Syllabus for Econ 502
Masters-Level Macroeconomic Theory

Syllabus Last Updated: 26 August 2008 Latest Course Offering: Fall 2008 Course Instructor: Professor Leigh Tesfatsion Department of Economics Iowa State University Ames, Iowa 50011-1070 (515) 294-7318 (Secretary) http://www.econ.iastate.edu/tesfatsi/ tesfatsi AT iastate.edu 502 Homepage (Course Structure & Grading Policy) In-Class Discussion Schedule (TBA) General Macro/Financial Resources

Course Meeting Time and Place: TR 11-1, 272 Heady F 12:10-1, 272 Heady Instructor's Office and Office Hours: Office: 375 Heady Hall Hours: Fridays 10-12 and by appointment. Teaching Assistant (TA): Mr. Min Wang Tel: 294-4428 Email: wangmin AT iastate.edu TA's Office and Office Hours: Office: 180A Heady Hall Hours: M 9-11am and by appointment

Syllabus Contents:

• Required Course Materials
• Recommended Course Materials
• Topics, Discussion Questions, and Readings
  1. Introduction
  2. Aggregate Macroeconomic Modeling: A Microfoundations Critique
  3. Economic Growth: A Microfoundations Approach
  4. Treatment of Expectations in Macroeconomic Models
  5. Treatment of Coordination Issues in Macroeconomic Models
• Midterm and Final Exam Review Materials

Required Course Materials

• Required Course Packet:
  

  Class Lecture Notes for Economics 502: Fall 2008, a packet of lecture materials (395 pages) prepared by the instructor. Shrink-wrapped three-hole-punched copies of this packet are available for purchase from Copyworks (105 Welch Avenue, Ames, 292-3630) for a price of $15.75 plus tax. A discount coupon for a three-ringed notebook should be included with each packet. Copyworks is open 24 hours each day of the week.

  NOTE: If packet copies are sold out, alert Copyworks and additional copies will be made on a short turn-around basis.

Recommended Course Materials

• Online Resources:

  • General Resources for Macro and Financial Economics (html) (L. Tesfatsion, ISU). This website provides an annotated list of pointers to a variety of online materials focusing on macro policy, macro theory, and empirical macro data. Students can browse this site for additional materials related to in-class discussion questions of interest.

  • Economic Growth Resources (html) (Jonathan Temple, U of Bristol, UK). Resources included at this website include surveys, references, researchers, papers, data sets, journals, events, networks, and related links.

  • Learning and the Embodied Mind (html) (L. Tesfatsion, ISU). This website provides annotated pointers to research on learning representations for strategically-interacting economic agents as well as general research on behavioral economics motivated by human-subject experiments.

  • Learning and Coordination in Decentralized Market Economies (html) (L. Tesfatsion, ISU). Resources provided at this website include tutorials, surveys, readings, websites, demonstration software, software toolkits, and pointers to individual researchers and research groups taking an agent-based modeling approach to learning and coordination in decentralized market economies.

• Volumes Containing Recommended Readings:

  • Robert Barro and X. Sala-i-Martin, Economic Growth, McGraw-Hill, Inc., Latest Edition.
  • David Colander (ed.), Post-Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006.
  • David Colander (ed.), Beyond Microfoundations: Post Walrasian Macroeconomics, Cambridge U Press, Cambridge, MA, 1996.
  • Kevin Hoover, The New Classical Macroeconomics: A Skeptical Inquiry, Basil Blackwell, Cambridge, MA, 1990 (paperback,ISBN:0-631-17263-7).

    Note: The original hardcover version of the Hoover book was published in 1988. The first paperback edition was published in 1990 and subsequently reprinted in 1991 and 1992.

  • Peter Howitt, The Keynesian Recovery and Other Essays, The U of Michigan Press, Ann Arbor, MI, 1990.
  • John M. Keynes, The General Theory of Employment, Interest, and Money, Macmillan, 1936, reprinted edition.
  • David Romer, Advanced Macroeconomics, McGraw-Hill, Latest Edition.
  • Thomas J. Sargent, Bounded Rationality in Macroeconomics, Oxford U Press, 1993.
  • Steven M. Sheffrin, The Making of Economic Policy: History, Theory, and Politics, Basil Blackwell, Cambridge, MA, 1991 (paperback, ISBN:1-55786-294-X).
  • John B. Taylor and Michael Woodford (Eds.), Handbook of Macroeconomics, Handbooks in Economics Series, North-Holland, Amsterdam, 1999 (3-Volume Set).

• Intermediate Macro Texts Recommended for Background Review:

  • Andrew Abel and Benjamin S. Bernanke, Macroeconomics, Addison-Wesley, latest available edition. [A good intermediate level introduction to macro.]
  • Robert Barro, Macroeconomics, John Wiley and Sons, latest available edition. [An intermediate macro text that stresses the new classical macro approach.]
  • Robert Hall and John Taylor, Macroeconomics, W. W. Norton & Company, latest available edition. [Good intermediate macro text; stresses the New Keynesian approach in the context of an open economy.]
  • Wallace C. Peterson and Paul S. Estenson, Income, Employment, and Economic Growth, W. W. Norton & Co., New York, latest available edition [Good intermediate macro text; more discursive and less analytical than Abel/Bernanke and Hall/Taylor; strong on historical perspective and comparisons of competing schools of thought.]

Topics, Discussion Questions, and Readings

Please Note: A double asterisk ** means that a reading contains basic required material for answering exam questions and exercises. A single asterisk * means that a reading contains recommended material of a more general contextual nature that may be useful for answering exam questions and exercises.

All readings with double and single asterisks are listed in a suggested reading order. Each of these readings can be obtained either in the required course packet, as a class hand-out, on-line, or in the Parks Library. The form of availability for each reading is indicated after its citation information. Suggested readings for more specialized study are also given for each topic area.

Updated or new materials (required or recommended readings, discussion questions, exercises, exam guides,...) may be added to the on-line syllabus at a later time. Such materials will be marked on the syllabus with an "updated" or "new" icon, respectively, for at least one week, and their inclusion will also be announced in class.

Finally, in the readings cited below, the expression op. cit. is an abbreviation for the Latin expression opere citato, which means "in the work cited (above)."

I. INTRODUCTION

1. COURSE OVERVIEW

   Key Questions for In-Class Discussion:

   • Is it really still necessary or beneficial to separate the study of "macroeconomics" from the study of "microeconomics"? Or is this separation just a relic from the past?
   • What issues are being addressed by macroeconomists today? What issues should macroeconomists be addressing?
   • Which of these issues are most controversial? Why?
   • What issues will this course address?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "What is Macroeconomics All About?" PACKET

     Important Note: The following four surveys by well-known economists present distinct views on the development of macroeconomics since the publication of Keynes' General Theory of Employment, Interest, and Money in 1936. At this point all that is required is that you skim the articles to get a general sense of what is claimed. More careful readings of these articles should then be done at a later time after we have covered more of the discussed topics in class.

   • [**] Michael Woodford, "Revolution and Evolution in Twentieth Century Macroeconomics (pdf, 119K), presented at the conference Frontier of the Mind in the Twenty-First Century, Library of Congress, Washington, D.C. ON-LINE
     Note: Woodford is the author of Interest and Prices: Foundations of a Theory of Monetary Policy (Princeton University Press, 1999), an influential new attempt to address macroeconomic stabilization policy from within a rational expectations framework.

     [ **] N. Gregory Mankiw, "The Macroeconomist as Scientist and Engineer" (pdf,102K), Journal of Economic Perspectives, Vol. 20, No. 4, Fall 2006, 29-46. ON-LINE

     Note: See, also, Mankiw's blog page for economics students.

     [**] David Colander, "Introduction", emphasis on pp. 1-16, in David Colander (ed.), Post Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006. HAND-OUT

     [**] Axel Leijonhufvud, "Episodes in a Century of Macroeconomics", pp. 27-45 in David Colander (ed.), Post Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006. HAND-OUT

     Note: Leijonhufvud gives a decidedly different view from Woodford (below) regarding the history of macroeconomics over the past century.

     [ *] Robert King, "New Classical Macroeconomics" (html,8pp), entry in the Concise Encyclopedia of Economics. ON-LINE

     [ *] N. Gregory Mankiw, "New Keynesian Economics" (html,7pp), entry in the Concise Encyclopedia of Economics. ON-LINE

   Other Suggested Readings and Websites

   

2. EMPIRICAL CHARACTERISTICS OF THE U.S. ECONOMY

   Key Questions for In-Class Discussion:

   • Where has the U.S. economy been and where is it now heading?
   • Is there a "New Economy" in the U.S. today as the result of developments in information technology?
   • Should macroeconomists care?

   ** Take-Home Exercise 1: "Construction of Macroeconomic States" (pdf,27K), Due: 11:00am, Tuesday, September 2, 2008.

   IMPORTANT NOTE: Please recall from the exercise information on the Econ 502 Homepage and from in-class discussion that exercises must be turned in by the beginning of class on the due date. Late assignments will not be accepted -- no exceptions.

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Key U.S. Historical Benchmarks" PACKET

   • [**] J. Bradford DeLong and Lawrence H. Summers, "The `New Economy': Background, Historical Perspective, Questions, and Speculations" (html,84K), Federal Reserve Bank of Kansas City Economic Review, Volume 86, Number 4, Fourth Quarter 2001, pages 29-59. ON-LINE

   • [ *] The U.S. Congressional Budget Office (CBO) provides current budget and economic information about the U.S. economy, as well as its most current Budget and Current Outlook report projecting the future state of the U.S. economy over the next several years.

   • [ *] The Economagic Economic Time Series Page maintained by Economagic Inc. provides access to an extensive variety of economic time series (primarily U.S. data) with customized graphing and printing facilities. ON-LINE

   • [ *] Abel and Bernanke, op. cit., introductory chapter titled "Introduction to Macroeconomics", and Hall and Taylor, op. cit., introductory chapter titled "Economic Growth and Fluctuations".

   • [ *] S. M. Sheffrin, The Making of Economic Policy, op. cit., Chapter 1: Challenges to Stabilization Policy (pp. 1-12)

   • [ *] S. M. Sheffrin, The Making of Economic Policy, op. cit., Chapter 2: Have We Stabilized the Economy? (pp. 13-50).

   Other Suggested Readings and Websites

   

3. MACRO MODELING: ALTERNATIVE APPROACHES

   Key Questions for In-Class Discussion:

   • What do macroeconomists mean by the "state" of an economy? By "social welfare"?
   • Tailoring models to particular economic concerns
   • What makes macro modeling so difficult to do well!!!
   • Different strokes for different folks, or one universal way?
   • What is the "Walrasian General Equilibrium (WGE)" model that underlies so much of current macroeconomic theorizing?
   • How is individual welfare measured in the WGE? How is social welfare measured?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "In-Class Consulting Exercise" HAND-OUT

   • [**] L. Tesfatsion, "Introduction to Walrasian General Equilibrium Modeling" (pdf,67K) PACKET

   • [ *] L. Tesfatsion, "Universal Economic Principles?" PACKET

   • Christopher D. Mackie, Canonizing Economic Theory: How Theories and Ideas are Selected in Economics, M. E. Sharpe, Inc., 1998.

   Other Suggested Readings and Websites

II. AGGREGATE MACROECONOMIC MODELING: A MICROFOUNDATIONS CRITIQUE

1. THE BASIC IS-LM MODEL

   Key Questions for In-Class Discussion:

   • In what sense does the basic short-run IS-LM model depict a "circular flow" economy? What types of agents are represented? What kinds of markets do they participate in? What causality structure is imposed (classification of variables into exogenous and endogenous)?
   • To what extent is the IS-LM model based on microfoundations?
   • What role do agent expectations play in the IS-LM model?
   • How do markets come to be coordinated in the IS-LM model?
   • What role for government is envisioned in the IS-LM economy?
   • What "universal economic principles" does the IS-LM model incorporate? omit?
   • How do changes in monetary and fiscal policy variables in the IS-LM model affect IS-LM equilibrium outcomes? How can this be determined graphically? analytically? Why must these "short run" policy implications be interpreted cautiously?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "The Economy as a Circular Flow" PACKET

   • [**] L. Tesfatsion, "The Basic Short-Run IS-LM Model with Sticky Prices" PACKET
     Note: The basic sticky-price IS-LM model as presented and motivated in Abel/Bernanke and Hall/Taylor, below. A careful review of the indicated chapters from at least one of these texts is highly recommended. Abel/Bernanke is recommended for more advanced students, and Hall/Taylor is recommended for students with weaker macro backgrounds.

     [ *] Review either Abel/Bernanke, op. cit. (Part 1:Introduction; Part 2: Long-Run Economic Performance; and Part 3: Business Cycles and Macroeconomic Policy), or Hall/Taylor, op. cit. (Part 1: Introduction; Part 2: Long-Run Fundamentals; and Part 3: Economic Fluctuations).

     [ *] Keynes, op. cit., Chapters 1-3, 8-15, and 18.

     Supposed source of the IS-LM model -- see for yourselves.

   Other Suggested Readings and Websites

   

2. AGGREGATE SUPPLY AND PRICE ADJUSTMENT

   Key Questions for In-Class Discussion:

   • What is the "state" of the IS-LM economy at a point in time? The basic short-run IS-LM model does not permit this state to be tracked over time -- why not? What is missing?
   • How has the IS-LM model been augmented with capital adjustment relations, labor market relations, a price-adjustment (Phillips curve) mechanism, and an expectations formation mechanism to permit the tracking of the state of the economy over time, assuming either a "sticky" or "flexible" general price level?
   • What effects do changes in government policy variables have on short-run and longer-run outcomes in the resulting dynamic IS-LM model assuming a sticky general price level? assuming a flexible general price level?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Aggregate Supply and Price Adjustment: The Dynamic Sticky-Price IS-LM Model" PACKET
     Note: The general idea of price adjustment in response to excess supply or demand via a Phillips Curve relation, as presented and motivated in Abel/Bernanke and Hall/Taylor, below. A careful review of the indicated chapters from these texts is highly recommended.

     [**] L. Tesfatsion, "A Dynamic Sticky-Price IS-LM Model" PACKET

     [**] L. Tesfatsion, "The Dynamic Sticky-Price IS-LM Model: An Illustrative Exercise" PACKET

     [**] L. Tesfatsion, "Adaptive versus Rational Expectations" PACKET

     [**] L. Tesfatsion, "A Dynamic Flexible-Price IS-LM Model with Rational Expectations" PACKET

     [**] L. Tesfatsion, "Policy Experiments with Two Versions of the Dynamic IS-LM Model: Sticky-Price Vs. Flexible Price" PACKET

     [**] L. Tesfatsion, "Definitions of Various Conceptions of Money Neutrality in Macro" PACKET

     [ *] Hall and Taylor, op. cit., chapters titled "The Adjustment Process" and "Macroeconomic Policy".

     Note:These Part-3 chapters discuss macro policy analysis using a relatively simple form of an expectations-augmented Phillips curve. These chapters are particularly recommended for study/review for students with relatively weak macro backgrounds.

     [ *] Abel and Bernanke, op. cit., Part-4 chapter titled "Unemployment and Inflation".

     Note: More advanced discussion than Hall and Taylor (above) of labor market and price adjustment issues using an expectations-augmented Phillips curve. This chapter is highly recommended to all students for study/review.

     [ *] K. Hoover, Chapter 2 ("Clearing Labor Markets"), in The New Classical Macroeconomics, op. cit., pages 23-37.

     Note: Hoover discusses the Phillips curve and the natural rate hypothesis. He also discusses the neutrality (ineffectiveness) of monetary policy when rational expectations is combined with a "Lucas-Rapping supply curve," as in the flexible-price dynamic IS-LM model with rational expectations. (More advanced discussion than Abel/Bernanke and Hall/Taylor).

     [ *] S. M. Sheffrin, op. cit., Chapters 1 and 2 (Review of chapters assigned in I.B above) and Chapter 4: "Is Price Flexibility Destabilizing?" (pp. 82-90 and 104-112).

     [ *] Symposium on "Is There a Core of Practical Macroeconomics We Should All Believe In?", American Economic Review Papers and Proceedings, May 1997, pp. 230-246.

     Note: Five short articles responding to the symposium question by five well-known economists of different persuasions: R. Solow, J. Taylor, M. Eichenbaum, A. Blinder, and O. Blanchard.

   Other Suggested Readings and Websites

   

3. CRITIQUES OF AGGREGATE MACROECONOMIC MODELING: SUMMARY OVERVIEW
   • Microfoundations Issues
   • Expectations Modeling
   • Coordination Issues

   Required and Recommended Readings:

   • [ *] L. Tesfatsion, A Simple Dynamic IS-LM Model with Bond and Wealth Effects. PACKET
     Note: This packet reading develops a simple flexible-price IS-LM model that explicitly incorporates the possible effects of wealth on household saving and consumption decisions. It is seen that this incorporation of wealth effects requires at least five significant changes in the "microfoundations" underlying the standard IS-LM model in order to obtain a logically consistent stock-flow model satisfying basic accounting identities. The necessity of these changes highlights a number of substantial problems with the standard IS-LM model.

III. ECONOMIC GROWTH: A MICROFOUNDATIONS APPROACH

1. OVERVIEW

   Key Questions for In-Class Discussion:

   • Measured in terms of real per capita GDP, the poorest countries of the world have an average growth rate of about 1%, whereas the average for the richest countries is about 3.5%. Why so much concern about a 2.5% difference?
   • Why are many economists in agreement that a theoretical framework is needed to think seriously about economic growth?
   • What kinds of theoretical frameworks might be used?
   • What should the scope of these theoretical frameworks be, e.g., can economic growth be satisfactorily explained purely in terms of economic factors?
   • What does empirical evidence suggest are the primary determinants of economic growth?
   • Why have some countries been able to sustain high economic growth rates while other countries have not?
   • Why are some countries wealthy and other countries poor?

   Required and Recommended Readings:

   • [ *] Andrew Abel and Ben Bernanke, op. cit., FIRST HALF of Part-2 chapter titled "Long-Run Economic Growth", which reviews empirical growth data.

   • [ *] Wallace Peterson and Paul Estenson, op. cit., chapters on growth.

   • [ *] Jonathan Temple, "The New Growth Evidence", Journal of Economic Literature, Vol. XXXVII (March 1999), pp. 112-156.
     Note: The focus of this excellent detailed survey paper is predominantly on cross-country empirical growth research. Six issues are examined: the evolution of the world income distribution; the possible convergence to steady-state growth paths; diminishing returns to inputs; the determinants of wealth; divergencies in growth rates; and the prospects for growth in the longer run. Subtleties in measuring output levels and growth rates are also taken up.

     [ *] Jonathan Temple, "Aggregate Production Functions and Growth Economics" (pdf,267K), International Review of Applied Economics 20(1), July 2006, 301-317.

     Note: Rigorous approaches to aggregation indicate that aggregate production functions do not exist except in unlikely special cases. This paper considers the awkward implications for growth economics. It provides a conventional defence of growth theory in terms of `parables' and then considers how empirical growth research might avoid the need for aggregate production functions.

     [ *] Symposium on "What Have We Learned from Recent Empirical Growth Research?", with comments by R. Hall and C. Jones, X. Sala-i-Martin, J. Sachs and A. Warner, The American Economic Review: Papers and Proceedings 87 (May 1997).

     The Economic Growth Resources Website maintained by Jonathan Temple (U of Bristol, UK). Resources included at this site include surveys, references, researchers, papers, data sets, journals, events, networks, and related links.

     The Growth Theory Website maintained by the Schwartz Center for Economic Policy Analysis (CEPA) at the New School for Social Research, New York.

   Other Suggested Readings and Websites

   

2. BASIC ECONOMIC GROWTH MODELING CONCEPTS

   Key Questions for In-Class Discussion:

   • Some essential facts about differential (difference) systems of equations and sensitivity analysis
   • What is the general structure of macrodynamic models as conventionally used in economics today?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Notes on Differential Equations" PACKET

   • [ *] L. Tesfatsion, "Macrodynamic Models in Equation Form: General Structural Considerations" PACKET

   • [ *] Barro and Sala-i-Martin, Economic Growth, op. cit, Appendix on Mathematical Methods, pp. 462-517.
     Note: This appendix provides an excellent summary presentation of many of the main mathematical methods currently used in economic growth theory: differential equations; static optimization; dynamic optimization in continuous time (Pontryagin's method making use of the Hamiltonian); matrix algebra; and useful results from the calculus (e.g, implicit function theory, integration by parts, and so forth). It is highly recommended for students planning to pursue a Ph.D. in economics.

     [*] Russell Cooper, "Dynamic Programming: An Overview" (pdf,19pp) February 14, 2001.

     Note: This overview provides a clear basic introduction to dynamic programming, illustrated by economic examples. It is highly recommended for students planning to pursue a Ph.D. in economics.

     [*] Gianluca Violante, "Notes on Discrete Time Stochastic Dynamic Programming" (pdf,14pp) Spring 2000.

     Note: This overview provides a more advanced technical introduction to dynamic programming, including careful presentations of the Banach fixed pointed theorem, Blackwell's Sufficiency theorem, and so forth. The overview should be accessible to students with a good background in advanced calculus. It is highly recommended for students planning to pursue a Ph.D. in economics.

   

3. BASIC SOLOW-SWAN DESCRIPTIVE GROWTH MODEL

   Key Questions for In-Class Discussion:

   • What are the basic issues the one-sector Solow-Swan descriptive growth model (SSM) is meant to address?
   • How does the SSM contrast with the IS-LM Model?
   • What are the basic predictions of the SSM regarding short-run and long-run growth rates of economies?
   • How has the SSM been extended to include technological change? factor markets?
   • Are the properties of the one-sector SSM robust to an extension to two or more sectors (i.e., two or more produced goods)

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "The Basic Solow-Swan Descriptive Growth Model" PACKET

   • [**] L. Tesfatsion, "Summary: The Basic Solow-Swan Descriptive Growth Model" (Summary of Key Properties and Predictions) PACKET

   • [ *] Robert M. Solow, Growth Theory and After (html), Prize Lecture on the occasion of the award of the Sveriges Riksbank Prize In Economic Sciences in Memory of Alfred Nobel, 1987, plus an Addendum added in 2001.

   • [ *] L. Tesfatsion, "An Illustrative Two-Sector Neoclassical Growth Model" PACKET

   • [ *] Andrew Abel and Ben Bernanke, op. cit., SECOND HALF of Part-2 chapter titled , which reviews the basic Solow-Swan Descriptive Growth Model.

   • [ *] Barro and Sala-i-Martin, op. cit., chapter titled "Growth Models with an Exogenous Savings Rate" (advanced discussion of the Solow-Swan Descriptive Growth Model).

   • [ *] Romer, op. cit., chapter titled "The Solow Growth Model" (advanced discussion).

   • The Neoclassical Growth Website maintained by the Schwartz Center for Economic Policy Analysis (CEPA) at the New School for Social Research, New York.

   • The Multi-Sector Growth Website maintained by the Schwartz Center for Economic Policy Analysis (CEPA) at the New School for Social Research, New York.

   

4. BASIC OPTIMAL GROWTH MODEL

   Key Questions for In-Class Discussion:

   • Basic Issue: What happens when the simple Keynesian savings function in the Solow-Swan descriptive growth model is replaced by a "representative" optimizing consumer who chooses a consumption/savings path over time to maximize his lifetime utility?
   • How can the resulting "optimal growth model" be expressed in analytically tractable form?
   • What is the economic interpretation of this optimal growth model?
   • What are the advantages and limitations of neoclassical growth models (descriptive and optimal) from a theoretical viewpoint? from an empirical viewpoint?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "A Simple Illustrative Optimal Growth Model" PACKET

   • [**] L. Tesfatsion, "Notes on Hyperbolic Discounting" PACKET

   • [**] L. Tesfatsion, "Scope and Limitations of Neoclassical Growth Models" PACKET

   • [ *] Barro and Sala-i-Martin, op. cit., chapter titled "Growth Models with Consumer Optimization -- the Ramsey Model" (advanced discussion).

   • [ *] Romer, op. cit., "optimal growth" sections of Chapter titled "Infinite Horizon and Overlapping Generations Models" (advanced discussion).

   • [ *] Shane Frederick, George Loewenstein, and Ted O'Donoghue, "Time Discounting and Time Preference: A critical Review", Journal of Economic Literature, Volume XL, Number 2, June 2002, pp. 351-401 (Stress on First Four Sections).

   • The Optimal Growth Website maintained by the Schwartz Center for Economic Policy Analysis (CEPA) at the New School for Social Research, New York.

   

5. BASIC OVERLAPPING GENERATIONS MODEL

   Key Questions for In-Class Discussion:

   • What are the key defining properties of the n-period lived overlapping generations (OG) model of an economy?
   • What important classes of economic problems can be addressed using this type of model?
   • Why is it that the trading activities of private agents in the basic OG economy do not necessarily result in Pareto efficient or even productively efficient outcomes?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "The Basic Pure-Exchange Overlapping Generations Economy" PACKET

   • [**] L. Tesfatsion, "Game Theory: Basic Concepts and Terminology" (pdf,35K) PACKET

   • [ *] G. Becker, "Family Economics and Macro Behavior" American Economic Review 78 (March 1988), 1-13 (Presidential Address).

   • [ *] Romer, op. cit., "overlapping generations" sections of chapter titled "Infinite Horizon and Overlapping Generations Models" (advanced discussion).

IV. TREATMENT OF EXPECTATIONS IN MACROECONOMIC MODELS

1. BASIC CONCEPTS

   Key Questions for In-Class Discussion:

   • What is meant by "weak form" versus "strong form (Muthian)" rational expectations?
   • What are the implications of rational expectations assumptions regarding the types of uncertainty that can be considered and addressed in macro models?
   • Why is it often difficult to solve explicitly for a "rational expectations" solution?
   • Why kinds of logical and practical difficulties are posed by the fact rational expectations solutions can fail to exist or can fail to be unique?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Introduction to Rational Expectations" (pdf,115K) PACKET

   • [ *] Axel Leijonhufvud, "Towards a Not-Too-Rational Macroeconomics", Chapter 3 (pp. 39-55) in David Colander (ed.), Beyond Microfoundations: Post Walrasian Macroeconomics, Cambridge University Press, Cambridge, UK, 1996.
     Note: Leijonhufvud contrasts current macroeconomic theory -- the study of "incredibly smart people in unbelievably simple situations" -- with what he believes ought to be the subject of macroeconomic theory, the study of "believably simple people (coping) with incredibly complex situations."

     [ *] A. Blinder, "Keynes, Lucas, and Scientific Progress", American Economic Review 77 (May 1987), pp. 130-136, available from JSTOR (969K). ON-LINE

     [ *] R. Lucas, Jr., and T. Sargent, "After Keynesian Macroeconomics", Chapter 7 (pp. 166-180) in T. M. Havrilesky, Modern Concepts in Macroeconomics, Harlan-Davidson, Illinois, 1985.

     [ *] Alan P. Kirman, "Whom or What Does the Representative Individual Represent?" Journal of Economic Perspectives 6 (Spring 1992), 117-136.

     Note: The Kirman article has been a highly influential critique of the use of "representative agents" in macroeconomic theorizing.

   Other Suggested Readings and Websites

   

2. IMPLICATIONS FOR POLICY CHOICE OVER TIME

   Key Questions for In-Class Discussion:

   • What is meant by a "government policy rule"?
   • What is the Lucas Critique?
   • Why might it be advantageous for a government to act in accordance with policy rules rather than engage in discretionary policy choice?
   • Why are credible commitment and time inconsistency problems of concern to government macroeconomic policy makers?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Notes on the Lucas Critique, Time Inconsistency and Related Issues" (pdf,92K), PACKET

   • [*] F. S. Mishkin,"The Rational Expectations Revolution", A review article of Preston J. Miller, ed., The Rational Expectations Revolution: Readings from the Front Line," Journal of International and Comparative Economics, Volume 5, 1996 (pdf,1026K). ON-LINE

   • [*] Peter Howitt, "Monetary Policy and the Limitations of Economic Knowledge", pp. 347-367 in David Colander (Ed.), Post Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006.

   • [ *] K. Hoover, The New Classical Macroeconomics..., op. cit., Chapter 8: "Econometrics and the Analysis of Policy" (pp. 185-202).
     Note: This interesting chapter examines the Lucas Critique and provides an assessment of contrasting attempts to apply new classical macro principles to the econometric analysis of policy.

   Other Suggested Readings and Websites

V. TREATMENT OF COORDINATION ISSUES IN MACROECONOMIC MODELS

1. THE WALRASIAN EQUILIBRIUM BENCHMARK

   Key Questions for In-Class Discussion:

   • Is Walrasian equilibrium an appropriate benchmark of coordination success for macroeconomics? (Or does Walrasian equilibrium instead represent "the celestial mechanics of a non-existent world," as suggested by Kenneth Boulding in various talks he has given on contemporary economic theory?)
   • How robust is the concept of Walrasian equilibrium to various plausible weakenings of its assumptions?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Walrasian General Equilibrium: Benchmark of Coordination Success?" (pdf,72K). PACKET

   • [ *] Samuel Bowles and Herbert Gintis, "Walrasian Economics in Retrospect" (pdf,205K), Quarterly Journal of Economics, November 2000, 1411-1439. ON-LINE

   Other Suggested Readings and Websites

   

2. POST-WALRASIAN MACROECONOMICS

   Key Questions for In-Class Discussion:

   • Must economic equilibrium necessarily entail Walrasian market clearing?
   • What does "coordination failure" mean for a macroeconomy? How is it distinct from disequilibrium?
   • Can economies become stuck in situations with persistently positive "involuntary" unemployment?
   • Can unemployment arise in macroeconomies for reasons other than sticky prices?
   • Why might credible signalling of purchasing intentions be important in circular flow economies?
   • How might coordination failure arise in the presence of behavioral uncertainty?
   • What kinds of institutions (private or public) might help to induce coordination on socially desirable outcomes?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "NonWalrasian Equilibrium: Illustrative Examples" (pdf,187K). PACKET

   • [*] David Colander, "Post Walrasian Macroeconomics and Some Historic Links", pp. 46-69, in David Colander (ed.), Post Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006.

   • [ *] George A. Akerlof, "Behavioral Macroeconomics and Macroeconomic Behavior", The American Economic Review, Volume 92, No. 3, June 2002, pages 411-433.
     Note: This is a revised version of the Nobel Lecture Akerlof delivered in Sweden on December 8, 2001.

     [ *] Robert Clower and Peter Howitt, "Taking Markets Seriously: Groundwork for a Post Walrasian Macroeconomics", Chapter 2 (pp. 21-37) in David Colander (ed.), Beyond Microfoundations: Post Walrasian Macroeconomics, Cambridge University Press, Cambridge, UK, 1996.

     [ *] Russell W. Cooper, "Economic Policy in the Presence of Coordination Problems", pp. 335-346 in David Colander (Ed.), Post Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006.

     [ *] Peter Howitt, "Introduction: Prices and Coordination in Keynesian Economics", Chapter 1 (pp. 1-23, focus on 1-19) in Peter Howitt, The Keynesian Recovery and Other Essays, The University of Michigan Press, Ann Arbor, MI, 1990.

     [ *] Peter Howitt, "The Keynesian Recovery", Chapter 5 (pp. 70-85) in Peter Howitt, The Keynesian Recovery and Other Essays, The University of Michigan Press, Ann Arbor, MI, 1990.

   Other Suggested Readings and Websites

   

3. A CONSTRUCTIVE APPROACH TO MACROECONOMIC COORDINATION

   Key Questions for In-Class Discussion:

   • What is agent-based computational modeling and how might it facilitate the study of macroeconomic systems?
   • Key coordination issues that are being experimentally studied using agent-based computational tools:
     • Learning effects (under what conditions will expectations come to be coordinated?)
     • Interaction effects (under what conditions will buyers and sellers efficiently match and trade? Under what conditions will social norms and conventions emerge as shared perceptions?)
     • Effects of institutional constraints (hindrance or help for achieving macroeconomic coordination?)

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Constructive Modeling of Decentralized Market Economies: An Agent-Based Computational Economics Approach" (pdf,951K). ON-LINE, IN-CLASS PRESENTATION

   • [**] B. LeBaron and L. Tesfatsion, "Modeling Macroeconomies as Open-Ended Dynamic Systems of Interacting Agents" (pdf,45K) American Economic Review, Volume 98, No. 2, 2008, 246-250. ON-LINE
     Abstract: This study discusses the potential applicability of Agent-based Computational Economics (ACE) for macroeconomic modeling, with a particular stress on the following three issues: (1) taxonomy - what types of agents for macroeconomic models?; (2) scale robustness - how many agents for macroeconomic models?; and (3) empirical validation - connecting to data.

     [**] L. Tesfatsion, "Agent-Based Computational Modeling and Macroeconomics" (pdf,148K), pp. 175-202 in David Colander (ed.),Post-Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, Cambridge University Press, Cambridge, UK, 2006. PACKET

     Note: Agent-based Computational Economics (ACE) is the computational study of economic processes modeled as dynamic systems of interacting agents. This essay discusses the potential of ACE modeling tools for the study of macroeconomic systems. Points are illustrated using an ACE model of a two-sector decentralized market economy.

     [ *] R. Axtell, Very Large-Scale Multi-Agent Systems and Emergent Macroeconomics (pdf,559K), Lecture Notes, The Brookings Institution, Washington, D.C., 2005. ON-LINE

     [ *] G. Dosi, G. Fagiolo, G. and A. Roventini, "The Microfoundations of Business Cycles: An Evolutionary, Multi-Agent Model", Journal of Evolutionary Economics, 18 (2008), pp. 413-432.

     [ *] T. Sargent, Bounded Rationality in Macroeconomics, Oxford U Press, 1993.

     Note: This book is reviewed by Peter Howitt in the Journal of Economic Literature 33 (September 95), 14-16.

     [ *] Agent-Based Computational Economics Research on Learning and Coordination in Decentralized Market Economies (html) ON-LINE

   Other Suggested Readings and Websites

   

4. ILLUSTRATION OF CONSTRUCTIVE MACRO MODELING:
   LABOR INSTITUTIONS AND MACROECONOMIC PERFORMANCE

   Key Questions for In-Class Discussion:

   • Construction of an ACE labor market model with preferential job search and evolution of work-site behaviors
   • What might "equilibrium" mean in such a model?
   • What other types of issues can be addressed?

   Required and Recommended Readings:

   • [**] L. Tesfatsion, "Labor Institutions and Macroeconomic Performance" (pdf,87K). ON-LINE, IN-CLASS PRESENTATION
     Note: This presentation summarizes some of the key findings in the following article.

     [*] M. Pingle and L. Tesfatsion, "Evolution of Worker-Employer Networks and Behaviors Under Alternative Non-Employment Benefits: An Agent-Based Computational Study", pp. 256-285 in A. Nagurney (ed.), Innovations in Financial and Economic Networks, Edward Elgar, 2003.

     Note: A preprint of the full published paper is available on-line at (pdf,269K).

     L. Tesfatsion, "The Efficiency-Wage Debate", (pdf,110K). ON-LINE

     Note: These notes provide general background materials for a key issue raised in the above Pingle/Tesfatsion labor market job search study: What determines the effort levels exerted by workers and employers on the work-site?

     G. Fagiolo, D. Dosi, and R. Gabriele, "Towards an evolutionary interpretation of aggregate labor market regularities" (pdf,387K), in: Cantner, U., Dinopoulos, E. and Lanzillotti, R.F. (Eds.), Entrepreneurship, the New Economy and Public Policy: Schumpeterian Perspectives, Berlin - Heidelberg, Springer Verlag, 2004.

   Other Suggested Readings and Websites

MIDTERM AND FINAL EXAM REVIEW MATERIALS

Important Caution: Please keep in mind that the readings, exercises, and course packet materials for this year's Econ 502 may differ in various ways from the materials assigned for Econ 502 in previous years, and these differences may be reflected in differences in the form and content of the exams. The exam study guides and practice exams provided below from past years are for general guidance only.

Indeed, the Econ 502 course topics substantially changed in Fall 2005 relative to previous years. Consequently, to avoid confusion, no practice exams are presented from years prior to 2005.

Midterm Exam:

• Fall 2007 Midterm Exam Review Guide.

• Practice Midterm Exams:

  • Practice Midterm Exam (with Answer Outline) from Fall 2006

Final Exam:

• Fall 2007 Final Exam Review Guide

• Practice Final Exams:

  • Practice Final Exam (with Answer Outline) from Fall 2007

  • Practice Final Exam (with Answer Outline) from Fall 2006

  • Practice Final Exam (With Answer Outline) from Fall 2005

Copyright © 2008 Leigh Tesfatsion. All Rights Reserved.