mechanisms, NK and Fed Fail

Whiskey-Tango-Foxtrot-Bang-Query-Bang-Query Thursday Weblogging: Simon Wren-Lewis and Chris Dillow on Robert Lucas's and John Cochrane's Mistakes and Ideology in Macroeconomics by DeLong

And Simon Wren-Lewis today on those who cling to their gods and guns RBC models and claims of the impotence of fiscal policy at the ZLB:

ZLB Models?: There was a little interchange between Noah Smith and Paul Krugman… on… Japan’s stagnation, and… the Great Recession…. In NK models recessions last for as long as it takes for prices to fully adjust. So how can NK models explain a lost decade or more?… Often the implication is that this is implausible, so the explanation must be supply side. The answer… is the Zero Lower Bound (ZLB). Noah replied…. I was unhappy about how his discussion was framed… [a] framing is common to a lot of macroeconomists…. 

It is often said that NK models just add price stickiness to RBC models, and if prices are sticky in the short run, aggregate demand matters in the short run…. I like to express it differently…. The mechanism by which we can or cannot ignore aggregate demand… is monetary policy…. [In] NK models… price adjustment induces a monetary policy response… that ensures demand shortfalls are not persistent. Break the monetary policy response, because you hit the ZLB, and you break the correction mechanism…. The ZLB therefore allows NK models to generate much more persistent recessions, if the recessionary shock is itself large and persistent…. 

The implications of the ZLB for RBC models are just as profound…. If the correction mechanism is broken because of the ZLB, then the foundation on which the model is built becomes problematic…. You cannot assume that the real interest rate will always be at the natural level if there is no way that real interest rate can be achieved…. 

Of course you can ignore this… try to use RBC models…. But there are two huge problems with this. First, it ignores a big piece of evidence--these economies are at the ZLB!… [Second] the model is not microfounded. Thinking about mechanisms rather than models helps you see that….

"gods and guns + RBC models and claims of the impotence of fiscal policy at the ZLB:" = the American rightwing.