There has been an interesting debate on the state of macroeconomics on the pages of The Economist. One side of the debate has seen Robert Lucas from Chicago defending the orthodoxy against charges that they could not predict the crash and crisis of 2007-09.
Against the mainstream are Brad DeLong and Paul Krugmanwho argue that past 30 years of macroeconomics were a “costly waste of time”. Their argument: go back to Keynesian economics and find salvation in an expansionary fiscal policy. While they were quick to say what to do, their explanations for the crisis were, at best, a blogger’s explanation.
Predicting crashes has never been the forte of forecasting models of any kind, except under drastic, model-breaking assumptions. Lucas, too, did not do much better when he fell back to the Efficient Markets Hypothesis argument that the price of a financial asset reflects all available information relevant to its value.
The truth is that modern economics has little room for modern finance. Unless models add financial flesh to bare bone macroeconomics, we will continue with the new dark age.