The Paradigm Sways: Macroeconomics Turns to History

Abstract

In the Euro and the Battle of Ideas, Markus Brunnermeier, Harold James, and Jean-Pierre Landau show how the Eurozone Crisis reveals deep-seated and sometimes incompatible European traditions in economic policy. In The Shifts and the Shocks, Martin Wolf uses the history of the GFC to analyze the global economy and highlight its vulnerabilities. In The End of Alchemy, Mervyn King argues that the GFC challenged basic understandings of money and finance, and proposes fundamental banking reforms. Historian of science Thomas Kuhn called the failure of an explanatory model, and the emergence of a new framework that better fits the data, a “paradigm shift” (Kuhn 1970). These three books suggest that a paradigm shift may be under way in macroeconomics. As each of these books shows, narrative understandings of history inform the actions of international institutions, governments, central banks, financial institutions, firms and households. Such narrative understandings are not reducible to objective facts. Instead, they are the subjective understandings of the past that economic actors use to make conjectures about the future. Such conjectures shape decisions about interest rates, investing, saving and spending. In this view markets look less objective and efficient than classical economics has traditionally held. Macroeconomic policy may be taking a “turn to interpretation” similar to shifts in other social sciences in the last third of the 20th century. The emergence of such a paradigm would be an exciting development for the discipline.