Economic Sciences Prize Rewards Stabilization Research
Taking people’s expectations about the future into account when making monetary policy decisions helps reduce economic booms and busts. This year’s laureates in economic sciences have developed models that are used by central banks and finance ministries around the world.
Robert E. Hall and Michael Woodford have been awarded the 2026 Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel. They receive the prize for developing new models that have enabled more effective stabilization policy, which can be used to smooth fluctuations between economic booms and downturns. Earlier models relied to a greater extent on statistical relationships between factors such as inflation, output and consumption.
By instead focusing on how households and businesses make decisions – including decisions based on their expectations about the future – the laureates created a better foundation for understanding how the economy responds to policy measures.
Hall put expectations at the centre
“Robert E. Hall’s major contribution was to show just how forward-looking households are when making decisions about consumption. We base our decisions not only on what we earn today, but also on what we expect to earn in the future. This changed our understanding of how households respond to economic policy,” says Ola Olsson, Professor of Economics at the School of Business, Economics and Law at the University of Gothenburg.
This means, for example, that a temporary tax cut may have less of an effect on consumption than previously thought.
“If households understand that a tax cut will only be in place for a short period, they will not necessarily increase their consumption very much. They look ahead and take into account what they believe will happen further down the road.”
Woodford developed the models further
Michael Woodford built on Robert E. Hall’s research into the importance of expectations and developed models showing how monetary policy can take into account the fact that households and businesses are forward-looking. One of his key contributions is the 2003 book Interest and Prices, in which he brought together much of the research that has come to shape modern monetary policy.
Kerstin Westergren conducts research in macroeconomics and was taught by Michael Woodford while she was a visiting doctoral student at Columbia University. Meeting him had a profound impact on her.
“He is not only one of the most influential macroeconomists of our time, but also an outstanding teacher who inspires the next generation of researchers. What I learned in his course on cognition and decision-making influenced the direction of my research career,” she says.
The laureates’ research has contributed to the development of stabilization policy, which aims to dampen economic fluctuations and create greater predictability.
“The aim of stabilization policy is to keep the economy as close to equilibrium as possible. The economy will always fluctuate, for example in terms of unemployment and inflation, but stabilization policy seeks to bring it back towards equilibrium.”
A more stable economy can, in turn, make it easier for households and businesses to plan for the future.
“When we succeed in stabilizing the economy, the peaks and troughs are less pronounced. This allows us to form a clearer picture of the future and make the best possible decisions,” says Kerstin Westergren.
Reflected in the work of central banks
The laureates’ research has also had a clear impact on how central banks operate today. According to Ming Zeng, Senior Lecturer in Economics, one concrete example of the research’s influence is the way central banks communicate their monetary policy.
“Central banks such as the Federal Reserve, the European Central Bank and the Riksbank do more than simply announce an interest rate decision. They also explain their outlook, discuss inflation expectations and seek to influence expectations about the future path of policy."
Text: Jessica Oscarsson and Elin Hellström