 We are ready, I believe, to reconvene the program. Time permitting at the conclusion of Professor Leigh and Hope, it's lecture, we will reconvene the panel again to resume our discussion. Those of you who would like to submit questions for the panelists to answer, we will again collect those. We didn't get to the ones that had been submitted earlier. We have some good questions and we will make every effort to include your questions to present them to the panelists to whom they are directed. At this time, I'll call on my colleague, Professor Byron Nordstrom, to introduce Professor Leigh and Hope. Thank you, David. I think first of all, I should give you a very quick history lesson on our next speaker. I suspect many of you have looked at his name and wondered how in the world does anyone pronounce that? And it's really very simple, Leigh and Hope, you've heard it several times already. It's a Swedish name, a name that quite simply means lion's head and the name appears in pictorial form on the family's crest as three lions on a shield background. Professor Leigh and Hope's family goes back at least into the mid-14th century in Sweden. And it's a family essentially of free men and knights. The family comes into the Swedish aristocracy. Professor Leigh and Hope who has told me and I think this is a wonderful anecdote, especially for Professor Brunner, that he is probably the closest relative of Gustavus Adolphus ever to speak at this college. Because Gustavus Adolphus' grandfather was Gustav I, Gustav Vossa, and his second wife was Margaret Leonhuvud. And one of her children then becomes the father of Gustavus Adolphus. So there's a tie here that's historical as well as professional. Well, Professor Leonhuvud grew up in Southern Sweden in a small town called Heslaholm. He did his undergraduate work at the University of Lund in Southwestern Sweden. He then came to this country in roughly 1960. He earned a master's degree from Pittsburgh and went on to get his PhD at Northwestern University. He told me that there was never a clear intention to stay in the United States. He didn't come as one of those immigrants like many of our forefathers did in the last century, but rather he came for an education, for a particular opportunity, and other opportunities kept popping up that have kept him here ever since, the early 60s. He has had his permanent home at the University of California, Los Angeles since 1964, but he has taught in an incredible number of places. Reading this man's vita in the section as to where he has taught or given seminars is really very impressive. Places in Switzerland, Germany, Italy, Japan, the United States, South America, Scandinavia, and so on. He has published extensively on Keynes and on other aspects of economics, and he strikes me, and I think this is fitting in with the other two talks you've already heard, he strikes me as a man who follows the precepts of, or one precept of the good scholar, and that is to always go to the source in order to understand the past or economics or an economist, and he also seems to apply one other thing, which Professor Thoreau very aptly pointed out to us, and that is to consider context as well. We really cannot understand people or events outside of context, and we can't understand them if we don't go to the person, rather than look at secondary materials. So it gives me a very great pleasure, it gives me great pleasure to welcome Professor Lehen Hovud to you this afternoon, thank you. Thank you very much. Well, you've had an hour or more of an Australian accent, then you had an hour or more of a Swiss accent, and now comes what you've all been waiting for, the real thing, a Swedish accent. For some 30 years now, macroeconomics has been embroiled in the controversy between Keynesian and monetarist theory. That controversy is not over yet. Surprisingly little has been definitively settled, but it must be confessed that over the last decade or more, the Keynesian team has done so badly that the fans hardly care to come out to watch the game any longer. More recently, things have not been going so well on the monetarist side either, which doesn't really help in maintaining public interest in the proceedings, but tiresome as such inconclusive controversies do become, this is one that we simply cannot walk away from. So many issues of great public importance depend for the resolution on coming to an adequate understanding of the macroeconomy, and Keynesianism and monetarism are still the main rivals in this field. Now the question I want to address is this, why did Keynesian economics lose influence to the degree that is the case today? And the reasons that I will give may be divided into internal ones and external ones. In a book that is now almost 20 years old, I argue that Keynesian economic theory was beset by serious internal problems. There were conceptual and theoretical problems that the Keynesians did not bother to take care of as long as standard Keynesian models seemed to do all right for all practical purposes. The neglect of these internal conceptual issues, I argue, did not augur well for the future health of Keynesian economics. Needless to say, I don't see any reason to change my mind. It seems appropriate though to shift the emphasis in telling the story of whatever happened to Keynesian economics to external factors. Simplistically put, the world did not stand still during the decades of the controversy, and that rather trite observation turns out to be germane to the story. There is a famous and perhaps too often quoted saying by Albert Einstein, der Herrgottis Raffinir der Brösshaft ist der nicht. The good Lord is subtle, but he isn't mean. The Lord, meant Einstein, may have made his laws of nature difficult to discover, but once you have found them out, he will not change them on you. Well, this is the comforting creed of physicists. Physicists know that if they repair to the ivory tower to settle some quarrel amongst themselves, and even if it takes some time, they will come back out into the same real world that they left. Economists have no such assurance. Our subject matter changes even as we quarrel about it, and when the world does not stand still, it may change in ways that can favor one or the other side in an ongoing economic controversy. Well, the aspect of the changing world that is important to the story of the declining influence of Keynesian theory is the post-war evolution of the monetary system. As this system evolved, Keynesian economics adapted only slowly and incompletely, and let me say with many creeks and groans. Thus Keynesians were caught defending positions that were no longer defensible, although roughly right for a bygone era. This guy gave some easy victories to their monetarist critics. The economics profession at large has, however, drawn conclusions from these Keynesian defeats in the controversy that I believe to be in some important respects quite wrong, even dangerously wrong. There was, you see, a healthy baby in that Keynesian bathwater that went out. A nice kid, really. Pity what happened to him. Perhaps he could be resuscitated. So let me turn to these external factors, the changing monetary regime. The expectations of the public play an important role in macroeconomic theory. The reason is very simple. The same disturbance to the economy or the same policy action will have very different, immediate results depending upon what the state of expectations happens to be. With one state of expectations, a decision to increase the supply of money, for instance, may cause a rapid rise in the price level with little change in output and employment. But with a different state of expectations, it may be followed by rising output and employment with very little inflation. Well, in order to predict the consequences of policy actions, therefore, we would need to know what the state of expectations is at the time. The trouble is, of course, that these expectations are, on the whole, unobservable. This is one of the main reasons why macroeconomists do not compare favorably with natural scientists when it comes to predictions. The state of expectations, we sometimes say, is in a black box. That term, the black box term, was originally used, I believe, in connection with bomb disposal during World War II. If you can infer what the state of a bomb is on the inside, a perfectly safe way to handle it and disarm it can often be found. If you cannot infer what it is, if the bomb is a truly black box, it may blow up in your face without forewarning, just like macroeconomic policy. One very important lesson that we have learned from the new classical economists is that this black box problem can sometimes be handled adequately by assuming that people generally understand the monetary regime that they have to live with and that they form their expectations accordingly. This analytical procedure we refer to as the rational expectations approach. Today, it is very widely used also by people who do not otherwise have much in common with new classical economics. The concept of a monetary regime may thus be given the following two-part definition. It is on the one hand a system of expectations that governs the behavior of the public and on the other, a consistent pattern of behavior on the part of the policy-making authorities such as will sustain these expectations. A society may in effect choose a monetary regime for itself by adopting a set of rules for the authorities to follow and by letting people's expectations adapt to these rules. The so-called rules of the gold standard would be an example, although not a very good one since they changed quite a bit over time. Nonetheless, it should be clear to you that people's expectations about the future behavior of the price level, for instance, are bound to be different under all variations of the gold standard from what they would be under inflationary regimes such as have characterized, let's say Argentina, Brazil, or Israel until quite recently. Now, in choosing or constructing a monetary regime providing for the predictability and stability of the nominal price level would normally be a fundamental objective. We have two basic inherited ideas of how a society may achieve this predictability of nominal values. One I call quantity control and the other convertibility control. The macroeconomic theory appropriate to a regime relying for its nominal stability on convertibility is in several important respects, very different from the one appropriate to a regime relying on government control of the stock of money. The main points are the following. Under quantity control, the monetary authorities fix the quantity of money and allow the markets to determine the corresponding equilibrium level of nominal value and nominal prices. Under convertibility, the government fixes instead the nominal price of gold, for example, and leaves it to the banks and their customers to determine the corresponding equilibrium stocks of money and other liquid assets. From the standpoint of the government, the first is a quantity fixing and price taking strategy and the second is a price fixing and quantity taking strategy, if you will. Now the short run macroeconomic theory or monetary policy doctrine appropriate to the one pure case is really very different from the one fitting the other. Under convertibility, the commitment to redeem money in gold or perhaps in foreign currency on demand means forgoing the option of controlling the money stock. Roughly speaking, the money stock is determined by demand rather than by supply in such a system. In a system where the money stock adjusts to the price level rather than the other way around, however, the central bank can worry about the price and the availability of credit and their effects on real activity in the economy. If convertibility were generally to be seen to guarantee the price level, the public will have inelastic expectations as it is called, that is, whenever the price level departs a bit from the longer term trend set by the supply and demand for gold, people will expect it to return to that trend. In such a system, changes in the central bank discount rate changes a real price, changes in bank reserves change the real volume of credit supplied. Now the leverage over output and employment that the monetary authorities can gain in this way is rather limited nonetheless. Now, from this you will see that much of the monetary policy theory appropriate to the convertible regime has a distinctly Keynesian ring to it. Note, however, that Keynesians have in general not regarded the validity of their theory as in any way confined to convertible money regimes. By the same token, this monetary policy doctrine, the one with the Keynesian ring to it, has been the target of persistent monetarist criticism. Monetarist theory is itself best suited to the opposite pure case, the pure quantity control case. When the economy is on a pure fiat standard, control over some nominal stock becomes a necessity in order to provide the system with a nominal anchor. If the authorities try to govern real credit and do not keep track of the money stock, they are likely to fail at their primary task of providing nominal stability. Interest rate targeting of monetary policy, which is a natural tactic when convertibility takes care of the price level, is positively dangerous under these conditions. It threatens total loss of control over the price level. Now, monetary policy is clearly effective in such a system in the sense that it can bring about large changes in money income by changing the money stock and letting the price level adjust. What is not so clear is whether it can have a reliable and predictable effect on real activity. The new classicals among the monetarists maintain that authorities can only control the nominal scale of the economy and have no effect on real activity, except for such transitory disturbances as may arise because people sometimes misunderstand what current monetary policy really is. Well, the last 150 years or so have obviously taken us by stages and with quite a bit of backing and filling from a monetary regime approximating the pure convertibility case to one of quantity control and with a quantity control whose purity is only a little bit soiled by some dirty floating of exchange rates. What may not be so obvious is whether the tail end of this long process taking us from convertible monetary systems to the pure quantity control systems, whether the end stretch after World War II is really relevant first to the long dominance of Keynesian economics and then to its dramatic loss of influence. Well, if it were the case that the relative price of gold in terms of all other goods were determined by real factors and that price of gold were thus independent of the volume of paper credit, then it would suffice to fix the nominal price at which paper should be convertible into gold in order to also fix the price level and that would be it. Well, that sort of model was hardly an adequate guide to realities even 150 years ago. Over time, convertibility became an increasingly loose constraint on the price level as well as on the policy discretion of central banks. That is, we maintained gold convertibility, but by so doing we did not constrain the price level within a very narrow range, nor did we constrain the authorities very tightly. What remained of convertibility in the post-World War II, Bretton Woods' monetary system was terribly attenuated. You may recall that in the United States, the public's privilege to redeem in gold had been abolished already in 1933 in particular. Most monetary economists over the last 40 years have written on their apparent presumption that these vestigial remains of convertibility were of no theoretical significance. The literature on pure monetary theory in particular from Don Patinkin right after the war to Frank Hahn and Robert Lucas in recent years has concentrated almost exclusively on the fiat standard pure quantity control case. Well, nonetheless, under Bretton Woods, it is on the whole only for the United States that this question of interpretation arises. The other countries that maintained fixed dollar exchange rates became more, not less constrained by convertibility with time as both goods markets and capital markets became increasingly integrated in the international economy. Consequently, the willingness of these countries to continue with the system depended upon how the dollar was managed. There can hardly be any doubt that the United States could have spread inflation across the world 20 or so years before we actually did so. In that sense, the United States was not significantly constrained by the Bretton Woods system. But the implicit contract with other member nations required more responsible behavior. When in the end, the United States refused to let its external deficits pull it back from its inflationary policies, Bretton Woods was done for. My own interpretation of the period up until the system crumbled therefore is that the monetary policies of the United States in effect mimicked behavior under a convertible system and sufficiently so as to sustain in the American public a system of nominal expectations appropriate to a convertible system, although we had only vestigial remains of actual institutions or such a system. Now, this was the world to which Keynesian economics was adapted and not only or even mainly because Keynes was one of the main architects of the Bretton Woods system and because Keynes made corresponding assumptions in his own theoretical work. But because macroeconomics after Keynes evolved in that setting and absorbed features of it into its theoretical structures often without explicitly recognizing what was going on. When the system collapsed, Keynesian economics turned out to be ill-prepared to deal with an era of inflationary mismanagement of a fiat standard. Now, a specific illustration may help at this point. When I began studying economics 30 years ago, I was taught two propositions that were considered lessons of Keynesianism. Indeed, almost discoveries due to the Keynesian revolution. The first proposition, money wages are rigid in the modern world and the second, monetary policy is ineffective. Are these two propositions true or false? Well, in the 1950s, they were taught as true in almost all schools and students who did not think so had low survival probability and seldom joined the profession. But for the last 10 years or so, we have taught that they are false and students who don't think so. Well, my point is, of course, that they are not true or false in the abstract. But as is the case with a great many disputed propositions in monetary theory, their status depends on what monetary regime we are talking about. If by effectiveness we mean the capability of bringing about large changes in national income in money terms, then a central bank constrained by convertibility does not have that capability. Consequently, in such a system, rational agents will expect the nominal scale of real wages to be more or less constant. Workers will know that a money wage concession means accepting lower real wages. Under such a regime, therefore, money wages are only as flexible as one would expect real wages to be, which is not much. Under quantity control, on the other hand, monetary policy is in principle effective and capable of bringing about large changes in the nominal scale of the economy. If this capability is used vigorously, the inelastic nominal expectations that the public may have had originally are bound to give way, and with their disappearance, the rigidity of the nominal wage will also disappear. Any relationship between nominal and real variables that may previously have appeared stable and reliable will then break down. The so-called Phillips Curve relationship between nominal wage change and unemployment percentage is the most pertinent example. Originally charted by Almar and Phillips on British data for the period 1862 to 1957, most of it periods of convertibility, it completely disappeared in the mismanaged money period of the 1970s. Keynesianism lost influence in the economics profession in large part because many Keynesians had put considerable faith in the Phillips Curve while the monetarists had been vociferous in their mistrust of it. The progress of the Keynesian monetarist controversy is itself relevant to the change in monetary regime. The early monetarist attacks on Keynesian orthodoxy concentrated heavily on the proposition that monetary policy was ineffective. This was Milton Friedman's favorite target. The effectiveness of money stock policy for the key currency country could not really long be disputed and the profession was also gradually won over to this view. The result, however, was that a great many people who still believed wages to be inflexible now believe money stock policy to be effective. This is a dangerous combination of beliefs for it leads to a further belief that is not true, namely that money stock policy can be used as an effective regulator of employment. This false belief lent an inflationary bias to policy discussions in the 60s and in the 70s. Thus the monetarist critique on the effectiveness issue and also on the fixed exchange rate issue undermined the monetary discipline of the Bretton Woods regime. But the monetarist failed, however, in imposing their own brand of discipline on the system, namely the Friedman rule. I turn out to internal factors, the changing theoretical positions. The course of the macroeconomic controversy over the last 30 years is difficult to follow, not only because the world about which people were talking kept changing, as I've just described, but also because their theoretical positions kept changing. Things ain't what they used to be within either Keynesianism or monetarism. To keep track of these changing positions, it is convenient to make use of a figure which I trust will be familiar to this audience, namely the Swedish flag. Please see my figure one here to my left. I want to use the flag in the following way. I want you to think of the flag for those purposes in the following way. Business cycle theories may be distinguished according to the hypothesis they make about the impulses that initiate business fluctuations on the one hand, and the hypothesis they make about the propagation mechanisms that turn the impulses into persistent movements in output and employment, on the other hand. I'd like you to think of the Swedish flag, which unfortunately is not unfolded the way I would like it to be, with impulses on the vertical side of the flag and propagation mechanisms on the top, all right? And from the top down on the left side, we have nominal impulses, mixed impulses, and real impulses. And across the top, we have nominal propagation, mixed and real in that order. And for the real, on the real side, you should also interject that these are inter-temporal real disturbances. Now let me explain. This is a schema for you to keep the theories that have been discussed in mind. A purely nominal impulse is a disturbance to the system such that the re-equilibration of the economy requires only a change in nominal scale that is an adjustment of the money price level. A real impulse, on the other hand, requires some reallocation of resources between industries or occupations and requires correspondingly a change in relative prices in the system. If it's a pure case of a real disturbance, it will not require a general deflation or inflation in order to restore the system to equilibrium. Now, close approximations to these pure cases may be relatively rare, so I'm forced to recognize mixed categories both on the impulse and the propagation side. These mixed ones are complicated matters, however, that I don't dare go into, so you may color them yellow and forget about them for the rest of my talk. I'll keep to the blue areas of the flag. How propagation comes in is best explained by going directly to the relevant cases. Now, the nominal-nominal combination, that is the combination of a nominal impulse and a nominal propagation idea, which I would put in the upper left-hand corner of the flag, is the monetarism of Milton Friedman, monetarism before new classical economics. The typical disturbance here is an exogenous change in the fiat money supply. The failure of the money wage to adjust immediately propagates the shock to real magnitudes so that real income and employment and not only nominal prices co-vary with the money stock. So that's one case. Now go diagonally across the flag to the lower right-hand corner. There you have the inter-temporal real-real combination, which is Keynes' original case. I bet you wondered when his name would come up. Various events may cause firms to change their views about the profitability of investment, that is, of employing present productive resources for the purpose of augmenting future output. If this shift of the marginal efficiency of capital, as Keynes called it, were in a pessimistic direction, for example, people will plan to reduce the investment thereby creating an excess supply of present resources and implicitly an excess demand for future consumption goods. This disequilibrium Keynes liked to describe in terms of quantities as saving exceeds investment, while the great Swede, who I have to pop in her someplace, the great Swede Knut Wichsel preferred to describe it in terms of prices as the market rate exceeds the natural rate. The appropriate system response should be that real rates of interest fall so as to raise the price of future goods in terms of present goods. The Keynesian propagation hypothesis is that real rates of interest do not move sufficiently with the result that excess supply of present resources produces instead a decline in output and employment. Now the theoretical core of these two theories are easily graphs. The first one, the NN one, upper left-hand corner, argues that typically macroeconomic troubles stem from nominal shocks and that the appropriate nominal adjustments are not forthcoming properly. Therefore you get into trouble. The other one, my real, real one, bottom right-hand corner, maintains that typically the trouble starts with a disturbance to real expectations and that the appropriate inter-temporal relative price adjustments do not occur immediately. The monetarist Keynesian controversy, however, was not played out as a contest between these two alternatives. Things would have been much easier to understand. Indeed, they would have made much more sense if a nominal nominal and a real real theory had been the two contending positions, but that was never the case during the years of the ongoing quarrel. The reason that these two were never on collision course is that before the monetarist came on the scene, internal developments within the Keynesian camp had already shifted the Keynesian position away from the bottom right-hand corner to the bottom left-hand corner of the Swedish flag. I trust you keep checking the flag as we go along. That's where we have a real impulse and a nominal inflexibility. The Keynesian economics that filled the textbooks for three decades retained the hypothesis that shifts in the marginal efficiency of capital was the typical course of changes in income, but stressed money wage rigidity as the course of unemployment and de-emphasized the intertemporal price problem. Now this latter hypothesis of money wage rigidity was one that John Maynard Keynes had explicitly denied, and it is to my mind at least doubtful that the resulting mix of a real disturbance hypothesis with a nominal inflexibility hypothesis creates a coherent theory. Be that as it may, the shift of the Keynesian position did switch the theoretical focus from the role of intertemporal relative prices in the coordination of saving and investment to the relationship between aggregate money expenditures and the level of money wages, which is a completely different idea. The Keynesian monetary's controversy started, therefore, with the Keynesians in what I consider this muddled RN position, real nominal position, lower left hand, being attacked by monetarists from a nominal nominal position. The Keynesians found the defense of the position that they had taken up difficult. Two examples will have to suffice. First, consider the Keynesian response to Friedman's so-called natural rate of unemployment hypothesis. This hypothesis was not one of the original issues in the debate, but was added rather late in the game. For present purposes, I will state this Friedman hypothesis as follows. Employment has a strong tendency to converge rapidly on equilibrium employment. What ensures this result is simply the ordinary supply and demand mechanism operating on the price in the relevant market on the money wage. Unemployment will be found to diverge from its so-called natural rate only when and insofar as the money wage rate temporarily lags behind its equilibrium value. This is, of course, a hypothesis that Keynes could not possibly have shared. Now, from the standpoint of Keynes' real real theory, the inter-temporal theory, the response to Friedman's hypothesis, is simply true if and only if inter-temporal equilibrium is already assured, but false whenever saving does not equal investment at full employment income. But by the time that Friedman added the natural rate of unemployment hypothesis to the structure of monetarist beliefs about the world, the inter-temporal coordination problem was out of sight and out of mind among his Keynesian opponents. No one brought it up. It was not even mentioned. So what retort was left to them? The answer given was, in effect, that Friedman was right. Only lagging wage adjustment stands in the way of full employment. But that the money wages are more inflexible than he or any other monetarist would like to believe. On the basis of this, the Keynesians have subsequently built a thriving cottage industry devoted to the fabrication of a multitude of reasons for the inflexibility or money wages. In the nature of the case, it has become sort of a skeet-shooting sport in the monetarist camp to take pot shorts at these reasons as they pop up in print. The irony of all this is, of course, palpable. Money wage inflexibility is downplayed by the side that necessarily needs the hypothesis in the context of its own nominal-nominal theory. It is insistently played up by the side who, to my mind, has stumbled into this hypothesis only by mistake. Second example, consider the Keynesian response to Robert Barrows' so-called Ricardian equivalence theorem. This theorem asserts that the present value of future taxes has the same effect on aggregate behavior as an equivalent amount of current taxes. Consequently, there is no reason to delay taxation and the Keynesian proclivity for bond finance deficit spending rather than simply balanced budget spending has no rational basis. The natural Keynesian retort to this should have been to insist that the discussion keep to the original context for these characteristic Keynesian fiscal policy recommendations. That context was, of course, one of unemployment due to inter-temporal disequilibrium. With real interest rates at a level that did not allow saving and investment coordination at full employment, the result is an excess supply of present factor services and an implicit excess demand for future goods as we went through a moment ago. Government spending now reduces the excess supply in the present. Taxing later reduces that excess demand in the future. The temporal structure of the Keynesian policy fits the temporal maldistribution of excess demands left uncorrected by inter-temporal price adjustments. Barrows' Ricardian theorem, in contrast, presupposes inter-temporal general equilibrium all the way through. It presupposes that wealth is calculated at inter-temporal equilibrium prices. Well, that inter-temporal general equilibrium is clearly not a state of affairs that needs to be stabilized. Nor has anyone ever suggested that activist fiscal policies should be used in such circumstances. Moreover, the only thing of much interest that can be said about the calculation of wealth when the market rate of interest is different from the Excel's natural rate is that everyone will get the wrong result. But again, no one brought it up. Having lost track of Keynes' saving investment problem, the critical replies to Barrow accepted his inter-temporal equilibrium assumption, but argued that his aggregative conclusions might still be invalidated by distribution effects. Admittedly, intergenerational distribution effects are somewhat more interesting, slightly more amenable to empirical study than the run-of-the-mill distribution effects that always surround any macro-theoretical proposition with a penumbra of some doubts. We now, for instance, that having one generation enrich itself by borrowing a broad and leaving it to their children to pay the bill is not just an unrealistic figment of the theoretical imagination. But what could be more patently obvious than that Keynesian fiscal policy doctrine cannot be restored on this ramshackle foundation of distribution effects. Now, this Keynesian shift from lower right-hand to lower left-hand has not been the only one. Hang on now. The new classical group shifted the position of the new generation of monetarists from the upper left-hand nominal-nominal corner to the right-hand nominal real corner of the flag. In trying to construct a micro-theoretically founded model of Friedman's theory, Robert Lucas noted that in Friedman's story, movements in employment could only be generated by assuming either that the labor market did not clear or else that it cleared but on the basis of asymmetric expectations between the two sides of the market. For methodological reasons that we need not go into, he did not want to make either assumption. Instead, he produced a model where nominal impulses led to changes in the inter-temporal prices as perceived by trans-actors, who would respond by reallocating their supply of labor and the consumption of leisure between the present and the future, thus producing fluctuations in employment. This may be explained as follows. In Lucas' world, there is no problem of coordinating either the expectations or the activities of a multitude of people, so he uses a representative agent model of that imaginary world. It is traditional in the economics classroom to call this representative agent Robinson Crusoe. We might well imagine that on Robinson's Island, there are certain planting seasons. When the future return to present effort is particularly high, we would expect Robinson, like farmers through the ages, to work long hours in the planting season and to take his leisure at some other time of the year. That, however, is a real impulse theory of the seasonal variations in Robinson's work effort. The planting season brings a rise in the marginal efficiency of capital, so this is a bit too cancelling. What is peculiar about Lucas' theory is that supposedly the powers that be reign fiat money on Robinson from time to time, and that whenever he sees this irredeemable paper littering the ground, he draws the unwarranted conclusion that planting season has arrived. One of the merits for a claim for this model, by the way, is that it is more meticulously based on rational behavior than the competition, a claim that I find difficult to. Well, believe it or not, but for some 10 years beginning in the early 70s, this theory was the hottest thing around. The new classical economics up to ante very considerably with regard to the mathematical modeling skills required for anyone who wanted seriously to participate in the theoretical discussion. This did much to attract into that area the best and the brightest graduate students. From my own perspective at distant UCLA, in the general neighborhood of Hollywood, macroeconomics seemed to go the same way as the movies. The plots became strangely simple-minded, but the new special effects were truly mind-boggling. This decade then offered a strange spectacle of a Keynesian monetarist controversy on the wrong diagonal on the flag. Instead of a controversy between monetarists at the upper left-hand nominal-nominal corner versus Keynes followers in the lower right-hand corner, we had the Keynesians at lower left and the young generation of monetarism at top right. In my own opinion, not much of substance was learned from this prolonged clash between the two mismatched hypotheses, namely the supposedly Keynesian real nominal theory and the location nominal real theory. Well, there may be worse to come, for we are not finished with the shifting positions. Over the years, a number of erstwhile Keynesians have been won over by the work of Friedman and by Karl Bruner and Alan Meltzer to the belief that the typical impulse is monetary rather than real. And they tend to think of the monetary impulse as a purely nominal impulse. This group includes some quite prestigious economists. I think I'm justified in including, for example, Herschel Grossman, Robert Hall, and John Taylor among them. Since they carry on the good fight against the monetarists of their own generation who have moved over to the new classical position at nominal real, and since they tend to insist that nominal wages are more inflexible, certainly, than the new classicals would like to believe, some segments of the profession have come to look to them as the last best hope for regaining a theoretical rationale for Keynesian policy activism. But even if they manage to impart a curiously Keynesian heir to the place, the fact is, of course, that at nominal, nominal, they are really occupying what used to be Milton Friedman's old quarters. Meanwhile, all was not quiet on the new classical front. In Minnesota, just up the road a bit, Christopher Simpson, Tom Sargent concluded that the nominal impulse hypothesis was not right after all. Hence, they deserted monetarism. At Rochester and elsewhere, a number of people have also started to work on real impulses and on inter-temporal coordination problems. There are by now enough straws in the wind to amount to a small haystack, suggesting that a young vanguard of the profession is moving the frontier of theoretical research, guess where? Into the real, real quadrant of the flag. If you have followed me attentively all the way, you will recall that this is where we had John Maynard Keynes in the beginning. The macroeconomic controversy will not cease, of course. The habit of quarrelling is now too deeply ingrained. What interested spectator can expect in the next few years is this. Keynesian hopes, Keynesian of some sort, hopes, ride on a group of economists who seek to re-establish the case for useful stabilization policy on the basis of sticky money wages. To those people, the central question in macro theory is why nominal wages do not respond appropriately to nominal shocks. I think this is a bad misidentification of what a central question is. These Keynesians base themselves on Milton Friedman's old position, nominal impulses propagated by nominal inflexibilities. They are opposed by the vanguard, which insists that Keynesian fiscal policy is useless or worse, and that the best monetary policy is Friedman's. I don't really think this latter group should be labeled anti-Keynesian exactly. To them, I think Keynesian economics is a term of opprobrium that their elders used to use, but that like poppycock or boulder dash has gone out of fashion in the with it generation. Nonetheless, these policy passivists, if you will, seem to occupy Keynes' old theoretical position, real impulses, real propagation. Well, with such a debate on the right diagonal, but with the positions reversed, be fruitful, I very much doubt it. So, it is a mournful tale. Can we draw any moral from what happened to Keynesian economics, except that it got lost in the shuffle? To the philosopher Karl Popper, science was a process of successive conjectures and refutations. The empirical refutation of a theoretical conjecture should produce an improved theory guiding the next round of empirical research. Through each round, the theory should come to approximate reality better. I do not think that this Popperian process has operated satisfactorily in macroeconomics. It is not at all obvious that today's macroeconomics is a better guide to today's realities than the macroeconomics of say 30 years ago was to the realities of that day, even if it failed later. The empirical methods on which economists now rely to keep them in touch with reality, failed to alert the Keynesians to the changing external monetary environment and to point out to them the direction in which the theory should be amended. A less exclusive emphasis on econometrics and more reliance on old-fashioned economic historical and institutional knowledge could perhaps have help. Popper's younger colleague, Imre Lakatos, maintained that cognitive appraisal should focus not on theories, but on research programs as the appropriate unit for analysis. A research program is a temporal sequence of theories which may progress through conjectures and refutations to encompass more and more confirmed empirical content. But such a sequence may also de-anerate. To keep a healthy, progressive research program going requires the ability to keep track of what Lakatos called the program's hard core, that is the basic ideas that give it continuity. The internal dance around the Swedish flag that I have described has not been impelled step-by-step by empirical refutations. The Keynesian story in particular is basically one of losing track of the original hard core. The result is not so much a program that de-anerates, but rather a succession of theoretical revisions going off in several directions at once. A succession of theoretical positions which cannot be appraised as a progressive or de-anerated program because the requisite continuity and coherence over time is not present. For the last few decades, economists have on the whole looked to mathematical economics to maintain a structured order and coherence in the theoretical realm. Today, those younger economists who shared activist proclivity for thinking that something should be done about unemployment, for instance, tend to the hope that Keynesian economics can be revived by use of the modern modeling techniques pioneered by the rational expectations group. They find the older Keynesian literature less than fastidious in its modeling. And the precision that mathematics can provide is, of course, desirable. But precision of utterance is of limited value to those who lose track of what they are talking about. Mathematical reasoning by itself will not guarantee coherence. Admittedly, the ISLM model looks primitive today, but it was considered the mathematical macro model in its heyday. Reliance on it did not prevent but produced as a seemingly inescapable conclusion the rigid wages interpretation of Keynes' theory of unemployment from which much other nonsense has since followed. A less exclusive emphasis on mathematical economic theory and some increased reliance on recent history of economic thought might perhaps have helped. But if so, some standards of such scholarships have to be respected as the standards of mathematical reasoning or statistical inference are respected. And that seems hopeless. The fiction, for example, that Keynes himself based his theory of unemployment on rigid wages is now so firmly entrenched in textbooks and journals and is reprinted with such frequency that apparently nothing can dislodge it. Today's economics profession, taken as a whole, simply does not care enough about the truth or falsehood of statements of this doctrine historical kind to enforce reasonably scholarly standards. The Keynesian tradition in particular is the worst for it. Thank you. Before we resume our panel discussion, particularly in light of Professor Leigh and hope it's very provocative presentation, let me remind you that at 6.30 this evening, we have two optional events on our program which we encourage you to consider attending. At 6.30 we have the Nobel concert in Christchapel and at the same time the Nobel firing line in Alumni Hall. For those of you whose acquaintance with technical economic theory is proving some impediment to following all of the discussion, the firing line is a particularly appropriate chance to have the conference interpreted and for you to raise questions in an informal setting that may help you to take away something of value from our conference. We encourage you to consider both of those events. At the close of the panel discussion last time, Professor Brunner had not had an opportunity to respond to some queries directed to him so I will at this time ask Professor Brunner to respond to questions or comments directed toward his presentation or if he prefers to comment on Professor Leigh and Huffins or both. Thank you, David. I want to select two points. One made by Lester Thoreau and one made by Jim Torbin. There's no need to cover the whole waterfront because there are some issues which were touched upon which by them which are interesting and they have no particular point to make about them at all. The point by Lester Thoreau is about the emphasis on the great depression. There are two aspects involved which I want to take up. The one aspect first is about whether the great depression was a crucial element. At least that's what I understood him to say, a crucial element leading up to the general theory. I don't believe that. I don't see any evidence of that. The point is that, well, let me start first the following. He made a central point appearing then in detail the analytic elaboration in the general theory already 10 years before. A central point which he then made clear what he meant by that, namely, that the trouble of the whole system, the fundamental failure of the system was located in the investment savings nexus. That this was not properly functioning and not properly allocating the resources and could not expect it to do so without proper superior direction from some top in some manner. Now, possibly he suffered a bout of rational expectations and anticipated the great depression. I don't know. But he seemed to have proceeded along a line, rewrote then the treatise, but at a very early stage, it was particularly Hayek who pointed out to him then that his analysis was seriously flawed, that he assumed a constant output and that there was something missing there as a result of a fundamental issue was missing and he accepted that and started then his work on the general theory. The treatise as such could not have been reconciled. With his general vision, which he had elaborated in the 1920s, beginning with the economic consequences of the peace, the general theory could. In addition, also Keynes in the middle or somewhere shortly after the general theory, I don't know exactly, but I think it was afterwards. In a discussion somewhere, it appears in one of his essays published, I think, after the general theory, looking forward and said that the consequences of the Great Depression would soon disappear and that very episode would be over with, but what would not be over with was a permanent problem of which the general theory appeared essentially as a negative deviation, namely the permanent problem of an under-employment equilibrium and his general theory was not so much directed to the movement of the economy. That was something he attempted to then in the trade cycle chapter for a while, it elaborates some aspects which were doing a consistent manner with the rest. But the central problem, the central attention was directed to a fundamental property of the economic system, the way he saw it, and namely that there was a permanent gap between full output and actual output between full employment and actual employment. Now, there is, well, let me go on quickly to the point raised by Professor Tobin. The only point which I want to take up is his point about that one interpretation of Keynes, socio-political view is the French target planning system. Well, it is not possible to most, to definitely quite conclusively reject that. The point is which I emphasize and elaborate in some detail in the paper that he's really very, very vague, fuzzy and suggestive, never really indicating really much institutional detail in this respect. I would argue that what he says is also consistent with an approximation to a corporativist state and that's exactly the problem that he left in that way. Now, however, I'd like to raise the following question in this context, namely that the French planning system was to a large extent a target planning. Now, either the target planning authorities asked all the private sector firms what they plan to do in terms of investment next year and put it together and sort of publish this as a whole, or that they actually, then it really wouldn't mean very much. Or then they would be used in order to adjust the investment decisions of the semi-public sector and public sector, which was rather large in France, traditionally anyway, particularly in the post-war period, in order to play the balancing wheel in one fashion or the other. But that was whether this was Keynes' idea or not I doubt it very much because he talked about the socialization of the total of investment expenditures. Now, if that was not so, the additional, if the target authorities actually wanted to impose targets on the private firms, on the individual firms in the private sector, then there was really a problem namely why should the managers of the individual firms really execute what they were expected to do in case what probably most of the time would have been the case, namely that what they found useful and optimal for their purposes was very different from what the target authorities really expected them and wanted to impose on them. The machinery available for the authority in this respect doesn't seem to me to be being quite sufficient to the extent that my very, very insufficient information tells me, but I'm quite happy to revise that if somebody who knows it in detail can tell me something about that. Thank you. Professor Harcourt, you've had the opportunity to respond to certain questions concerning your own paper, but you've not really had a chance to discuss the other presentations thus far. Would you care to make a comment? Well, no, I'll pass for the moment because I've had a really, more than my fair share of the play and I think that the other two panelists are on the right. I will come back later, but not now. Very good. Professor Preston, would you like to make some remarks at this time? I think I should pass now because had there been time I might have made one or two comments on the latter part of Professor Brunner's paper, but if we're going to do justice to our last speaker, I think we ought to turn to him, and I think at that point I should leave it to professional economists because I'm an amateur economist and not a professional. I'm sitting at the table full of professional economists and it's much more appropriate that they should discuss it than that I should. Very good. I'll return the cycle again to my left and ask if Professor Buchanan, Van Rommel, I would like to ask Axel to elaborate a little bit. He gave us a fascinating history of developments in macroeconomics and he also indicated that the avenue for improvement that he would like to see is hopeless. I would like to see him get out his crystal ball a little and make a prediction over the next two decades just exactly the way he would predict things are going to develop. I think I explained very early in my talk by macroeconomists on particular good at prediction. And certainly I wouldn't venture to predict what's going to happen over two decades. I had one pessimistic prediction in the talk, which is that I think we have now sort of two very muddled positions that are more or less fashionable. And it's one where the people that much of the profession looked to, to get a new rationale for policy activism are really up on in that corner where they are basing themselves fundamentally on Friedmanite assumptions. And I don't see that they're going to get anywhere from there. And then we have as yet sort of a bundle of technical papers on investment problems and inter-temporal coordination problems, which unfortunately tend to be of the type of timing consistency by some government agency or something like that, which are the elaborations on the on. And then those people are generally all policy passivists, if you will permit that term. But the assumptions they seem to be making are getting more caged in all the time. And this sort of unstructured model just continues without much continuity to it. And that's not a hopeful prospect. Professor Harcourt has indicated he would like to make a comment. I'd like to make a general comment on something that occurred to me in comparing Keynes' time with the last 30 years which Axel Leon-Hufford has described. The trends that have happened in our trade is that the prizes within the trade go, as he said, to the brightest and best of people who come with a degree in math if they're Americans and maths if they're from the British Commonwealth, we always put an S on, where they can display their skills and the beauty and elegance of their performance, sometimes quite regardless of the relevance of the results that they get. Now, in Keynes' day, people may not realize this, but let me just remind you anyway that the bulk of Keynes' writing, great as it was in professional economics, was in the newspapers and in the new statesman and nation of which he was, I think, if not an owner, certainly a director. He was a tremendous propagandist, and he flowed quite easily between communicating with the public, he even went on newsreels and on the radio. I might say, having seen some shots of him as a newsreel performer by modern television standards, he was a tremendous amateur, he really wasn't, I mean, he was supposed to be in person, enormously persuasive, but I can tell you, on the newsreels, he really wasn't very persuasive, he was extraordinarily amateurish, he had a very high-pitched voice at times, and not at all convincing as you would expect a modern performer to, he wouldn't match JR Ewing at all. But the point was that he could simultaneously have serious and respected discussions within his profession, with his professional colleagues, and at the same time be a great propagandist. Now, and I think that's the correct thing for an intellectual and a social scientist and a university person to do, by the way, I think that's what we owe the public at least in where I live, anyway, who pay our salaries, we owe it to them to be seriously involved in the great issues of the day. But unfortunately, the way our trade has developed, and this was foreseen by Keynes, I think, to some extent, and even more so by Kenneth Boulding in his review of Samuelson's foundations, those who still have a great impact on the public and are well-known as economists often get written off by their professional colleagues because, partly, I think, through Envy because those people are well-known and they also sometimes make some money from it, but partly because it's argued that they're not serious. They're not able to, well, it's argued that they're not able to handle the latest technical skills and so on. And I think that's a disaster because the description that Axel-Leon Hoover has given of the history of thought is a history of technical thought. But the implication that comes out of that, that passion and involvement and social conscience and warm hearts allied with cool heads is at a very, very heavy discount in the trade. And when people do start behaving like that, for example, when Frank Hahn gave his lecture in Political Economy at Harvard and made some passionate and ire-ridden statements, a lot of people walked out in disgust. This was not how professional economists should behave. And when Jim Tobin, on occasions, has expressed his very deeply held, compassionate and warm-hearted beliefs about unemployment and poverty and so on, a lot of the hard-nosed people in the trade have turned off because that's not what we should be doing. That we cease then to live up to our reputation as scientists. Now, I think that is an absolutely ridiculous stance, but I think we should be very grateful to Axel-Leon Hoover for charting so clearly the way the debates have gone and so pointing out to us how great the gulf has come between those who call themselves professional economists on the one hand and what they used to be like when people really got worked up about the social ills of the society that was around them and regarded that as the reason for being professional economists. Could I say that... Can I say one sentence? Can I say one sentence? By all means. I would like to say... That's what I would like to have said, but I didn't dare to say it as an amateur. To hear it from a professional is very fine. Since we have a break, perhaps, in the discussion, I'd like to address some of the questions we've received from the floor. Remind you that that option is open to you, even though we will not always be able to get to your question promptly. I have a question for Professor Bruner from the floor. The question reads, why is Keynesian elitism, institutional elitism, any worse than the wealth elitism of the monetarist liberals? Why should the grand alliance rule the economic world? Let me see if I understood correctly. Why is the elitism of Keynes, any different or worse than the elitism of... Wealth elitism. Or the wealth elitism of Monodon. Of the monetarist liberals, the question says. Is that the question? Is that to see if I can paraphrase the question in a way that will make it more clear. Why is the Keynesian elitism, in other words, institutional elitism, elitism associated with elite institutions, I would take it, worse than the wealth elitism of the monetarist liberals? Why should the grand alliance rule the economic world? I suppose that's a reflection of the possibility of an elitism of wealth elitism. The answer goes along the following way. Ask yourself what institutional arrangements are associated with that. I mean, as I say, with all due caution as to what precisely Keynes was aiming at. But the way I read it, that the general thrust of his institutional arrangements in order to be consistent with the general statement and he talks about deliberate control when he talks about deliberate planning and deliberate aiming and direction of the economy. When he talks about the need for exchange control and in an interesting letter, revealing letter indicating, well, he would hesitate, however, to have exchange control sort of executed by including detailed censoring and the investigation of every private letter crossing the border. I mean, this he didn't quite want to accept under the circumstances, but otherwise he would accept whatever exchange control would bring. However, he modified that later in terms of his hopes for the Bretton Woods arrangement that international credit arrangement could substitute for the exchange control. But that's another thing. The point is that it involves an institutional arrangements where the open competition for positions in various ways would be much more difficult. The elite would be much more a closed group. Now, the other one, the alternative. First, when you mentioned about wealth elitism, well, I find, however, that there is a much greater variation in the criteria first in this respect. Wealth is one way, but not the only way. There is many, for instance, you find occasions, time and again, where people may be wealthy, but they are not quite in the show, to some extent, for one reason or the other. Others may be, for instance, part, if you might call the so-called elite in one fashion or the other, which are not particularly wealthy. Scholars, politicians of one kind, honest politicians, which are not rich in one fashion. They are around some of them, I suppose, so that there is a much greater dispersion. Now, the point is, which I emphasize, there is simply a crucial difference in the institutional arrangement. Otherwise, if that would not be the case, I don't find really how Keynes could argue the kind of propositions about socializations, control and so on, and particularly expect that a special elite would be motivated the way he was talking about. Thank you, Professor Brunner. Incidentally, I don't see any logical connection with monetarism. This is really another one. It could be totally different. I have a question from the floor for Professor Thoreau. This question could probably be directed to any member of our panel, but it will require some skills to answer briefly. We have a question from the panelists who would like a brief overview of Keynes' general theory. All of the panelists make reference to it. Would you like to make some comment of any kind that might help the audience, too? Jim Tobin said, in quiet next to me here, he's gonna do that tomorrow, and so I think I'll leave it to Jim to do tomorrow. Basically, I guess if I had to make a two sentence overview, the general theory addresses the question, is it possible, theoretically, to have involuntary unemployment and an underemployed equilibrium where an economy won't automatically or within a relatively short period of time go back to full employment? And the economists prior to Keynes generally agreed that it was impossible to have long run persistent involuntary unemployment. He observed that unemployment in the Great Depression may have foreseen it in the 1920s, if Professor Bruner's right, but in any case, he attempted to show that that was possible and then outlined some of the remedies for dealing with that situation if it existed. Thank you very much. We will close the panel discussion on those remarks. I'm sorry? Yes, indeed, Professor Leigh-Anne of it. I would like to add one thing. In doing this quick talk through 40 years of controversy, I did not feel that I could write about the positions of individual economists. I think there's one prominent Keynesian who has rights to take exception to some of the things I said, and I expected him to put me in my place when he had the chance in this panel, but as usual, Jim Tobin kept quiet when it came to that. So I would like to say that of all the leading Keynesians, he's the one who has consistently stressed his inter-temporal coordination problem that I talked about and has worked on the theory of interest rates and has also worked on this other area which is critical for the Keynesian position, namely the endogeneity of the monistar. So he says he doesn't get up to his own defense against my caricature, I feel obliged to at least say as much. I'm informed by Professor Tobin that his presentation in the regular program will take up the cudgel and suitably defend himself. Baron Rommel. I have a suggestion to Axel Leigh-Anne. Next time you will give this lecture using the Swedish flag, it was very impressive. My advice to make really your point is to use the flag we used before 1905, that is the flag of the Union between Sweden and Norway, and then the upper left field, the NN field was then covered by the so-called Silsaladen that is the Red Herring Salad, it was in 1905, it was removed. My thoughts to that flag since we Swedes put white man's burden down. Professor Thoreau, did you indicate that you had a comment today? I just had a brief question for President Leibman-Hobbin. I like the distinction between nominally and real impulses, but tell me, if you take the stock market's decline of 1929 and the bank's decline, is that a nominal impulse or a real impulse? Well, then now we get into the yellow areas of the flag. A monetary impulse under, you know, a monetary impulse under a convertible system. To my mind, it is essentially a credit in the sense that it is a real impulse. It is a real impulse in the sense that it is a real impulse in the sense that to my mind it is essentially a credit impulse. If you let it go too far, you invite a credit collapse, okay? So, if you think of this spectrum of regimes as a continuum with the quantity theory or the quantity control at one end and the convertibility control at the other end and ask what the great catastrophes are like, the crumbling, the collapse of a convertible standard is a great credit collapse. And the typical way in which a quantity control regime breaks down is in a great inflation on the Argentine, Brazilian or German 1920s kind. So, in the recent literature, it has come to be a habit to treat monetary impulses as if they were in principle purely nominal so that when you see a monetary impulse have a real effect on the economy, you are justified in inferring that there is a nominal inflexibility in the system someplace, okay? That inference is not justified, okay? So, for systems that retain significant vestiges of convertibility, monetary movements have or a mix, I would say, of both nominal impulses and if you will, credit impulses. So, that's the interpretation I would give to that. But the whole argument takes a lengthy paper which I have but which I can't really give now. Professor Brunner has asked to close out the comments for today's panel discussion with a brief response. I will make a delicate point in the following way. I agree fully with Jeffrey Harkwood's point. When you emphasize this beyond the dry analysis, at least what looks like dry analysis, there are the passions and the involvements. Well, that's quite true. We are all men and as a matter of fact, I see nothing wrong that there are these passions and the involvements. I mean, it simply means that we are alive, that we take our issues serious and that's fine. But I think in much of the discussion of the macro theory issue, they have also encountered the ones in the following, namely time and again I've encountered this, particularly when differentiates between those which I've seen met time and again, that it is differentiated between the passionate ones and the hard-nosed ones. And I find this simply not the quite and honest differentiation. The issue is basically analytic one, namely that some of us simply disagree with the analysis which some of those have made a very passionate presentation which I can understand concerning the issues at stake. The serious issues, social and political problems at issue at stake, they present a certain analysis and then there is a tendency, time and again, that those who do not accept this analysis are per se sort of as presented, not attuned to the concern of the purpose of this analysis. And I simply want to submit that the level of discussion would improve quite a bit if you would recognize that behind it there are many times, really, there are substantive analytic issues which are quite unresolved. A bit about which possibly all sides are very involved and very concerned about in this respect and they are also in this respect just as much palpable as everybody else. Let's recognize that. Thank you very much, Professor Bruner, and the rest of our panel. We will reconvene for Baron Stigrommel's presentation at 7.30. I call your attention again to the optional program components at 6.30, the Nobel concert and the Nobel firing line.