Economic textbooks especially chapters on monetary policy needs to be re-written..

Sylvester Eijffinger and Edin Mujagic of Tilburg University make this comment over need for change in econ textbooks. This blogger has been suggesting this for a while as what we have seen in recent years is not mentioned in any textbook. It was known that the there is a huge gap in two worlds of econ text-books and real world. The recent economic developments show the difference has widened a way too much. This has led to events like Occupy Harvard etc etc.

Anyways coming to the article:

Federal Reserve Chairman Ben Bernanke’s recent announcement that the Fed would maintain the current pace of monetary stimulus in the United States has cinched it: economics textbooks, at least the chapters on monetary policy, need to be rewritten.

After US investment bank Lehman Brothers collapsed in 2008, it did not take long for advanced-country central banks to recognize that conventional monetary policy would be inadequate to contain the fallout of the ensuing crisis. So they bucked accepted theory, as set forth in standard textbooks like Principles of Economics by Greg Mankiw and Money, the Financial System, and the Economy by Glenn Hubbard, in favor of so-called “unconventional” monetary policy.

Five years later, these policies remain intact. This means that today’s undergraduates – and recent graduates – have studied economics during a period of uninterrupted reliance on near-zero interest-rate policies (ZIRP) and large-scale asset purchases, known as quantitative easing (QE). For them, a federal funds rate (the interest rate that banks charge each other for overnight loans of their reserves held at the Fed) of 5% seems as fantastic as a unicorn.

More important, this inversion is likely to persist. Central banks are using so-called “forward guidance” to assure market participants that they will, to some extent, maintain ZIRP and QE for years to come. In short, what was once standard has become almost unthinkable, and the exceptional has become the norm.

BoE, ECB, BoJ all have used non-textbook versions of mon pol in recent times. Moreover, we are expected to view these sets of unconventional tools as conventional:

Given that other central banks will also proceed cautiously, “textbook” monetary policy will probably not be the norm again until at least 2020. Even then, central bankers would continue to view expansionary monetary policy as a viable strategy to cope with deteriorating economic conditions in the future. Against this background, the term “unconventional” does not apply to ZIRP and QE.

Widespread recognition of the potential uses of ZIRP and QE may well turn out to be one of the most important outcomes of the current crisis, shaping monetary policy far into the future. Universities around the world would be well advised to consider this fundamental shift in central banks’ approach when selecting textbooks for their economics students.

At most we see a chapter/few boxes added in textbooks on the current crisis. This makes it look like some economics aberration just like business cycles, great depression etc :-). This crisis is anything but an aberration. It has questioned much of the wisdom which was accepted as holy grail till now..

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