Disequilibrium and Non-Walrasian Equilibrium Modelling
While the IS-LM model with its pragmatic spirit dominated macroeconomics, some economists were nonetheless of the opinion that macroeconomics needed a stronger microfoundational anchor.
The main names to be evoked here are those of Don Patinkin, Robert Clower and Leijonhufvud. Patinkin devoted two chapters of his book, Money, Interest and Prices (1956 [1965]) to casting Keynesian theory in a Walrasian framework, arguing that the only way in which involuntary unemployment could be introduced into a general equilibrium framework was by assuming that it was confined to the period of adjustment towards equilibrium. Clower (1965 [1984]), for his part, wrote an influential article introducing the “dual decision hypothesis”, which he viewed as a new way of understanding Keynes’s assumption that consumption is a function of income. According to this hypothesis, if labour suppliers happen to be rationed in the labour market, when participating in the goods market they will express a constrained (or “effective”) demand that is lower than their “notional” (that is, Walrasian) demand. As to Leijonhufvud, he criticised traditional Keynesian macroeconomics for having lost the main message of the General Theory. To him, the “Keynesian Revolution got off on the wrong track and continued on it” (Leijonhufvud 1968: 388). Keynes’s theory, he claimed, was different and richer from its IS-LM transmogrification; hence the need for a return to it. Moreover, while most of the interpreters of the General Theory have ended up viewing it as mingling incompatible theoretical claims, in contrast, Leijonhufvud strove to show that the various components of the General Theory were all pieces of a single jigsaw puzzle. Brilliantly written, his book was an instant, and well-deserved, success. Both the depth of Leijonhufvud’s insights and his mastery of the intricacies of Keynes’s argumentation were impressive. To Leijonhufvud, the central message of the General Theory was that the market system could fall prey to a failure of intertemporal coordination, an inability of the rate of interest to coordinate saving and investment, and that this was further compounded by the absence of any signal allowing this state of affairs to be detected. Clower soon joined forces with Leijonhufvud to propose a Marshallian general equilibrium approach focusing on the equilibrating process rather than the end state of the economy.In the next stage, these pioneering works triggered “non-Walrasian equilibrium” models associated with Robert Barro and Herschel Grossman (1971, 1976), Jean-Pascal Benassy (1975), Jacques Dreze (1975) and Edmond Malinvaud (1977). Their aim was the same as that of their disequilibrium predecessors, that is, to vindicate Keynes’s insight that the market system could experience market failures. However, to this end, these economists took Walrasian theory as their starting point, the “non-Walrasian” term being thus a misnomer. They wanted to produce rigorous mathematical demonstrations and to have their models based on Walrasian microfoundations, that is, describing situations where agents behave in an optimising way (although under special constraints). Therefore the change in label from “disequilibrium” to “non-Walrasian equilibrium” theory was anything but trivial.
However, after an enthusiastic beginning, the new approach subsided. While the pioneering articles succeeded in setting out a new framework, it seemed that there was no precise vision about what to do next, no specific research programme able to mobilise a wider group of economists. Many of the young researchers who started their career in this line of research soon moved to other areas.
The main reason for the downfall of non-Walrasian equilibrium models ought to be looked for in what happened in other areas of macroeconomics. The 1970s were years of high theory. The reappraisal of Keynesian theory led by disequilibrium and non- Walrasian equilibrium theorists was not the only new theoretical development in macroeconomics.
At more or less the same time, the “rational expectations” school or “new classical macroeconomics” emerged under Lucas’s lead, and it proved to be a daunting rival. It shared some features with non-Walrasian equilibrium modelling, such as the desire to base macroeconomics on choice-theoretical foundations, and the adoption of advanced mathematical methods. Although the two approaches both started from the Arrow-Debreu framework, their purposes were poles apart. While non-Walrasian equilibrium economists used neo-Walrasian theory as a foil, Lucas aimed to extend its domain of relevance to the business cycle. As will be seen, if this confrontation is pictured as one round in a wider battle about the course of macroeconomics, Lucas was the winner. The theoretical reorientation that he carved out won the day and succeeded in dethroning Keynesian macroeconomics. Non-Walrasian equilibrium macroeconomics was a collateral victim of this fall.