What Jón Steinsson Learned from Mike Woodford in Econ 420: ENCOMIUM OF THE DAY
The Woodford framework: The interest rate, not the money stock, is the instrument. Expectations are the dominant channel, so credible commitment to a rule is everything. Price stability minimizes relative-price distortions. And rules must move rates more than one-for-one with inflation to rule out self-fulfilling spirals:
Jón Steinsson calls this toolkit his personal intellectual-cognitive superpower.
He got it from this guy:
And so this was especially nice to see:
Jón Steinsson: <https://x.com/JonSteinsson/status/2109810749422084265>: ‘Just a personal addendum: Mike was my undergraduate thesis advisor at Princeton. This was a transformative experience. One of the crucial turning points in my life. So, I count myself as a Woodford student (part of the Woodford army, some might say :) ). Then I was fortunate enough to have Mike as a colleague at Columbia for 10 years. On a number of occasions, conversations with Mike were pivotal for my research (e.g., when Emi and I were working on our fiscal stimulus paper).
But for me, the Woodford experience started in Econ 420 at Princeton in 1999. This was a small undergraduate class with maybe a dozen students. But among those were four people that would end up tenured at top 10 econ departments. It was a pretty special class!
To do good research, one needs to have a few "superpowers" up one's sleeve: things one understands really well and are applicable to lots of issues that come up in one's research. One of the most important "superpowers" that I have as a scholar (to the extent that I have any) is the theoretical ideas about monetary economics that Mike taught me and I studied in his book. They are a constant source of new insight which permeate my research. (For me, they have been especially powerful when mixed with empirical ideas from other fields).
I am simply over the moon that Mike has won the Nobel Prize <https://www.nobelprize.org/prizes/economic-sciences/2026/popular-information/>…
Agreed. Mike is extra-special: to read, to listen to, to talk to and bounce ideas off of, and is someone always interested in making you smarter than you have been (and never in demonstrating that you are not as smart as you think you are). A true and dazzling gem.
But what are those “theoretical ideas about monetary economics that Mike taught me”—or, as I would put it, the system prompt for the SubTuringMikeWoodford emulation instantiation that Jón runs on his wetware? (And, yes, Jón Steinsson definitely does have cognitive intellectual superpowers.) Briefly, I think Jón has two things primarily in mind:
The Neo-Wicksellian view: policy is an interest-rate rule set against an economy’s neutral rate of interest: the rate that makes Say’s Law as true as it can be in practice even though it is false in theory, the rate that makes “money” into as much of a mere veil as it can be. I see this in “Fiscal Stimulus in a Monetary Union” that Jón says Mike’s conversations were pivotal for, as a regional spending multiplier can be measured cleanly in a monetary union because it holds the interest-rate response fixed across regions, in “Optimal Monetary Policy in an Economy with Inflation Persistence” written right after taking Econ 420; and still present in the just-written “Beyond the Taylor Rule”.
Monetary policy works by managing expectations: For what moves spending is the market’s expected future path of short rates, which feeds into long rates, equity prices and exchange rates. This is just as true in a monetary system with a commodity anchor as in one in which there is only a central bank. (Indeed, this is I think the only way to understand the difference between the pre-1914 relative success and the post-1918 catastrophic failure of the gold standard as a monetary system.) In Jón’s writings, look for example at “The Power of Forward Guidance Revisited” (AER 2016), and “The Discounted Euler Equation”, and “High-Frequency Identification of Monetary Non-Neutrality: The Information Effect”.
And, again briefly, the focus of Mike Woodford’s masterwork Interest & Prices: Foundations of a Theory of Monetary Policy is on how to synthesize Wicksellian tradition with New Keynesian nominal rigidities in a framework setting forth a theory of how central bank commitment to specific interest-rate rules can stabilize prices and mitigate the welfare losses associated with sticky prices and wages:
Nominal interest rate adjustment
→ change in real interest rate
→ shift in aggregate demand
→ impact on real marginal costs
→ adjustment of price-setting behavior
→ stabilization of the price level/inflation.
Commitment to a policy rule of some sort is necessary to manage private-sector expectations and achieve optimal outcomes, on how sticky prices and staggered price-setting create strategic complementarities, and how for equilibrium determinacy the nominal interest rate must respond to inflation more than one-for-one to ensure the real interest rate rises when inflation rises. With:
Interest rates as the primary instrument: thinking first about the quantity of money gets you really confused
Expectations and their management as the overwhelming channel: the public’s belief in a central bank’s commitment is the principal determinant of the effectiveness of the policy.
Price stability as welfare optimum: it minimizes relative-price distortions and maximizes utility. (I, however, see this analytical commitment as not a feature but a bug.)
Equilibrium determinacy: Only some policy-rule structures prevent self-fulfilling inflations.
Yes, I know, problems: the shoe-leather costs of inflation are not its real welfare costs, the representative-household utility framework is a very bad bug, log-linear approximations mean Woodford has nothing to say about crises and not much to say about monetary policy at the zero-lower bound, and so forth.
But relative to other frameworks on offer, Woodford’s is much better to think with.