64 - Ricardo Reis Defends Macroeconomics

Episode Summary

Executive Summary: Ricardo Reis argues that macroeconomics is healthier and more diverse than critics claim, especially in research and policy work, while conceding that teaching still overemphasizes frictionless benchmark models. He defends macro’s empirical creativity, evaluates policy performance as mixed but not disastrous, critiques the limits of forecasting, and advances a reserve-based approach to monetary control inspired by Irving Fisher and the Friedman rule.

Main Topics: State of macroeconomics research (Priority: 5/5): Reis argues the field is vibrant, more diverse, and more empirically grounded than critics suggest, with major progress since the Great Recession in topics like liquidity, central bank balance sheets, and financial frictions. Critiques of macro and empirical limits (Priority: 5/5): He concedes macro lacks randomized experiments and faces data constraints, but says economists creatively use microdata, natural experiments, and new methods to learn much more than skeptics admit. Macroeconomic policy performance (Priority: 5/5): Reis says macro policy has real failures, especially after the Great Recession, but also major successes: avoiding a new Great Depression and keeping inflation near target for decades. QE and reserve mechanics (Priority: 5/5): He explains QE as mostly neutral in theory but potentially powerful through signaling, financial frictions, or changes in safe-asset supply, stressing that its effects on financial markets are real but modest. Forecasting and the doctor analogy (Priority: 4/5): Reis defends macro forecasters by comparing them to doctors: forecasts are conditional and probabilistic, and the key role of economists is crisis prevention and diagnosis, not exact prediction. Macro teaching reform (Priority: 4/5): He agrees that teaching lags research, arguing for more data, frictions, heterogeneity, and empirical methods in both undergraduate and graduate macro curricula. Reserve-based monetary policy and price stability (Priority: 5/5): Reis and Robert Hall’s proposal uses the central bank’s interest/payment on reserves to pin down the price level, drawing on Irving Fisher and the Friedman rule as a cleaner alternative to traditional money-base thinking.

Key Arguments: Macro research is not in crisis; publication patterns, hiring, and seminar practice show a healthy, diverse field. Critiques often target outdated textbook models rather than current frontier research, which routinely includes heterogeneity, banks, learning, and financial frictions. Macro’s empirical limitations are real, but economists still extract meaningful causal and structural insights with creative data use. Policy performance should be judged against history and counterfactuals; inflation control has been excellent even if output recovery has been disappointing. QE is not inherently expansionary; its benchmark is neutrality, and observed effects are strongest in financial markets, not clearly in inflation or output. Economists should not be expected to forecast exact outcomes any more than doctors should; their role is to identify risks, guide policy, and prevent disasters. Macro teaching should better reflect the research frontier by using more data and fewer idealized benchmark models. Reserves are now central to the monetary system, so controlling their remuneration can be a powerful and conceptually cleaner tool for price stability than relying on scarce-reserve open market operations.

Data Points: Time since PhD: about 13 years - Reis contrasts his earlier work in monetary economics with how the field has evolved since he finished his doctorate. Inflation target deviation: about 0.5% - He says recent Fed/ECB deviations from 2% inflation have been small compared with the 1970s. Inflation in the 1970s: 10% to 11% - Used as historical contrast to argue current monetary policy performance has been strong. Balance sheet liquidity benchmark: about one trillion of reserves - Reis argues the Fed should keep enough reserves to satisfy the Friedman rule. U.S. banks holding more reserves than Treasury securities: 94% - He cites this as evidence that reserves have become a major bank asset. QE balance-sheet scale mentioned: $1 trillion to $5 trillion reserves - He describes QE1 as reaching roughly the Friedman-rule region and notes the later expansion to much larger reserves. QE effect on yields: 30 to 40 basis points - He says a trillion of QE typically moves long-term yields by only modest amounts.

Pivotal Quotes: "There's something really wrong with macroeconomics." — Ricardo Reis: Title and framing of the article being discussed; Reis uses it as the premise he is responding to. "I see a field full of vitality right now." — Ricardo Reis: His core rebuttal to claims that macro is in despair or crisis. "QE is something that works, but we don't know quite why it works." — Ricardo Reis: His summary of the current state of research on quantitative easing and its transmission channels.

Implications: The episode suggests macroeconomics is more robust than its critics claim, but teaching and public expectations still need reform. For policymakers, reserves and their remuneration may offer a cleaner future tool for price stability.