Where Do We Stand Now?
The financial market crash of 2008 and the subsequent Great Recession have substantially altered the discussion of economic dynamics. The long Great Moderation beginning in the mid-1980s (at least for a set of the higher income market capitalist economies) had underpinned the rise to dominance of the use of dynamic stochastic general equilibrium (DSGE) models based on rational expectations and real business cycle approaches emphasizing stochastic exogenous shocks (Woodford 2003).
These models would be modified by the introduction of various frictions such as sticky prices to lead to New Keynesian variants that came to be widely used (Smet and Wouters 2002). However, the complete failure of these models to either model or to forecast showed up their severe limitations. While there is no clear successor (and sufficiently modified versions of these may well yet continue to dominate policy discussions), several alternatives drawing on some of the traditions discussed above have emerged as possible contenders for replacements. We note three of these to conclude this entry. All of these clearly involve great emphasis on the financial sector.One of these involves drawing together elements from the models of Marx, Keynes, Metzler, Goodwin, and occasionally even Schumpeter. This has been done principally by economists either based at or visiting Bielefeld University over the past couple of decades, with a series of articles and substantial books, a group that can arguably be called the “Bielefeld School”. It is not simple to label these models, but their elements do include emphasis on financial sector dynamics in connection with the real economy, lags and inventory dynamics, nonlinear accelerators affecting investment decisions, along with concerns about distributional effects, with their models able to show the full array of complex dynamics discussed above. An incomplete list of works includes Asada et al.
(2003), Chiarella et al. (2005), Flaschel (2009), and Semmler and Bernard (2012).While they have not been worked out much formally, some argue for a revival of the Austrian School approach, arguing that the role of the overvaluation of housing in the crash initiating the Great Recession may be explained by focusing on Austrian misallocation across sectors, with low interest rates playing the role of putting too much financing and investment in the long time horizon residential real estate sector. Garrison (2001) provides a discussion of Austrian approaches to modelling macrodynamics.
The other approach more specifically tries to model heterogeneous agents from the ground up and their interactions. One branch of this has followed on a more explicitly econophysics approach focusing on statistical mechanical stochastic processes in the presence of nonlinearities (Aoki 1996). The other has moved to more explicitly model individual parts of the economy in an effort to build up a microfoundation to obtain macroeconomic results, although without tying that microfoundation to a rational or optimizing model of agents in the DSGE tradition (Delli Gatti et al. 2008). While there have been efforts to introduce heterogeneity into DSGE models (Krusell and Smith 1998), these have usually taken the form of assuming a distribution of characteristics over an interval, with the interval then in effect behaving as a homogeneous agent. The agent-based approach attempts to more specifically model the interactions of the agents directly to find how extreme outcomes can endogenously arise from within an economy, with Gallegati et al. (2011) showing how such models can lead to more specifically Minskyan financial dynamics.
J. Barkley Rosser Jr