James Tobin

James Tobin was one of the second generation of American “Old Keynesians” (Tobin 1992, 1993), the generation that first encountered economics in the Great Depression rather than, like Alvin Hansen or Seymour Harris, discovering Keynes after becoming economists. He played a leading role in the transformation of the IS-LM model with simple equations for the money market and the flow of investment into a modeling framework with a much more fully developed treatment of asset markets and investment, and mounted a spirited defense of this approach against New Classical critiques. After taking part as a student and post-doctoral fellow in Alvin Hansen’s reformulation of IS-LM, Tobin’s subsequent career centered on replacing the money market equilibrium equation and the investment function of the IS-LM model with what he termed a “General Equilibrium Approach to Monetary Theory” (the title of Tobin’s 1969 contribution to the inaugural issue of the Journal of Money, Credit and Banking) replacing “the interest rate” with a menu of asset returns, and paying attention to stock-flow dynamics. This was a general equilibrium approach in the sense that equilibria in the various markets for stocks of assets were linked by the adding-up constraint on wealth (the demands for individual assets must add up to total wealth).

Tobin’s doctoral dissertation dealt with consumption and saving decisions, and the articles based on that dissertation (together with his econometric papers on food demand and rationing) put him on the path to receiving the John Bates Clark Medal in 1955, awarded by the American Economic Association every two years to an American economist under the age of 40 who has already made significant contributions to knowledge (the only previous winners were Paul Samuelson, Kenneth Boulding, and Milton Friedman). But in the late 1950s and the 1960s, Tobin’s main research interest turned from understanding saving (the S of the IS curve) to exploring the optimizing microeconomic foundations of the money demand (liquidity preference), money creation and asset market equilibrium underlying the LM (liquidity/money) curve, which lead to his writing some of his most influential articles (Tobin 1956, 1958a, 1961, 1963). Although the analysis in these articles was theoretical, Tobin was well aware of the policy relevance of the nature of the money demand function. Already in 1947 (in an article also noteworthy for its empirical estimation of a money demand function depending on income and interest), Tobin opened a critique of an article by pioneer monetarist Clark Warburton and of a book by William Fellner (later Tobin’s colleague at Yale) by declaring, “The contention of this paper is that the demand for cash balances is unlikely to be perfectly inelastic with respect to the rate of interest, and that policy conclusions which depend on the assumption that the demand for cash balances is interest inelastic are therefore likely to be incorrect” (1947–48, in Tobin 1971–1996, Vol. 1, p. 27, cf. Fellner 1946 and the articles collected in Warburton 1966).

As he indicated in the title of his Asset Accumulation and Economic Activity (1980) James Tobin’s contribution to monetary theory centered on how asset markets affect real economic activity. Tobin came to economics during the Great Depression of the 1930s and emerged from the Depression and his initial immersion in the economics of Keynes with an abiding concern for policy-relevant macroeconomic theory, looking for a channel allowing public policy to stabilize real economic activity and avoid a recurrence of the mass unemployment of the 1930s. Reflecting the formative influences of the 1930s Tobin always regarded large-scale unemployment as a social problem, rather than as voluntary investment in search and consumption of leisure, and shared Keynes’s view of the volatility of private investment as the force driving economic fluctuations.

James Tobin’s contributions to monetary macroeconomics, notably portfolio balance models and the q theory of investment, did not emphasize open-economy macroeconomics. To the wider public who are interested in economic issues without being professional economists, however, Tobin’s name brings to mind his proposal to tax quicksilver international capital flows, which from 1984 onward he linked to J. M. Keynes’s plan to inhibit stock market speculation by taxing securities trades. Tobin first suggested what became known as “the Tobin tax” in passing in 1972 during a series of lectures honoring his teacher, Joseph Schumpeter — lectures that Tobin chose to use to reflect on his experience on President Kennedy’s Council of Economic Advisers (published as Tobin 1974b).