Search

Dennis Robertson played an important role in the history of Cambridge economics, through his contributions to monetary and business cycle theory, and to utility and welfare. As a macroeconomist, Robertson investigated the dynamic relationship between monetary flows and economic fluctuations. His main contributions to monetary macroeconomics were written between 1915 and 1934. During that period (especially in the 1920s), he and Maynard Keynes interacted extensively. However, after the publication of Keynes’s General Theory in 1936, Robertson became critical of what he perceived as the shortcomings of Keynesian liquidity preference and equilibrium unemployment theories. From a microeconomic perspective, Robertson made a sustained effort to keep alive the Cambridge Marshallian cardinalist approach to utility, especially after the ordinalist revolution in welfare economics in the 1940s. Robertson claimed that economic theory and policy necessarily involve interpersonal comparisons of utility and welfare.

Richard Kahn made contributions which secured him a prominent place in the history of economics in three areas: imperfect competition, the theory of employment, and monetary and international economics. He was among the inventors of the ‘kinked demand curve’, having introduced ‘conjectures’ into demand curves, in the form of elasticity values, for the analysis of price and quantity produced in oligopolistic markets. He was a major protagonist in the Keynesian revolution, his most famous contribution being undoubtedly the ‘multiplier’. But Kahn contributed also to the approach taken by Keynes, by extending the Marshallian supply and demand apparatus from the analysis of one single market to the economy as a whole. His approach to the liquidity preference theory was perhaps more radical than Keynes’s. To the end of his life, Kahn dedicated his efforts as a theoretical economist, academic, and member of the House of Lords to demolishing the ‘mystique’ of monetarism and building an alternative institutional framework on ‘Keynesian’ foundations for domestic and international policy.

Portfolio selection modelling dates back to the development of mean-variance1 model of Markowitz. The concept of diversification and an efficient frontier provided the logical basis for selecting a portfolio based on individual utility curves. Roy (1952) provided a specific point on the efficient frontier whereby he attempted to minimise the upper bound of the chance of a dread event. Roy’s principle of safety first, further supported the concept of diversification of resources among a wide variety of assets. Utility was defined in terms of minimisation of a chance of a catastrophe. Markowitz used statistical analysis and Roy used econometric analysis for the purpose of their studies. Tobin (1958) provided the basis for two fund separation theorem in the context of portfolio selection whereby an investor allocates his resources among risky and riskless assets. The theory propounded by Tobin was based on the risk avoiding behaviour of investors and was conceptually shown to be superior to the Keynesian theory of liquidity preference.

Some people achieve greatness for just a brilliant idea or two. Franco Modigliani is almost unique in that he had many big ideas, and his ideas spanned decades. His work encompassed many collaborations, and many sub disciplines. He was also legendary in his academic generosity. His legendary eclecticism is a product of his life and of his good fortune.

Tobin’s doctoral dissertation dealt with consumption and saving decisions, and the articles based on that dissertation (together with his econometric papers on food demand and rationing) put him on the path to receiving the John Bates Clark Medal in 1955, awarded by the American Economic Association every two years to an American economist under the age of 40 who has already made significant contributions to knowledge (the only previous winners were Paul Samuelson, Kenneth Boulding, and Milton Friedman). But in the late 1950s and the 1960s, Tobin’s main research interest turned from understanding saving (the S of the IS curve) to exploring the optimizing microeconomic foundations of the money demand (liquidity preference), money creation and asset market equilibrium underlying the LM (liquidity/money) curve, which lead to his writing some of his most influential articles (Tobin 1956, 1958a, 1961, 1963). Although the analysis in these articles was theoretical, Tobin was well aware of the policy relevance of the nature of the money demand function. Already in 1947 (in an article also noteworthy for its empirical estimation of a money demand function depending on income and interest), Tobin opened a critique of an article by pioneer monetarist Clark Warburton and of a book by William Fellner (later Tobin’s colleague at Yale) by declaring, “The contention of this paper is that the demand for cash balances is unlikely to be perfectly inelastic with respect to the rate of interest, and that policy conclusions which depend on the assumption that the demand for cash balances is interest inelastic are therefore likely to be incorrect” (1947–48, in Tobin 1971–1996, Vol. 1, p. 27, cf. Fellner 1946 and the articles collected in Warburton 1966).

When I was a student at Washington University, Hyman P. Minsky handed to me a 1984 draft paper by Jan Kregel titled ‘Reading Copy. The Multiplier and Liquidity Preference: Two Sides of the Theory of Effective Demand’ — which would later be published in a 1988 volume edited by Alain Barrere. It was the first time I had been exposed to a serious exposition of Keynes’ own rates analysis. By coincidence, an office mate was preparing to leave for his first position and he happened to have a copy of Kregel’s The Reconstruction of Political Economy (Kregel 1973) that he gifted to me. I then pursued Kregel’s earlier books that detailed the Cambridge approach to capital and profit. By that time, I had been at Washington University for two years and had absorbed what I thought was enough of Minsky’s financial instability hypothesis as well as of the neoclassical economics that was the mainstay of the PhD program. Before coming to Washington University, I had been most interested in Marxist economics and Institutionalism. I was ready for a change. I dove into the Cambridge surplus approach.

This chapter examines the relevance of the New Consensus Macroeconomics (NCM), or Neo-Wicksellian, model from a policy perspective in the light of the ‘great recession’. It is argued that a monetary policy rule based on inflation, and perhaps also on growth, such as that pursued by the major central banks, would be insufficient to prevent or even detect a crisis such as the ‘great recession’. This drawback is due not only to the limited nature of the policy makers’ objective function, but also to the structure of the NCM paradigm. In particular, the NCM models suffer from a number of deficiencies. First, there is an internal inconsistency in that the policy implications advocated by NCM-style models are assumed rather than being derived explicitly from such models. The propositions that inflation is under the direct control of the central bank, while output and unemployment in the long run are not, are imposed on the model rather than being demonstrated theoretically in a convincing manner. Second, the NCM models are based on the transversality assumption, which leads to the conclusion that commercial banks do not exist in the model, nor monetary aggregates or liquidity preference. Interestingly enough, the absence of monetary aggregates may be at the root of the current woes. Third, financial innovation in the last ten years or so has rendered traditional monetary aggregates obsolete as measures of overall liquidity.

The definition of wealth in Model PC in Chapter 4 comprised only two assets, money and bills. In this chapter a third asset, long-term government bonds, is introduced and this will provide an opportunity to discuss the notion of liquidity preference — hence the name Model LP — and also to introduce capital gains and losses into the system of accounts. An important feature of the new model will be that an increase in long-term interest rates will have a short-run negative effect on demand.

We examine the relevance of the New Consensus Macroeconomics (NCM) models in light of the current crisis. The NCM models suffer from a number of deficiencies. The policy implications advocated in NCM models are assumed rather than being derived explicitly from such models. The NCM models are based on the transversality assumption, which leads to the conclusion that commercial banks do not exist in the model, nor monetary aggregates or liquidity preference. Interestingly enough, the absence of monetary aggregates and liquidity preference may be at the root of the current crisis. The NCM models ignore the role of wealth in affecting the decisions of households to spend and save. This chapter attempts to rectify some of these drawbacks of the NCM models. In this respect the chapter highlights the potential problems a central bank is likely toface, and in view of the current crisis, when it targets just inflation and output gap to a lesser extent.

List of Figures and Appendices Notes on Contributors Foreword C.E.Walsh Macroeconomic Theory and Macroeconomic Pedagogy: An Introduction G.Fontana& M.Setterfield PART I: THE 3-EQUATION NEW CONSENSUS MACROECONOMICS MODEL Teaching Intermediate Macroeconomics Using the 3-Equation Model W.Carlin& D.Soskice Bringing Undergraduate Macroeconomics Teaching Up to Date S.Wren-Lewis Monetary Policy Analysis: An Undergraduate Toolkit J.S.Chadha Rescuing the LM Curve (and the Money Market) in a Modern Macro Course R.Tamborini The New Consensus in Macroeconomics: A Critical Appraisal P.Arestis Complexity and Macro Pedagogy: The Complexity Vision as a Bridge between Graduate and Undergraduate Macro D.Colander& C.Rothschild PART II: AN ENDOGENOUS-MONEY THEORY AMENDMENT OF THE NEW CONSENSUS MACROECONOMICS MODEL Teaching Macroeconomics When the Endogeneity of Money is Taken Seriously M.Sawyer A Simple (and Teachable) Macroeconomic Model with Endogenous Money G.Fontana& M.Setterfield Money and Banking in a Realistic Macro-Model P.Howells PART III: FINANCIAL FRAGILITY, LIQUIDITY PREFERENCE, UNEMPLOYMENT HYSTERESIS AND OTHER AMENDMENTS Taming the New Consensus: Hysteresis and Some Other Post-Keynesian Amendments M.Lavoie Minsky Meet Wicksell: Using the Wicksellian Model to Understand the Twenty-First Century Business Cycle C.L.Weise& R.J.Barbera Macroeconomics Meets Hyman P. Minsky: The Financial Theory of Investment L.Randall Wray& E.Tymoigne PART IV: THE REAL INTEREST RATE, INCOME DISTRIBUTION, AND ALTERNATIVE VIEWS OF STABILIZATION POLICIES Teaching the New Consensus Model of 'Modern Monetary Economics' from a Critical Perspective: Pedagogical Issues J.Smithin A Post Keynesian Alternative to the New Consensus Model E.Hein& E.Stockhammer The Central Banker as Regulator of Conflict: A 'Reversed' Reading of the Solow and New Consensus Model E.Brancaccio Institutions, Expectations and Aggregate Demand J.Ferreiro& F.Serrano

Modigliani penned an autobiography relating his experiences in Italy, America and other European countries.1 For each country, he presents his major works like a meal consisting of graphs, symbols, data, and explanations for general readers to digest. A “scientific autobiography” written by “a ferocious Galileo,” says Samuelson. “His memoirs are just like him. Any reader will get to know a delightful person and learn some economics besides,”2 echoes Solow. Adventures stands besides other biographical pieces Modigliani had written, one for his Nobel Prize in 1985,3 and a chapter in a book.4 Why should we have another record of his life and works?

In the conventional Post Keynesian account of money supply determination (and the conduct of monetary policy), it is the rate of interest set by the central bank that is exogenously determined while the quantity of money is determined by the demand for bank loans, which in turn is dependent on the ‘state of trade’. Over the years, this simple statement of what Fontana calls ‘one of the main cornerstones of Post Keynesian economics’ (Fontana 2003: 291) has generated a certain amount of debate and subsequent refinement. Controversial issues have included (i) the role of the demand for money; (ii) the precise range of expenditures bearing upon the demand for credit; (iii) the importance of banks’ liquidity preference; and (iv) the extent to which central banks themselves contribute to endogeneity by passively supplying reserves. Palley’s recent comment that ‘For the last decade, the post-Keynesian approach to endogenous money has become bogged down in a debate between what have been called the ‘accommodationist’ and ‘structuralist’ approaches’ (Palley 2002: 152) is a reference to (iii) and (iv).