The sub-prime mortgage meltdown and the Great Recession have unleashed a tremendous battle among macroeconomists over the almost complete failure of orthodox economics to predict and prevent these calamities, or even to allow for the possibilities that they could occur. Paradigm shifts have occurred several times in economics in the last 100 years, and we seem to be witnessing another. For a really good historical perspective as well as layman-friendly descriptions of some of the disputed doctrines, read Paul Krugman's NYT magazine piece How Did Economists Get It So Wrong? I've been a more-than-casual reader in the history of economic thought for the last 4-5 years and this is by far the best read-in-one-sitting piece I know of.
Krugman describes the schism between the "freshwater" economists and the "saltwater" economists and explains key concepts like the "Chicago School," neo-classicism, monetarism, free market fundamentalism, efficient market hypothesis, rational expectations, behavioral finance, general equilibrium models, "real business cycles" theory, mathematical vs. "literary" methods, monetary vs. fiscal stimulus, supply-siders and Keynesians, asset price bubbles (including the belief that they can't happen), and "zero-bound" interest rates. He discusses the influential contributions and views of individuals like Olivier Blanchard, Robert Lucas, Ben Bernanke, John Cochrane, Brad DeLong, Adam Smith, John Maynard Keynes, Joseph Schumpeter, Milton Friedman, Anna Schwartz, Eugene Fama, Michael Jensen, Larry Summers, Robert Shiller, Alan Greenspan, Raghuram Rajan, Edward Prescott, Greg Mankiw, David Romer, Andrei Shleifer, Robert Vishny, Mark Gertler, Nobuhiro Kiyotake, John Moore, Casey Mulligan, and even H. L. Mencken. The article concludes this way:
Many economists will find these changes deeply disturbing. It will be a long time, if ever, before the new, more realistic approaches to finance and macroeconomics offer the same kind of clarity, completeness and sheer beauty that characterizes the full neoclassical approach. To some economists that will be a reason to cling to neoclassicism, despite its utter failure to make sense of the greatest economic crisis in three generations. This seems, however, like a good time to recall the words of H. L. Mencken: "There is always an easy solution to every human problem — neat, plausible and wrong."
When it comes to the all-too-human problem of recessions and depressions, economists need to abandon the neat but wrong solution of assuming that everyone is rational and markets work perfectly. The vision that emerges as the profession rethinks its foundations may not be all that clear; it certainly won't be neat; but we can hope that it will have the virtue of being at least partly right.
The arguments among economists in the blogosphere are more detailed, more intense, and often bitter. For example, John Cochran blasts back at the Krugman article, and Krugman replies on his blog with language that probably wouldn't pass NYT standards for gentility in the print version. David Warsh, who has done a lot of fine writing about the history of economic thought, has a different take here and a link to a recent paper by Robert Gordon with his version of recent history and what should come next. Warsh reminds us that the last big paradigm shift 30 years ago involved discrediting the dominant Keynesian view by associating it with the "Phillips curve" (which claims a tight inverse relationship between unemployment and inflation). Mark Thoma has collected here links to very diverse sources who have weighed in on the future of macro, and Mark has been otherwise very active in the discussion.
Below, strictly for my own convenience, are links to other Realitybase posts on the pending (I hope) paradigm shift.
http://www.realitybase.org/journal/2009/4/1/my-kind-of-economist.html
http://www.realitybase.org/journal/2009/3/15/blame-the-economists-not-economics.html
http://www.realitybase.org/journal/2009/2/11/economic-theory-in-crisis-another-view.html
http://www.realitybase.org/journal/2009/1/28/orthodox-economics-is-in-crisis-or-maybe-not.html
http://www.realitybase.org/journal/2009/1/15/liberal-and-libertarian-economists.html
http://www.realitybase.org/journal/2009/1/7/how-many-pinheads-can-dance-on-a-virtual-austrian.html
http://www.realitybase.org/journal/2009/1/6/the-financial-theory-king-is-dead-now-what.html
http://www.realitybase.org/journal/2008/12/6/theyre-baaaack-keynesians-to-the-rescue.html
http://www.realitybase.org/journal/2008/6/13/rubinomics-in-crisis.html
Skeptic
Krugman focuses here on the time (1980-81) and issue (the failure of the Lucas rational expectations modification of the Phelps employment model to account for stagflation) that split the "freshwater real business cycle" types and the "saltwater new Keynesians."