The Transformation of Economic Analysis at the Federal Reserve during the 1960s

Abstract

In this paper, we build on data on Fed officials, oral history repositories, and hitherto under-researched archival sources to unpack the torturous path toward crafting an institutional and intellectual space for postwar economic analysis within the Federal Reserve. We show that growing attention to new macroeconomic research was a reaction to both mounting external criticisms against the Fed's decisionmaking process and a process internal to the discipline whereby institutionalism was displaced by neoclassical theory and econometrics. We argue that the rise of the number of PhD economists working at the Fed is a symptom rather than a cause of this transformation. Key to our story are a handful of economists from the Board of Governors' Division of Research and Statistics (DRS) who paradoxically did not always held a PhD but envisioned their role as going beyond mere data accumulation and got involved in large-scale macroeconometric model building. We conclude that the divide between PhD and non-PhD economists may not be fully relevant to understand both the shift in the type of economics practiced at the Fed and the uses of this knowledge in the decision making-process. Equally important was the rift between different styles of economic analysis.

The Ordinary Business of Macroeconometric Modeling: Working on the Fed-MIT-Penn Model (1964–1974)

“…This still seems a reasonable hypothesis." 23 As explained by Acosta and Cherrier (2018), the practice at the DRS was to further blend the "mechanical forecasts" produced by the model with "judgments" provided by those in-house "business economists" who understood and anticipated the "feel and tone" of several sectors of the economy. Chairman Martin remained extremely skeptical toward macroeconometric modeling, so that theoretical consistency had no appeal whatsoever to the Board.…”

“…Ando argued that the methods proposed by Lucas and Christopher Sims did not avoid the problems that they said plagued Keynesian macroeconometrics, but involved making arbitrary assumptions that could not be directly verified (see, for example,Ando 1981, 355-6).5 This paragraph builds onAcosta and Cherrier (2018), who provide a more exhaustive account of how macroeconometrics came to the Federal Reserve Bank. See Rancan (2018) for a different perspective.…”

THE “PLACE OF THE PHILLIPS CURVE” IN MACROECONOMETRIC MODELS: THE CASE OF THE FEDERAL RESERVE BOARD’S MODEL (1966–1980s)

“…By looking at the FOMC transcript from 1979 to 2003, Meade and Thornton (2012, p. 198) showed that the “Phillips curve framework” played a much less prominent role in the Federal Reserve’s policy making than it did in macroeconomic models used to evaluate Federal Reserve policy. Acosta and Cherrier (2021) also argue that Chairman William McChesney Martin, as well as his successor Arthur Burns, had no confidence in attempts to quantify the Federal Reserve policy through econometric models.…”

“… 19 The Academic Consultant meetings were established by Chairman Martin in 1964. Leading academic economists were invited to discuss with the Board economists monetary policy issues (see Acosta and Cherrier 2021, p. 12; Rancan 2019, p. 451). On Friedman’s early speeches and drafts of his 1968 Presidential Address, see Forder (2018).…”

Macroeconomics at the Crossroads: Stagflation and the Struggle between "Keynesian" and New Classical Macroeconometric Programs

“…Whereas the defenders of the aggregation program remained omnipresent in conferences in the late 1970s, and despite the continuous evolution of their models during the period, few publications tackled the persistence of these applied works. 6 Recent articles by historians studied the elaboration of macroeconometric models in the 1960s (Acosta et Cherrier 2018;Acosta et Pinzón-Fuchs, forthcoming; Backhouse 2018), but nothing has been written yet on the survival of these practices during the 1970s. Consequently, this article is a first step to understand how the advocates of large-scale macroeconometric models defended their practice against New Classical economists in the context of stagflation and envisaged the future of these models.…”