Robert Lucas Death – Lucas was a famous economist who developed a solution to the collapse of Keynesian economic theory in the 1970s. Lucas stressed the relevance of rational expectations in economic modeling in what is now known as “new classical economics,” and reminded economists that microeconomics is vital to macroeconomics. Lucas examined the damage caused by Keynesianism in the 1970s in a 1979 paper co-authored with Thomas Sargent. He was always conscious of the debt that all macroeconomists owed to Keynes, and he referred to the Keynesian revolution as a “remarkable intellectual event.” Nonetheless, the outcomes of what became Keynesianism were self-evident.
“That [Keynesian] predictions were wildly incorrect, and that the doctrine on which they were based is fundamentally flawed, are now simple matters of fact involving no novelties in economic theory,” said Lucas and Sargent. The days of hydraulic Keynesianism, in which the economy was viewed as a massive machine with buttons and levers that policymakers could manipulate to produce predictable results, were over. In its stead, business cycle equilibrium models would emerge. According to Lucas and Sargent, macroeconomists’ thinking about policy would evolve away from devising the best intervention and toward “the need to think of policy as the choice of stable rules of the game, well understood by economic agents.”
In what became known as the “Lucas critique,” Lucas revealed a flaw in macroeconomic modeling of policy changes. People adjust their behavior and expectations in reaction to policy changes, causing the model’s parameters to change. The plug-in-the-numbers approach to macroeconomics has been dealt a crushing blow. People aren’t particles in a lab; they’re living, thinking individuals who adapt to new situations. Lucas was also influential in economic growth research. “Economic growth, and particularly the diffusion of economic growth to what we used to call the Third World, is the major macroeconomic event of the twentieth century,” Lucas remarked in a 1997 interview included in the book Modern Macroeconomics, putting it ahead of the Great Depression.
Before Lucas, economists had created one method of thinking about growth for impoverished countries and another for prosperous countries. Lucas demonstrated that it is possible to model the same thing in both. “The consequences for human welfare involved in questions [about growth] are simply staggering: Once one starts thinking about them, it is difficult to think about anything else,” he wrote in a 1988 study.
Lucas crushed a seemingly reasonable argument regarding growth in merely six pages of the American Economic Review in 1990. “Why doesn’t capital flow from rich to poor countries?” asks the title question. At first look, it appears to make sense. If workers with more capital are more productive (which is true), then investment possibilities should be in impoverished countries since the law of diminishing returns would be higher in poor countries than in rich countries.
Lucas revealed a flaw in development initiatives by illustrating why this does not happen (a combination of human-capital and capital-market issues). “The underlying idea of practically all postwar development programs is to encourage capital-goods flows from rich to poor countries… In a society of primarily immobile labor, strategies aimed at influencing the creation of human capital must have far greater potential. So, I believe, do systems in which any type of aid is linked to the recipient’s willingness to accept competitive foreign investment.”
Despite his enormous impact on macroeconomics, Lucas was hesitant to name his work “revolutionary,” a label that many others attached to it. He stated in a 1997 interview, “For myself, I have no romantic associations with the term’revolution.'” It connotes deceit, theft, and murder to me, so I’d rather not be identified as a revolutionary.”
If there is one piece of Lucas writing that everyone should read, it is his 1988 lecture “What Economists Do.” It’s a short piece of white-meat writing with no equations. “Economists are basically storytellers,” remarked Lucas. He then tells a scenario about an amusement park that functions as a model for the American economy, replete with a currency (tickets), a central bank (the cashier’s office), commodities and services (concessions and rides), and consumers and producers (park guests and park employees). He demonstrates how, by changing the rate at which money are exchanged for tickets, he can cause the park’s economy to grow or bust.
Lucas believes that economists must be storytellers. “We do not consider the realm of imagination and ideas to be an alternative to or a retreat from practical reality.” On the contrary, it is the only means we have discovered to seriously consider reality.” Few persons considered economic reality more seriously or with greater impact than Robert Lucas. R.I.P.