Franco Modigliani on banks: his journey from high theory to macroeconometric modeling
In this paper we make an extensive use of archival material from Franco Modigliani’s Papers at Duke University to discusses and document the challenges involved in the construction of the monetary sector of the Federal Reserve-MIT-Pennsylvania (FMP) macroeconometric model (1966-1970). We focus on the difficulties related to modeling credit rationing—a phenomenon widely believed to be important at the time, in particular by central bankers—and in capturing the complexity of the American banking system in the equations describing the supply of money and deposits. Using Franco Modigliani’s work as the main vehicle for our argument we show how the process of macroeconometric modeling involved more than the basic statistical estimation of the early Keynesian macroeconomic theory (i.e. the IS-LM model). It was a challenging endeavor that involved constant adaptation of theoretical insights as well as the development of new ones, and where non-theoretical priors played an important role in the type of results that where expected from the model.
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Keywords: Modigliani, macroeconometrics, modeling
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