What happens when an economist ignores what the markets are saying

Here’s Paul Krugman:

OK, the Fed moved. It was a bit stronger than expected — and BB and company stood up to the GOP.

But seriously, they’re trying to use a water pistol to stop a charging rhino.

Stronger than expected?  By whom?

Another argument for market monetarism.

PS.  The water pistol is also a good metaphor for fiscal stimulus in a NGDP hurricane.

PPS.  The GOP wanted a stronger dollar, and they sure got it!



38 Responses to “What happens when an economist ignores what the markets are saying”

  1. Gravatar of dilletaunted dilletaunted
    22. September 2011 at 09:22

    “Another argument for market monetarism.”

    pretty lazy

    “The water pistol is also a good metaphor for fiscal stimulus in a NGDP hurricane.”

    fix the balance sheets, people will spend

  2. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    22. September 2011 at 10:20

    Stock market, interest rates, gold…all down. Operation Let’s Twist Again sure went well.

  3. Gravatar of MP MP
    22. September 2011 at 10:49

    From a Bloomberg article today:

    “People are really scared,” said Justin Lederer, an interest-rate strategist in New York at Cantor Fitzgerald LP, one of the 20 primary dealers that trade with the Fed. “The market expected a curve twist, but not to this extent…”


    ” “The Fed gave us a surprise — a shock and awe,” said David Ader, head of government bond strategy in Stamford, Connecticut, at CRT Capital Group LLC. “They will be buying 90 percent of the 30-year sector for the next nine months, so that’s more than anyone anticipated…”

    So regardless of what the “markets” are saying, there are certainly market participants who are saying the same thing as Krugman.

  4. Gravatar of Steve Steve
    22. September 2011 at 10:53

    Jokes about “Twist” have become cliched in record time, but I will present the following excerpt from the Chubby Checker version:

    “My daddy is sleepin’ and mama ain’t around
    Yeah daddy is sleepin’ and mama ain’t around
    We’re gonna twisty twisty twisty
    ‘Til we turn the hous(ing) down”

  5. Gravatar of Cameron Cameron
    22. September 2011 at 11:11

    This is what it looks like when the economy drives the Fed and the Fed doesn’t drive the economy.

  6. Gravatar of Benjamin Cole Benjamin Cole
    22. September 2011 at 11:22

    It seems like the expression “market monetarism: is gaining acceptance.

    Congrats to Lars, although I still wonder if “free market monetarism” is not even better.

    PR is more powerful than reality. Just watch campaign commercials, if you doubt me.

  7. Gravatar of Benjamin Cole Benjamin Cole
    22. September 2011 at 11:23

    I meant to write “market monetarism” is gaining acceptance.

  8. Gravatar of Meegs Meegs
    22. September 2011 at 11:41

    Krugman was an early proponent of “monetary stimulus has shot its wad” (Obama’s words).

    To see Krugman now posting “I told you so” is sickening.

    Obama should have listened to Summers and Romer instead of Krugman.

  9. Gravatar of OhMy OhMy
    22. September 2011 at 11:52

    The water pistol is also a good metaphor for fiscal stimulus in a NGDP hurricane

    That is a very misinformed statement. Fiscal policy can lift NGDP by arbitrary amount.

  10. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    22. September 2011 at 12:03

    ‘So regardless of what the “markets” are saying, there are certainly market participants who are saying…’

    And the latter are being drowned out by the majority. Overwhelmingly ‘the market’ is showing a thumbs down.

  11. Gravatar of Chris Chris
    22. September 2011 at 12:07

    Dr. Sumner,

    New to this blog and have looked around a bit. Can you summarize your argument as to how the Fed is pursuing a stronger dollar and tighter monetary policy rather than weaker dollar and looser monetary policy? It seems kind of counter-intuitive to me since the goal of operation twist is to decrease long-term interest rates. Also, could you explain what you mean by ‘market monetism’ or refer to a post where you do so.

    I’m not dense, just trying to understand the lingo and basic assumptions behind your argument–on a limited amount of time. I think that a lot of new readers would appreciate the same.

  12. Gravatar of johnleemk johnleemk
    22. September 2011 at 12:10

    OhMy, only if you redefine monetary policy as fiscal policy.

  13. Gravatar of OhMy OhMy
    22. September 2011 at 12:18


    No need to redefine anything. It is actually SS who truggles with what is fiscal and what is monetary.

  14. Gravatar of grcridlan grcridlan
    22. September 2011 at 12:21

    I, for one, dislike “market monetarism”; it makes it sound like the policies are market-based, when in fact all monetary policy is market-based, and that’s the point. “Neomonetarist” or New Monetarist (like New Keynesian).

    But that’s by the by. Does anyone really think that: (1) Business investment decisions will be driven by long money rates? (Most large businesses are sitting on piles of money they don’t have to pay interest on at all to use, and which is currently in short term facilities already paying them low interest); (2) That the long rates for business investment will decline as much as long rates for Treasuries?

    If so, please justify your view; I consider both positions unjustifiable on the evidence.

  15. Gravatar of johnleemk johnleemk
    22. September 2011 at 12:53


    Classic MMT debating!

    grcridlan and Chris,

    Much of this blog focuses on how interest rates are not terribly important or useful when it comes to thinking about monetary policy.

    The nub of it always comes down to: wages and some prices (like home prices) are sticky. People make forward-looking decisions based on trends in nominal income. Government action (though often billed as inaction) has caused nominal income growth to deviate severely from trend. Correct this, and interest rates will actually go up, along with economic growth and employment.

  16. Gravatar of Jim Glass Jim Glass
    22. September 2011 at 12:55

    I perhaps naively and foolishly try to think of these issues in terms of “supply and demand”, in which regard it seems to me…

    The fundamental problem is the demand curve is in the wrong place.

    Operation Twist II does nothing about moving the demand curve, but only twiddles around with quantity demanded.

    On the supply side, at a time when potential lenders are hoarding potentially loanable funds to begin with, it only gives them *more* reason to do so by increasing the rate earned on very safe short-term funds relative to that earned from long-term lending for risky real investment. (Which is why all my textbooks told me “a flat or inverted yield curve is contractionary” — does really nobody pay attention to textbooks any more?)

    Summing the above I assumed from the first I heard the story of the original OT that OT2 would only make things worse.

    But I am not an expert, and draw comfort from the fact that those who make these decisions are experts who know far more than I do. And I have full faith in them … for I have no choice.

  17. Gravatar of OhMy OhMy
    22. September 2011 at 13:07

    Johnleemk, you did classic Sumner debating. One liner “only if the redefine” and that is it. What is your definition of fiscal? We can work with that.

  18. Gravatar of CA CA
    22. September 2011 at 13:19

    @Chris: click on the FAQ’s at the top of the homepage if you haven’t already. I think many of your questions are addressed there.

  19. Gravatar of John John
    22. September 2011 at 13:43


    I’ve been doing some research on MMT and they’ve got really good stuff. I’m saying that as a committed Austrian. I thought it was interesting how the bond auctions are basically rigged and how the government doesn’t really sponsor itself through taxation and bond issues. I think it is also very important to notice that monetary policy is failing right now because a demand for loans has to pull money into existence and out of reserves (aka the computer).

    However, while they do a good job describing our monetary system, a lot of the policy conclusions they reach are wrong. The sectoral balances are meaningless, the emphasis on regulation doesn’t follow from their reasoning, they continue to regurgitate the discredited Keynesian argument that you can’t have inflation while there is slack in the economy, and overestimate the power of stimulus like most of the other schools of thought.

  20. Gravatar of Morgan Warstler Morgan Warstler
    22. September 2011 at 14:02


    you can’t work with this:

    Government AND Monetary policy exists under the direction and favor of those WHO MAKE, OWN, AND TRADE stuff.

    Government and monetary policy does not exist for dirty hippies without a pot to piss in.

    Government doesn’t have a real unlimited power to tax, they do what they are told by the few who pay all the taxes.

    Remember the golden rule: he with the gold, makes the rules. Government makes nothing, they are just hired fools doing what they are told.

    Boss: Tea Party
    Slave: Government
    MMT: hippies wish government could let them be boss.

    Note: I haven’t heard about Mosler showing up and trying to speak at Tea Party events. He better keep it that way.

  21. Gravatar of Scott Sumner Scott Sumner
    22. September 2011 at 14:59

    dilletaunted, I don’t care if people spend or save, I want higher NGDP, higher output.

    Patrick, Yes, it was pathetic.

    MP, The markets are much smarter than any participant. The wisdom of crowds.

    Steve, Yes, pretty silly sounding, and also a silly idea.

    Cameron, Well put.

    Ben, It seems that way.

    Meegs, But Summers didn’t favor monetary stimulus, Romer did. Krugman’s actually better than Summers.

    OhMy, Not when NGDP starts plunging.

    Chris, I’m not really saying that, maybe I was too sarcastic. I think Bernanke wanted the dollar to fall a bit, but his policy was weaker than expected, hence impacted the market like a contractionary policy. (Markets respond to the unexpected part of the announcement.) And that raises the dollar.

    grcridlan, I completely agree on long rates. New monetarism is also fine–I just don’t like quasi monetarism.

    Jim Glass, If only we could have faith–they are in over their heads.

  22. Gravatar of o. nate o. nate
    22. September 2011 at 19:30

    It’s possible that people wanted to get short anyway but were just waiting until after the announcement because they didn’t want to get blindsided by a surprise Fed move.

  23. Gravatar of marcus nunes marcus nunes
    22. September 2011 at 19:37

    Scott: You silly man! It´s Felix Salmon calling you so:
    “It’s silly to think that the decline in stock-market prices was a rational reaction to the FOMC statement. If the FOMC is more pessimistic than the market expected, that’s normally a good sign for markets, since it implies that monetary policy will remain looser for longer. The market cares about the Fed because the Fed controls monetary policy. And so Fed forecasts are important because they help drive that policy. No one revised down their growth expectations as a result of the FOMC statement”.

  24. Gravatar of dilletaunted dilletaunted
    22. September 2011 at 20:39

    “I don’t care if people spend or save, I want higher NGDP, higher output.”

    no spending, no output. sorry

    “The sectoral balances are meaningless…”

    you need to read minsky to understand the importance of the sectoral balances

    “OhMy, only if you redefine monetary policy as fiscal policy.”

    is it the argument on this blog that anything that affects ngdp is monetary policy?

  25. Gravatar of cato cato
    22. September 2011 at 21:14

    in australia we would say “pissing in the wind” – you yanks are such prudes..

  26. Gravatar of Jim Glass Jim Glass
    23. September 2011 at 01:05

    FWIW, “market monetarism” is like fingernails on a blackboard to me. Worse, I don’t know what the name is suppposed mean, in spite of all the discussion of NGDP targeting I’ve followed. It implies there’s an “anti-market” or “non-market monetarism”. Milton Friedman’s monetarism was “non-market monetarism”? I doubt if he’d appreciate that.

    I’m still sorta with New Monetarism or Neo-Monetarism.

    But Mark Sadowski may be right — why not just “Monetarism”?

    After all, when physics threw out the aether it didn’t become New Physics or Neo-Physics.

    If it is the current iteration of monetarism, adding knowledge and insights that weren’t available to Friedman 35 years ago, but building on the monetarism of his time, just call it Monetarism, or “modern Monetarism”.

    If some of the older-school monetarists disagree on NGDP targeting or whatever, that’s fine. There are disagreements among Keynesians and Physicists too.

    ISTM that if one believes that money matters as a *fundamental* then one is a “monetarist” (as opposed to say an interest rate junkie). Let there be many flavors of Monetarism, that’s fine, it’s how the state of the art progresses.

  27. Gravatar of StatsGuy StatsGuy
    23. September 2011 at 04:38

    Twist was deliberate – it’s increasingly obvious the Fed didn’t expect it to fix everything. Among other issues, it’s not going to unload until a couple conditions are met: Europe needs to be (at least temporarily) fixed (otherwise the negative newsflow will overwhelm a new QE and will diminish it’s impact), and oil is coming down. They’ll be happy to get gold down to 1650 or lower too.

    I going to start taking the following approach in analyzing the Fed: they are doing exactly what they want to do. In that sense Twist is hitting their objectives. During the current implosion, it will allow the Fed to fully fund 400 billion in long term US debt, and by dropping the marginal rate on the longer duration notes, it’s dropping the funding cost of the federal govt. A lot (and facilitating maturity lengthening as a proportion of total debt). It may or may not help homeowners (although, only those with 30 year loans – the 5 yr ARM was already at 3%). It is NOT however lowering the dollar, which means the Fed’s goal in the last session was to support CRITICAL markets (Fed long term debt, and agency MBS) while allowing the dollar to spike madly and short squeeze alternative wealth storing assets.

    Let’s say the Fed is being run either by bumbling fools (who never bother to communicate/coordinate with big finance prior to a decision) or by very clever and sophisticated people with deeper motivations than they acknowledge. So which is it? I’m increasingly leaning toward the latter.

  28. Gravatar of OhMy OhMy
    23. September 2011 at 05:23


    OhMy, Not when NGDP starts plunging.

    Ok, as usual you have nothing to say. What is NGDP? Total spending. If the private sector spends X and the govt spends Y-X, the NGDP is Y. So it may be “plunging”, but by spending Y-X gets you to Y whatever X is. Got it?

  29. Gravatar of MikeDC MikeDC
    23. September 2011 at 05:54

    StatsGuy – Those options aren’t mutually exclusive and I don’t see how we can make sense of the Fed without incorporating both models.

  30. Gravatar of Morgan Warstler Morgan Warstler
    23. September 2011 at 06:09


    Or you could just crib me and say:

    Bankers Interests > Repub Interests > Dem Interests

    Which is WHY it is important for the left to suck it up, and partner with Tea Party, so that the banksters get bent over and SMB owners get all the loot.

    I’ve also told you the Fed is worried about interest rates because US debt interest will chew through tax revenues.

    Which is WHY we SHOULD want to do a 3% NGDP level target starting NOW, not back three years.

    Because it will force rates higher quicker; ripping the band-aid off of US Fiscal spending and forcing the government into a SERIOUS effort at productivity gains.


    Last night, Scott’s chosen Presidential candidate advocated a 43% CUT in Fiscal spending for 2013.

    MY PLAN is far nicer.

    But all roads lead to ending public employee unions.

  31. Gravatar of StatsGuy StatsGuy
    23. September 2011 at 06:24

    Morgan, the issue isn’t interest rates per se, but maturity of debt, when inflation comes around.

    Regarding banker’s interests, who is a banker? Bank stockholders? They’re getting crushed. Bank employees? Banks are trimming at record rates (which SHOULD be happening, but that new capacity should be going into other fields – banks have been absorbing too many smart brains for too long). Banks are also finally seeing increasing capital demands under Basel III (which I’ve been a fan of for a very long time, except the Fed is not compensating for the lower implied multiplier by promoting conditions that allow banks to favorably increase capitalization). So who?

    Maybe the bondholders. So, either the Fed is defending the bondholders, or it’s defending itself (and, by extension, the dollar).

    No, I’m working through this puzzle slowly, and your explanation doesn’t make sense – too easy. You’re missing some pieces. Keep at it though.

    Mike – yes, probably, but I’m starting to give the “smart but devious” explanation a bit more credit.

  32. Gravatar of John Thacker John Thacker
    23. September 2011 at 06:48

    Arnold Kling sent this along, with an ironic “Don’t tell Scott Sumner, he’ll think it vindicates him.”

    Note that the dollar has massively strengthened since the start of September against many currencies. Monetary loosening? Sure doesn’t look like it.

    People who are reporting this as loosening are discrediting the idea of loosening. It’s a problem.

  33. Gravatar of Morgan Warstler Morgan Warstler
    24. September 2011 at 07:00

    You and Scott are both wrong.

    Banks stocks are not getting killed.

    Banks should be INSOLVENT.

    As in kaput, thermo-nulcear haircut. Assets seized and sold.

    Anything short of liquidation is PROOF the Fed favors banks.


  34. Gravatar of Scott Sumner Scott Sumner
    26. September 2011 at 06:03

    o. nate. And what does that imply?

    Marcus, Thanks, That’s worth a post.

    dilletaunted, Saving is spending on capital goods.

    Jim Glass. I tried to get a consensus, but no one can agree.

    Statsguy, I’m increasingly leaning toward bumbling fools. I think they’ve been surprised by slow NGDP growth. I see no gains elsewhere that would offset the macro drawbacks. Their policies are devastating to government finances, and will force future tax increases. Is this what Bernanke wants?

    OhMy, You assume that government spending doesn’t crowd out price spending. But it does if the Fed inflation targets.

    John, Thanks for the Kling link.

  35. Gravatar of OhMy OhMy
    27. September 2011 at 16:19

    Scott Sumner,

    OhMy, You assume that government spending doesn’t crowd out price spending. But it does if the Fed inflation targets.

    So if the Fed inflation targets and so doesn’t allow the govt to target NGDP, why would it allow itself to target NGDP? How are two identical NGDP numbers different in causing inflation?

  36. Gravatar of ssumner ssumner
    28. September 2011 at 18:32

    OhMy, I don’t really follow your comment, but let me restate it this way. If they inflation target then the Fed must offset any move in AD that pushes inflation above or below target. That means they control AD, and any fiscal acts that move AD get offset by the Fed.

    BTW, I am not saying they exactly target inflation, or that they exactly offset fiscal actions–just that this is the standard assumption of an inflation targeting model.

  37. Gravatar of OhMy OhMy
    29. September 2011 at 11:22


    What I was trying to say is: I don’t believe it makes sense to say:

    “the fiscal authorities cannot target NGDP = X, as it will be offset by the Fed for fear of inflation.

    but The Fed can target NDGP=X.”

    Let’s just agree on the NGDP number that doesn’t generate inflation (say NGDP=Y) and the fiscal authotrities can target it much easier than the Fed as they can simply directly spend as much as is necessary to bring NGDP to the level Y.

  38. Gravatar of ssumner ssumner
    29. September 2011 at 17:26

    OhMy, No, the fiscal authroties cannot, they can only target the G part of C+I+G+NX, the Fed controls the entire aggregate. Hence the Fed offsets what the fiscal authorities do to G, but reducing the other components.

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