Wednesday, September 14, 2011

SFC models v. IS-LM

Ron T posted this comment at Paul Krugman's blog. It is worth reposting here since it cuts right to the point. I hope that PK reads it and consults the references. Maybe PK can brush of MMT as peripheral, but can he brush off former British Treasury "wise man" Wynne Godley, too?

I already commented under your earlier post: we need less of IS-LM and more of the models based on stock-flow consistency. They model the indebtedness and wealth effects directly. That is why they predicted the crisis, unlike IS-LM or neoclassical macro.

If you use stock-flow consistency you cannot possibly find that austerity is expansionary, unless you make some crazy assumptions about propensity to spend being driven by the state of the federal budget (nobody looks at that when spending/investing, it is refuted by data).

And, added bonus; a fiat money issuing government cannot run out of its own money so it can deliver both price stability and full employment, no liquidity traps involved.

Lavoie and Godley show that at no point will the govt find that its interest payments are out of control when it follows a simple rule: assure full employment.


beowulf said...
This comment has been removed by the author.
beowulf said...

I totally understand how fiscal policy is a sharper axe than monetary policy to cut demand pull inflation, however I'm curious if you (or any other reader) know how Tom and Marc's model dealt with cost push inflation (per wiki, "inflation caused by substantial increases in the cost of important goods or services where no suitable alternative is available")?
It seems to me that David Colander made a pretty important point (as quoted in this fairly awesome paper, "Price Controls in Time of War"):
'The lesson most economists learned from World War II was that Keynesian aggregate demand policy worked. The fact that the expansion of aggregate demand had been accompanied by major controls over wages and price … was lost on the majority of the profession’

Tom Hickey said...

I'm not familiar with that model, beowulf.

NeilW said...

IS-LM was discredited by Hicks - its creator.

DSGE suffers the same fate as it is developed from a Solow model that Solow specifically said is inappropriate for the purposes DSGE puts it to.

The latest lectures by Steve Keen provide the references for the debunking of both of those models.

beowulf said...

Uggh... "Tom and Marc's model"

Sorry, I meant to ask Tom about Wynne Godley and Marc Lavoie's SFC model and how they dealt with cost-push inflation in their book.