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In the business of shocks: macroeconomists step into the crisis

Posted on 12 October 2020

Professor Edouard Challe has joined the EUI’s faculty as Professor of Macroeconomics.

Unemployment and economic recovery: the shocks of the COVID-19 pandemic have put economists into the limelight.

Luckily, experts like Professor Edouard Challe are in the business of economic shocks. He joined the European University Institute in September after working as Director of Research in the Economics Department at the Ecole Polytechnique in Paris.

Challe-Edouard

Edoaurd Challe joined the EUI Economics Department in September.

As the COVID-19 pandemic poses new challenges to experts, Challe is keen to emphasise the role of his field in constructing a successful recovery.

“The role of macroeconomics and macroeconomists is to devise policies that if not eliminate, at least mitigate, the effects of those shocks”, he explains.

His past research has focused on how people react to the risk of unemployment, a fear many are now facing. “You can even have a self-fulfilling dynamic, because people expect unemployment, so they cut spending and therefore they create a recession, which is going to generate the unemployment feared in the first place”.

Economists have been quick to react. Professor Challe says he was “impressed” by the speed of economists’ reaction. “I think it is fair to say that if you leave aside the medical area of research, economics is the academic area that has produced the largest body of research on COVID (...) in every area, economists really took up the challenges and responded to this societal need”.

However, the pandemic is setting new challenges, proving that the current economic crisis it is not a repeat performance of the 2008 financial crash.

The 2008 shock, Professor Challe explains, emanated from the financial sector. “The standard tools of macroeconomics were applied to understand the propagation of these shocks, mitigate the effects and devise better monetary and fiscal policies” he says.

Fiscal policies made an important comeback in dealing with the current economic crisis. Christine Lagarde, President of the European Central Bank, announced a common European fiscal policy at EUI’s State of the Union Conference last May. It is a historic move, says Professor Challe, and economists welcomed the move. After all, he explains, monetary policy has its limits, as it largely relies on interest rates. “We know that once interest rates are very low, there is not much more that monetary policy can do, so it falls on fiscal policy to do the job of ensuring the recovery”.

The pandemic has also wrought innovations in macroeconomic modelling. Economists have taken an interdisciplinary approach in calculating the costs and benefits of locking down. “[The experts] constructed models that were basically plugging together epidemiological models of the spread of the diseases and macroeconomic models”. The merging of the disciplines, once on the margins of the field of economics, allowed scholars to calculate how the spread of the virus could affect factors such as economic output and unemployment. The verdict was soon in: most economists were in favour of locking down.

“The models that we had were imperfect, but they were anyways pointing in that direction” Professor Challe says “that we would anyways would have to lock down and the cost would be much higher than if we did it in the short run”. It counters the popular narrative according to which there was a trade-off between health and the economy.

Professor Challe is also among the economists advocating for more solidarity in Europe. Neglecting countries such as Italy, he says, could lead to the collapse of the eurozone. It will be, once again a topic for the economists.