Proximate roots of German monetary and fiscal conservatism

This post is all speculation and stereotype, but I think worthwhile passing on as it’s the sort of thing often talked about on the academic conference circuit.  It recaps on a bunch of tweets sent Thursday 18.

The starting point is the observation that the Anglo-American-Latin view that monetary and fiscal policy does best by being strongly counter-cyclical, smoothing out booms and busts.  What Greece needs now, on this view, is sharply expansionary fiscal policy, not a primary surplus, and debt forgiveness [or whatever passes for it] to make that possible.

That view springs most recently from New Keynesian economics, which was invented in the US by the leading academics there.

The influential jobs in German money and finance [Buba/ECB/Finance Ministry] are either staffed by senior German academics, or those that mix with them.  [Like many countries].

German academia is unusually cut-off from American academia.  It’s disporportionately staffed by locals, who trained in Germany.  Partly as a result of this, New Keynesianism and its policy prescriptions did not catch on.  And because of that, German economic policy did not shift with the times either.

There are two significant ideas that did not catch on.  One was the subversion of the old supremacy of money targets as the nominal anchor, and money growth monitoring as the means to achieve them, with inflation targets as the nominal anchor, and attention to interest rate rules as the means to achieve them.

This New Keynesian idea was an anathema to the Buba and ECB Germans that I encountered in my stay in Frankfurt in 2002.  You can see its imprint, rather the lack of it, in the prevalence of the ‘money pillar’ in the old monetary framework of the Issing era, and in the refusal to call the inflation target a ‘target’ (instead it was a ‘clarification’ of an ‘objective’).  And in the ‘close to but below’ wording attached to the 2 per cent figure.  One could speculate too that this was part of the reason for – what some saw at least as – the relatively slow response of the ECB monetary instruments to the onset of the financial crisis.

The second idea that did not catch on was the use of counter-cyclical fiscal policy.  You can see the imprint of that in the Stability and Growth Pact.  And, if you’d sat in on the lunches I had in my ECB secondment, you’d have seen how it infused the thinking of the German economists there.  It also seems clear to me that in the 2010 negotiations over Greece and now, the benefits of pro-cyclical fiscal policy are not appreciated by the German representatives.  Or, if they are, that’s kept quiet as a negotiating tactic.

Most of this, as you can tell, is without much factual basis, except the gossip I listened to on the conference circuit, and my own time on secondment, and casual observation of what has been going on.  So it should be treated more as a hypothesis, rather than a solidly researched point of view.

My tweets did not get that much response on Twitter.  One anonymous follower sent back a series, confirming that German academia was relatively insular;  that appointments favoured locals with long lists of German publications;  and that New Keynesian ideas were frowned upon.   A couple of others concurred, but a couple thought this was either wrong, or a red-herring.

I should point out that there are several great German economists I know working in and outside Germany, and I don’t wish to denigrate any of those.  Mentioning a few inside:  the unsung heroes of Heer and Maussner;  Wolker Weiland.  They absorbed US methods and made them their own, and research in this tradition.  Outside:  too numerous to mention.   But these are exclusively those who were exposed to the US-based frontier thinking, and who subsequently bore the task of pushing back that frontier.

Many might read this and wonder why we should mourn that some policymakers did not absorb New Keynesianism.  For instance, someone should try writing that as a comment on John Cochrane or John Taylor’s blogs, and see what response you get.  ‘So much the better!’ they would say, along with the others who stay within the Real Business Cycle tradition, that thinks business cycles are best left to themselves.

But although I have taken sides on this myself, the point of this post is not to stress that normative point again.  It’s simply a theory that the German negotiating position is partly a product of its isolated academic tradition that left it unnourished/untarnished by modern thinking.

Update:  see the exchanges following Simon-Wren Lewis’ recent post on Mainlymacro, which go into this very subject, the exposure or lack of it of the German economics elite to NK macro.

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10 Responses to Proximate roots of German monetary and fiscal conservatism

  1. Steffan John says:

    I can believe that German Economics academia is pretty closed intellectually, but then, so is Anglo-American Economics too. There’s little chance of anyone outside of the Neo-Classical mainstream being allowed to be published in the main journals or employed in the main departments; as for anyone researching Economic History, they’d be politely told that their subject is irrelevant to Economics, as it’s ‘only’ history.

    The 2007-09 crash should have led to some serious soul-searching and self-criticism within Economic mainstream, given that it failed to see what we can now see was virtually inevitable, but has there been any serious change in the course materials? Has there been any significant reflections on the theoretical assumptions of the discipline? Hardly.

    • Joe says:

      I second that. I went to graduate school in economics at a top ten school and after passing my qualifiers, decided not to devote more time to academia. They were so closed minded then. They seem even more so now.
      The academic community, instead of asking hard questions, is writing articles like this one denigrating the Germans. What about our bubble blowing ways encouraging bad investments via perpetually low rates? The productivity growth is slowing, in large part, because the Fed is encouraging unproductive economic activity. Mostly speculation. are they really making things a lot better for anyone besides the monied classes through inflated assets? And NO. Inequality can NOT be cured through easy monetary policy for ever.

    • Tony Yates says:

      Thanks. I saw. There’s some sophistication in it but it’s amazing that the sudden stop is presented as what must happen.

    • I notice that they exclude Malaysia, the success story of the Asian crisis. Malaysia rejected IMF prescriptions. Devalued, repegged, imposed capital controls and eased fiscal and monetary policy. And experienced the least pain. Not that this means it would work everywhere.

  2. What I find odd is the abandonment of the second pillar by the Bundesbank. Where are the Issings arguing that there is insufficient monetary growth to counter deflation? And how would they propose to do this without QE. I remember attending Issing’s valedictory conference in Frankfurt. The talk he enjoyed the most was Robert Lucas’s showing that the relationship of money growth to inflation was one of the few reliable empirical relationships in macroeconomics. It’s also worth point out that Lucas and Issing are firmly in the tradition of Friedman. Friedman did not believe that monetary policy should smooth the cycle, he thought cyclicality and recession where necessary counterparts to uncertainty and risk-taking. His activism extended only to the more modest claim that monetary policy could prevent depressions.

  3. Tony, does “Anglo Saxon economics” have anything to say on the use of recessions/crisis to force institutional reform?

  4. hix says:

    There is no particular rule that suggest a switch of opinion in anglo saxon academia makes that view supirior or right. And what about non Anglo-Saxon views? Views of convenience in southern Europe dont count, even less so if they are the views of a noisy dominant anglo-educated group. “Insularity from the Anglo World” can also be translated with: You can still get tenure at the University in your hometown after you graduated from the very same. With all those little advantages like no 200k+ debtload.

    Theres definitly a lot more going on than dominant paradigms in academic economic discourse and this is true for a lot more countries that are typcially completly below the radar of perception from the anglo-world viewpoint. One aspect that comes to mind is that economists simply are not that powerfull in Germany.

  5. hix says:

    I should probably state upfront as an addition that i have no college degree at all and no personal contact with policy circle economists or any deap insights into tenure process or the like. The insularity complaint however is something that i did hear already as a general complaint about German academia. I think that complaint is missing a lot of downsides associated with the future elits from all over the world get their Ph.Ds. in a handfull of Anglo Univeristies as well as missing that a lot of research here is done outside Unversities. And thats what i get the impression is really meant with non insularity. Those who complain about insularity sure aint thinking about recruiting Japanese or Russian graduates.

  6. am says:

    Whatever the alternatives are to German economics I think people fail to appreciate the German horror of their history. They connect the rise of Hitler to the economic chaos in the years immediately before that. This economic chaos they are determined to prevent occurring again. Hence they are ultra conservative.

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