1. Introduction to Modern Macroeconomic Models

The embryonic form of economics was embedded in the earliest economic thinking in ancient China, India and Graeco-Roman world. For economic thoughts before classical economics, including medieval economists thoughts, Mercantilism and international trade theories in sixteenth to eighteenth century, see the works of Aquinas [10], who discussed ‘just price’, Buridan and Klima [16], who analysed the value of money, Bodin [17], who attempted to explain inflation, von Hörnigk and Wilhelm [18], who tried to analyse the principles of national economy, Locke [19], who built his social contract theory to analyse money and price, and Law [20] who studied the value of money. The contribution of Baldwin and Langholm [21] also provided a conclusive summary of medieval economics thoughts.

Among them, Jean Say [2], John Mill [3], David Ricardo [4] and Eugen von Bawerk [5] are the most cited names in economics textbooks and research papers.

Pioneered by the ‘marginal revolution’ with contributions of Menger [7], Jevons [8], Walras [9], who conducted one of the first comprehensive quantitative studies of general economic equilibrium, and many others, original classical doctrine transformed into a new stage—neoclassical economics.

Early explanation of this self-adjusting market mechanism is known as the Say’s Law of market, which was disputed by Keynesian economists.

In October 1979, the Fed switched its approach to monetary policy from the price of bank reserves to nonborrowed reserves, a monetary quantity variable.

In 1973, BoE began to introduce an informal approach of monetary targeting, emphasizing a broad aggregate, M3. In 1976, such monetary targeting approach was adopted as BoE’s formal strategy.

Economies introduced monetary targeting in this period include Canada, Germany, Switzerland and so forth.

For example, as demonstrated by King [26], the monetary targets set by the BoE in 1980–1981 and 1983–1984 were never achieved. What is more, Mishkin [27] concludes that targeting the nonborrowed reserves did not give rise to the decreased volatility of M1 growth as expected. Rather, the fluctuations of M1 growth in the United States increased after such a change in monetary strategy. As in the U.K., the Fed failed to match its monetary target of M1 growth in all three years of the 1979–1982 period.

As a result, operating strategies of monetary targeting lost their popularity among central banks in most Western economies. In October 1982, the Fed began to change its operating strategies, moving from monetary targeting to inflation targeting. Later in February 1987, the Fed officially ceased to set any M1 targets. In July 1993, Alan Greenspan testified in the Congress that the Fed would no longer set any monetary targets for policymaking purposes. A similar story can be witnessed in the U.K., the operating procedures based on monetary targeting was abandoned by the BoE in 1985. In October 1992, the Chancellor of the Exchequer announced to adopt inflation targeting as the operating strategy of the BoE.

These issues even include the name of this theoretical framework, reflecting the diverse perspectives of scholars with different thinking of economics. A large group of macroeconomists argues that this mainstream theoretical framework is a New Keynesian Economics (NKE) contribution, since it is featured with short-term rigidities, which is the key hypothesis of Keynesian economics. In contrast, many macroeconomists refer to it as the New Neoclassical Economics or New Neoclassical Synthesis,because it is based on certain principle hypotheses of neoclassical economics, such as market competition, general equilibrium, rational expectation and long-run vertical Phillips Curve. Additionally, modern mainstream macroeconomics is often noted as Neo-Wicksellian Macroeconomics (NWM), for example the work of Woodford and Walsh [29], since it contains thinking stemming from Wicksell’s original theory [30]. In this book, we denote modern mainstream macroeconomics as New Consensus Macroeconomics to reach wider acceptance among researchers.

More details of the monetary policy based on the Taylor rule can be found in the work of Rotemberg and Woodford [34].

The most widely accepted method is the Calvo [33] pricing mechanism.

See Fagan et al. [52] and Marcellino et al. [53] for more information.

See Erceg et al. [54].

A comprehensive discussion of the BEQM is conducted by Harrison et al. [55].

More information can be found in the work of Murchison and Rennison [56].

For more details, see Medina and Soto [57].

For more details, see Adolfson et al. [58].

For more details, see Brubakk et al. [61].