features of the New Consensus:
- Rational Expectations: The idea that economic agents form expectations based on all available information, including past data and future expectations. This challenged the traditional Keynesian view of sticky prices and wages.
- Microfoundations: The emphasis on microeconomic foundations, such as individual behavior and firm decision-making, to understand macroeconomic phenomena. This shifted the focus from aggregate demand and supply to the interactions between individual economic agents.
- Dynamic Stochastic General Equilibrium (DSGE) models: The development of DSGE models, which combine elements of classical and Keynesian approaches to study the behavior of the economy over time. These models incorporate rational expectations, microfoundations, and stochastic shocks.
- Monetary policy: The recognition of the importance of monetary policy in stabilizing the economy, particularly in the face of shocks and uncertainty.
- Fiscal policy: The acknowledgment that fiscal policy can be effective in certain circumstances, such as during recessions or when there are significant supply-side shocks.
- Inflation targeting: The adoption of inflation targeting as a monetary policy framework, which aims to keep inflation low and stable over time.
- Gradualism: The recognition that policy changes should be gradual and incremental, rather than sudden and drastic, to minimize disruptions to the economy.
The New Consensus has been influential in shaping macroeconomic policy and research, particularly in the areas of monetary policy, fiscal policy, and international trade. However, it has also been criticized for its limitations, such as:
- Overemphasis on microfoundations: The focus on individual behavior and firm decision-making may have led to a neglect of aggregate demand and supply-side factors.
- Lack of attention to distributional issues: The New Consensus has been criticized for its failure to address issues related to income inequality and distributional concerns.
- Overreliance on DSGE models: The use of DSGE models has been criticized for their simplicity and lack of realism, which may not accurately capture the complexities of the economy.
Overall, the New Consensus represents a significant shift in macroeconomic thought, combining elements of classical and Keynesian approaches to better understand the economy and inform policy decisions.