http://www.nakedcapitalism.com/2012/03/philip-pilkington-policing-the-economists-from-within-their-own-minds-–-islm-as-a-model-of-intellectual-control.html
The beauty of it is that it's prior to the Krugman-Keen tiff and the war of words over Minsky. Pilkington takes direct aim at Krugman over-IS-LM repudiating the model in some pretty visceral terms. I think in many ways this helps us get a much better handle on what the real issues were in Krugman-Keen than ironically those that talk directly about that debate.
It might help to better understand why many MMTers seem to be so visceral about Krugman. Well first of all it should be understood that for anyone to discuss Minsky is stepping into contested ground as MMT has long claimed Minsky and really so much of their theory goes back to him directly. I was recently browsing Minsky's 1986 book on instability and discovered that major MMT stalwart Randall Wray wrote a long introduction to it. The MMTers do believe that they are the legitimate authority on Minsky if anyone is. Even the JG is direct from Minsky who advocated that the government be the Employer of Last Resort (ELR)-a clear spin on the Fed as the Lender of Last Resort (LLR).
In any case largely what MMTers don't like about Krugman goes back to "first principles" which in economics is all about models. Krugman is the most outspoken proponent of the IS-LM approach. However the MMTers have a major issue with IS-LM:
"It should also be noted that many MMTers consider the ISLM, or at least the LM-curve therein, to be a fairly accurate depiction of a gold standard or fixed exchange-rate regime. In truth it probably is, but in that it is only a rough approximation; even in such regimes the money supply is far more fluid than the ISLM depicts. In what follows we will consider only a floating exchange-rate regime."
"In mainstream and standard Keynesian economic analysis the LM-curve is upward-sloping. Before the reader falls asleep I’ll quickly highlight the implications of this. Basically, it means that when the demand for money rises interest rates should rise too, unless there is intervention by the central
"In mainstream and standard Keynesian economic analysis the LM-curve is upward-sloping. Before the reader falls asleep I’ll quickly highlight the implications of this. Basically, it means that when the demand for money rises interest rates should rise too, unless there is intervention by the central
"MMTers (and other post-Keynesians) disagree with this characterisation. They claim that the central bank has little or no control over the supply of money. They claim that the supply of money is ‘endogenously determined’ – i.e. set by the amount of economic activity taking place at a given time. Because MMTers, through their close study of actual banking practices, do not adhere to the idea of a ‘money multiplier’; they do not think that the central bank determines the supply of money at all. Instead it merely sets the price of money (that is, the interest rate) and allows the demand to adjust to this price."
"According to MMT in a floating exchange-rate regime there is an unlimited supply of funds, but these are given a fixed price by the central bank. This is a bit like a monopolist with enormous excess capacity that can, for all intents and purposes, produce an infinite amount of cars. The monopoly firm sets the price of the cars that they sell and allow demand to adjust in line with that price. Ditto for money in the MMT understanding of how the banking system works. The central bank is effectively a ‘money monopolist’ that allows the production of an infinite amount of money at a set price."
"There is an enormous difference here in how these processes are conceptualised. The mainstream approach deals almost exclusively with ‘stocks’ of money within the banking system, while the MMT approach deals with ‘flows’ and their rate of rate of expansion and contraction. The mainstream view is that a ‘stock’ of money is injected into the banking system by the central bank and this in turn creates another ‘stock’ of money in the economy through the process of the money multiplier. The MMT view, on the other hand, is that the central bank sets a price for money and allows the demand for this money to determine the ‘flows’ into the economy that result."
"LM curve is flat and that the central bank sets a price and allows demand for money to adjust the MMTers are being far more realistic and far less convoluted in the way they represent the functioning of the central banking system."
"ISLM enthusiasts will, of course, assure me that they don’t really believe central bank actions are neutral. But then why do they adhere to models that imply that it is? To those that would make this excuse I would warn them to take a look at history. Models can often take on a life of their own. I’m fairly convinced that monetarism – with its money supply targeting – arose quite organically out of the faulty ISLM model. I would also say that economists can do better than simply positing flawed models and then making excuses when they don’t work. Just drop the model altogether. The rest of us get on just fine without it."
"Models such as the ISLM – nearly all economic models, really – are self-justifying. One could say that they are almost tautological constructions. What they seek to do is dissolve the conceptions of the world held by the model-user into the models themselves. Buried deep within the model, most students don’t question these assumptions at all. They just assume that the world is as the ISLM says it is, while in truth the world is simply run by folks who think that the ISLM is a good representation of that world and thus a good guide to policy."
"The ISLM, then, is really a model of action for neoclassical central bankers who wish to try to impose an upward-sloping supply of funds (LM curve) on the economy. It does not represent how the world works, but instead how the world should work according to such people. It is a normative model in the strongest sense of the term and frankly, all those who use it to make predictions or try to understand how the economy works are not really engaged in detached reflection on how the economy works at all. No, they are buttressing the status quo – within their own minds, no less. And even though the better of them can tear themselves away from the dictates of the model when it comes to policy recommendations, they still ultimately remain tied to its apron-strings."
Ok! That's a mouthful. But what does it all mean? One comment that is interesting is about models. Pilkington chides IS-LM for being a self-justifying model but then also says that almost all economic models are. But isn't that what modeling in economics is all about? If you like me am were not trained to be an academic economist you may be forgiven for not really getting what this enormous difference he talks about is in how this is conceptualized. What I definitely get by now is that models are very big deals to economists and so much of the turf wars of the various schools is about models. Yet while
he claims that IS-LM is the status quo that is not the impression I get from reading Right wing econoimsts like the MMers, the Monetarists in general.
Supposedly the "Lucas Critique" but IS-LM on the back bench 40 years ago. Didn't Lucas once smugly claim that people who tried to use that model in class now risked having people giggle? For the Right wing economists IS-LM is more or less synonymous with "Old Keynesianism." As far as I understand it, mainstream econoimsts mostly use DSGE models which are supposed to be "more dynamic."
As far as Pilkington's point about self-justification is this not more or less the nature of the beast-of economic modeling? Again, as I see it, the only economists that declare their allegiance much to IS-LM today are Krugman and Delong. Sumner, Tyler Cowen. Marcus Nunes-say nothing of someone like Stephen Williamson all have no use for it.
A major problem the MMTers have with IS-LM is the lonable funds concept. Of this Krugman says:
"My favorite of these approaches is to think of IS-LM as a way to reconcile two seemingly incompatible views about what determines interest rates. One view says that the interest rate is determined by the supply of and demand for savings – the “loanable funds” approach. The other says that the interest rate is determined by the tradeoff between bonds, which pay interest, and money, which doesn’t, but which you can use for transactions and therefore has special value due to its liquidity – the “liquidity preference” approach. (Yes, some money-like things pay interest, but normally not as much as less liquid assets.)"
"How can both views be true? Because we are at minimum talking about *two* variables, not one – GDP as well as the interest rate. And the adjustment of GDP is what makes both loanable funds and liquidity preference hold at the same time."
"Start with the loanable funds side. Suppose that desired savings and desired investment spending are currently equal, and that something causes the interest rate to fall. Must it rise back to its original level? Not necessarily. An excess of desired investment over desired savings can lead to economic expansion, which drives up income. And since some of the rise in income will be saved – and assuming that investment demand doesn’t rise by as much – a sufficiently large rise in GDP can restore equality between desired savings and desired investment at the new interest rate."
"That means that loanable funds doesn’t determine the interest rate per se; it determines a set of possible combinations of the interest rate and GDP, with lower rates corresponding to higher GDP. And that’s the IS curve."
http://krugman.blogs.nytimes.com/2011/10/09/is-lmentary/
Delong complains of a "tribal dislike of IS-LM"-probably thinking more of the Monetarist Right rather than MMT Left. MMT holds that IS-LM is a faulty model that doesn't consider the action of banks. But as I understand modeling in economics all models are necessarily cursory and can only look at a limited amount of inputs and dimensions. They are never comprehensive of reality-if they were it would be a photograph:
"When you do economics and apply it to the real world, you start with the simplest possible model. Does that help you understand enough of the real world to satisfy you? If not, you complicate it by adding the most important thing that you had left out. Does that help you understand enough of the real world to satisfy you? If so, you use that model--and then when you want to go further you complicate it in its turn."
"But at each stage in the process, you absorb the valid insights from your current model before you go on to complicate things further."
"In monetary economics the simplest model is the bare two-good one-period quantity theory of money model:
- There is a peculiar commodity called "money".
- Total economy-wide spending is roughly proportional to it
"The right thing for Tyler to have said, from my perspective at least, would have been that IS-LM does not provide us with enough insights to satisfy us, and here is a slightly more complicated model--a four-good or a three-good two-period model--that actually helps us think coherently about (some of) the issues of nominal versus real interest rates, short-term versus long-term interest rates, safe versus risky interest rates, moral hazard and adverse selection in the bond market, non-interest bearing and interest bearing assets, liquidity and means of payment, flows and stocks, expectations, government reaction functions, and so forth. (The IS-LM framework--at least when you draw it with the short-term safe nominal interest rate on the vertical axis--loads all of these issues into the IS equation in a non-transparent way, and that is not satisfactory.)"
http://delong.typepad.com/sdj/2011/10/the-tribal-dislike-of-john-hicks-and-is-lm-history-of-economic-thought-edition.html
Bear in mind I'm making no "defense of IS-LM" be it "chivalrous" or otherwise.
http://www.themoneyillusion.com/?p=11277
I don't believe myself at this point anyway qualified to make that call. I just think that it's pretty hard for readers of someone like Pilkington to know what to think if they can't even spell IS-LM much less decide whether it deserves the harsh criticism levelled against it or not. I will push on till I feel I can better answer it.
Here is Sumner's knock on IS-LM from the above Money Illusion link:
"Both DeLong and Krugman insist that macro needs to start with simple models. I agree. And that those models must at a minimum include money, bonds and output. Here I don’t entirely agree. I think a model with money and goods, plus sticky prices, can get at many of the key features of the business cycle. BTW, I am not envisioning a model with constant velocity; I agree that would be almost entirely useless. But I’m willing to provisionally go along with the three market minimum for reasons that DeLong lays out here."
"The IS-LM model led economic historians to argue money was easy in 1929-30, because rates fell sharply. It led modern Keynesians to assume that money was easy in 2008, because rates fell sharply. And IS-LM proponents underestimated the importance of monetary stimulus in late 2008, because they thought the IS-LM model told them that monetary policy is ineffective at the zero bound. Brad DeLong himself was one of those IS-LM proponents who underestimated the importance of monetary stimulus in late 2008. Now he’s bashing the Fed almost every day."
"Some IS-LM defenders argue that there is nothing wrong with the IS-LM approach; it’s just that the model is misused by its supporters. After all, there has to be some sort of general equilibrium in the goods, money, and bond markets. The markets all interact with each other. And the IS and LM lines merely depict that general equilibrium. Yes, but a model that general would be pretty useless. IS-LM proponents also tend to argue that the IS curve is downward sloping. Nick Rowe recently argued that it is upward sloping. I think Nick’s right, at least if we use the yield on T-securities as “the interest rate,” and use a time frame that is relevant for business cycle analysis (a few months or years.) The problem is that most Keynesians identify changes in monetary policy by changes in interest rates, and hence misidentify monetary shocks."
He does quote Krugman-disapprovingly-he argues that IS-LM is actually an anti-elitist framework:
"Here’s the problem: Macro I (that’s 14.451 in MIT lingo) is a quarter course, which is supposed to cover the “workhorse” models of the field – the standard approaches that everyone is supposed to know, the models that underlie discussion at, say, the Fed, Treasury, and the IMF. In particular, it is supposed to provide an overview of such items as the IS-LM model of monetary and fiscal policy, the AS-AD approach to short-run versus long-run analysis, and so on. By the standards of modern macro theory, this is crude and simplistic stuff, so you might think that any trained macroeconomist could teach it. But it turns out that that isn’t true."
. . .
"Now you might say, if this stuff is so out of fashion, shouldn’t it be dropped from the curriculum? But the funny thing is that while old-fashioned macro has increasingly been pushed out of graduate programs- it takes up only a few pages in either the Blanchard-Fischer or Romer textbooks that I am assigning, and none at all in many other tracts – out there in the real world it continues to be the main basis for serious discussion. After 25 years of rational expectations, equilibrium business cycles, growth and new growth, and so on, when the talk turns to Greenspan’s next move, or the prospects for EMU, or the risks to the Brazilian rescue plan, it is always informed – explicitly or implicitly – by something not too different from the old-fashioned macro that I am supposed to teach in February."
Sumner retorts:
"I think Krugman’s right that real world policymakers use IS-LM to frame the issues. And to me that’s precisely the problem. The policymakers understand the basic IS-LM model, but not its weaknesses. They think there is “a” fiscal multiplier, ignoring monetary policy feedback. They think that low rates mean easy money. That’s why when I started arguing that money became ultra-contractionary in late 2008 I was regarded as something of a kook. Policymakers also tend to assume the Fed is out of ammo at zero rates. Where does this crazy idea come from? Krugman constantly like to praise Hick’s 1937 model, but in that paper Hicks said that the liquidity trap was the only revolutionary idea in the entire General Theory. The rest was putting already understood concepts (i.e. money demand depends on interest rates, or wages and prices are sticky) into a different language. There’s no question that the liquidity trap view comes from IS-LM, even its supporters admit that. And the liquidity trap view that is out there in the real world is the main reason we are letting central banks off the hook, the reason Obama thinks the Fed has “shot its wad.”
Marcus Nunes-perhaps showing more the "tribal dislike" Delong complains about writes a piece called "IS-LMing the way the the Great Inflation."
http://thefaintofheart.wordpress.com/2012/03/09/is-lming-the-way-to-the-great-inflation/
So clearly there is a lot of disagreement. On the Right-the Monetarists-hate IS-LM. In the Center-Krugman, Delong,-IS-LM is seen as the best model. Both the Right and the Center though see IS-LM as "Old Keynesianism." The Left-MMT, Post-Keynesianism-sees it as not Keynesin enough. Since Joan Robinson, Post-Keynesians have seen IS-LM as aborting the Keynesian Revolution before it ever started.
http://en.wikipedia.org/wiki/Keynesian_Revolution#cite_ref-skid_16-3
Pilkigton does provide a link to Hick's original IS-LM paper to remind us of it's original basis-no doubt he considers it's conception as already highly compromising.
It's interesting to consider what Hicks himself said at the time:
"The IS/LM model was born at the Econometric Conference held in Oxford during September, 1936. Roy Harrod, John R. Hicks, and James Meade all presented papers describing mathematical models attempting to summarize John Maynard Keynes' General Theory of Employment, Interest, and Money. Hicks, who had seen a draft of Harrod's paper, invented the IS/LM model (originally using the abbreviation "LL", not "LM", for the denominator). He later presented it in "Mr. Keynes and the Classics: A Suggested Interpretation".[2]
"Hicks later agreed that the model missed important points of Keynesian theory, criticizing it as having very limited use beyond "a classroom gadget", and criticizing equilibrium methods generally: "When one turns to questions of policy, looking towards the future instead of the past, the use of equilibrium methods is still more suspect."[3] The first problem was that it presents the real and monetary sectors as separate, something Keynes attempted to transcend. In addition, an equilibrium model ignores uncertainty – and that liquidity preference only makes sense in the presence of uncertainty "For there is no sense in liquidity, unless expectations are uncertain."[4] A shift in one of the IS or LM curves will cause a change in expectations, which shifts the other curve. Most modern macroeconomists see the IS/LM model as being, at best, a starting approximation for understanding the real world."
For those who crtiicize IS-LM for being ad-hoc that's exactly how it was birthed-in an ad-hoc way.
For Hick's original paper http://www.sonoma.edu/users/e/eyler/426/hicks2.pdf
Finally perhaps we should consider what Keynes said about IS-LM as it was devised as a way for reformed classical economists to make sense of the General Theory (GT). Keynes for his part never bothered to complain about it or dispute it though he saw some imperfections in it:
"Another reason for the distortion of Keynes's views(according to Post-Keynesians; my addition) was his low level of participation in the intellectual debates that followed the publication of his General Theory, first due to his heart-attack in 1937 and then due to his busyness with the war.[19] It has been suggested by Lord Skidelsky that apart aside from his busyness and incapacity, Keynes didn't challenge models like IS/LM as he perceived that from a pragmatic point of view they would be a useful compromise."
http://en.wikipedia.org/wiki/IS/LM_model
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