Lucas and Tobin: Debating the New Classical Challenge to Keynesian Economics

ABSTRACT

The future Nobel laureates Robert Lucas and James Tobin debated the New Classical challenge to the microeconomic foundations and empirical validity of Keynesian economics, with Lucas singling Tobin out as an interlocutor among Keynesian economists who took the New Classical challenge seriously. Their intellectual exchanges began with Tobin, ‘The Wage-Price Mechanism: Overview of the Conference’ (1972), and Lucas, ‘Econometric Testing of the Natural Rate Hypothesis’ (1972), both in Otto Eckstein, ed., The Econometrics of Price Determination Conference (1972). That conference was a milestone in confronting alternative macroeconomic methodologies with each other, but has received relatively little attention in the literature, most notably from Stanley Fischer (in JMCB Supplement, 2007), who characterized ‘that volume as representative of the best thinking of the time on the Phillips curve.’ This paper examines the debate between Lucas and Tobin that began with their contributions to that conference and that reached a climax with Tobin’s Yrjö Jahnsson Lectures (Asset Accumulation and Economic Activity, 1980) and Lucas’s Journal of Economic Literature review article on those lectures.

KEYWORDS:

• Robert Lucas
• James Tobin
• New Classical economics
• microeconomic foundations of macroeconomics

JEL CODE:

• B22
• B31
• E

Acknowledgments

I thank participants in an online History of Economics Society session and anonymous referees for helpful comments.

Disclosure Statement

No potential conflict of interest was reported by the author(s).

Notes

1 ‘Tobin asked me to come and talk at Yale in 1977, and I was there for a couple of days’, Lucas told Arjo Klamer (1983, pp. 34–35). ‘He was really nice in a personal way. He made it clear that he respected my work as a professional, so I didn’t feel my professional standing was at risk. When I got there he gave me a nice introduction. It wasn’t a question of whether I was a competent economist or not; there was nothing personal involved … I don’t think that Solow, in particular, has ever tried to come to grips with any of these issues except by making jokes.’ Tobin, in Klamer (1983, p. 107), referred to an earlier Lucas visit to Yale, when Lucas presented a paper that was published in 1973 (reprinted in Lucas 1981a, pp. 131–145).

2 More precisely, three Yrjö Jahnnson Lectures given in Helsinki and the Paish Lecture given in York to the Association of University Teachers of Economics.

3 Tobin (1981, p. 40) held that ‘How Friedman and Brunner-Meltzer could turn multi-asset systems of equations into single equation monetarism remains a mystery I do not fathom.’

4 Stanley Fischer (2007, p. 172) remarked that ‘expectations aside – but that is a very big aside – the wage-price dynamics in the Tobin summary are similar to the equations for price dynamics in many of the papers in this 2005 conference, and the subsequent papers in the 1970 volume struggle with many of the same issues that are currently on the agenda.’

5 Lucas (1972b) was offered as an empirically testable complement to the more theoretical Lucas (1972a) but both papers were abstract and theoretical by the standards of the day, as shown by the correspondence reprinted in Shepherd (1995, pp. 47–50) concerning the rejection of Lucas (1972a) by the American Economic Review, with the referee finding it more suited to a journal such as the Journal of Economic Theory (where it was subsequently published).

6 Leontief’s stress on money wage rigidity due to money illusion in Keynes, expressed as non-homogeneity of the labor supply function, are central to his QJE review of Keynes (1936) and to his contribution to Harris (1947), both reprinted in Leontief (1966, pp. 87–103).

7 Tobin did not at first consistently drop his earlier interpretation of Keynes: Lucas (1981a, p. 280) quoted Tobin (1977) describing slow adjustment of money wages in response to excess supply as a central proposition of Keynes’s General Theory, a proposition that Lucas was willing to accept as a true statement about US and British economic experience between the two world wars but not as helpful in choosing between alternative theoretical frameworks.

8 Tobin (1980b, p. 795) noted that his Yale colleague William Fellner’s ‘constant concern for endogenous model-consistent expectations’ was ‘an early precedent that today’s rational expectations theorists would do well to recognize,’ offering as an example that in the 1950s ‘William Fellner objected to Keynesian liquidity preference as an equilibrium phenomenon, on the logical ground that speculators could not be assumed to continue indefinitely to expect higher interest rates than those actually prevailing … Fellner’s valid point inspired me to try to provide a model of liquidity demand that did not depend on biased interest expectations.’

9 As a referee remarks, Lucas and Tobin both also participated in the Federal Reserve Bank of Minneapolis Conference on Models of Monetary Economies, December 7–8, 1978, at which Tobin (1980b) sharply criticized overlapping generations models as an explanation of the existence and value of fiat money. Tobin (1980b) argued that to assume people held fiat money because no other asset existed was even more arbitrary than assuming the cost of trading interest-bearing assets for money was non-zero. However, while Tobin (1980b) was part of his response to New Classical economics, its target was Neil Wallace rather than Lucas, and, as Willem Buiter (2003, pp. F590-F595) stressed, Tobin, while critical of OLG as the reason for fiat money having a positive value, was a pioneer in putting the life-cycle model of consumption and saving (which he traced back to Irving Fisher’s 1907 two-period consumption diagram) into an OLG setting (Tobin 1967, 1972c, and several papers by Tobin with Walter Dolde). The story of Tobin and OLG requires a paper on its own (to be presented as Dimand 2022) and is distinct from his exchanges with Lucas.

10 Tobin (1981, p. 30), speaking on monetarism to the Royal Economic Society (paired with a much more sympathetic appraisal of monetarism by David Laidler,’ wrote of ‘a second wave of monetarism, a second counter-revolution that has absorbed and breathed new life into the first, a movement both more reactionary and more revolutionary than its precursor.’