One can learn a lot about monetary theory from studying either commodity standards or fiat money regimes. But perhaps the most illuminating examples come from an in between system, a transition from one commodity regime to another. Although most of this (very long) post will seem far removed from current issues, in the end I will argue that there are important lessons. We will look at 1933, the year of transition from one gold standard (1879-1933) to another (1934-68.)
Archive for February 2009
Right after this I will post a long piece on monetary policy. Because I am still not well, I will take a brief break before starting to address yesterday’s comments. But I thought it might be helpful to clarify a few points that have been raised in several comments:
1. I am not an inflationist. If the Fed policy is 2% inflation, I favor they continue with business as usual, not adopt some sort of inflationary bailout of foolish debtors. If debts were made on expectations of 2% inflation, the Fed shouldn’t suddenly change its policy to 0% inflation. If they later decide a lower rate is better, don’t make the policy shift in the midst of the worst credit crisis in world history.
Actually I think their “dual mandate” means that they implicitly favor something closer to a 4.5% or 5.0% nominal GDP growth target. If so, they should continue on with that target, business as usual.
2. I am not much interested in the various sectors of the economy. I understand that the housing sector has declined sharply between mid-2006 and mid-2008, but except for a tiny drop in late 2007, real GDP rose continuously. Yes growth slowed in the first half of 2008, but I don’t know whether that was due to the real estate decline or the oil shock. So if commenters tell me that he “real problem” is housing, or banks, or some other sector, I will only believe you if you can show me that it would somehow prevent the Fed from boosting nominal GDP at 5% a year. That’s not to say that these things don’t matter, I can envision these sectoral shocks impacting productivity, and thus turning 5% nominal growth into a bit less real growth and a bit more inflation than we’d like, but there’s nothing we can do about that (from either monetary or demand-side fiscal policy.) And I think with 5% nominal growth we’d find that the “productivity shock” is much less than most people envision–partly because 5% nominal growth, even that sort of expected nominal growth, would immediately improve the banking system’s balance sheets.
3. I understand why people might find my causality thesis confusing. I claim tight money caused the late 2008 crisis, but my specifics seem to point to financial stress triggering an increase in money demand. There is precedence for this sort of “policy errors of omission” view of causality–Friedman and Schwartz used it for 1929-32 (although Krugman doesn’t buy it.) But I think it is especially appropriate for the modern Svenssonian view of monetary policy targeting the forecast, which the Fed seemed to be following in 1982-2007. (And Bernanke even hinted that they were following this approach.)
I’d like to thank Bill Woolsey for helping me out in the comments section. Bill and I both worked on unconventional monetary systems in the early 1990s, and he probably knows my thinking as well as anyone. He read this blog from the beginning. My colleague Aaron Jackson has also been very helpful. And while I am thanking people, I’d like to thank my wife and daughter for supporting me during the long and frustrating period when no one was paying any attention to my policy views (and when my Depression manuscript was rejected by CUP.) I’d also like to thank my sister Carol and colleague Swati Mukerjee for strongly encouraging me to go public with my policy views. (And my other colleagues.) And also my former student Tianning Yu, for suggesting that I start a blog to publicize my views.
I am still piecing together how I suddenly went from obscurity to semi-obscurity yesterday. I had sent Brad Delong my piece on Friedman and Schwartz, and he was kind enough to link to it (without comment.) I assume that Tyler Cowen saw that link, and his very kind comments suddenly pushed my blog into the public eye. Then Arnold Kling also had some nice things to say here.
Now that I have readers, I obviously need some new material. Please be patient as my teaching responsibilities (and my cold) will slow things down for a few days. However, this weekend I plan two of what I hope will be my best posts. So please stop back later. I greatly appreciate all those who commented. I will reply to recent comments later today.
Ironically, I had already been planning a post to send to some of my favorite pragmatic libertarians (such as Tyler Cowen, Will Wilkinson, Deirdre McCloskey, Robin Hanson) on a non-monetary topic (my recent research on cultural values and neoliberalism.) I’ll try to have that ready by Sunday. By Saturday you can expect a longer than average post on rational expectations, policy lags, and monetary transmission mechanisms that will give you an idea of how I developed my somewhat unorthodox take on monetary theory. I think you will find it interesting.
Update: Andrew Sullivan linked to me here.
I didn’t get to the comments today, but will tomorrow, and will also add an interesting post (well at least it’s a topic I find interesting.)
Because of the mention on Marginalrevolution.com, I am suddenly getting a lot of comments. Unfortunately I currently have to approve new comments before they are posted. (I am not very tech savvy.) I plan to ask the tech people here about a better mechanism to block spam, but meanwhile please be patient. For now, I will approve new comments every few hours. I plan to respond to today’s comments this evening.
Update: I am told that only the first post from an address needs my approval. Let me know if anyone has trouble getting their second or third comments in without approval. The tech people are also working on installing anti-span programs, and I hope to have further improvements soon.
Second update: I have just begun the reply process. Please be patient. You will see that I did give full replies to the very few visitors that I had before today. That will be my long term goal–but today’s replies will have to be a bit briefer.
When I discuss the effect of monetary stimulus on aggregate demand with other economists, I notice that they often want an explanation couched in terms of the major components of GDP. I find this very frustrating, as this approach does more to conceal than illuminate. Suppose you were policy czar in a liquidity trap (such as right now), and you were asked to increase nominal GDP by 3-fold (i.e. 200%) in the next five years. If you were given a choice of only one tool, which would it be–monetary or fiscal policy? Any economist with an ounce of common sense would take monetary policy. OK, so how would you explain its effect in terms of the 4 components of GDP?