Let us go a few months back to July/August. New students who have enrolled for bachelor’s programmes in economics enter their classrooms in their respective universities around the world. The expectations are bound to be much higher, with the global recession in most students’ minds.
However, studying the current syllabus at the bachelor’s level, students will realize things are quite different in the classroom compared with the real world they have just been exposed to. There is hardly any coverage of financial markets, leverage, or compensation issues. The current pedagogy leans heavily towards neo-classical economics and emphasizes that free markets are what matter in an economy. However, what students have seen is the collapse of American financial firms that epitomized free market economics. And active business press readers will argue that Federal Reserve and government intervention was critical in saving the US economy from a second depression.
In other words, most issues which students find so commonplace in the media are likely to be rare in their economics classroom. For instance, in a paper written before the crisis, Stanford University economics professor John Taylor points out five key topics to be taught at the basic level in macroeconomics. First, growth is a function of labour, capital and technology. Second and third, there is a short but no long-run trade-off between inflation and unemployment. Fourth, expectations of inflation and future policy decisions are very important. Fifth, monetary policy should be a rule-based framework.
Clearly, teaching these principles alone is going to leave students unsatisfied. What is needed is a change in the curriculum so that it makes the overall experience more useful. Professors can point to examples from the recent crisis, but that won’t be enough. Students depend on pedagogy, which does not include topics that mattered in the crisis.
In January, Princeton University economist Alan Blinder presented a paper at the American Economic Association, aptly titled—“Teaching Macro Principles after the Financial Crisis”. He calls this post-crisis period a “teaching moment”—a time when interest in economic affairs has greatly increased among students, with “rapt attention and no sleepers”. But he laments that the current curriculum “fails to give students even imperfect answers”.
As a teacher and author of a leading economics textbook, Blinder also needs to ensure that young students develop the right principles. But there is a catch. As students have limited time and are new to the field, the teacher needs to keep things simple. So how does one balance this increase in curriculum with simplicity? Blinder says that there are four decisions to be made.
• First, how Keynesian do we make the book? This is an interesting question, as the flow of economic thought has shifted from the Keynesian extreme to the free-market extreme. The role of governments is crucial, as seen in this crisis. World Bank chief economist Justin Lin has been talking about the positive role that the state can play in development
•Second, there is a need to put emphasis on business cycles. Before the 1990s, macro was mainly about business cycles. As the Great Moderation took precedence, business cycles went out of fashion
• Third, most texts just look at a one interest rate model. But as this crisis shows, there are many interest rates. Some declined (such as policy rates, treasury bonds) and others surged (Libor, corporate bonds). We can no longer teach this one interest rate model
• How complex should the models be, especially with respect to finance? Most texts do not mention finance. Again, the problem is balancing increase in content with simplicity
Blinder decided to add seven topics to his textbook/curriculum—risk premiums in interest rates, asset market bubbles, securitization, leverage, insolvency and illiquidity, systemic risk and too big to fail, and moral hazard
This predicament applies not only to economics professors, but also professors of finance in business schools. Each of them is expected to make changes to his own list of new topics. Taylor talks about doing more work on political macroeconomics (a return to political economy) in “Does the Crisis Experience Call for a New Paradigm in Monetary Policy?”. Taking the lessons of the crisis forward, I would like to add behavioural economics, economic history and so on. Some changes have already begun. N. Gregory Mankiw and Laurence Ball have written an intermediate textbook called Macroeconomics and the Financial System.
Economists are busy defending themselves over the state of economics and why they were unable to predict the crisis. Their ideas are also needed on financial regulation, central banking, fiscal policy and so on. Making economics interesting and timely for future generations of students is an equally important task.
Amol Agrawal is an economist with STCI Primary Dealer Ltd
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