Neil Wallace, Distinguished Fellow 2012
By using the hypothesis of rational expectations, micro foundations, general equilibrium theory, and more recently, game theory, Neil Wallace reoriented and transformed macroeconomics and monetary economics.
Wallace demonstrated the value of building monetary models that probe deeply into how and why people use money, resisting short-cut approaches that place money in the utility function or impose cash-in-advance constraints. He showed by example the benefits of explicitly modeling the fundamental sources of demands for fiat currencies and other government obligations. In this spirit, he used overlapping generations models to revisit classic questions in monetary economics. In a 1981 paper, he formulated a Modigliani-Miller theorem that established broad conditions under which open market operations would and would not affect allocations and prices. With Kareken, he showed that without government exchange controls, international exchange rates are indeterminate. With Bryant, he created a legal restrictions theory of demands for currency and gave examples of how discriminatory versions of these restrictions could improve how a government financed itself. With Sargent, he applied a legal restrictions theory to delineate situations when the real bills doctrine would prevail and when it would fail and he gave striking examples that highlighted the inability of monetary policy to control inflation in the face of a persistently profligate fiscal policy. Taken together, these papers form the starting point for an important literature that studies conditions under which `unconventional monetary policies' will and will not work.
In work on banking, Wallace showed in a 1978 paper with Kareken that without appropriate government regulation of banks' portfolios, mispriced deposit insurance and lender of last resort facilities would motivate banks to become too big and too risky. This phenomenon would eventually trigger costly government bailouts of bank's creditors. The analysis of that paper foretold adverse consequences of poorly designed deregulations that occurred in many countries.
In recent years, Wallace has been a major participant in creating search-theoretic models of monies and other debts. This literature draws on Wallace’s earlier call for modeling the primitive sources of money demand for motivation.
An inspiring critic and teacher, Wallace and his students have remade monetary theory. The American Economic Association recognizes his distinguished career by appointing Neil Wallace a Distinguished Fellow.