Quote:In what is now called “new classical economics,” Lucas emphasized the importance of rational expectations in economic modeling and reminded economists that microeconomics is essential to macroeconomics.

In a 1979 paper co-authored with Thomas Sargent, Lucas surveyed the damage from Keynesianism in the 1970s. He was always aware of the debt that all macroeconomists owe to Keynes, and described the Keynesian revolution as a “remarkable intellectual event.” Nevertheless, the results of what became Keynesianism spoke for themselves.

“That [Keynesian] predictions were wildly incorrect and that the doctrine on which they were based is fundamentally flawed are now simple matters of fact involving no novelties in economic theory,” Lucas and Sargent wrote. The days of hydraulic Keynesianism, where the economy was a giant machine with buttons and levers that policy-makers could press with predictable outcomes, were over. In its place, equilibrium models of the business cycle would arise. Lucas and Sargent wrote that the way macroeconomists think about policy would shift away from designing the right intervention to focusing on “the need to think of policy as the choice of stable rules of the game, well understood by economic agents.”

In what became known as the “Lucas critique,” Lucas described the shortcoming that plagues macroeconomic modeling of policy changes. People adjust their behavior and expectations in response to policy changes, so the policy change alters the parameters of the model itself. The just-plug-in-the-numbers approach to macroeconomics was dealt a devastating blow. People aren’t particles in a laboratory; they’re living, thinking beings that adjust to new circumstances.

Lucas was also influential in the study of economic growth. “Economic growth, and particularly the diffusion of economic growth to what we used to call the Third World, is the major macroeconomic event of the twentieth century,” Lucas said in a 1997 interview in the book Modern Macroeconomics, placing it ahead of the Great Depression.

Economists before Lucas had developed one way of thinking about growth for poor countries and a different way of thinking about it for rich countries. Lucas demonstrated that it can be modeled the same in both. In a 1988 paper, he wrote, “The consequences for human welfare involved in questions [about growth] are simply staggering: Once one starts to think about them, it is hard to think about anything else.”

In only six pages of the American Economic Review in 1990, Lucas smashed a seemingly sensible argument about growth. The title question: “Why doesn’t capital flow from rich to poor countries?” At first glance, it might make sense that it would. If workers with more capital are more productive (which is true), then the investment opportunities should be in poor countries, since the returns to capital would be higher in the poor countries than in rich countries because of the law of diminishing returns.

In demonstrating why this doesn’t happen (a combination of human-capital and capital-market problems), Lucas demonstrated a shortcoming in development programs. “The central idea of virtually all postwar development policies is to stimulate transfers of capital goods from rich to poor countries. . . . In a world of largely immobile labor, policies focused on affecting the accumulation of human capital surely have a much larger potential. So too, I think, do policies in which aid of any form is tied to the recipient’s openness to foreign investment on competitive terms.”

Despite his extraordinary influence on macroeconomics, Lucas hesitated to describe his work as “revolutionary,” a label that many others applied to it. In the 1997 interview, he said, “For myself, I do not have any romantic associations with the term ‘revolution.’ To me, it connotes lying, theft and murder, so I would prefer not to be known as a revolutionary.”

If there’s one work by Lucas everyone should read, it’s his 1988 lecture “What Economists Do.” It’s short, 100 percent white-meat prose, and certified equation-free. “We are basically story-tellers,” said Lucas of economists. He proceeds to tell a story about an amusement park, which serves as a model for the U.S. economy, complete with a currency (tickets), a central bank (the cashier’s office), goods and services (concessions and rides), and consumers and producers (park attendees and park employees). He demonstrates how by increasing or decreasing the rate at which dollars are exchanged for tickets, he could create a boom or bust in the park’s economy.

Economists have to be story-tellers, Lucas says. “We do not find that the realm of imagination and ideas is an alternative to, or a retreat from, practical reality. On the contrary, it is the only way we have found to think seriously about reality.”

Few people thought more seriously, or with greater effect, about economic reality than Robert Lucas. R.I.P.