Contributions to Economics

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Peter Galbács

The Theory of New Classical

Macroeconomics
A Positive Critique

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Peter Galbács
Budapest Business School
Miskolc
Hungary

Completely revised edition of the original Hungarian edition with the title “Aktív szabályozás
vagy gazdaságpolitikai nihilizmus?” published by Akadémiai Kiad
o Zrt., 2012

ISSN 1431-1933 ISSN 2197-7178 (electronic)

Contributions to Economics
ISBN 978-3-319-17577-5 ISBN 978-3-319-17578-2 (eBook)
DOI 10.1007/978-3-319-17578-2

Library of Congress Control Number: 2015938182

Springer Cham Heidelberg New York Dordrecht London

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 To the memory of Andr

as Vigv

ari.

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Foreword

Peter Galbács, a former student of mine, offered me the privilege to write a brief
introduction to his work on The Theory of New Classical Macroeconomics.
Peter Galbács’ book is an exciting and challenging work that induces even those
readers who are well educated in—and sometimes indoctrinated by—mainstream
macroeconomics to rethink and revise some of the fundamental ideas of our
profession. I would not pretend that I agreed with all parts of his analysis and
conclusions, but this is exactly why Galbács’ book is so useful and interesting. It
would have been tiresome and boring to read a text which triggers only “I agree”
types of reactions. Galbács’ work is like a huge canvas: it offers an elegant,
colorful, and complex picture of the different schools of macroeconomic theory.
His main conclusion that the neoclassical theory of economics is still alive and it
provides a good framework of analysis and economic policy is well supported by
the author’s reasoning in the text. I would like to encourage the author to pursue this
line of research in the future. And last but not least, I am really proud of the fact that
I could be one of his professors.

Budapest, Hungary Ivan Major

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Preface

Finding the black cat is not rewarded.

(Norman Davies: Europe–A History. Foreword, Polish Edition)

My career as a researcher started under the spell of Keynes. I took a sincere

interest in the ultimate questions of economic theory relatively early, surprising
even myself. Attending lectures on sociology and social philosophy at the faculty of
humanities and social sciences, I almost ran away from the philosophy lectures. The
lack of firm answers and the different systems of thoughts contradicting and
overwriting each other were too disturbing and what is more even frustrating for
me. So, my interest turned to economic sociology first and then to economics itself,
hoping to find a disciplined science built on mathematics. I did believe that schools
of economic thoughts could harmonize in the most fundamental questions and have
only minor differences in their opinions. I could hardly realize that economic
theories suffer the same confusion. Moreover, having been armed with lectures
given by Endre Nagy, Mikl
os Mar
oth, and Gy€orgy Mikl
os, all these impressions
made it obvious and nearly inevitable that my interest as an economist would turn to
economic theory and to the philosophy of economics. Today, I know that economic
theory for me, due to these early experiences, has become a thesaurus of philo-
sophical texts describing the economic aspects of processes going on in societies.
Of course, it is true as well that I realized only as an economist that the questions
raised by a branch of science itself cannot be answered on the grounds of its
methodology and theory. If we want to consider the objects and methods of
economics, the theory of marginal utility does not help us too much.
I made myself familiar with Keynes’ theory as an undergraduate student.
Fortunately, my first attempts were helped and controlled by professors who
required me to study the most important texts in the history of economic thoughts
very young. The impact that Keynes exerted on me was huge, since, on one hand, I
could become not only acquainted with the principles that had governed operative
economic policy for decades but also got an insight into the most significant and
most extensive theoretical debate of economics of the twentieth century. My early
interest was mainly focused on the points on which Keynes was opposed to the

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x Preface

program of neoclassical economics that had been generally accepted up to that time.
Back then, of course, I regarded all the scientific debates as black and white and,
with all my strength, I tried to declare Keynes the winner, wherever and whenever it
was possible. I often entered into indirect criticism (while doing so, its master, Prof.
Lászl

o Vı́gh, also helped and encouraged me), so the conflict I was inquisitive about
was soon relocated between Keynes and Milton Friedman. The orthodox monetar-
ism led by Milton Friedman was the first after-Keynes great theoretical system with
which I got acquainted thoroughly. I think, I made quite a good job, since a serious
antipathy to Friedman’s theory took shape in my mind and it still exists even today.
However, there is no doubt that I indulged in studying monetarism thanks to
Friedman.
Previously, I tended to evaluate new classical macroeconomics similarly, in
which I was encouraged by both the oversimplified sights formed on the new
classical group and the vulgarization of the new classical theory itself. I do not
know exactly what that turning point was after which I showed greater concerns to
Lucas and his group than to my former master, Keynes. It was roughly at the end of
my university years, so, as a fellow, I devoted my dissertation to new classical
macroeconomics. I remember well, my initial purpose was to write a monographic
comparison of Keynes and monetarism, but it was expected to be a monumental
mission, so a Ph.D. dissertation could not have been able to embrace all the results
I wanted to include. Finally, the dissertation was written on the monetary and fiscal
policy recommendations of new classical macroeconomics—and it soon has
become the basis of this book as well.
The genre of this book is comparative critical history of economic thoughts. It
must be noted that I was aware of neither the ultimate aim nor the path leading to it,
so I could not foresee where I would get to in the end. Curiosity was my only
guiding principle, and the book as a whole should be considered an explanatory
note to my readings. My interest was not governed by a single theorem to be proved
or criticized. I just wanted to know where the economists labeled as new classicals
came from and what they actually taught. Therefore, I based my investigation on
the original texts, so the first level of comparison was made between these texts and
their commentaries (i.e., reviews on economic theories). Of course, the comparison
emerged in the context of the history of economic thoughts as well, since I had to
realize at an early stage that, for example, either the Phillips curve elaborated by the
new classicals or their comprehensive suggestions of economic policy can be
judged only by comparing them recurrently with the theory of Friedman or Keynes.
Moreover, I did not want to write a reading log. I wanted to avoid a simple
reformulation of the theory of new classical macroeconomics, so I tried to carry
out a critical analysis. During my work I was mainly supported by the methodo-
logical principles set out in Chap. 1. My determination to avoid writing a mere
summary explains why I discussed topics (albeit, sketchily) such as automatic fiscal
stabilizers or the conceptual differences between fiscal consolidation and structural
reforms, to which new classicals had not paid any attention no matter how close
these issues were to the problems being investigated.

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Preface xi

This volume consists of seven chapters succeeding in birth order. Chapter 1 is

the only exception as it was written only after the logical structure of the book had
been ready. I had to face the recurrent critical remark made in debates that
reproached me with the lack of a well-articulated methodological introduction.
Although my declared purpose from the very beginning was to exert a constructive
critique against new classical macroeconomics, the clarified methodological prin-
ciples on which this book had been built were missing; I could give account of these
fundamentals only in the course of private conversations at best, being satisfied
with the belief that my interlocutors were familiar with them. The methodological
and philosophical system detailed in Chap. 1 that later became the most important
and interesting part of the book for me took form during these conversations. The
ultimate goal of this chapter was to identify the characteristic aspect of mainstream
economics and to clarify its methodological grounds, setting the discussion and the
evolution of the methodology of (mainstream) economics in the context of general
history and history of science. To my great surprise, the fundamental differences
between orthodox monetarism and new classical macroeconomics emerge even at
the level of the methodological principles.
Chapter 2 turns directly to the new classical doctrines. Although mostly implicit
doctrines were examined in Chap. 3 (for instance, when discussing the conception
of new classical labor market), rational expectations hypothesis being the most
often cited and the most influential new classical theorem was studied here.
Underlying assumptions and theoretical consequences were also reviewed here.
These investigations were made especially gripping by the direct intention of new
classicals to give a realist description of processes and mechanisms observed in
reality. This circumstance induced and justified me to compare new classical
macroeconomics with reality. It is argued below that estimations of market partic-
ipants, since agents do not have access to information the theory requires and do not
possess the necessary methodological skills either, can meet the requirements that
were specified by Muth (1961) only if agents are supported by an institution in a
central position. It could be, as a typical example, an inflation targeting central
bank—so, after all, rational expectations hypothesis can effectively underpin this
monetary policy regime. This chapter is very precious for me, since it is based on
my first important publication.
Chapter 3 continues reviewing the fundamentals. Here, we can get an inside
view of the underlying logic that determines the new classical way of thinking. We
are going to be forced again and again to realize that the existence of (general)
equilibrium is based on a set of fragile assumptions among which also the equilib-
rium itself stands as the most objectionable. The most of Chap. 3 was uncertain in
the beginning. The text is based on notes that were made in the course of some
fundamental reviews of John Weeks’ “A Critique of Neoclassical Macroeconom-
ics.” Since Weeks laid his emphasis on other aspects and details than I had to
concentrate, these notes advanced to be a chapter on their own as time was passing
by. Weeks mainly focused on the analysis of aggregate reproduction while I was
rather interested in the theory of macroeconomic cycles and countercyclical eco-
nomic policies. I supposed (and suppose even today) that the most fundamental

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xii Preface

discrepancy separating rivaling macro-theories is determined by how these theories

explained and answered the problem of business cycles. My interest in the theory of
business cycles may be explained by the fact that the theories scrutinized below
could and can start governing operative economic policies.
I could hardly deny the fundamental effects Weeks had on the tone and the
methodology of this work. I think, Weeks’ Critique can be referred to as the most
essential and significant critical treatise on mainstream economics. Its impacts and
importance are hard to estimate—moreover, in stylistic terms, it is an outstanding
manifestation of the collection of the briefest and most disciplined works in
economics. But, at the same time, it is a difficult and ponderous piece of reading.
It is only for the third or fourth time when the inter- and intra-textual relations and
the limitations of the reasoning can be revealed. The robust text of Weeks makes us
feel as if everything that is possible has been told about neoclassical-mainstream
economics. Actually it is almost completely true since it is very difficult to find
those points where the issues discussed could be complemented. Weeks’ work is
indispensable: I believe that it is almost impossible to write about new classical
macroeconomics without having Weeks’ monograph among the references: break-
ing away from his works could have only impaired my efforts and I would have
seemed to reinvent the wheel. I did my best to avoid simply echoing Weeks’
discussion and I think I managed to do so. It would have been difficult indeed to
refute his thoughts, so I had to agree with him and, wherever it was necessary for the
sake of my reasoning, I strived for abundant completions.
Chapters 4 and 5 make up the central part of the book. After the necessary
theoretical preliminaries had been set out, new classical thoughts on monetary and
fiscal policy could be analyzed and evaluated here for the first time. I was deeply
biased by the conventional view on monetarism, according to which fiscal policy is
only of secondary importance for mainstream economics, while monetary policy is
assumed to have potential only in setting the price level. I think, if this notion was
relevant at all, it was true only of Friedman’s system at best. For him, macroeco-
nomic systems settle in stable (long-lasting) equilibrium state, as his accounts on
the natural rate of unemployment highlight, from which they can be dislocated
through monetary policy interventions only temporarily and only with considerable
detriments and avoidable-unnecessary costs. I had to fumble in the dark for a while
when scrutinizing the countercyclical potential of monetary policy on these
grounds. In the beginning, I showed some inclination to think that Friedman had
stressed the countercyclical impotency of monetary policy (and, as a consequence,
of fiscal policy) through these doctrines of his—but, later, it became evident that
business cycles originate in economic policy, as argued implicitly by him. Actually,
Friedman talked about the possibilities of monetary policy in growth enhance-
ment—however, it is completely and fundamentally impotent in these terms so
the only consequences of its efforts are the business cycles it generates. So, the best
option of monetary policy is to specify its goal of increasing the quantity of money
at an appropriate rate—and, moreover, fiscal policy should abstain from all of these.
The new classical system is much more elaborated. It is a significant step forward
that the emergence of business cycles is allowed now, so the countercyclical

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Preface xiii

potential of economic policy can be a sensible question. While new classical

macroeconomics could not abandon the traditional and common interpretations
when evaluating monetary policy, giving room for monetary policy only in price
level setting at a maximum, new classical doctrines regarding countercyclical fiscal
policy (its scope and potential) seemed to be mainly unclarified to me. On the
grounds of the permanent income theory specified under rational expectations
hypothesis or the Barro–Ricardo equivalence, it is really possible to declare that
fiscal policy is predestined to be impotent in new classical macroeconomics as well.
However, it has to be realized how thorough the theory is when considering the
assumptions and conditions necessary for this ineffectiveness. The ineffectiveness
of fiscal policy is dependent upon tight conditions in the new classical theory, and,
in this context, underlying this conditionality proved to be the greatest merit of the
school.
Chapter 6 summarizes some conclusions that were highlighted by new classical
macroeconomics but were outside the core of the theory. Such a topic is the
problem of economic policy credibility to which we get starting from the equiva-
lence theorem. Credibility is discussed with Reaganomics as a background, the
interpretation of which can be found in the literature though, but it was worth
stressing the relations to the equivalence theorem as well. It is also Chap. 6 where a
topic analyzed previously recurs: it is inflation targeting, scrutinized in Chap. 2
before, with regard to the strong definition of rational expectations hypothesis.
Here, some technical issues emerge such as strict inflation and output-gap targeting
or flexible inflation targeting. I made efforts to stress the advantages of economic
policy offered by flexible inflation targeting and to lay those features of the system
in the limelight that can be evaluated and understood more easily with the support
of new classical macroeconomics or rational expectations hypothesis.
Chapter 7 gives a short summary and raises some further questions to which I
could not even try to find ultimate and satisfying answers, not only for the reason
that the chosen topic of this work or certain size constraints would not have made it
possible at all. These are problems the solutions to which are the question of faith
rather than the question of proofs or reasoning.

Miskolc, Hungary Peter Galbács

27 February, 2015

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Acknowledgments

I am deeply indebted to my former supervisor, Prof. András Vigvári (1955–2014). I

was a 2-year student when I became keenly interested in macro-financial theories. I
think, he did the most for me by humbling my pride in the early times. It was he who
revealed, with unrelenting honesty, all the shortcomings of my first writing which
burst with conceit and which was, however, almost completely ungrounded and
empty. Nonetheless, the lesson I had to learn was not mediocrity but prudence and
judiciousness, and not the respect of authority but the commitment and humility to
science and curiosity. He advised me to be patient and, instead of allowing me to be
greedy of knowledge only superficially, gave me books in order to show me: there
are no superfluous items in learning. Sooner or later, every bit of knowledge turns
out to be a part of the big picture, fitting into items already known and supporting us
in understanding the world, mostly by inducing more and more questions. He has
taught me that ignorance is not to be hidden but to be admitted and that it is no
problem if only question marks stand at the end of our thoughts. This is the only
impulse of scientific investigations. All that I know about economics now I learnt
directly from him or on his inspiration. During the years I spent by him as his
student, I was forced to face serious trials again and again for which I was not
prepared initially. However, they were the steps that gave me the most pieces of
factual knowledge and necessary technical skills. But, without depreciating the
things he did as an economist, it has to be admitted that I could learn the most from
him as a man. Unfortunately, the painful limits of biological existence deprived
both of us of rejoicing at the publication of this volume together. This book is
dedicated to him, my beloved friend and master.
I have to express my gratitude to many people for supporting the creative process
of this publication. First of all, Prof. Lászl
o Vı́gh has to be mentioned. As one of the
leading researchers (if not the utmost inquirer) of the theory of Keynes in Hungary,
he has kept giving me hints of fundamental importance since the very beginning. He
was the authority who gave the Hungarian edition of Weeks’ important book into
my hands which proved to be a determinative experience. All in all, his annoying
questions and firm argumentations helped me the most. As far as the problems of

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xvi Acknowledgments

fundamental importance are considered, he has an established and well-grounded

point of view and insists on it to the utmost—however, his thinking never becomes
dogmatic. By him, a young researcher is never taken as a subordinate counterpart to
be forced to receive instant verdicts but as a discussion partner at his own level to
get a share both in his grounded statements and bothering doubts. He is an
independent philosopher of wide reading. I am sure, he could never guess the
amount of questions and doubts that occurred to me not only against the big theories
but also against my own precarious views during our conversations in his thick
cigarette smoke at the university.
The researchers of the Department of Economics led by Prof. Dietmar Meyer at
the Budapest University of Technology and Economics had held two discussion
forums on the Ph.D. dissertation which, later, became the basis of this present
publication. I owe a debt of gratitude to Prof. Meyer as the initiator of these
meetings, since he was the first who was able to convince me that my investigations
would deserve wider interest. As I had the opportunity to get to know him, he is
deeply inspired with scientific curiosity. During these debates, some serious quar-
rels evolved with Dr. Zsombor Ligeti who, with his sharp remarks, called my
attention to some major shortcomings of my manuscript. To tell the truth, it was
a shocking experience then, since I did my best to believe: my ideas are perfect,
complete, and well elaborated, so all these deficiencies should have remained
completely hidden. He proved to have genuine human greatness when, after and
in spite of the heavy debates, showed honest interest in the advancements of my
research process. The encouraging and appreciating words of Dr. Ivan Major
supported me more than he could ever think. During an informal conversation at
the Institute of Economics, Hungarian Academy of Sciences, we discussed the most
important and recent problems of theoretical economics that remained uncovered
and undeservedly neglected in the dissertation. He mentioned the microfoundations
of macroeconomics and urged me to immerse myself in the relating theoretical
debates. This is the very reason why I have taken this problem as the most important
(methodological) dilemma of neoclassical and mainstream economics.
Annamaria Par
ocza and Zsuzsanna Gerstmar, the staff at my department, proved
to be substantial contributors to this book. I am deeply indebted to them for finding
some publication that is very hard to hunt up and for providing me with a lot of
items to read. As I spent the most of the research process simply reading, it was a
great help that I could devote my free periods between the lectures to processing
these texts. I am also very grateful to the Hungarian State Railways for the
systematic delays, since, due to them, I could have a lot of time desired to be
spent usefully and sensibly. Librarians at the College of International Management
and Business of Budapest Business School, especially Edit Dutka and Andrea
Lőrincz, must also be mentioned here with the greatest gratitude, since they
supported my work far beyond their responsibilities. I am deeply indebted to
Dr. Bence Marosán for the illuminating, very long, and sometimes even exhausting
conversations about phenomenology and the philosophy of Edmund Husserl. I am
sure, he is the most intelligent man I have ever met.

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Acknowledgments xvii

Last but not least, I should also like to extend my special thanks to Edit Koncz
and Nikola Mihajlovic, who completed the task of proofreading the text at the price
of great sacrifices, strenuously, and well beyond their power. Mrs. Koncz has taken
the English manuscript in her hands in very hard times, when the possibility of
failure was extraordinarily high. Her accuracy and self-sacrificing intention to help
me proved to be an immensurable support. Thanks to her, the final stage of
proofreading became a joint effort, which was gladsome creative work rather
than stressful and strained slavery.

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Contents

1 Methodological Principles and an Epistemological Introduction . . . 1

1.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.2 The Topic and Its Relevance . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
1.3 Our Guiding Principle: Active Control Or the Nihilism of
Economic Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
1.4 Methodological Principles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
1.4.1 A Diagnosis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
1.4.2 Economics Is a Rationalizing Science . . . . . . . . . . . . . . . . 24
1.5 Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
1.5.1 A Summary: The Ways of Critique . . . . . . . . . . . . . . . . . 44
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
2 The Rational Expectations Hypothesis as a Key Element of New
Classical Macroeconomics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
2.2 Preliminary Remarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
2.3 The Concepts of Rationality . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
2.4 Rational Expectations and Unbiasedness . . . . . . . . . . . . . . . . . . . 72
2.5 The Orthogonality Assumption of the REH . . . . . . . . . . . . . . . . . 76
2.6 Unbiasedness: Some Further Considerations . . . . . . . . . . . . . . . . 77
2.7 Consequences: The Road to Inflation Targeting . . . . . . . . . . . . . . 83
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 88
3 The World View of New Classical Macroeconomics . . . . . . . . . . . . . 91
3.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91
3.2 Freedom as a Tradition of Economics . . . . . . . . . . . . . . . . . . . . . 92
3.3 The New Classical Interpretation of the Labour Market . . . . . . . . 104
3.4 Neoclassical Macromodels and Equilibrium . . . . . . . . . . . . . . . . . 115
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 143

xix

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xx Contents

4 Monetary Policy in the New Classical Framework . . . . . . . . . . . . . . 149

4.1 Preliminary Remarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 149
4.2 Concept of the Phillips Curve . . . . . . . . . . . . . . . . . . . . . . . . . . . 151
4.2.1 Elementary Considerations . . . . . . . . . . . . . . . . . . . . . . . . 151
4.2.2 The Orthodox Monetarist Interpretation of the Phillips
Curve . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 153
4.2.3 Relations to the Natural Rate of Unemployment . . . . . . . . 167
4.2.4 New Classical Macroeconomics and the Phillips
Curve . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 169
4.3 Monetary Policy and New Classical Macroeconomics . . . . . . . . . 175
4.3.1 Rational Expectations and Surprises . . . . . . . . . . . . . . . . . 175
4.3.2 The Island Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 178
4.3.3 Explication of Aggregate Supply . . . . . . . . . . . . . . . . . . . 190
4.3.4 Further Steps on the Road to a Normative Monetary
Analysis: Constraints of Monetary Policy
Inefficiency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 204
4.3.5 Summary: Monetary Policy in the New Classical
Framework . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 214
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 216
5 Fiscal Policy and New Classical Macroeconomics . . . . . . . . . . . . . . . 221
5.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 221
5.2 Permanent Income Hypothesis: The Basics . . . . . . . . . . . . . . . . . 224
5.3 Permanent Income and Adaptive Expectations: An Algebraic
Explication . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 229
5.4 Permanent Income and REH . . . . . . . . . . . . . . . . . . . . . . . . . . . . 241
5.5 The Ricardian Equivalence: Basic Considerations . . . . . . . . . . . . 246
5.6 Assessment and Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . 250
5.7 From the Equivalence-Theorem to Non-Keynesian Effects . . . . . . 258
5.8 An Outlook: Automatic Fiscal Stabilizers . . . . . . . . . . . . . . . . . . 271
5.9 Summary: Fiscal Policy in the New Classical Framework . . . . . . . 276
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 277
6 Economic Policy Consequences . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 283
6.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 283
6.2 Supply-Side Economics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 288
6.3 Economic Policy and Credibility . . . . . . . . . . . . . . . . . . . . . . . . . 294
6.4 Symbolic Economic Policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . 301
6.4.1 Preliminary Remarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . 302
6.4.2 Conceptual Framework . . . . . . . . . . . . . . . . . . . . . . . . . . 303
6.4.3 On the Way Towards Symbolic Policies: The First
Attempt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 307
6.4.4 On the Way Towards Symbolic Policies: Economic
Policies Relying on Expectations . . . . . . . . . . . . . . . . . . . 311

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Contents xxi

6.4.5 Symbolic Policies as Signals . . . . . . . . . . . . . . . . . . . . . . 314

6.4.6 Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 319
6.5 Some Further Remarks on Inflation Targeting . . . . . . . . . . . . . . . 321
6.5.1 Expectations and Constrained Discretion . . . . . . . . . . . . . 323
6.5.2 Inflation as an Expectation-Based Phenomenon
and the Central Bank . . . . . . . . . . . . . . . . . . . . . . . . . . . . 340
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 342
7 Looking Back . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 349
7.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 349
7.2 What Have We Learnt? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 350
7.2.1 Monetary Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 350
7.2.2 Fiscal Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 353
7.3 Meditations Upon a Pure Economic Theory . . . . . . . . . . . . . . . . . 356
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 367

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