The future of macroeconomics: Macro theory and models at the Bank of England

Sep 2017 | 832

Authors: David Hendry, John Muellbauer


The adoption as policy models by central banks of representative agent New Keynesian dynamic stochastic general equilibrium models has been widely criticised, including for their simplistic micro-foundations. At the Bank of England, the previous generation of policy models is seen in its 1999 medium-term macro model (MTMM). Instead of improving that model to correct its considerable flaws, many shared by other non-DSGE policy models such as the Federal Reserve’s FRB/US, it was replaced in 2004 by the DSGE-based BEQM. Though this clearly failed during and after the global financial crisis, it was replaced in 2011 by the DSGE COMPASS, complemented by a ‘suite of models’. We provide a general critique of DSGE models for explaining, forecasting and policy analyses at central banks, and suggest new directions for improving current empirical macroeconomic models based on empirical modelling broadly consistent with better theory, rather than seeking to impose simplistic and unrealistic theory.

JEL Codes: E17, E21, E44, E51, E52, E58, G01

Keywords: DSGE, central banks, macroeconomic policy models, finance and the real economy, financial crisis, consumption, credit constraints, household portfolios, asset prices


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