Oct 10, 2011 8:14 PM GMT
In the midst of great macroeconomic uncertainty, the Nobel Prize in Economics has been awarded to Thomas Sargent, of New York University, and Christopher Sims, of Princeton University, for work on “empirical macroeconomics.” Sargent and Sims are both superb scholars whose work has molded macroeconomics. They helped destroy the false certainty of an older Keynesian orthodoxy, and did their best to build more robust tools that shed light on public policy over the business cycle.
Sargent and Sims are part of a small cadre of intellectual rebels who have pointed out the logical inconsistencies buried within seemingly impressive Keynesian models of macroeconomics. In the early 1960s, Keynesian insights had been used somewhat successfully to iron out the business cycle. President John F. Kennedy supported a Keynesian plan to lower taxes to stave off a recession, and the economic slump duly diminished.
But economists were seeing flaws in such strategies. Milton Friedman (the 1975 winner of what’s officially known as the Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel) was perhaps the most visible early critic, but Edmund Phelps (the 2006 laureate) was also particularly prescient in pointing out that the Phillips curve, an empirical relationship found between unemployment and inflation, was unlikely to be stable over the long term.
Yet while Friedman and Phelps grasped the failings of Keynesianism, they didn’t provide an alternative set of tools. And who could blame them? With macroeconomics, there are barriers to insight. Micro-economists have vast numbers of essentially independent observations. But macroeconomists must observe only a limited number of generally idiosyncratic economic declines, such as the one we face today.
Sargent and Sims tried to build something new from the wreckage of Keynesianism, and are being honored for their contributions to empirical work. Sargent was an early leader of a movement often labeled as “rational expectations” macroeconomics, whose great contribution was to build macroeconomics from the ground up, starting with assumptions about individuals and firms and then examining the implications for the larger economy. That movement has become mainstream, partly due to the work of Sargent, who showed how to bring theory to data.