The Unassuming Economist

From Thomas J. Sargent:

“This paper recollects meetings with Robert E. Lucas, Jr. over many years. It describes how, through personal interactions and studying his work, Lucas taught me to think about economics.

Introduction

Starting in 1966, Robert E. Lucas, Jr. and other friends generously taught me about macroeconomics. This paper tells how in the early 1970s, together with Neil Wallace, I had hoped to construct, estimate, and optimally control a 1960s-style Keynesian macroeconomic model; how in 1973 Neil and I came to appreciate the way Lucas (1972a) affected our project; and how Chris Sims, Neil, Lars Hansen, and I struggled to respond constructively to Lucas’s insights by building, estimating, and evaluating rational expectations macro models. My story is full of starts and stops and accounts of once-promising dead ends. Let me summarize what might be worthwhile messages.

Recollecting parts of my intellectual journey with Bob starts in Section 2 with the story of our first meeting and my early exposure to the professional milieu around him at Carnegie, and how these interactions opened my bumpy road to rational expectations macroeconomics. In Section 3, I describe how in 1970, nine years after Muth (1961) had defined it, I was still unsure about how to define a rational expectation equilibrium, and how a conversation with Ed Prescott helped set me straight. In Section 4, I describe a large obsolescence shock, triggered by the neutrality paper (Lucas, 1972a), that hit me when I was 30 years old––actually, it was an aggregate obsolescence shock that hit the entire macro community. Section 5 provides a short story about my contribution to the creative process that led to the Lucas (1976) critique. I often encountered conflicts between evidence and theories, i.e., between empirical findings and simple models. Thus, in Section 6, I tell how in 1975, contrary to what I had gathered from talking to Neil Wallace, Lucas endorsed my estimation of an ad hoc demand function for money by saying that if theorizing to build deep foundations did not imply a demand function for money that looked much like Cagan’s, then it should be ignored. Section 7 is a story about how Bob’s idea about two factors underlying US business cycle facts, a nominal and a real one, inspired my paper on index models with Chris Sims, and why Bob didn’t publish his comment on our paper. In Section 8, I describe how Bob inspired me to apply recursive methods in a paper of mine on Tobin’s q in a general equilibrium.

The mid-1970s was the period when the Lucas critique and the theoretical and empirical work it elicited started reshaping econometric practice. After the dust had settled, macroeconometric practice was no longer what it had been before. Section 9 offers a look into this transformation process by showing that the exchange of ideas between adherents of the new approach and monetary policy was often very direct. In Sections 10–12, I describe how initially Bob urged me to pursue work that deployed the method of maximum likelihood to estimate and evaluate rational expectations macro models, how Bob later told me that this approach was rejecting too many good models, and how that led Bob largely to abandon econometrics for more forgiving calibrations in Prescott’s style. It was also thinking about the relationship between calibration and econometrics that led Lars Hansen and me to begin working on bringing concerns about robustness and model misspecification into macroeconomics. A message here is that hearing others and being open to new ideas can send you back to the drawing board and back to school. In Section 13, I tell how, late in our research careers, Bob and I revisited the idea that had originally attracted us to rational expectations––the hunch that it would be fruitful to put the model builder and the econometrician on the same footing, as John F. Muth (1961) had advocated. Section 14 denies that there has ever been a ‘rational expectations school’ that advocates and agreed upon set of policy prescriptions or a unique macroeconomic model. As an additional story, Section 15 illustrates Bob’s careful ways of thinking and writing. Section 16 contains some concluding remarks.

For me, research has always involved socializing and listening to and occasionally having the courage to talk back to larger-than-life personalities, wonderful people including Hyman Minsky, Oliver Williamson, Peter Diamond, Leonard Rapping, Neil Wallace, Chris Sims, Ed Prescott, and many others, who have strong and contending views. This adventure put a charge into learning macroeconomics.

Differences in preferences about how to do scientific economics are mainly about personalities and not about intelligence quotients. Personality differences surface in whether it is better to reason mainly in terms of English words or with mathematical expressions (see the story in Section 9 about Hyman Minsky, my mentor at Berkeley), or the primacy of theory versus econometric evidence (see Sections 10–12 for stories about interactions with Bob Lucas about econometrics and calibration; or the story in Section 15 about whether, without really thinking about it, I was behaving as a Bayesian or a frequentist). When differences in preferences do reflect differences in personalities, some disagreements across very smart researchers cannot be resolved from macro data that are too sparse along the dimensions that would be needed to resolve them.”

From a new NBER working paper by Theresa Kuchler, Monika Piazzesi, and Johannes Stroebel:

“We review the recent literature on the determinants and effects of housing market expectations. We begin by providing an overview of existing surveys that elicit housing market expectations, and discuss how those surveys may be expanded in the future. We then document a number of facts about time-series and cross-sectional patterns of housing market expectations in these survey data, before summarizing research that has studied how individuals form these expectations. Housing market expectations are strongly influenced by recently observed house price changes, by personally or locally observed house price changes, by house price changes observed in a person’s social network, and by current home ownership status. Similarly, experienced house price volatility affects expectations uncertainty. We also summarize recent work that documents how differences in housing market expectations translate into differences in individuals’ housing market behaviors, including their home purchasing and mortgage financing decisions. Finally, we highlight research on how expectations affect aggregate outcomes in the housing market.”

From a new IMF working paper by Marco Gross, Thierry Tressel, Xiaodan Ding, and Eugen Tereanu:

“We present an analysis of the sensitivity of household mortgage probabilities of default (PDs) and loss given default (LGDs) on unemployment rates, house price growth, interest rates, and other drivers. A structural micro-macro simulation model is used to that end. It is anchored in the balance sheets and income-expense flow data from about 95,000 households and 230,000 household members from 21 EU countries and the U.S. We present country-specific nonlinear regressions based on the structural model simulation-implied relation between PDs and LGDs and their drivers. These can be used for macro scenario-conditional forecasting, without requiring the conduct of the micro simulation. We also present a policy counterfactual analysis of the responsiveness of mortgage PDs, LGDs, and bank capitalization conditional on adverse scenarios related to the COVID-19 pandemic across all countries. The economics of debt moratoria and guarantees are discussed against the background of the model-based analysis.”

On cross-country:

• Nevertheless, They Persist: Cross-Country Differences in Homeownership Behavior – SSRN
• Here are five policies to help solve the global housing crisis – World Economic Forum
• Residential Real Estate in a Volatile World – Barry Ritholtz  

On the US:    

• Real-Time Market Monitoring Finds Signs of Brewing U.S. Housing Bubble – Dallas Fed and Bloomberg
• Can Home Prices and Interest Rates Soar at the Same Time? Rising mortgage rates are supposed to cool house prices. But this time could be different. – New York Times
• Faulty evidence and misdiagnosed solutions. Why centralizing appraisal standards and criteria under a new federal agency as proposed under the Fair Appraisal and Inequity Reform Act is not justified – AEI
• Rising Interest Rates Will Shift Housing’s Foundations. Some might be locked into homes they already own while new buyers opt for smaller homes in cheaper places – Wall Street Journal
• The Housing Boom Is Even Rewarding People Who Don’t Go Anywhere – Bloomberg  
• Homeowners Spin Soaring Prices Into U.S. Real Estate Riches. Cash-out refis enable newbie investors to buy second or third houses— or more — to capitalize on surging rental demand. – Bloomberg
• Residential inflation: The rise in the pipeline – VoxEU
• A Wasted Opportunity to Improve Housing Outcomes for Minorities. If the government sets home prices, it could have catastrophic consequences. – Wall Street Journal
• Nashville’s chart-topping house prices. Southern charm, a growing tech scene and low taxes draw ‘transplants’ to the country music capital – FT
• White House requests big HUD boost for housing supply – Politico

On other countries:  

• [Canada] Canada’s red-hot housing markets hint at cooldown as higher rates, inflation bite – Reuters
• [Canada] The divide between housing haves and have-nots is growing – will a politician exploit it? – Globe and Mail
• [Canada] Ontario bill aims to speed construction as house prices keep surging – Globe and Mail
• [Canada] Canadian house prices rising strongly despite pandemic – Global Property Guide
• [Canada] Foreign Buyers’ Tax Just Might Cool Ontario’s Hot Housing Market.  Rising rates and levies pushed prices down five years ago. Ontario is epicenter of real estate affordability crisis – Bloomberg
• [Germany] Germany’s Favorite Hedge Against Inflation? Real Estate. Inflation worries are pushing German house prices even higher, adding to the risk of an overshoot. – Bloomberg
• [Netherlands] The Netherlands’ house price boom continues strong – Global Property Guide 
• [Netherlands] Netherlands: house prices to rise more slowly in 2022 – ING
• [Norway] Norway’s modest house price rises – Global Property Guide
• [Romania] Romania’s house price growth accelerating – Global Property Guide 
• [Switzerland] Swiss National Bank says monetary policy not way to curb real estate risks – Reuters
• [Switzerland] Switzerland’s house prices stable – Global Property Guide 
• [Taiwan] Taiwan’s housing market growing stronger – Global Property Guide 
• [Vietnam] Vietnam’s housing market gathering pace – Global Property Guide  

From the IMF’s latest report on Kuwait:

“The residential real estate market quickly recovered, but investment and commercial real estate continue to lag. The value of real estate transactions stalled at the onset of the pandemic but strongly recovered thereafter, driven by favorable financing conditions. Residential sales recovered faster than investment and commercial components, which lag in the volume and value of transactions. Average transaction value has been volatile but trending up in recent months.”