How did Australia avoid the 2009 recession?

And for that matter, how did they avoid the 2001 recession?  How come they haven’t had a recession since 1991?  Some people suggest they benefited from a global commodities boom, as they are a large exporter of food, fuel and metals.  But there was no global commodity boom in 2001-03, and they even avoided recession in a bad commodity year like 1998.

I used to sort of agree with commenters on why Australia avoided the current recession, but then I decided to actually look at the data.  And I was shocked by what I found.  Australian exports fell sharply during the 2009 global recession:

Indeed in some ways their export performance was even worse than that of the US:

There are some slight differences in timing (the Australian export boom peaked a couple months later than in the US), but it’s hard to see any decisive differences that could explain why Australia had no recession and the US had the worst one since the 1930s.

Nor can people point to the US housing bubble; a speculative bubble also hit Australian housing.  The difference is that their bubble never burst, prices are still higher than in 2006.  It may burst someday, but if and when it does it will produce a recession only if the Reserve Bank of Australian lets NGDP growth fall significantly.

In contrast, NGDP data does provide a good explanation for the big divergence between US and Australian RGDP growth.  Prior to the recession, Australia had significantly higher trend NGDP growth that the US, and hence significantly higher nominal interest rates.  (That’s right; it is NGDP growth, not inflation, which drives nominal rates.)  As people like Paul Krugman and Ken Rogoff have pointed out, a higher trend rate of inflation (or NGDP growth, as I’d prefer) will allow you to avoid a liquidity trap.  I happen to think we could avoid this problem even without a higher trend rate of inflation, if we did level targeting.  But as they say; in the kingdom of the blind the one-eyed man is king.  And in the world of the incompetent central bank, the country with 7% trend NGDP growth is king.  They were able to use conventional monetary policy, cutting rates until they got adequate NGDP growth.

Australia teaches us many useful lessons (some on the supply-side), but I’d guess we are too arrogant and self-centered to pay attention to those lessons.

PS.  There was a small quarterly drop in Australian NGDP after mid-2008, but that was due to the fact that the commodity boom had inflated Australian NGDP in mid-2008.  If I’m not mistaken the level of NGDP in 2009 was around 10% higher than 2007; in contrast US NGDP fell over that 2 year period.  Remember, level targeting is the key.


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108 Responses to “How did Australia avoid the 2009 recession?”

  1. Gravatar of Jason Odegaard Jason Odegaard
    6. February 2012 at 07:47

    Knocking it out of the park! Nice quick post.

    PS – Maybe you could add a chart about the Australian central bank’s policy rates/indicators. Could strengthen the argument you present even more.

  2. Gravatar of Marcelo Marcelo
    6. February 2012 at 07:49

    Scott,

    I thought I would share this pretty enlightening tweet from Ryan Avent:

    “Bernanke’s efforts to democratize FOMC decision-making run aground on the ignorance of regional Fed presidents.”

    Which I think can help explain why the Fed has been so willing to allow NGDP to fall below trend…

  3. Gravatar of ivona poyntz ivona poyntz
    6. February 2012 at 08:03

    Is it possible the australian banks were not exposed to mortgage backed CDOs like the US and European ones? It was the banking crisis that precipitated the credit crunch and recession in EU and USA

  4. Gravatar of Nevorp Nevorp
    6. February 2012 at 09:01

    I suggest reading Steve Keen on the credit impulse for why Australia so far has avoided a major downturn.

  5. Gravatar of Cthorm Cthorm
    6. February 2012 at 09:32

    Ivona,

    Asset-backed Securities (e.g. CDOs, CMOs, CLOs, MBS) really weren’t the problem, even in the US. Australian MBS would not have lost substantial value because home prices never fell there and NGDP continues to grow at a brisk pace. US MBS would not have been a problem if the Fed had not tightened monetary policy in late 2008 (including a rate hike and paying interest on reserves).

  6. Gravatar of Jason Odegaard Jason Odegaard
    6. February 2012 at 10:03

    From the RBA’s website –

    The Reserve Bank of Australia had their cash rate at 7.25% in March 2008, but in September 2008 started cutting rates and bottomed out at 3.25% by Oct 2009. Then started raising some, but are now backing off that to some degree.

    http://www.rba.gov.au/statistics/cash-rate.html

  7. Gravatar of Benjamin Cole Benjamin Cole
    6. February 2012 at 10:30

    Fascinating commentary.

    It suggests that in the real world, moderate inflation and moderate interest rates are useful, as they can be cut in downturns.

    When you are in Japan-land, your only choice is QE, and then only if you can sustain it, an then only if central bankers can bear to tolerate three percent inflation so that we can enjoy prosperity.

    The hysterical sniveling about inflation, and a relentless peevish fixation on the threat of future inflation, will ensure the USA stays in Japan-land for much loner than necessary, or possibly permanently.

  8. Gravatar of Cthorm Cthorm
    6. February 2012 at 11:01

    @Scott

    Off topic (well, it concerns NGDP targeting, so it can’t be that far off topic), but you’ve got to read the latest investment outlook from ‘my boss’. Here is the link.

    And here is a teaser excerpt (bold is my emphasis):

    “The transition from a levering, asset-inflating secular economy to a post bubble delevering era may be as difficult for one to imagine as our departure into the hereafter. A multitude of liability structures dependent on a certain level of nominal GDP growth require just that – nominal GDP growth with a little bit of inflation, a little bit of growth which in combination justify embedded costs of debt or liability structures that minimize the haircutting of or defaulting on prior debt commitments. Global central bank monetary policy – whether explicitly communicated or not – is now geared to keeping nominal GDP close to historical levels as is fiscal deficit spending that substitutes for a delevering private sector.”

    Any doubt he is a market monetarist?

  9. Gravatar of marcus nunes marcus nunes
    6. February 2012 at 11:09

    Scott
    This compares Australia and N Zealand back during the Asia crisis (when commodities tanked) and shows what it did now:
    http://thefaintofheart.wordpress.com/2011/02/24/australia-does-it-better/

  10. Gravatar of Lars Christensen Lars Christensen
    6. February 2012 at 11:27

    Scott, excellent comment. I think the people very often fail to understand the benefits of floating exchange rates and especially what role the exchange plays in the transmission mechanism.

    The primary channel for monetary policy under floating exchange rates is not necessarily improved competitiveness, but rather expectational effects. Weakening the currency is a method to increase the money supply relative to money demand – or rather to increase NGDP expectations.

    There story btw goes for countries like Turkey, Sweden and Poland.

  11. Gravatar of Lars Christensen Lars Christensen
    6. February 2012 at 11:28

    …and might I add that the same goes for the US in 1933, but you know more about that than I do.

  12. Gravatar of Paul Johnson Paul Johnson
    6. February 2012 at 11:35

    Nice post and a perceptive choice of question. I should point out that, on the supply side, Australia has done important things. For one, its retirement system is based on individual retirement (“superannuation”) accounts, not a defined benefit system like US social security. So Federal debt risk is less, with individuals absorbing some of the pain of external shocks. Taxes are high and there is a national VAT tax, but on the plus side the tax system is much simpler than that of the US. Australian Medicare works very differently from the US. It is a safety net and individuals can supplement it with private health care that is not tied to employment.

  13. Gravatar of Adventures in Gloomy Distraction | feed on my links Adventures in Gloomy Distraction | feed on my links
    6. February 2012 at 11:38

    [...] Here’s Sumner: Nor can people point to the US housing bubble; a speculative bubble also hit Australian housing. [...]

  14. Gravatar of Cthorm Cthorm
    6. February 2012 at 11:47

    Man the gift that keeps on giving. Another excerpt from the Investment Outlook…

    “What incentive does a bank have to buy two year Treasuries at 20 basis points when they can park overnight reserves with the Fed at 25?”

    So he isn’t just admitting that NGDP level targeting is the target that matters, he is also saying that IOR is a problem.

  15. Gravatar of Adam Adam
    6. February 2012 at 12:15

    Just a thought, but wasn’t Australian not as exposed to the bursting bubbles in the U.S. and Europe too?

    I don’t recall hearing about any Australian financial institutions hoarding US housing-backed debt, or structuring their own deals.

  16. Gravatar of Ben Wolf Ben Wolf
    6. February 2012 at 12:34

    Australia ran record deficits throughout 2008-2010. It also has significantly greater regulations in place to prevent financial fraud and liar loans, hence no explosion as mortgage payments dried up. Canada also avoided the worst of the crisis as it also has strong anti-fraud laws and more stringent requirements for mortgages.

    In other words, neither country had the massive exposure to MBS which prevailed in the U.S. and U.K.

  17. Gravatar of 123 123
    6. February 2012 at 14:48

    @Cthorm

    If IOR was zero, Gross would have written: “What incentive does a bank have to buy two year Treasuries at negative 5 basis points when they can park overnight reserves with the Fed at 0?””

  18. Gravatar of StatsGuy StatsGuy
    6. February 2012 at 14:52

    Marcus had a nice post – It might be worth assembling all the cases of “capital malinvestment”/booms/financial crises into one place and comparing monetary responses and 5 year outcomes. My guess is that if one just takes all the cases in the past 20 years, and put them together in a small multiples chart, they all pretty much tell the same story.

  19. Gravatar of Cthorm Cthorm
    6. February 2012 at 14:55

    @123

    Why not just put it in the proverbial mattress? More likely he would complain that the idea of a “risk free asset” would be restricted to cash. Unless you’re shooting for capital gains (and for treasuries that comes from financial system distress) you shouldn’t see negative yields on treasuries. That is assuming the bond is not inflation-linked or (as in the case of Switzerland and Japan) tied to a deflationary currency.

  20. Gravatar of 123 123
    6. February 2012 at 15:08

    @Cthorm

    The effective nominal yield of cash in the mattress is negative, if you take various costs into account.

  21. Gravatar of Cthorm Cthorm
    6. February 2012 at 15:11

    @123

    Fair enough, but the point still stands that there is a floor.

  22. Gravatar of 123 123
    6. February 2012 at 15:29

    @Cthorm

    Yes, there is a floor, but it was not created by IOR. IOR has not caused the recession, and is not harmful.

  23. Gravatar of Major_Freedom Major_Freedom
    6. February 2012 at 15:32

    “It may burst someday, but if and when it does it will produce a recession only if the Reserve Bank of Australian lets NGDP growth fall significantly.”

    If they don’t let NGDP fall as people’s cash preferences rise, then they will only kick the can down the road and make the next crash even bigger.

    “In contrast, NGDP data does provide a good explanation for the big divergence between US and Australian RGDP growth. Prior to the recession, Australia had significantly higher trend NGDP growth that the US, and hence significantly higher nominal interest rates. (That’s right; it is NGDP growth, not inflation, which drives nominal rates.)”

    What drives NGDP? The quantity of money and volume of spending. What drives NGDP growth? Inflation of the money supply and volume of spending.

    If nominal interest rates are driven by NGDP growth, and NGDP growth is driven by inflation, then nominal interest rates are in fact driven by inflation.

    “As people like Paul Krugman and Ken Rogoff have pointed out, a higher trend rate of inflation (or NGDP growth, as I’d prefer) will allow you to avoid a liquidity trap.”

    That ignores the fact that with higher inflation from the banking system, there will be greater economic distortions and greater “liquidity traps” later on.

    “I happen to think we could avoid this problem even without a higher trend rate of inflation, if we did level targeting. But as they say; in the kingdom of the blind the one-eyed man is king.”

    And in the case of monetarists, in the kingdom of the ignorant the ignorant man is king.

    “And in the world of the incompetent central bank, the country with 7% trend NGDP growth is king. They were able to use conventional monetary policy, cutting rates until they got adequate NGDP growth.”

    Thus generating another incompetent central planner induced false boom in the process, and thus another, bigger, inevitable creation later on.

    Why oh why do you support destructive policies? It makes no sense. People are hurt, and not only do you not care, you call for more.

  24. Gravatar of Luis H Arroyo Luis H Arroyo
    6. February 2012 at 15:45

    An important data to take account in this comparison is that Australia (And Sweden)had a much more solid fiscal position than US when the crisis.
    See, for example, the graph of Gobernment gross debt:
    http://www.miguelnavascues.com/2012/02/blog-post.html comparing US with Australia (and Sweden)(IMF data.
    The fiscal condition differe completly.
    The monetary an exchange rate policy can not been de same in so different condiction.

  25. Gravatar of Max Max
    6. February 2012 at 15:54

    “So he isn’t just admitting that NGDP level targeting is the target that matters, he is also saying that IOR is a problem.”

    The 0.25% IOR isn’t a macro problem, it’s just a gift from taxpayers to banks.

  26. Gravatar of Cthorm Cthorm
    6. February 2012 at 16:57

    @123 and Max

    Again, I’m surprised to see readers of this blog thinking IOR “isn’t a macro problem.” Scott has covered the topic several times. IOR is not JUST a gift from taxpayers to banks (although I think that was the original intention), it has significant incentive distorting effects and is a way of “sanitizing” increases in the money supply. It is the bank equivalent of storing cash in a mattress. What would the economy look like if there was another $2 trillion circulating, instead of sitting in reserve accounts?

    123 – I’m not saying IOR created the floor, but it is a higher floor than would otherwise exist.

  27. Gravatar of Max Max
    6. February 2012 at 17:08

    cthorm, going from 0.25% to 0.0% is jumping off a pancake. Congress should object because the Fed is doing fiscal policy, i.e. deliberately losing money.

  28. Gravatar of Bob Murphy Bob Murphy
    6. February 2012 at 17:25

    Scott Sumner wrote:

    Prior to the recession, Australia had significantly higher trend NGDP growth that the US, and hence significantly higher nominal interest rates.

    Scott, which interest rate(s) do you have in mind?

  29. Gravatar of ssumner ssumner
    6. February 2012 at 17:27

    Jason, Thanks.

    Marcelo, I think some of the Board members are also deficient in monetary economics–but the difference is that they are more likely to follow Bernanke’s lead.

    Ivona, Maybe, but I don’t think that was the key factor. I’m pretty sure that the recession hit lots of developed countries that did not have failing banks. Perhaps someone with better knowledge of Europe can back me up. The Canadian banks were not affected, and they experienced a recession.

    Nevorp, What was his argument?

    Cthorm, Good point.

    Jason, Thanks for that info.

    Ben, Yes there are worse problems than mild inflation.

    Cthorm, He has quite a flair for writing. Parts seem market monetarist, but other parts are hard to follow.

    Marcus, Thanks for the link.

    Lars, I agree that people put too much weight on how exchange rates affect “competitiveness” and not enough on how it affects NGDP. The 1933 devaluation raised NGDP so rapidly that our trade deficit actually got “worse.”

    Paul, Those are all very good points. All I’d add is that although their taxes are higher than in the US, they aren’t all that high—lower than Europe, for example.

    I have recommended their pension system for the US.

    Cthorm, Yes, I saw the comment about IOR, but does he offer a clear path out of this box?

    Adam, See my answer to Ivona.

    Ben Wolf, What were their deficits as a share of GDP? We had deficits of close to 10% of GDP.

    Canada had a recession, partly because NGDP growth was slower than in Australia.

    123, And what if IOR was negative 2%? And applied to cash ERs as well?

    Statsguy, I don’t follow, I just argued that Australia’s outcome was quite different, even though they had a bigger housing bubble than we did?

    Major freedom, You said;

    “If they don’t let NGDP fall as people’s cash preferences rise, then they will only kick the can down the road and make the next crash even bigger.”

    There’s no evidence for this at all. They also missed the 2001 recession–what price did they have to pay for that “can kicking?”

    You said;

    “That ignores the fact that with higher inflation from the banking system, there will be greater economic distortions and greater “liquidity traps” later on.”

    No, higher inflation makes liquidity traps less likely.

    Luis, I don’t see why that matters for NGDP targeting.

  30. Gravatar of ssumner ssumner
    6. February 2012 at 17:29

    Max, Maybe it’s both.

    Bob, I think rates were higher on government debt at all maturities, but am not certain. The short term policy target rate was higher, another commenter said around 7%, I believe.

  31. Gravatar of tim tim
    6. February 2012 at 18:31

    Yes, but Australia is still over-regulated, with overlapping state and commonwealth regulations, a complex tax system (but simpler than the US), archaic labour laws. In terms of regulatory reform and privatisation (and labour laws), the UK is far ahead. In terms of fiscal sustainability Australia is ahead by a mile. And Australia has a better central bank than pretty much anywhere else.

  32. Gravatar of Max Max
    6. February 2012 at 18:31

    “And what if IOR was negative 2%? And applied to cash ERs as well?”

    Then the banks will make loans at rates just below 0% to companies whose sole ‘business’ is holding currency.

  33. Gravatar of Greego Greego
    6. February 2012 at 19:06

    It’s worth noting that the Australian government engaged in a number of fiscal stimulus activities in 2008 and 2009 including a helicopter drop (I think it was $900 deposited to every taxpayer’s bank account) and a number of large infrastructure projects.

    That said, this article seems to make the market monetarist case that it was actions on the monetary side, not fiscal that saved the day:
    http://www.theaustralian.com.au/news/opinion/fiscal-stimulus-did-not-save-us/story-e6frg6zo-1225897744621

  34. Gravatar of StatsGuy StatsGuy
    6. February 2012 at 19:08

    “same story” = countries which did not hold to a nominal level target sank, while those that did recovered much faster

  35. Gravatar of Rajat Rajat
    6. February 2012 at 19:31

    Scott, as an Aussie, it’s great to see you turn your mind to us.

    Doomsdayers like Steve Keen (mentioned above), The Economist newspaper and many other economists have been predicting the end of Australia’s housing ‘bubble’ for a decade. The RBA’s inflation target is for 2-3% core inflation over the economic cycle.

    The rationale for a target originally much higher than the RBNZ (which was then considered best-practice) and elsewhere was that higher inflation would allow for smoother relative wage and price adjustments without the need for any nominal falls:

    There are several reasons why aiming for zero inflation might not be warranted, and why a low positive target may be the most appropriate. First, the economy is subject to what are called ‘downward nominal rigidities’. That is, prices and wages that do not normally fall even when market equilibrium might require that. But with a small amount of inflation in the system, these prices and wages can fall in relative terms (by not rising with the general price level) even if they cannot fall in absolute terms. This is an argument that small amounts of inflation may help to make price systems more flexible. Secondly, there may be biases in the measurement of inflation such that true inflation is on average overstated by standard measures. This can arise for example when rising quality of a good or service is not properly taken into account when measuring its price. To the extent that this is the case, inflation would be overstated and the target would need to make allowance for this by aiming higher than zero. Finally, it is likely to be costly to reduce inflation, so some judgment needs to be made as to how far inflation reduction should be taken, allowing for both the costs and benefits of doing so.

    See here

    In other words, very similar to your rationale for NGDP targeting Scott!

  36. Gravatar of Declan Declan
    6. February 2012 at 19:59

    “Nor can people point to the US housing bubble; a speculative bubble also hit Australian housing. The difference is that their bubble never burst, prices are still higher than in 2006.”

    Huh? Isn’t this sufficient in itself? (Leaving aside whether it is actually a bubble, I didn’t think you believed in them anyway!)

    As someone pointed out above, the RBA only cut rates by 4 percentage points, which is about what the Fed and others did – all that extra room wasn’t actually used.

  37. Gravatar of Declan Declan
    6. February 2012 at 20:04

    P.S. By “sufficient in itself” I mean sufficient to avoid recession – sorry if that was unclear!

    P.P.S. We also had a massive fiscal stimulus.

  38. Gravatar of tim tim
    6. February 2012 at 20:07

    And the Reserve Bank has just now left interest rates on hold after the markets had expected a cut.

    Declan
    Housing prices didn’t decline in Australia because monetary policy didn’t tighten like it did in the US, hence the stable NGDP.

  39. Gravatar of Matt Nolan Matt Nolan
    6. February 2012 at 20:08

    @marcus nunes

    Interesting post – agree with a lot of it. I work as an economist in New Zealand, and there were a few of things that I felt were missed in that post:

    1) To start with I think the New Zealand output gap was more negative than Australia’s by 2007 – our unemployment rate was in the lower end of 3′s, and our natural rate probably isn’t much lower. As a result, I’m a little uncertain of the relative trend estimates for NGDP especially because …

    2) In reality its NGDP per capita that we should be looking at – especially for international comparisons. Population growth in Australia has far outstripped New Zealand, and I’m guessing that explains the majority of the difference in RGDP outcomes.

    3) NZ has a very different commodity basket than Australia, and hasn’t experienced the same level of a commodity price boom.

    4) NZ experienced A LOT of supply side shocks during this crisis – it wasn’t just about insufficient demand. We also had a massive drought in 2008 (with its corresponding impact on our agriculturally based economy for 18 months), and earthquakes in our second largest city in September 2010 and February 2011.

    5) According to my estimates, NDGP per capita is roughly back at trend in NZ now – and this is including a bump up in the estimated trend for the increase in GST in October 2010.

    Other than those caveats, I’d say I agree with the idea that both the RBA and RBNZ have done a good job overall – and I can see the case for why people may believe the actions of the RBA were superior over the entire period, although I’m hesitant to agree at this point.

    The thing for me is that the type of monetary policy regime we have down these ways is “flexible inflation targeting”, it always has been. Given that, in many ways this seems to work out as functionally similar to NGDP level targeting, I have to wonder what other monetary authorities have been doing.

  40. Gravatar of Declan Declan
    6. February 2012 at 20:21

    Tim,

    1. Housing prices began falling in the US even before NGDP growth fell.

    2. Actually existing monetary policy uses interest rates, not NGDP, so I don’t think it is very useful to say US policy tightened and ours didn’t.

  41. Gravatar of tim tim
    6. February 2012 at 20:31

    Declan
    Housing prices in the US declined from 2006 but were stable in early 2008. When NGDP crashed in mid 2008 housing prices fell rapidly, even in states without a subprime crisis.
    Interest rates say nothing about the stance of monetary policy. High interest rates often mean that monetary policy is expansionary and low interest rates can imply that monetary policy is tight, like in Japan over the last two decades and the US since 2008. There are lots of posts in this blog that show that monetary policy in the US was tight in 2008.

  42. Gravatar of Declan Declan
    6. February 2012 at 21:01

    Tim, what US housing price data are you using? Every graph I have seen shows a large, continuous fall from about ’06 to ’09, not 2 distinct episodes. (I agree that falling NGDP contributed in the later stages.)

    The purpose of this post was to ask why Australia didn’t have a big recession in 2009 like the US did. I am happy to take NGDP growth as a proximate cause (though a graph would be nice to back this up), which in Scott’s language is a tautology for ‘monetary policy was too tight’.

    But why was NGDP growth more robust in Australia? What I think Scott is glossing over is that we just weren’t hit with the same negative shock (housing crash and aftermath) that the US was, and that this shock in the US was NOT originally a product of different NGDP growth.

    As I and Jason both said, we only cut rates from 7.25 to 3.25, so “the country with 7% trend NGDP growth is king. They were able to use conventional monetary policy, cutting rates until they got adequate NGDP growth” just doesn’t cut it – the Fed cut rates by as much, without generating adequate NGDP growth.

  43. Gravatar of tim tim
    6. February 2012 at 21:20

    Declan,
    This graph which you can play around with shows house prices stabilising by mid 2008 and then falling again after mid 2008 when NGDP crashed.
    And yes, two thirds of the decline happened between 2006 and early 2008, but there was no recession or skyrocketing unemployment then. Real GDP collapsed and unemployment rose when NGDP collapsed in late 2008, when housing prices started falling again.
    (that index is from the federal housing finance authority, not case shiller, which show housing prices falling sharply the whole time)
    In the US, monetary policy had to be more expansionary, to accommodate rising demand for money. That’s why they needed more aggressive monetary policy.

  44. Gravatar of Declan Declan
    6. February 2012 at 21:20

    Actually, if you plot nominal and real GDP in Australia, real GDP was recovering well in ’09 even when NGDP growth was negative! (I’ll email this to you Scott in case you are interested.)

    I suspect this is an illustration of Scott’s point that NGDP is not a great target for a commodity intensive economy.

  45. Gravatar of Declan Declan
    6. February 2012 at 21:26

    Tim,
    I posted my last before refreshing. Where is the link to the graph, your post is just plain text?

    I agree with everything you say, but which part of it explains why Australia was different, other than that we just didn’t have a housing crash in the first place?

  46. Gravatar of Rajat Rajat
    6. February 2012 at 21:27

    Declan, as you would know, most home loans in Australia are variable rate and change with changes in the official cash rate. This gave us a huge boost to disposable income in late 2008 and early 2009. By contrast, I understand that most US home loan rates are fixed and based on long term bond market rates.

  47. Gravatar of Major_Doofus Major_Doofus
    6. February 2012 at 21:27

    The desire to reach a state of rest is untenable in human life. Your metaphysics is all screwed up. You believe that optimality is a state of no change, and that change is evil. If changes are needed in the labor market, on account of consumers changing their tastes, if changes are needed in the capital markets, on account of consumers changing their time preferences, then that will require temporary unemployment and temporary idle resources, until the owners of capital and labor figure out where the consumers value them the most.

    Your whole worldview is nothing but a violent war against the sovereign consumers. You don’t care about putting capital and labor in the places where consumers want them. You want capital to be used and labor to work, FOR ITS OWN SAKE. You want capital to be used for the sake of being used. You want labor to work for the sake of working. It doesn’t matter to you if the capital and labor are not directed towards voluntary consumer demand.

    You want capital and labor to be used for your own desires through government power. But not all capital and labor. Only that capital and labor which is in transition between uses, where you can act like a pickpocket and steal money and wealth from those who are working, in order to put these workers to use in your own plans, like bridges to nowhere and building more government indoctrination camps called public schools.

    You crap on consumer’s needs. You take dumps on their values. You want to replace their values, with your own, which you hide behind a veil of democratic wants. There is no individuality in your worldview at all. Such crudeness is why you don’t understand economics. You can’t understand that the foundation of all economics knowledge is through individual action, and in fact only has reality in individual action. By individual action it of course means individual action in groups or individual action alone.

  48. Gravatar of tim tim
    6. February 2012 at 21:38

    Declan,
    My bad. Here’s the graph http://blogs.reuters.com/felix-salmon/2010/01/12/house-price-chart-of-the-day/

  49. Gravatar of Declan Declan
    6. February 2012 at 21:45

    Rajat,
    That’s a good point – means we would get more bang for the buck for a given official rate cut (assuming it’s passed on!). I think the US has more variable rate mortgages than they used to, and even people with fixed rates can refinance if rates fall. But probably still not as sensitive as we are.

    Though on second thoughts this only affects one very particular channel – the income affect for debtors – that is if it outweighs the opposite effect on creditors!

    In the pure representative agent models where it’s just about new investment or spreading consumption through time, I don’t think this should make a difference.

  50. Gravatar of Declan Declan
    6. February 2012 at 21:50

    Tim,
    Thanks that’s a neat tool. Is there a reason to trust FHFA over Case Shiller though – there’s hardly any fall in that index!

  51. Gravatar of tim tim
    6. February 2012 at 22:04

    Declan,
    No, only the FHFA index matches what Scott Sumner described in this article: http://www.cato-unbound.org/2009/09/14/scott-sumner/the-real-problem-was-nominal/
    about half way down
    And Scott know more than me lol

  52. Gravatar of Greg Ransom Greg Ransom
    6. February 2012 at 22:14

    Major_Doofus that’s comedy gold .. like the an Adam Carolla rant you might get if Carolla read Mises and took LSD.

  53. Gravatar of Declan Declan
    6. February 2012 at 22:31

    Tim,
    You mean this?

    “7.In the spring and early summer housing prices had briefly stabilized, but in August a renewed decline set in. This time there were also sharp declines in markets (mostly in the middle of the country) that had avoided the sub-prime excesses.”

    Maybe that would show up in Case-Shiller as well, I haven’t taken a close enough look at it.

    But to get back to our original argument (!), why do you think Australia did better than the US, other than our house prices didn’t start falling to begin with? (Yes, I agree that in the US falling house prices had to interact with a lot of other things before causing real problems, my point is Australia didn’t face that shock in the first place. And don’t just say ‘NGDP’, why was NGDP different?)

    We had a bigger buffer to the zero lower bound thanks to higher NGDP growth, but it was a fortuitous product of the mining boom (our formal inflation target is 2-3% vs Feds implicit 2%) and we didn’t end up using it anyway.

    Maybe this buffer (or other differences – stronger financial system?) would have helped in some counterfactual where we faced a bigger shock, but the post is about what actually happened in 2009. And what happened was that the RBA cut rates about as much as the Fed, starting later, but still avoided a recession.

  54. Gravatar of inspector Fu inspector Fu
    6. February 2012 at 22:32

    Foul on Greg Ransom: appeal to ridicule.
    Penalty box, 5 minutes.

  55. Gravatar of Lorenzo from Oz Lorenzo from Oz
    6. February 2012 at 22:37

    Scott: thanks for blowing the Downunder trumpet :)

    Major Freedom: compared to the US, Australia hasmuch lower unemployment rate, higher income growth, no financial collapse. What bizarre metaphysics makes you think intelligent policies lead to suffering? Really, the price of money is not the only price that matters.

  56. Gravatar of Rajat Rajat
    6. February 2012 at 22:43

    Declan, I’m thinking that perhaps lenders were super funds and offshore investors (given Australia’s large current account deficit, we are a large net borrower of capital), so they may not have reduced local consumption by much whereas the borrowers were households and perhaps increased their consumption significantly.

  57. Gravatar of tim tim
    6. February 2012 at 23:12

    Declan
    Monetary policy was tight in the US because money demand rose faster than money supply. Some of that is due to the fact that the Fed paid interest on reserves. Scott could probably provide more reasons why money demand rose rapidly. It could be due to the financial crisis, or the financial crisis could have been caused by rising money demand and insufficient monetary policy.
    I don’t have the figures for money demand in Australia, but I can only guess that money demand didn’t rise as much as it did in the US.
    We didn’t have higher NGDP because of the mining boom alone. The RBA allowed higher NGDP. I think we’re talking past each other. I am saying that monetary policy drives NGDP. If both countries cut rates by the same amount, then the only conclusion that I can come to is that money demand must have risen higher in the US than it did in Australia. The US also had lower interest rates to begin with, so they hit zero and that was it, the end of conventional monetary policy. Our cash rate only went down to 3%, giving the RBA room to move still with conventional policy, which could have stabilised NGDP expectations. That’s why we avoided a liquidity trap.
    I think that Australia did better than the US because firstly, money demand didn’t rise as much, and we started off from a better position, so we avoided a liquidity trap. But again, Scott will be able to answer it better than me.

  58. Gravatar of c8to c8to
    6. February 2012 at 23:46

    for those interested, the architect of modern australia:

    http://www.charlierose.com/view/interview/11328

  59. Gravatar of Luís H Arroyo Luís H Arroyo
    7. February 2012 at 01:32

    Feo example, we can Think that the Ricardian effect is nihil in these conditions. So, confidence is not so conditioned than in a huge leven pf debt. I believe in the importance of ricardian effects. In any case You cannot think in similar NGDP policy effect with end without huge debt.

  60. Gravatar of StatsGuy StatsGuy
    7. February 2012 at 06:05

    Side topic on earlier post:

    http://www.bloomberg.com/news/2012-02-07/banks-paying-homeowners-a-bonus-to-avoid-foreclosures-mortgages.html

    This is Coase in action – only question, why’d it take 3 years? (hint: game theory)

  61. Gravatar of ssumner ssumner
    7. February 2012 at 06:12

    Tim, Good summary.

    Max, I’m not sure about the loans, why not just assume people hold currency because rates are so low? The banks can buy T-bills.

    Greego, A tax rebate is very different from a helicopter drop.

    Thus the US also did lots of fiscal stimulus, the question is why it didn’t work for us.

    Statsguy, OK, I misunderstood.

    Rajat, Of course at some point housing prices will fall, and at some point they’ll say they were right all along. But of course they won’t have been right. Any fool can predict that if you wait long enough a certain asset price will eventually decline.

    Thanks for the quotation, I agree

    Declan, I disagree on all three points.

    1. Housing didn’t fall in Australia partly because the RBA didn’t allow a NGDP crash. The US housing crash that preceded the NGDP decline (Jan. 2006 to April 2008) did not cause a significant rise in unemployment.

    2. The more aggressive a central bank is at propping up NGDP growth, the less they need to cut rates.

    3. The US and Britain also did massive fiscal stimulus. the key is monetary policy.

    Regarding NGDP growth, you are right about resource economies. MY postscript to the post sort of addresses that issue. In a level targeting sense they were still reasonably expansionary in 2009.

    Regarding housing stabilizing briefly, I’m not 100% sure that I was correct. It seems to depend on the price index and the regional weighting. A better argument for me is that the price declines in heartland states like Texas began in the second half of 2008, when NGDP started falling. That shows a fairly clear link between the second stage of the housing collapse and NGDP.

    Thanks Lorenzo.

    C8to, Thanks for the link.

  62. Gravatar of ssumner ssumner
    7. February 2012 at 06:17

    Statsguy, That’s interesting. It may have been rational for the banks to wait, as these bonuses create a moral hazard problem.

  63. Gravatar of TheMoneyIllusion » Business cycles, interest rates, and NGDP TheMoneyIllusion » Business cycles, interest rates, and NGDP
    7. February 2012 at 06:18

    [...] commenter named Cthorm sent me this quotation from Bill Gross and a comment afterward: “The transition from a levering, [...]

  64. Gravatar of Max Max
    7. February 2012 at 06:42

    “I’m not sure about the loans, why not just assume people hold currency because rates are so low? The banks can buy T-bills.”

    Yes, I made it too complicated. The banks would bid t-bill rates negative and some people would choose to hold more currency, eliminating the reserves.

    So you get a tiny decrease in the money market interest rate, slightly below zero, at the cost of printing up mountains of currency and storing it, and putting money market funds out of business, and who knows what else.

    Doesn’t seem remotely worth it.

  65. Gravatar of tim tim
    7. February 2012 at 06:43

    Scott, why did money demand rise sharply in the US? And why don’t you think it rose as sharply in Australia and did it rise in Europe and Britain as well?
    Did the financial crisis cause money demand to rise? I’m slightly confused by cause and effect.
    thanks,
    tim

  66. Gravatar of Major_Freedom Major_Freedom
    7. February 2012 at 09:17

    ssumner:

    I said: “If they don’t let NGDP fall as people’s cash preferences rise, then they will only kick the can down the road and make the next crash even bigger.”

    You said: “There’s no evidence for this at all.”

    Of course there is evidence for this, you just can’t see it because you think the only valid evidence has to be consistent with the theory you are more than likely supposing:

    “A bust in a given sequence of busts has to be nominally deeper relative to previous busts before Major_Freedom’s argument is true concerning kicking the can down the road and making the next bust deeper.”

    Historical data does not have to show this before what I said can be considered true. When I said bigger, I meant bigger than what otherwise would have been the case at the time, not bigger relative to past crashes.

    The busts themselves don’t have to be observed to nominally deepen each cycle before what I said it true, because the Fed is of course continuously forestalling collapses in aggregate spending down to what would exist without any Fed inflationary intervention at all, by continually reinflating and thus kicking the can down the road. If aggregate spending will collapse without further Fed inflation, then it SHOULD collapse, because then, finally, the needed corrections will take place.

    By continually inflating and forestalling the correction, new real distortions are building up alongside the distortions that haven’t cleared, thus making future busts even larger than they otherwise would have been. The Fed can then choose to either do nothing about it, or again reinflate, and again make the next bust even bigger than it otherwise would have been.

    Monetarists can’t understand this because they don’t understand capital theory nor how the market works in general. Pseudo-monetarists just focus on NGDP, and window dress it with other subsidiary arguments.

    “They also missed the 2001 recession–what price did they have to pay for that “can kicking?””

    The price they paid is the housing bubble they blew up in an attempt to kick the Nasdaq bubble collapse can down the road.

    The price they paid for kicking the housing bubble can down the road is a sovereign debt bubble. Once that collapses, political turmoil will engulf the planet (since the entire planet is on a FR fiat money standard), and the bust will be greater than it otherwise would have been had the Fed not forestalled collapses by inflating since the 1970s. You don’t seem to realize just how distorted the world’s economy really is after 40 years of inflation and kicking the can down the road. It has turned the US economy from an industrial powerhouse, into a debt saddled, inflation exporting consumption binge nation, and third world countries have turned from low wage earning nations into low wage earning worthless debt owning goods exporting nations.

    You say you know the Fed messed the economy up, but your reasons are all wrong. They didn’t screw it up by not inflating enough. They screwed it up by inflating too much and distorting the real structure of the US economy, and the world’s economies that use the dollar as reserve to pyramid their fiat money.

    I said: “That ignores the fact that with higher inflation from the banking system, there will be greater economic distortions and greater “liquidity traps” later on.”

    You said: “No, higher inflation makes liquidity traps less likely.”

    You’re not getting it. You’re just focusing on the immediate here and now, and you see higher inflation and higher interest rates today, and thus more room for interest rates to fall today and thus liquidity traps less likely today. This mechanistic thinking masks the actual process going on that makes liquidity traps seem apparent. Liquidity traps are not due to not enough money printing and spending. People don’t just suddenly and capriciously stop spending money that exists in their bank accounts. There is a reason for why they reduce their spending collectively. You can’t say it’s because the Fed didn’t inflate enough, because that would only show spending could not have INCREASED as much as it could have. It doesn’t say people can’t spend the money they already have, which would have resulted in a levelling off of spending, and not a fall as what we typically see.

    Liquidity traps are caused by the same thing that causes the collapse in spending. It’s on the REAL side of the economy. The monetary manipulation from the Federal Reserve System, as that the silly old Nobel Prize winning economic crank FA Hayek explained, distorts the coordination of economic actors away from where it otherwise would have been. That is the source for why you see sudden drops in aggregate spending. It’s not because the Fed “fails” to inflate enough, it’s because there is something wrong with the capital structure that leads to people reducing their spending in that distorted structure. You see NGDP falling and you believe the economy can be “saved” by inflating spending back up. You conflate the effect as a cause, then you believe that changing the cause (NGDP, which is really an effect of a healthy real economy) you can change the effect (Healthier real economy, which is actually a cause of NGDP).

    Yes, sudden and huge drops in NGDP do tend to reduce RGDP. But not all RGDP is good RGDP. If resources are being diverted to producing what cannot be sustained given the real quantity of capital that is available, then RGDP SHOULD fall. It makes no sense to expect people to continue producing houses expecting they have more bricks than they actually do, on the basis that allowing a correction without inflation will result in an immediate decline in current house production. It makes no sense, it is destructive, and makes the economy WORSE.

    You monetarists have absolutely no idea of what’s coming, and no, don’t pretend that you do on some silly basis that you called for more inflation than the Fed is willing to bring about. It’s the very inflation itself that has put the US economy onto a path that will inevitably result in either a HUGE deflationary correction that will fix 40 years of built up distortions, which will be more painful than anything the US economy has ever experienced, or the Fed will continue to be guided by monetarist idiots who don’t understand economics, which will have the inevitable result of a hyperinflationary collapse, probable price controls, rationing, economic chaos, and socialism.

    I think the main problem monetarists have is that they don’t think anything can be wrong with the economy as long as aggregates are nominally growing. As long as RGDP is churning out positive growth, as long as NGDP is churning out positive growth, as long as unemployment is churning out positive growth, then the economy must be considered “healthy.” The tragedy is how blind you can be after seeing positives in all these statistics 2001-2007 before economy experienced a major crisis soon after, and yet you didn’t learn that aggregate statistics don’t tell you about the true health of an economy.

  67. Gravatar of Major_Freedom Major_Freedom
    7. February 2012 at 09:18

    Major_Doofus:

    I googled what you keep copying and pasting, and I came across this blog:

    http://socialdemocracy21stcentury.blogspot.com/2011/12/say-repudiated-says-law.html?showComment=1322758666677#c6170377080521326772

    Are you imitating “David” in order to mock me?

  68. Gravatar of Major_Freedom Major_Freedom
    7. February 2012 at 09:23

    Lorenzo from Oz:

    “Major Freedom: compared to the US, Australia has much lower unemployment rate, higher income growth, no financial collapse. What bizarre metaphysics makes you think intelligent policies lead to suffering?”

    I didn’t know the US was the gold standard on minimized suffering, such that if any country exceeds it in terms of various statistics, they are not suffering.

    “Really, the price of money is not the only price that matters.”

    It matters if you don’t want to mess up people’s ability to rationally plan their economic lives in coordination with other people’s plans.

    The seeming moral argument you have against money is irrelevant to the economic facts concerning money.

  69. Gravatar of Cthorm Cthorm
    7. February 2012 at 09:25

    @Scott

    I probably got a bit ahead of myself on Gross’ policy stance. I think we’re witnessing a conversion to the MM concept. The terminology reflects this most strongly, but the policy prescriptions need to catch up a bit. I also agree 100% that his narrative is confusing to read. Anyway, I find it exciting that someone so well-connected is coming around to the idea.

  70. Gravatar of Luís H Arroyo Luís H Arroyo
    7. February 2012 at 09:51

    A lot of fiscal Stimulus… That is Right for a old keynesian.

  71. Gravatar of 123 123
    7. February 2012 at 09:58

    @Scott
    @Cthorm

    “Again, I’m surprised to see readers of this blog thinking IOR “isn’t a macro problem.””

    Please read Nick Rowe’s “Macroeconomics of doing nothing, redux”. In 2008 doing nothing meant “sticking to the same old Taylor Rule”. Under such definition of “doing nothing”, IOR is expansionary (assuming FOMC hawks do not change the coefficients in the Taylor Rule equation), and accordingly, the IOR has softened the blow a little bit in 2008.

    Today, it is possible that IOR could save the Euro. 3 year LTROs would not be possible without IOR. The plan is to commit to an irreversible expansion of ECB’s balance sheet, and to do it in huge amounts that are sufficient to increase the mandate-consistent interest rates after a year or two.

    Scott: “And what if IOR was negative 2%? And applied to cash ERs as well?”

    That would provide a monetary stimulus. However, QE is better, as negative interest rates are very far from rates that are consistent with on-trend NGDP, thus introducing various distortions. These distortions are absent in monetary stimulus that is based on more QE. This is one of the reasons why Bernanke prefers larger QE to lower IOR.

  72. Gravatar of Lorenzo from Oz Lorenzo from Oz
    7. February 2012 at 12:50

    Major_Freedom: I didn’t know the US was the gold standard on minimized suffering, such that if any country exceeds it in terms of various statistics, they are not suffering. “Suffering” in what sense? Not one that the inhabitants of, say, Sudan would recognise. But even keeping our comparisons within the developed world, Australia is certainly “suffering” less, which is a good thing, no?

    Money is a tool, not an absolute, moral or otherwise. I am not going to support drastically higher unemployment to swap the 3.1% CPI annual growth Australia has for the 3.0% CPI annual growth the US has.

  73. Gravatar of Declan Declan
    7. February 2012 at 14:12

    Rajat, you’re right, that probably helps.

    Tim, that might be a good point about the buffer keeping expectations strong, even if we didn’t actually have to use it – we never had that falling-off-a-cliff moment when it was obvious policy was behind the curve.

    Scott,

    1. & 2. You say Australia’s exports and housing market don’t explain our escape, it’s all about 7% trend NGDP growth and the buffer that gave us to use conventional interest rate cuts.

    I am pointing out that the strong NGDP growth was largely the product of the mining boom – our inflation target is similar to yours. Furthermore, it went way below trend in the year you are talking about (I’ll check the longer run numbers). And finally, the lack of a housing bust (and maybe the other things Rajat talked about) meant we could lower rates less aggressively than the Fed and still avoid a recession.

    Yes, I know the early declines in US housing didn’t hurt the real side too badly, but they did lower the equilibrium interest rate precipitously, which the Fed didn’t keep up with. I.e. they were the precipitating factor behind the fall in NGDP.

    In your ideal world with NGDP futures targeting all this interest rate stuff wouldn’t matter, but if you want to tell a historical story about why Australia didn’t have a recession and the US did, then I don’t think you can avoid it.

    3. Yeah you’re right about the fiscal stimulus – my bad.

  74. Gravatar of Declan Declan
    7. February 2012 at 15:03

    Scott – have looked up the numbers:

    “There was a small quarterly drop in Australian NGDP after mid-2008″

    A lot more than that – GDP at current prices didn’t get back to its Dec ’08 level until Mar ’10.

    “If I’m not mistaken the level of NGDP in 2009 was around 10% higher than 2007; in contrast US NGDP fell over that 2 year period. Remember, level targeting is the key.”

    Yes, but with our 8% (or even 7%) trend a 10% rise over 2 years looks nothing like level targeting (although admittedly better than the US!). There has been no catchup to the previous trend.

  75. Gravatar of Declan Declan
    7. February 2012 at 15:08

    Scott- have emailed you the numbers & charts.

  76. Gravatar of Major_Freedom Major_Freedom
    7. February 2012 at 21:31

    Lorenzo from Oz:

    “Major_Freedom: I didn’t know the US was the gold standard on minimized suffering, such that if any country exceeds it in terms of various statistics, they are not suffering.”

    “Suffering” in what sense?”

    You tell me, you brought the term up. It doesn’t matter exactly how you define it, because my point is that it is wrong to treat the US “the” standard for how destructive fiscal and monetary policy really is.

    “Not one that the inhabitants of, say, Sudan would recognise. But even keeping our comparisons within the developed world, Australia is certainly “suffering” less, which is a good thing, no?”

    I prefer no unnecessary suffering, which means no manipulation of the monetary system by state intervention.

    I find it offensive to praise any group of people who bring about only less unnecessary suffering than groups of people.

    “Money is a tool, not an absolute, moral or otherwise.”

    Money is a tool of economic calculation, and economic calculation is distorted when the state prints and spends money in the name of “stimulus.”

    “I am not going to support drastically higher unemployment to swap the 3.1% CPI annual growth Australia has for the 3.0% CPI annual growth the US has”

    I am not going to support drastically higher unemployment and distortions of the economy in A just because distortion A is less worse than distortion B.

    And your claim contains an implicit fallacy. You are incorrectly implying that the rise in prices of consumer goods is what drives employment. That’s false. Employment is driven by savings and investment, not consumer spending. Consumer spending shows where savings and capital should go, but more consumer spending in the aggregate does not increase saving and investment in the aggregate. They are actually in competition with each other.

    You are not benefiting any laborer by spending money on your own consumption. You are only benefiting the laborers by paying them wages as an employer.

  77. Gravatar of Benny Lava Benny Lava
    8. February 2012 at 06:10

    This is interesting. Could we get some further insights into Australia? For example does it matter that commodities are not the same as exports, or that export levels had a dip in 09 but are near 08 peak and much higher than 06?

  78. Gravatar of ssumner ssumner
    8. February 2012 at 12:22

    Max, You said;

    “Doesn’t seem remotely worth it.”

    Even if I agreed with you it certainly would be worth it. It would reduce the interest cost of the government debt.

    But you ignore the effect on expectations. If you flooded the economy with cash it’s very likely that the expected future money supply would also increase, which would increase expected NGDP growth and raise velocity.

    Of course it might not change expectations, but that’s an even stronger argument for doing it–you save on the government’s interest costs. But I’m 99% sure it would boost growth, if accompanied by expansionary statements by the Fed.

    Tim, Rates never fell close to zero in Australia, that’s the main reason money demand stayed lower.

    Major Freedom, So you are claiming that a time will come when the Fed won’t be able to create inflation? I thought you were one of those conservative Austrian types.

    Thanks Cthorm.

    123, Why is the ECB’s program not possible without IOR?

    You are confusing market rates with IOR. Negative IOR does not mean negative market rates. So I see no “distortions” to NGDP targeting.

    Declan, You said;

    “our inflation target is similar to yours”

    I have two problems here. First, it is NGDP growth that matters, not inflation. So even if true it would not have any bearing on my argument. Second mining is not the only reason Australia had higher NGDP growth. They also have a slightly higher inflation target, and about 1% more immigration.

    You said;

    “Yes, I know the early declines in US housing didn’t hurt the real side too badly, but they did lower the equilibrium interest rate precipitously, which the Fed didn’t keep up with. I.e. they were the precipitating factor behind the fall in NGDP.”

    I agree about rates, but that strongly supports my argument. If you have two incompetent central banks (assume the RBA and Fed are both incompetent) then it is really important to have a high trend interest rate–which is exactly what Australia had. So there was no danger of liquidity trap, because they plenty of room to cut rates. We have much less leeway.

    Declan, If you start in June 2002 and assume 7% trend NGDP, then 4 years later they are right on target (June 2006). Then they rise 4.4% above during the mining boom (June 2008), and then 2.5% below in June 2011, with the world recession. That’s not perfect level targeting, but way better than the US did.

    Benny, These things might matter somewhat, but when I look at the US for a comparison it’s hard for me to see how the differences in the two export perforamnces could explain the vast difference in GDP growth.

  79. Gravatar of 123 123
    8. February 2012 at 13:24

    Scott:
    “Why is the ECB’s program not possible without IOR?”

    It is possible, but it works much better with IOR. Without IOR, ECB would do 3-year LTRO, with the 33% probability that CPI will be roughly on target after three years, with the 33% probability that inflation will be above target, and with the 33% probability of deflation after three years. This is not good, as 33% probability of deflation means that Eurozone would collapse in the meantime.
    The solution is to triple the size of LTRO, and increase IOR after year or two when you get CPI above 2%.

    “You are confusing market rates with IOR. Negative IOR does not mean negative market rates.”
    I believe in Bill Woolsey’s macro it does. Here is what he wrote in 2009 when he argued that low IOR and T-Bill rates are better than more QE: “Anyway, getting the interest rates on reserve balances at the Fed, FDIC insured deposits, and T-bills as low as possible–zero or slightly negative, clears markets without the Fed taking on all the risk.”

    “So I see no “distortions” to NGDP targeting.”
    A clarification – I was comparing two different ways of achieving NGDP target. I prefer “Chuck Norris” QE operations that restore NGDP expectations. This means that the interest rates are more stable than in the alternative scenario, but the size of Fed’s balance sheet varies more.
    Negative IOR option has deadweight losses associated with it as described by Milton Friedman in 1959 (when he argued that IOR should be paid). On the other hand, Fed’s profits would be higher, or at least Fed’s risk would be lower.
    In 2009 Bill Woolsey was attracted to negative IOR option because it avoids the risks of QE. I believe that negative IOR leads to mispricing of risk, and when the Fed takes on risks by expanding QE, as a result the price of risk moves closer to the socially optimal level.

  80. Gravatar of Declan Declan
    8. February 2012 at 14:42

    Scott,
    What exactly is your argument? I thought it was that housing and mining don’t explain why Australia didn’t have a recession, and that there is some kind of lesson in that for others. But to the extent we had higher NGDP growth (which actually doesn’t account for why we didn’t have a recession in ’09, since it was negative then, and as I keep saying we didn’t use the buffer to cut rates more than others) most of that is from mining and no housing bubble bust (let’s say 0.5 p.p. from a higher inflation target and some small amount from immigration). What is the lesson in that?

    If you start in 2002 then what basis do you have for assuming a 7% NGDP trend? That is just about when the growth rate started to rise (from the mining boom!).

  81. Gravatar of Max Max
    8. February 2012 at 17:23

    “Even if I agreed with you it certainly would be worth it. It would reduce the interest cost of the government debt.”

    Ok, but the optimal rate isn’t -2%, it’s a hair below 0% – the lowest rate that doesn’t motivate holding unwanted currency.

    “But you ignore the effect on expectations. If you flooded the economy with cash it’s very likely that the expected future money supply would also increase, which would increase expected NGDP growth and raise velocity.”

    Why?

  82. Gravatar of Max Max
    8. February 2012 at 17:29

    By the way, I forgot that Treasury Direct offers cash accounts (non-interest paying). So unless that were abolished, people would use that instead of paying negative rates or holding currency.

  83. Gravatar of Max Max
    8. February 2012 at 17:34

    They call it a “Zero-Percent Certificate of Indebtedness”:

    http://www.treasurydirect.gov/indiv/help/TDHelp/help_ug_152-CofILearnMore.htm

  84. Gravatar of Lorenzo from Oz Lorenzo from Oz
    8. February 2012 at 18:58

    Major_Freedom And your claim contains an implicit fallacy. You are incorrectly implying that the rise in prices of consumer goods is what drives employment. I am implying nothing of the kind. I am implying that there can be a common cause, but not that one causes the other.

    You are treating “economic calculation” as an absolute. Any distortion is bad, there is no legitimate choice between distortions. But, of course there is. The monetary policy of the RBA is far superior of the monetary policy of the Fed and this matters. Particularly for the people who aren’t unemployed in Australia, haven’t had drastic cuts in income, haven’t had massive drops in wealth, etc.

    Could Australian policy be better? Of course. But policy perfection is not on offer: doing better is. The Fed should be doing at least as well as the RBA and it is a scandal that it is not.

  85. Gravatar of Australia and New Zealand in monetary policy » TVHE Australia and New Zealand in monetary policy » TVHE
    9. February 2012 at 09:53

    [...] at Money Illusion Marcus Nunes links to an interesting post comparing monetary policy outcomes during the GFC between Aussie and [...]

  86. Gravatar of ssumner ssumner
    10. February 2012 at 08:48

    123, I don’t think Woolsey and I differ. We both think T-bill yields might go slightly negative (cost of storing cash) but I think we both believe the IOR could go sharply negative, without market rates doing that.

    Don’t really follow the first point so I won’t comment.

    I agree there is a slight deadweight cost to a negative IOR, and the Chuck Norris approach is what I prefer.

    Declan, I am assuming that a higher TREND rate of NGDP growth protects you from a liquidity trap. Neither mining booms nor housing bubbles impacts the trend NGDP growth rate. I believe Australia’s trend NGDP growth rate is no more than about 7%, because they target inflation at 2-3% and the trend RGDP growth is no more than 4.5%.

    Max, Treasury direct is not part of the monetary base. But I do agree that nominal market rates wouldn’t fall much below zero.

    I think all that cash being injected into the economy would be very disruptive and controversial. People would ask what the hell the Fed is doing, and very quickly reach the conclusion that the Fed was aiming for higher inflation. Indeed inflation expectations would soar on just the announcement of such a program. Of course a much better approach would be NGDP expectations targeting, level targeting, and make the base endogenous.

    Declan, I am assuming that a higher TREND rate of NGDP growth protects you from a liquidity trap. Neither mining booms nor housing bubbles impacts the trend NGDP growth rate. I believe Australia’s trend NGDP growth rate is no more than about 7%, because they target inflation at 2-3% and the trend RGDP growth is no more than about 4.5%.

  87. Gravatar of 123 123
    10. February 2012 at 10:33

    Scott: “I don’t think Woolsey and I differ. We both think T-bill yields might go slightly negative (cost of storing cash) but I think we both believe the IOR could go sharply negative, without market rates doing that.”
    Woolsey has argued that cash convertibility should be suspended when negative IOR is needed so T-bill yields can drop too. You have argued that the negative IOR – cash gap should provide the stimulus.

    “Don’t really follow the first point so I won’t comment.”
    Let me put it another way. Do you think Bernanke’s approach could save the Euro if it was applied in the Eurozone? Ben Bernanke: “I will not raise interest rates for the next three years. Probably”. Draghi: “I am ready to create unlimited amounts of monetary base, and I will not take it back for the next three years. For sure.” IOR is what makes the second type of commitment possible.

  88. Gravatar of 123 123
    10. February 2012 at 10:43

    Scott: “I agree there is a slight deadweight cost to a negative IOR, and the Chuck Norris approach is what I prefer.”

    In summer 2008, DeLong (probably) thought that there is a slight deadweight cost to a zero IOR, and he argued for a Chuck Norris approach with QE and 2% (?) interest rates.

  89. Gravatar of Max Max
    10. February 2012 at 13:59

    “I think all that cash being injected into the economy would be very disruptive and controversial. People would ask what the hell the Fed is doing, and very quickly reach the conclusion that the Fed was aiming for higher inflation.”

    Alternatively, the Fed chairman could run naked through the streets. This would also cause bafflement, but without the deadweight loss.

  90. Gravatar of ssumner ssumner
    11. February 2012 at 06:54

    123, I’m certianly not going to claim Bernanke’s policy can save the euro, as it can’t save the US.

    Woolsey may favor cash restrictions (I don’t) but I was talking about the world we live in, in that world the two rates can differ.

    Indeed in 2008 the IOR and T-bill yields differed.

    I’d like to see the exact quote from DeLong.

    Max, Yes, I’d actually prefer that–seriously. The Fed should try to raise expectations by announcing higher targets, not by indirect money printing techniques.

  91. Gravatar of 123 123
    12. February 2012 at 04:08

    Scott: “Woolsey may favor cash restrictions (I don’t) but I was talking about the world we live in, in that world the two rates can differ.”
    Woolsey needs the possibility to suspend cash convertibility because he favours a lower NGDP path. It is not needed if 5% NGDP path is followed. The real theoretical difference between you and Woolsey was that you favoured manipulating the difference between the IOR and T-bill rates more than Woolsey did:
    http://www.themoneyillusion.com/?p=1754#comment-4525

    “Indeed in 2008 the IOR and T-bill yields differed.”
    Since November 2008 T-bills have yielded less than IOR most of the time.

    “I’d like to see the exact quote from DeLong.”
    Here it is:
    http://delong.typepad.com/sdj/2008/07/every-time-i-tr.html
    ” Either the Fed needs to be given the power to pay interest on reserves immediately–so that it can swap interest-paying reserve deposits for mortgages next week–or this has to become not Fed but Treasury business.”

    Here is my interpretation. The level of fed funds rate was roughly right according to DeLong (ZIRP was not needed at that point). However, the price of mortgage securities was getting incompatible with a decent level of AD. Delong wanted to stabilize AD in July 2008, he just preferred doing QE in July 2008 instead of cutting rates further. DeLong was right in July 2008. Bernanke has implemented DeLong’s idea in September 2008. Bernanke was two months too late.

  92. Gravatar of Declan Declan
    13. February 2012 at 18:43

    Scott,

    sorry for late reply

    “Neither mining booms nor housing bubbles impacts the trend NGDP growth rate. I believe Australia’s trend NGDP growth rate is no more than about 7%”

    No. The mining boom definately raised trend NGDP growth.

    We have been targeting 2-3% (core) CPI inflation since the 90s. Higher commodity prices raised the GDP deflator relative to the CPI (and I think the CPI got a bit above target as well). So with an unchanged inflation target we went from well below to well above 7% NGDP growth.

    I haven’t got the annual numbers to hand but the quarterly rates went from between 1 and 1.5% in the late 90s to >2% a decade later, peaking at 3% in June ’08. Anyway they should be in the spreadsheets I sent you.

  93. Gravatar of ssumner ssumner
    14. February 2012 at 17:48

    123, Thanks, that’s worth a post. I can’t see where DeLong makes the argument you claim he makes.

    Declan, It’s true that mining data can distort the NGDP numbers, and make NGDP targeting less than optimal. I’ve argued elsewhere that nominal wage targeting is actually more optimal. (Or employee compensation.) Do you know what the hourly nominal wage rate data looks like for Australia?

    I’m having trouble seeing how you can claim mining boosted trend NGDP growth, as it’s currently below the 7% trend line.

  94. Gravatar of Declan Declan
    15. February 2012 at 15:25

    Scott,

    Nominal wage data here: http://www.abs.gov.au/AUSSTATS/abs@.nsf/DetailsPage/6345.0Sep%202011?OpenDocument

    Basically it acted like NGDP but less extreme and with a lag: growth rates rose during the 00s (from about 0.8 to 1% per quarter), fell sharply in ’09, and have since bounced back.

    What 7% trend line? You can probably get a 7% average over some period, but NGDP growth rates were rising continuously over the decade to ’08.

    More generally I’m confused by your argument: I thought it was some combination of 1. We went into ’08 with higher NGDP growth, therefore more room to use conventional monetary policy, and 2. our policy actually looked like a NGDP level target.

    My response is that 1. was mostly due to mining and we didn’t use the extra room anyway (though Tim’s expectations point is interesting); and 2. just isn’t true, as you seem to admit yourself in your “currently below trend” comment!

  95. Gravatar of ssumner ssumner
    16. February 2012 at 11:53

    Declan, You said;

    “What 7% trend line? You can probably get a 7% average over some period, but NGDP growth rates were rising continuously over the decade to ‘08.”

    I found almost exactly 7% growth from 2002-06, then faster to 2008, then much slower. Average overall was just below 7%.

    You said;

    “My response is that 1. was mostly due to mining and we didn’t use the extra room anyway (though Tim’s expectations point is interesting); and 2. just isn’t true, as you seem to admit yourself in your “currently below trend” comment!”

    1. The RBA did a better job of providing monetary stimulus than the Fed, although far from perfect (I base this on the wage data you report.)

    2. Yes, NGDP is currently a couple percent below the 7% trend, but the Fed is more than 11% below trend. It’s much easier for wages and prices to adjust to a small deviation.

    I couldn’t open the files you provided for some reason, what’s the current rate of hourly wage growth?

  96. Gravatar of Declan Declan
    16. February 2012 at 16:11

    Scott,

    On what basis is the ’02-06 period “the” trend rather than the slower previous or faster subsequent growth? Even within this period the annual rates rose from 6% to 8%.

    Maybe our NGDP hasn’t fallen as far below trend as in the US (though we’re pretty close if you start with an 8% trend from ’05, which I think is equally reasonable if we want to explain events in ’09 – didn’t you say it is now too late for the US to go back to its pre ’08 trend?).

    But isn’t this just another way of saying we didn’t have a recession, which is the stating point for the whole discussion?!

    Same applies to the “better job” comment – we are, for better or worse, in a world where monetary policy is implemented via interest rates, and by this standard our policy was later and no more agressive than the Fed. The fact our NGDP (perhaps) and RGDP (certainly) held up better just shows we weren’t hit with the same negative housing/financial shock.

    Sept ’11 quarter trend rates are 0.8% quarterly & 3.7% year-on-year. If you want to look them up, the WPI is Australian Bureau of Statistics catalogue 6354.0, and NGDP in national accounts 5206.0.

  97. Gravatar of ssumner ssumner
    17. February 2012 at 06:51

    Declan, The world is as it is, not as people believe it to be. You are right than many people believe interest rate cuts mean easy money, but that’s patently false. So it makes no sense to base an argument on a false assumption. Just because people believe lower rates mean easy money, doesn’t mean we should actually look at the effectiveness of monetary policy via correlations between interest rates and output. Interest rates are very procyclical. By that criteria it looks like easy money causes recessions and tight money causes booms. But surely that can’t be true.

    I don’t understand your complaint about my assumption of 7% trend NGDP growth. Actual NGDP growth since 2002 has been below 7%, and unemployment in Australia right now is currently relatively normal. That tells me that 7% is about right, or perhaps even a bit too high, since actual NGDP growth since 2002 has been around 6.5% per year. It’s well known that if you extend a trend line through an unsustainable boom like 2008 you get nonsense results. You want to use more normal periods.

  98. Gravatar of 123 123
    17. February 2012 at 09:13

    Scott:”Thanks, that’s worth a post.”
    It’s gonna be a very interesting post…

    “I can’t see where DeLong makes the argument you claim he makes.”
    Maybe I’m trying to put the most charitable interpretation of DeLong’s argument, or maybe DeLong and Krugman were closest things to market monetarism you could read in summer 2008.

  99. Gravatar of Declan Declan
    17. February 2012 at 16:03

    Scott,

    I think we have argued this to death.

    You said that commmodities and housing prices don’t explain Australia’s lack of a recession, it was high NGDP growth, and the room that gave us to use “conventional monetary policy, cutting rates”. (Now you say this is a “false assumption”!?)

    I pointed out that we didn’t cut rates more than you did, our NGDP actually tanked in ’09 (a 10 percentage point fall in the annual growth rate!), and our earlier high NGDP growth was mostly the product of the commodity boom.

    You say we had 7% trend growth, because that is roughly the average since ’02, and the end outcome is “normal” or “about right”.

    This reasoning seems circular to me – our outcome was good because of our NGDP, and our NGDP is on trend because our outcome was good.

    I understood “trend” to mean a LR average the economy keeps returning to, that people could reasonably expect to continue into the future (like the 5% nominal/3% real of the Great Moderation in the US). I thought this is what your theory required – stable expectations for making contracts. In this sense Australia clearly did not have a 7% trend in the last decade.

    One last point: could you seriously look at NGDP for Australia and the US side by side, and say from those series alone that the US would have a massive recession and Australia would not?

    P.S. Damn I hope you are right about the inflection point! (One interesting parallel – did you know that Arthur Burns, as an academic, warned about the dangers of inflation just like Bernanke, as an academic, warned about deflation! I hope the next Fed chair isn’t a specialist on, say, US-China relations!)

    P.P.S. Nice post on gold too – I wrote a favourable review of Johnson’s book on Amazon but noone seems to have read it! When is your book coming out (says the time sucking vampire leech)?

  100. Gravatar of ssumner ssumner
    18. February 2012 at 08:35

    123, I’ll try to post it today or tomorrow.

    Declan, I see why you are confused, you are mixing up two issues.

    1. The zero bound problem.
    2. The question of whether the size of interest rate cuts is a good indicator of the ease of monetary policy.

    I believe that central banks have trouble operating at the zero bound because they can’t effectively “communicate” with the public–they can’t signal future policy intentions. Nick Rowe also has this view.

    I also believe interest rates are partly endogenous, responding to a weak economy and/or low inflation expectations. Thus a really tight policy that drives NGDP growth to very low levels, will also tend to drive interest rates to zero. At that point it becomes harder for the central bank to communicate with the public.

    When you have high NGDP trend growth, you have high nominal interest rates. This makes it much less likely that you will end up at the zero bound, and much less likely that the central bank will be forced out of its comfort zone, into unconventional forms of communication.

    I accept your argument about the trend rate, my reasoning was poor. I should have said that the data is compatible with the rate being 7%, I can’t be sure. In contrast, the US rate could not be calculated by drawing a trend line through 2002 and 2011, because the unemployment rate was higher than in 2002. In principle, the trend ought to be roughly the rate of NGDP growth over a subperiod when the unemployment rate was stable.

    I think where we disagree is that you seem to see the rising rate of NGDP growth as the 2000s progressed as a a rising trend, whereas I see it as an above trend growth rate that was not sustainable, given a 2-3% inflation target. Remember that the growth rate during expansions is almost always higher than the trend rate. Didn’t unemployment fall 2002-08?

    It might help if you told me what you thought was sustainable trend RGDP growth for Australia. Then add 2.5% for the inflation target to get NGDP trend.

    In the US it is easier, as we obviously have had a RGDP trend of 3% for more than 100 years. Then add the 2% inflation target and you have 5%. You know more about Australia than me, but I’d be inclined to add 2.5% to whatever seems a plausible trend RGDP growth rate. I happen to think 4.5% seems plausible for RGDP trend, but I’m open to persuasion.

    And just to reiterate one point, I agree that the distortion caused by swings in metals prices makes NGDP targeting less optimal for Australia than the US.

    Thanks for the Burns analogy–might be worth a post.

    Yes, Johnson’s book is excellent.

    My book will come out as soon as I stop answering so many comments and get to work revising it. :)

  101. Gravatar of ssumner ssumner
    18. February 2012 at 08:39

    Declan, Do you have a link on Burn’s academic writings on inflation?

  102. Gravatar of Declan Declan
    18. February 2012 at 14:33

    Scott,

    I got the Burns references from Orphanides (2003) ‘The quest for prosperity without inflation’, which in turn references:

    Burns, A., 1936. The Brookings inquiry into income distribution and progress. Quarterly Journal of
    Economics 50 (3), 476–523.

    Burns, A., 1957. Prosperity Without Inflation. Fordham University, New York.

    Burns, A., 1966. Aggregate or structural approaches to achieving employment act objectives. In:
    Twentieth Anniversary of the Employment Act of 1946, Hearings Before the Joint Economic
    Committee, …

    Orphanides cites the ’57 lectures as warning of inflationary bias and calling for

    ‘‘a declaration by the Congress that
    it is the continuing policy of the federal government to promote reasonable stability
    of the consumer price level’’ (p. 71),

    and the ’36 and ’66 papers as arguing the difficulty of measuring potential output or the output gap.

    4.5% is waaay too high for RGDP – we’ve only had one year above that since 1988! Maybe 3.5%, which would give about 6% NGDP combined with the inflation target (& assuming the deflator follows the CPI).

    (Found an old spreadsheet with annual NGDP growth 1991-2009 – must have been about when I started reading TheMoneyIllusion! It was between 5-6% for most of the 90s while unemployment was slowly falling.)

    But this is beside the point of our disagreement, I think, which is that you are defining “trend NGDP” like the “natural rate” of interest or unemployment: whatever is compatible with good outcomes, rather than a directly observable quantity, or nominal target that the economy can adjust itself to. This seems to remove the main advantage of NGDP over the others.

    (BTW it’s coal as well as metals.)

    If it will get the book out faster I will stop making comments!

  103. Gravatar of ssumner ssumner
    19. February 2012 at 07:03

    Declan, Thanks, I did a post on Burns. I did some checking on NGDP, and found growth was about 6% from 1991-01, and about 7% from 2001-11. So I definitely think the 8% or 9% growth around 2006-08 was a above trend period.

    But again, I agree with your broader point that use of NGDP in Australia has flaws, due to the large mining industry.

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    Scott

    Question: in a small (ish) open economy like Australia the level of NGDP growth can be affected substantially by the terms of trade. So for example Australia’s NGDP growth in some years is 10% when real GDP is 2.5% and inflation is less than 4%. So should central banks target domestic NGDP , which I’m defining as NGDP less the NX component, because surely the central bank policy can’t influence that term.

    Thoughts?

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