The neo-Wicksellian framework

Chapter 4 developed an alternative framework of monetary theory to the new neoclassical synthesis. This new framework ostensibly argues that the objective of price stability can lead to economic instability. Empirical data backs this claim up as the recent financial crisis has shown. The neo-Wicksellian framework stipulates that economic instability cannot be eliminated but only minimised. What follows is an attempt to synthesise these ideas into a coherent theory that is able to explain the nature of the business cycle, providing investors with improved market signals in relation to the assets they own. In conjunction with this attempt to construct a macroeconomic theory it is imperative that the theory is general rather than specific to individual cases. As discussed in Chapter 1, many economic theories work well for a certain period of time until the behaviour of the variables change, rendering the theory useless. Such a theory would therefore need to explain the recent financial crisis in terms of why some countries had significant credit bubbles but others did not. It would need to explain the Japanese lost decade, the 1970s period of stagflation, the Great Depression and the deflation of the 1870s. Clearly the amount of data available pre-1980 does shrink considerably; however, there are proxies that can be used to test the validity of the theory.