Irrational Policy
Following up on my last post concerning Nick Rowe's application of rational expectations to public policy: it occurs to me that the way to look for evidence of policy effectiveness is to find cases where policy was, in retrospect, irrational. In other words, look for cases where policymakers were trying to achieve objectives that, in the light of later economic thought, were bad ideas in the first place. Then look at whether they succeeded in achieving those objectives.
How exactly one would go about this econometrically I have no idea, but there is at least one obvious case study, which (if you're a macroeconomist) you have probably already thought of. According to the popular story (which I'm not entirely sure is true), the boom of the late 1960's was partly a deliberate result of policy. Today's economists tend to see such booms as a bad idea, because booms (so today's theory teaches) ratchet up inflation expectations. But the concept of ratcheting up inflation expectations was virtually unknown in the 1960's. So by today's standards, the policies of the 1960's were irrational. If you believe that story, then it is at least one data point in support of the hypothesis that policy is effective.
How exactly one would go about this econometrically I have no idea, but there is at least one obvious case study, which (if you're a macroeconomist) you have probably already thought of. According to the popular story (which I'm not entirely sure is true), the boom of the late 1960's was partly a deliberate result of policy. Today's economists tend to see such booms as a bad idea, because booms (so today's theory teaches) ratchet up inflation expectations. But the concept of ratcheting up inflation expectations was virtually unknown in the 1960's. So by today's standards, the policies of the 1960's were irrational. If you believe that story, then it is at least one data point in support of the hypothesis that policy is effective.
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Would Mugabe's land reform count as such an example (and the reliable famine and other horrid conclusions that stemmed from it)?
Hey! Nice to see you back knzn!
I gather you mean macroeconomic policy - I don't think that there is any doubt that micro policies can be effective and can also be effectively tested.
I think the problem with booms arises when they are too big and rest on unsustainable policy, for instance lending to people who cannot afford to pay the money back - what we are seeing now.
Just thinking about where I live. When I moved here in 2001, I was able to buy a modest townhouse, my first real estate purchase. The real estate market was just picking up from its latest low in 2000. At the price I paid, the townhouse was basically in equilibrium with the rental market. I could have bought the place and rented it out and made a normal return on investment. With the real estate boom that followed, I made an abnormally high return on investment, but at the same time, the price of the real estate rose to a point where the investment could no longer yield a normal return without a growing bubble.
What would have been the role of policy here? There is general agreement that regulating the banking industry is what should have been done. That is a micro policy that would have tempered the economy's propensity for swings. Are policy makers attending to this? I haven't had a chance to keep up-to-date on that. Have you been following this knzn?
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How about policies to defend the gold standard?
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