Mankiw, the author of the most popular intermediate macroeconomics textbook over the last several years, published an essay in 96 with the National Bureau of Economic Research. In that essay, he talked about the macroeconomist as a scientist and an engineer, tracing the history of macroeconomic thought with an evaluation of what practicing macroeconomists have learned over the past several decades.

In the discussion about the second wave of new classical economics, Mankiw highlighted the rational expectations revolution, a controversial idea. So controversial, in fact, that it has been blamed for the current economic situation through its kissing cousin: the efficient markets theory. Whether that’s true or not is outside the range of this post. A few key facts, however, will help you understand.

This theory has guided many economic policies for most of my life, and if you are about my age, then most of yours too. Think back to Ronald Reagan and the rationale for deregulation. Without delving into the details, the efficient markets theory essentially states that markets always value assets efficiently and instantly. The implications of that idea make asset bubbles impossible. So inflated values never occur and property or any other asset, therefore, will always have a perfect value. That’s the gist of it; and there are all these spinoffs, but in its strong form, that’s what the efficient markets theory explains.

At any rate, one of the quotes in the essay really made me laugh. Mankiw discussed why macroeconomists in the 90s were drawn to study long run growth rather than short run fluctuations. There was a tension between new Classical and new Keynesian worldviews. (Keynesian, of course, a reference to John Maynard Keynes, a legendary macroeconomist.) Vigorous debates ensued over which theory or explanation made more sense.

Robert Lucas, the brainchild of the rational expectations revolution, said that “people don’t take Keynesian theorizing seriously anymore.” Those on the other side of the debate criticized some of the more restrictive assumptions made by the new classical economists such as Lucas.

Mankiw included a quote from an interview with an economist who contributed greatly to economic growth models, Robert Solow. That quote was rather funny, as it emphasized an unwillingness to engage in the new classical school of thought. It pretty much catches my sentiment at this time, so I use that quotation with just a hint of sarcasm. 

“Suppose someone sits down [next to me] and announces that it he is Napoleon Bonaparte. The last thing I want to do with him is getting involved in a technical discussion of Calvary tactics at the Battle of Austerlitz. If I do that, I’m getting tacitly drawn into the game that he is Napoleon Bonaparte.”

Hilarious!

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