Paradoxically, with its focus on the output gap, pre-crisis consensus macroeconomics ran full circle back to the intellectual climate of the 1970s, the same climate that had favoured the Great Inflation. The major policy failures of the 1970s were largely due to policymakers’ exaggerated real-time measures of economic slack.
The second distinctive feature of the pre-crisis monetary policy paradigm stemmed from a complete under-appreciation of the role of money and credit indicators in the conduct of monetary policy. Liquidity and money lie at the core of the ECB’s second pillar. But they were at best ignored, at worst “derided”, as redundant and unnecessary complications by mainstream modellers before 2007.