Back to Wicksell? In search of the foundations of practical monetary policy

It is now widely held that the New Neoclassical Synthesis (NSS) offers central banks a "user friendly", though rigorous, theoretical framework consistent with current practice of systematic stabilization policy based on interest rate rules (e.g. Woodford (2003)). Particular interest and curiosity have been aroused by Woodford's argument that the NNS theory of monetary policy is in its essence a modern restatement and refinement of Wicksell's interest-rate theory of prices (1898). This paper deals with two main issues prompted by Woodford's Neo-Wicksellian revival. The first questions the consistency between the NNS and Wicksell. The second concerns the value added for monetary policy of Wicksellian ideas in their own right. Section 2 clarifies some basic theoretical issues underlying the NNS and its inconsistency with a proper Wicksellian approach, which should be based on saving-investment imbalances that are precluded by the NNS theoretical framework. Section 3 presents a proper Neo-Wicksellian dynamic model whereby it is possible to assess, and hopefully clarify, some basic issues concerning the macroeconomics of saving-investment imbalances. Section 4 examines implications for monetary policy, in particular for Taylor rules, and section 5 concludes.