John Taylor on monetary policy in 2008

Between 2008 and 2009 NGDP fell at the fastest pace since the Great Depression.  That suggests that monetary policy was probably too tight in 2008.  Oddly, John Taylor seems to think money was too easy, unless I misinterpreted this passage:

A third policy response to the financial crisis was the sharp reduction in the federal funds rate in the first half year of the crisis. The federal funds rate target went from 5-1/4 percent when the crisis began in August 2007 to 2 percent in April 2008. The Taylor rule also called for a reduction in the interest rate during this early period, but not as sharp. Thus the reduction was more than would be called for using the historical relation stressed at the start of this paper, even adjusting for the Libor-OIS spread as I suggested [5] in a speech at the Federal Reserve Bank of San Francisco and in testimony at the House Financial Services Committee in February.

It is difficult to assess the full impact of this extra sharp easing, and more research is needed.  The lower interest rates reduced the size of the re-set of adjustable rate mortgages and thereby was addressed to some of the fundamentals causing the crisis. Some of these effects would have occurred if the interest rate cuts were less aggressive.

The most noticeable effects at the time of the cut in the federal funds rate, however, were the sharp depreciation of the dollar and the very large rise in oil prices. During the first year of the financial crisis oil prices doubled from about $70 per barrel in August 2007 to over $140 in July 2008, before plummeting back down as expectations of world economic growth declined sharply. Figure 11 shows the close correlation between the federal funds rate and the price of oil during this period using monthly average data. The chart ends before the global slump in demand became evident and oil prices fell back.

When the federal funds rate was cut, oil prices broke out of the $60-$70 per barrel range and then rose rapidly throughout the first year of the financial crisis. Clearly this bout of high oil prices hit the economy hard as gasoline prices skyrocketed and automobile sales plummeted in the spring and summer of 2008. In my view, expressed in a paper [6] delivered at the Bank of Japan in May, this interest rate cut helped raise oil and other commodity prices and thereby prolonged the crisis.

Econometric evidence of the connection between interest rates and oil prices is found in existing empirical studies. For example, in early May 2008, the First Deputy Managing Director of the International Monetary Fund John Lipsky said: “Preliminary evidence suggests that low interest rates have a statistically significant impact on commodity prices, above and beyond the typical effect of increased demand. Exchange rate shifts also appear to influence commodity prices. For example, IMF estimates suggest that if the US dollar had remained at its 2002 peak through end-2007, oil prices would have been $25 a barrel lower and non-fuel commodity prices 12 percent lower.”

When it became clear in the fall of 2008 that the world economy was turning down sharply, oil prices then returned to the $60-$70 range. But by this time the damage of the high oil prices had been done.

Taylor mentions the big interest rate cut from August 2007 to April 2008.  But during this period there was no increase in the monetary base, so the fall in rates represents less demand for money, not more supply.  I can’t imagine why he would argue that money was too easy in 2008.  Wouldn’t tighter money have led to an even bigger fall in NGDP between 2008 and 2009?

I’m also puzzled that someone would look at the price of oil when deciding whether money was too easy or too tight.  Why not NGDP?


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89 Responses to “John Taylor on monetary policy in 2008”

  1. Gravatar of Arnold Kling Arnold Kling
    28. March 2012 at 11:06

    Scott, as you know, I consider the incompatibility of your views and John Taylor’s a significant problem in that both of you would claim to be inheritors of Milton Friedman’s monetarist mantle.

    If I had to choose, I would take your side. But the conflict itself is very troublesome.

  2. Gravatar of ssumner ssumner
    28. March 2012 at 11:38

    Arnold, I would emphasize the fact that roughly 100% of economists who favor NGDP targeting also think money was too tight in 2008. I’m not concerned about the fact that someone with very different views from me also has different policy preferences.

    Milton Friedman would never have made the argument Taylor just made about oil prices.

    Like many conservatives (including Anna Schwartz), Taylor seems to have become far more conservative in recent years, especially after the election of Obama.

    I haven’t become more conservative, so I’m a bit puzzled as to why others seem to have moved in that direction. NGDP targeting was once viewed as a quite conservative policy recommendation, associated with people like Bennett MCallum and George Selgin. Taylor once had good things to say about NGDP targeting. So did Hayek. What’s changed? Is there new evidence it doesn’t work?

    John Taylor is often listed as a likely economics czar in the next GOP adminstration. Interestingly, the GOP has recently moved to the right. Indeed Romney went from supporting Bernanke to opposing Bernanke in just a matter of weeks. Why did that happen? The term “etch a sketch” comes to mind. (That’s a jab at Romney, not Taylor.)

  3. Gravatar of Gregor Bush Gregor Bush
    28. March 2012 at 12:02

    “Preliminary evidence suggests that low interest rates have a statistically significant impact on commodity prices, above and beyond the typical effect of increased demand.”

    This is just plain silly. If the Talyor/Lipsky argument is true, then financial markets are horribly inefficient. It would mean that, whenever the Fed cuts rates below the prescribed “Taylor Rule” level, traders irrationally bid up the prices of commodities to levels that cannot be justified by fundamentals. Then at some point, markets realize that there is excess supply and prices come crashing back down again. Taylor and Lipsky should have made billions by now trading on this signal.

    Here’s an exercise for John Taylor: plot the S&P 500 and price of Brent oil on the same chart since mid-2008. Now plot the S&P 500 against the USD major currency index over the same sample. Finally, plot the S&P 500 against the 10-year TIPS breakeven inflation rate. What do you see?

  4. Gravatar of Major_Freedom Major_Freedom
    28. March 2012 at 12:20

    Gregor Bush:

    “Preliminary evidence suggests that low interest rates have a statistically significant impact on commodity prices, above and beyond the typical effect of increased demand.”

    This is just plain silly. If the Talyor/Lipsky argument is true, then financial markets are horribly inefficient.

    This is like saying “If you cannot discern the true message in this jammed radio signal, then you are not an efficient listener!”

    With artificially low interest rates, investors and consumers CANNOT EVEN OBSERVE the “correct” rates, so you can’t blame them for doing what’s in their self-interest to do, which is search for profitable investment opportunities, which WOULD be efficient if the monetary system weren’t being jammed by distortions from the Fed.

    It would mean that, whenever the Fed cuts rates below the prescribed “Taylor Rule” level, traders irrationally bid up the prices of commodities to levels that cannot be justified by fundamentals. Then at some point, markets realize that there is excess supply and prices come crashing back down again. Taylor and Lipsky should have made billions by now trading on this signal.

    The true signal cannot be observed. Only the signal that exists. That’s why traders “irrationally” bid up asset prices. You know, discounting future cash flows, and calculating higher present values with lower interest rates than with higher interest rates?

  5. Gravatar of dwb dwb
    28. March 2012 at 12:22

    I dont get it. Monetary policy was responsible for the boom, but not the bust (for that we have a jedi mind trick here: oil prices). Am i the only one who appreciates the irony that this has Lucas Critique written all over it?

    Most of this, i think, has been rebutted ad nauseum elsewhere. For example, if you look at inflation/output gap projections in real time the policy looks a lot different. How are we controlling for stupid lending standards in that house pice counterfactual? Since the ECB does not have an employment mandate why is a comparison o Europe relevant?

    Overall, my sad perspective is that i look at this material less as economics and research and more as marketing material “look my rule RULES!”

  6. Gravatar of Major_Freedom Major_Freedom
    28. March 2012 at 12:29

    Incidentally, Gregor, if investors do go about trying to guess the “true” interest rates, and they conclude that prevailing low interest rates are not “real”, and that true interest rates are higher, and they REDUCE their spending for assets accordingly, then do you what will happen? Idiot Keynesians and Market Monetarists are going to crawl out from their rocks and say that “the Fed is pushing on a string” or “businesses are hoarding cash” or “NGDP is falling, the Fed has to print more” or “we’re in a liquidity trap.”

    Then you will see calls for the Fed and Treasury to force spending higher, and ironically take over the role of being the desired “irrational” investor to bid up asset prices above what “rational” investors want them to be.

    In other words, “rational” investors can’t win, and irrational investors and irrational policy makers can’t lose.

    And you have the gall to attack the free market and profit searching investors?

  7. Gravatar of Steve Steve
    28. March 2012 at 12:47

    You are absolutely, certainly interpreting the passage correctly. Taylor thought monetary policy was far too easy in 2008. His completely illogical belief is that too easy money hurt the economy by raising oil prices. If only the Fed had targeted lower oil prices during a supply shock (actually that’s what it started to do in Sept ’08 as I’ve shown), Taylor believes the economy would been stronger.

    It’s a completely crazy economically illogical belief, but it was (and remains) pretty widespread. I’d estimate about half of Wall St economists still believe the Fed should target lower commodity prices.

    I also wonder if Taylor’s views may have informed some on the Fed, like Fisher. Here’s Fisher’s view in June 2008:

    http://blogs.wsj.com/economics/2008/06/25/the-dissent-fisher-stands-alone/

    “June 25, 2008, 2:53 PM
    The Dissent: Fisher Stands Alone”

    “Dallas Fed President Richard Fisher was the only opposing vote in the 9-1 decision to keep the federal funds rate at 2%”

    “He fretted that higher energy costs and a rising cost of living are working their way into the public perception of its spending power. He told his audience that his personal preference would have been for a federal funds target rate of 3.5%.”

  8. Gravatar of Becky Hargrove Becky Hargrove
    28. March 2012 at 12:48

    I stand behind NGDP targeting. However, Arnold’s remarks sometimes remind me of the ways in which I am the ‘reluctant Austrian’. Not because I want to be but because I cannot ignore what might ultimately happen – Which also means I have to think in complexity terms even if I’d rather not. If mysteries regarding production and wealth are ever going to be resolved this is the time to do it. Hey, at least Arnold had compliments today for you on his blog! We all wish monetary economics could be a bit simpler, right now.

  9. Gravatar of Peter N Peter N
    28. March 2012 at 13:06

    Based on the Divisia aggregate charts in Barnett, It looks like Taylor was right as of 2007, but turned very wrong in the summer of 2008. Starting there the year over year growth in broad money went from +30% to -10% over six months then drifted down to -15% where it stayed until sometime in 2010.

    This would make the bursting of the bubble the initial cause of the financial crisis, and the mishandling of Lehman and the mishandling of the stress it put on the money supply what turned a 1929 into a 1931. The irony is palpable.

    Barnett says :

    “While the deviation [between Divisia M2 and the M2 common trend - his figure 4.7] had increased by 500 billion dollars during the twenty years from 1960 to 1980 that deviation increased by an additional 2 trillion dollars during the next 25 years from 1980 to 2005 [and 1 Trillion dollars of that in 1995 - 2005]…. The Federal Reserve could have been feeding an asset bubble without the Fed’s being aware of it.”

  10. Gravatar of Steve Steve
    28. March 2012 at 13:11

    Ok, I’m going to fill up your comment section, because this is an area where I’ve actually done my homework.

    A lot of people like Taylor commit a basic economic fallacy in assuming that financial speculation and/or monetary policy directly drive commodity prices. Monetary policy only drives commodities indirectly through effects on demand. And the magnitude of currency moves is very small relative to commodity moves, so the currency argument is also a fallacy.

    Yes as Gregor Bush points out, speculators can make errors for short periods of time. But speculators can’t take physical delivery of the most important fuel and food commodities, only trade equal and offsetting futures positions. Every long speculator is offset by a short speculator, and the long speculators are actually an important source of capital formation; the shorts are often producers seeking hedges in order to raise capital for additional supply.

    My interpretation of Taylor and his ilk is that they strangely think monetary policy should be used for microeconomic manipulation, i.e., the central bank should intervene to prevent unpleasant but necessary supply side adjustments. I’d like to see Taylor try to rebut this. But the evidence is that one of the results of the bust in 2008 was a disastrous fall in supply side investment in food and energy.

  11. Gravatar of Steve Steve
    28. March 2012 at 13:23

    ssumner wrote:
    “John Taylor is often listed as a likely economics czar in the next GOP adminstration. Interestingly, the GOP has recently moved to the right. Indeed Romney went from supporting Bernanke to opposing Bernanke in just a matter of weeks.”

    I happen to believe that the American electorate is smarter and more centrist than people give them credit for. Stuff like this is why we are likely to get a Republican House, Republican Senate, but a Democratic President in 2012. As sad is it might sound, this is the wingbat minimizing political configuration. (Or at least wingbat dis-empowering.)

  12. Gravatar of Steve Steve
    28. March 2012 at 13:25

    I should add a Republican Congress and Democratic president is the only configuration that gives us monetary stimulus without fiscal stimulus.

  13. Gravatar of Gregor Bush Gregor Bush
    28. March 2012 at 13:36

    Major you said,

    “The true signal cannot be observed. Only the signal that exists. That’s why traders “irrationally” bid up asset prices. You know, discounting future cash flows, and calculating higher present values with lower interest rates than with higher interest rates?

    And you have the gall to attack the free market and profit searching investors?”

    You’re missing my point. I’m not attacking the free market and profit searching investors. I’m attacking Taylor and Lipsky.

    If the Fed (unexpectedly) lowers the Fed funds rate (and implicitly the future path of the Fed funds rate) this will result in an increase in prices of commodities and other risky assets. But once the increase in price has occurred, the ex ante premium on those assets should be (roughly) the same as before. So a trader who was long at $80 a 2010 oil futures contract in November of 2007 was expecting to make roughly the same excess return over cash as he did when oil was $120 in June of 2008. In other words, at both points in time the market, as a whole, thought that the futures price at the time was sustainable at that level. If that was the case, then markets were being (roughly) efficient and rational.

    But what Taylor is saying is that traders were bidding up oil prices to levels unsustainable levels but were too stupid to realize it. Take another look at what he says:

    “ During the first year of the financial crisis oil prices doubled from about $70 per barrel in August 2007 to over $140 in July 2008, before plummeting back down as expectations of world economic growth declined sharply… Clearly this bout of high oil prices hit the economy hard as gasoline prices skyrocketed and automobile sales plummeted in the spring and summer of 2008.”

    Essentially what is saying is that easy monetary policy caused higher energy prices which caused the recession which caused low energy prices. Doesn’t this story beg the question of why didn’t traders realize that the surge in oil price would “hit the economy hard”?

  14. Gravatar of Bill Woolsey Bill Woolsey
    28. March 2012 at 14:00

    It has to do with exchange rate targeting.

    The market monetarist approach is keep nominal GDP on a target growth path and let exchange rates adjust to clear the market for foreign exchange.

    Taylor is taking an approach that says adjust short term interset rates to generate short term capital flows to keep the exchange rate stable.

    While that isn’t really consistent with the Taylor rule as traditionally understood, there are appear to be powerful voices in the Republican Party would favor a maintaning a high exchange rate for the dollar.

  15. Gravatar of Steve Steve
    28. March 2012 at 14:04

    @Bill Woolsey

    In other words, Taylor wants to outsource US monetary policy to Jean Claude Trichet. Brilliant, no?

  16. Gravatar of DonG DonG
    28. March 2012 at 14:10

    I suppose there was a time, when oil prices were related value of the dollar. Perhaps back when OPEC was stronger and lots of freedom to control global supply. But those days are gone. Now it is simply supply-and-demand for a commodity with low elasticity. Why are some economists slow to accept that there is a market for oil?

    Is it useful to measure Fed funds rate in nominal rather than real rates? It is hard to convert, but shouldn’t we try?

  17. Gravatar of Morgan Warstler Morgan Warstler
    28. March 2012 at 14:16

    Arnold / Becky,

    If Scott spent more time focusing on how NGDPLT changes the world 2004-2007, Taylor and he would agree far more.

    Scott wants to swoop in AFTER the binge, and he largely never wants to talk about how his policy keeps binges from occurring.

  18. Gravatar of JohnB JohnB
    28. March 2012 at 14:16

    Scott, I’d be interested to read your views on this recent note by Evan Koenig (of the Dallas Fed):

    http://www.dallasfed.org/assets/documents/research/staff/staff1202.pdf

    His Abstract:

    The classic Taylor rule for adjusting the stance of monetary policy is formally a special case of nominal-gross-domestic-product (GDP) targeting. Suitably implemented, moreover, nominal-GDP targeting satis…es the de…nition of a “‡flexible infl‡ation targeting” policy rule. However, nominal-GDP targeting would require more discipline from policymakers than some analysts think is realistic.

  19. Gravatar of Majorajam Majorajam
    28. March 2012 at 14:17

    Taylor’s simply acknowledging what all but that are none too blind can see; monetary policy instruments have negative side effects, in recent experience, quite massively so. From the way in which inciting a ‘dash for trash’ invites heads I win tails you lose speculation, to the way in which telegraphing low stable rates finances said, to the way in which speculation can have deleterious effects on the real economy, for example through the channel Taylor cites here, or through others, to the perverse effects it can impart on monetary conditions themselves, there are many ways in which the cure can be, and is on the record as having been, worse than the disease.

    A central bank does not control a variable on the side of a an equation sitting in equilibrium atop a frictionless surface. They have real world mechanisms that are highly imperfect, even if one could argue that having such an authority is better than not having one. And that’s as clear as day to those with a modicum of understanding of how credit actually gets created in the real world.

  20. Gravatar of Benjamin Cole Benjamin Cole
    28. March 2012 at 14:44

    Yes, the same John Taylor who told the Bank of Japan to engage in QE in 2006.

    Yes, Fed policies have negative side effects, like suffocating the economy with too tight money.

    Really, does Taylor really believe what he says, or does he want Obama out of office (Taylor is a GOP solon)?

    How come when Friedman, Taylor, Meltzer, Mishkin and Bernanke told Japan to print more money, not one of them quailed about the soundness of currency or spooking currency markets, or that there would international ramifications etc.

    Japan was, until recently, the second-largest economy on earth. They have been eclipsed by China, which, btw, aggressively prints money.

    Japan is not only hurting themselves, they are hurting us. USA exports to Japan in the last 20 years have hardly budged, but they have soared to China.

  21. Gravatar of dwb dwb
    28. March 2012 at 15:25

    Taylor is taking an approach that says adjust short term interset rates to generate short term capital flows to keep the exchange rate stable.

    sounds like an excellent way to import everyone else’s bad policy.

  22. Gravatar of Doc Merlin Doc Merlin
    28. March 2012 at 15:50

    @DonG
    “I suppose there was a time, when oil prices were related value of the dollar.”

    Still is. All commodities are. This is why a long commodity play is a short all currencies play.

  23. Gravatar of Major_Freedom Major_Freedom
    28. March 2012 at 16:28

    Gregor Bush:

    “The true signal cannot be observed. Only the signal that exists. That’s why traders “irrationally” bid up asset prices. You know, discounting future cash flows, and calculating higher present values with lower interest rates than with higher interest rates?

    And you have the gall to attack the free market and profit searching investors?”

    You’re missing my point. I’m not attacking the free market and profit searching investors. I’m attacking Taylor and Lipsky.

    You are because you’re saying asset price increases due to monetary policy lowering interest rates, are somehow a reflection of market “inefficiency.” That’s attacking the market.

    If the Fed (unexpectedly) lowers the Fed funds rate (and implicitly the future path of the Fed funds rate) this will result in an increase in prices of commodities and other risky assets. But once the increase in price has occurred, the ex ante premium on those assets should be (roughly) the same as before.

    The increase in price is not sudden and one time. It’s gradual as more and more buyers spend more and more on the assets as more and more money floods the market. Bull market.

    The premiums do not necessarily end up at a fixed value either, since the monetary policy is ongoing, and gross profits tend to keep increasing over time during an inflationary boom, much like is going on now.

    So a trader who was long at $80 a 2010 oil futures contract in November of 2007 was expecting to make roughly the same excess return over cash as he did when oil was $120 in June of 2008. In other words, at both points in time the market, as a whole, thought that the futures price at the time was sustainable at that level. If that was the case, then markets were being (roughly) efficient and rational.

    But what Taylor is saying is that traders were bidding up oil prices to levels unsustainable levels but were too stupid to realize it.

    No, they’re saying that investors thought the higher price was sustainable.

    Investors don’t purposefully bid prices above what they believe is sustainable.

    Taylor is saying investors had no way of knowing otherwise and were acting rationally, despite the price not being sustainable.

    Take another look at what he says:

    “During the first year of the financial crisis oil prices doubled from about $70 per barrel in August 2007 to over $140 in July 2008, before plummeting back down as expectations of world economic growth declined sharply… Clearly this bout of high oil prices hit the economy hard as gasoline prices skyrocketed and automobile sales plummeted in the spring and summer of 2008.”

    Essentially what is saying is that easy monetary policy caused higher energy prices which caused the recession which caused low energy prices. Doesn’t this story beg the question of why didn’t traders realize that the surge in oil price would “hit the economy hard”?

    Not at all. The expectations are always conditional. Monetary policy was loose up until around July 2008, when aggregate money started to rise to only a crawl. That is when investors priced oil lower.

    I see no reason to suggest anything “inefficient” about this behavior.

  24. Gravatar of Mark A. Sadowski Mark A. Sadowski
    28. March 2012 at 16:49

    Thanks for the nonresponse response,
    Scott

    I’ll make this clearer.

    It makes me feel real respected when people take the time to ignore my important points.

    You’ll be sorry one day, when I make my mark. And if my plan holds true it will finally be this year.
    Mark

  25. Gravatar of Mark A. Sadowski Mark A. Sadowski
    28. March 2012 at 16:54

    Let me remind you. My thesis has supply side implications.

  26. Gravatar of Bonnie Bonnie
    28. March 2012 at 17:44

    I don’t mean to keep harping on the Bullard paper, and I don’t know if you’ve read it, but in it his conclusions are that to get to the stable state with positive interest rates and positive inflation, and where monetary policy is “active”, the Fed should engage in goal based QE with treasuries instead of MBS.

    It is completely contradictory with what he has been saying on the talk show circuit over just the last couple of weeks. There was a write up on Bloomberg last week of him saying that we have ultra-easy money, when that paper from last year is almost entirely about how he knows it is anything but easy under current conditions.

    To speculate, they might be doing it for the psychological portion of expectations management. Perhaps they think that if they can convince markets money is easy when, under current circumstances, it isn’t really that way. If they can talk people out of hoarding money, maybe they won’t have to do QE and thus save themselves from the political fallout.

    If I’m even in the ballpark with this line of thought, it highlights a real weakness in the implementation of inflation targeting. In the paper by Marvin Goodfriend that describes the New Neo-classical Synthesis, he discusses how to manage inflation targeting and points out that QE would be a major tool to get inflation back on target if it’s too low. This assumption might be technically correct, but the politics of QE appear to make it quite a dicey proposition.

    I have no idea if the powers that be took this into account or even considered a willingness to undertake QE as a responsibility before climbing out on the inflation targeting limb. At some point, someone has to be the adult in the room and point out that if they cannot do QE when inflation is too low, the whole thing becomes unworkable because the even price stability mandate cannot be met in such a state where the lower stable state is predicting that the interest rates need to be -6% (per Bullard) in order to maintain any appearance of control.

  27. Gravatar of Tommy Dorsett Tommy Dorsett
    28. March 2012 at 18:21

    If Taylor was using headline inflation in his rule, he would have preferred a tripling of the Fed funds rate right at the moment NGDP peaked in 2008. And look at how spectacularly NGDP crashed against a simple ‘pause’ in easing, let alone actual hikes, a pause sanctioned in part because Bernanke was worried about high crude prices and a 17-year high in CPI inflation. Taylor apparently has not learned much from the crisis.

  28. Gravatar of ssumner ssumner
    28. March 2012 at 18:59

    Gregor, I had the same reaction. Oil also rose sharply in terms of other currencies, was that also the Fed?

    dwb, I’m puzzled too.

    Steve, If Fisher had his way, we’d be in a depression by now.

    Becky, NGDP targeting is pretty simple.

    Peter, He was certainly wrong as of 2008.

    Steve, I agree with all of your points, especially this:

    “I should add a Republican Congress and Democratic president is the only configuration that gives us monetary stimulus without fiscal stimulus.”

    Don G, I agree.

    JohnB, That seems to mix up NGDP targeting with level targeting. The commitment problem (which I think is overrated) has to do with level targeting.

    Majorajam, You said;

    “monetary policy instruments have negative side effects, in recent experience, quite massively so.”

    As far as I know everyone agrees with that, indeed it’s the main point of this blog. It’s why I oppose discretionary monetary policy.

    Out of time, I’ll take more comments later.

  29. Gravatar of Morgan Warstler Morgan Warstler
    28. March 2012 at 21:28

    Yep, I’m right.

    “Starting in 2003-05, it held interest rates too low for too long and thereby encouraged excessive risk-taking and the housing boom.”

    http://online.wsj.com/article/SB10001424052702303816504577307403971824094.html

    Scott’s own plan say EXACTLY the same thing.

  30. Gravatar of J.V. Dubois J.V. Dubois
    29. March 2012 at 01:44

    Gregor Bush: “Essentially what is saying is that easy monetary policy caused higher energy prices which caused the recession which caused low energy prices.”

    This. You hit the nail on the head. It is like debates with econ laymen saying something like: “Higher demand causes higher prices which in turn cause lower demand”.

  31. Gravatar of dwb dwb
    29. March 2012 at 06:19

    off topic, sort of:
    “The Close Connection Between Nominal-GDP Targeting and the Taylor Rule”

    have not read the paper yet. just reading the abstract though why would it be harder to commit to a taylor rule than bgdp target? seems like you could make this argument for *any* target.

    http://economistsview.typepad.com/economistsview/2012/03/the-close-connection-between-nominal-gdp-targeting-and-the-taylor-rule.html

  32. Gravatar of Steve Steve
    29. March 2012 at 07:15

    Scott, Morgan,

    John Taylor is a crank. This is what we wrote in the WSJ opinion piece Morgan just linked to:

    “It then overshot the needed increase in interest rates, which worsened the bust.”

    But in 2008 he was saying that rates were too low, as the paper Scott posted proves. Taylor is Mr. Monetary Etch-A-Sketch.

  33. Gravatar of Tom Tom
    29. March 2012 at 08:37

    Scott, you’ve been saying that money is too tight, now, even tho interest rates are low. (I think this is true).
    Yet you claim that Taylor thinks monetary policy == interest rate; low interest rate means loose money, high interest rate means tight money, always and under all circumstances.
    “seems to think money was too easy,”

    I don’t think Taylor says that in this Nov. 2008 paper.
    He does support his Taylor Rule, which is a simpler, clearer, and thus perhaps a better rule than your own “NGDP Target”, even tho to most interested non-experts, they are pretty similar.

    In particular, had his Taylor Rule been followed 2002- 2005, the boom would have been far less, with less bust later (Tho perhaps a slower econ would have had W. Bush not getting re-elected in 2004).

    Similarly, he shows a strong Fig 4 of Housing Investment vs. Deviations From the Taylor Rule in Europe — with Ireland, Greece, and Spain the three biggest deviators.

    As is noted, the Taylor Rule did call for reduction of the Fed rate from 5.25% in August, but not as sharp as the drop
    to 2% in April 2008.

    Isn’t it possible that an excessive adjustment causes a backlash that counters the expected benefit of the adjustment?

    Dropping the rate did not seem to increase the supply of money AS MUCH as the effect of higher oil prices — prices which might well have been the result of the big drop in rates.

    I think it’s very possible.
    The facts indicate that this is what happened.

    You, instead, focus on the monetary base: “But during this period there was no increase in the monetary base, so the fall in rates represents less demand for money, not more supply.”

    Sorry, Taylor never claims there is an increase in money. He claims the rate cut was bigger than the Taylor Rule called for AND that oil prices rose as the rate dropped.

    I’m disappointed that you are:”puzzled that someone would look at the price of oil when deciding whether” [Fed rates have dropped too fast or not].
    a) Taylor’s talking specific Fed rate changes, it’s you who want to be less precise with loose/tight money talk;
    b)there is long experience of how oil price changes have a disproportionate short term effect on the economy, so if Fed rate changes cause big oil price changes, all economists should be looking at it.
    c) [it might well be that in a Fin crisis of bank solvency, interest rate cuts won't increase the monetary base, so lowering the rate doesn't work for this]

    Finally, it’s a huge weakness of your own NGDP targeting story that I still don’t know what specific policies you would have done differently, when, in the 2001-2011 timeframe, or longer. With a Taylor Rule, not so different from what I understand you say you like, I feel far more comfortable.

    “Why not NGDP?” — because the Fed DOES control the Fed rate. Thus a Taylor Rule is certainly achievable, and it’s not clear that, under crisis, the Fed really can effectively target NGDP.

  34. Gravatar of orionorbit orionorbit
    29. March 2012 at 09:03

    Scott, slightly off topic question on NGDP targeting. I am looking at data for the nominal GDP of turkey, starting 1998, here:

    http://www.gecodia.com/Turkey-GDP-Growth-Rate_a515.html

    NGDP follows a clearly linear trend in billions of Turkish lira (ok I imagine you’d ideally look at logarithms, but the timeframe is not that large). The TCB did not let nominal gdp deviate significantly from this trend, yet in the financial crisis real GDP dropped by 15%. Unemployment also increased by 4 percentage points. Two explanations I can think of are, A. that maybe the compounding is so large that the picture is distorted (but then again, logarithms would indicate very tight money, so why the persistent inflation?) and B. that the trend is adhered to but the variance around it is simply too large (i.e. the TCB is not hawkish enough when it needs to be hawkish and not dovish enough when it needs to be dovish), but then again, there is no apparent conditional heteroskedasticity so if the variance is the problem in late 09, why wasn’t it a problem between 2004-2009?.

    Neither explanation seems good enough to me, but I imagine you have a better one?

  35. Gravatar of Gregor Bush Gregor Bush
    29. March 2012 at 10:39

    Major,

    “Not at all. The expectations are always conditional. Monetary policy was loose up until around July 2008, when aggregate money started to rise to only a crawl. That is when investors priced oil lower.

    I see no reason to suggest anything “inefficient” about this behavior.”

    Niether do I, and that is my point. And I completely agree with you diagnosis. But Taylor clearly dosen’t. He sees high oil prices as the cause of the recession rather than falling oil prices as a symptom of the expected future recession. My point is that Taylor’s story requires you to belive that markets were hugely inefficent. Scott’s story on th eother hand is broadly consistent with EMH: the Fed policy became progressively tighter after the first week of July with commodities and stocks falling and liquidity and credit premia surging. And the more it became clear that the fed was asleep at the switch, the worse things got. The Fed should have been cutting rates through the summer and set a very clear target for forward-looking inflation, the price level or NGDP. But this is exactly the opposite of what Taylor wanted them to do.

  36. Gravatar of Major_Freedom Major_Freedom
    29. March 2012 at 10:55

    Gregor Bush:

    But Taylor clearly dosen’t. He sees high oil prices as the cause of the recession rather than falling oil prices as a symptom of the expected future recession.

    Yes, because he thinks it is the rise in oil prices that caused distortions.

    My point is that Taylor’s story requires you to belive that markets were hugely inefficent.

    Of course. The market incredibly “inefficient.” It’s the reason why profits can be make in the first place, why the market cannot stop the state induced boom bust cycle, and why people make mistakes.

    Scott’s story on th eother hand is broadly consistent with EMH: the Fed policy became progressively tighter after the first week of July with commodities and stocks falling and liquidity and credit premia surging.

    EMH is bogus.

    The Fed should have been cutting rates through the summer and set a very clear target for forward-looking inflation, the price level or NGDP. But this is exactly the opposite of what Taylor wanted them to do.

    No, the Fed should have raised rates by ceasing inflation, letting the corrections occur, letting the people solve the distortions on their own. This is exactly the opposite of what the Fed did, and so the Fed has created yet another inevitable bust.

  37. Gravatar of Jon Jon
    29. March 2012 at 11:43

    Scott writes:

    Wouldn’t tighter money have led to an even bigger fall in NGDP between 2008 and 2009?

    I’m also puzzled that someone would look at the price of oil when deciding whether money was too easy or too tight. Why not NGDP?

    NGDP growth rates were near 5% in the Q1,Q2 2008 period. Up until Q1 2008, NGDP had even been above trend.

    Second, expectations are more powerful than current policy. The Fed could have been tighter in Q1 2008 and NGDP growth could have been higher, if expectations about the future different.

    So I happen to think Taylor’s narrative isn’t sooo bad. The problem is that the Fed was perceived as being loose in 2008. That perception drove an expectation that they would tighten later. As months went on and they didn’t tigthen, the expectation started to be that they would tighten severely ‘soon’. NGDP started to turn-down.

    That’s when every everything went out of phase. The market became convinced the Fed would tighten severely, driving NGDP down, but the Fed “froze”. They were still remembering how the market saw them as loose earlier in the year and decided to signal they weren’t loose.

    That was entirely the wrong message. It was out of phase with the market perceptions.

    This is where I think Taylor has a point. The Fed stopped acting as if it was a rules based institution with a clear target and started acting as if it made policy up as it went. That’s when they lost hold of expectations, and then fatally made matters worse by reacting to how they were perceived months earlier not how they were perceived at the moment.

  38. Gravatar of Dan Kervick Dan Kervick
    29. March 2012 at 14:45

    If interest rates are low, how can it matter where the monetary base is? The monetary base grows as a result of lending. It doesn’t cause lending.

  39. Gravatar of Majorajam Majorajam
    29. March 2012 at 16:25

    That’s a peach Scott. There could be no greater monument to the insanity of ‘market monetarism’ than that you genuinely think that the reason NGDP plummeted in the second half of 08 was due to ineffective expectation settings by the Fed. I mean, that’s so touching it brought a tear to my eye.

    The fact is that, for all intents and purposes, the market knows where the Fed is coming from and going with a huge lead time. The level of transparency is actually a source of massive financial system profits and has been for some time, and that certainly wouldn’t change under any regime misguided enough to think that NGDP targeting would make a difference in crises (I would be more optimistic in more ‘normal’ markets, as NGDP targets are not far off my own beliefs in that regard).

    The only thing the market doesn’t know is the stuff the Fed doesn’t know- i.e. what’s going to happen with the economy, inflation and the credit markets. They know well that, for example, the Fed will fall over itself easing at the first sign of a genuine downdraft in the equity markets.

    And all of this is getting to a point when it might be testable. Because the next Republican to enter the White House is going to be under serious pressure to appoint one of those crazy hawks they’ve got, if they aren’t under pressure to abolish the Fed entirely. When that happens, it will be pretty clear what the expectations were, because expectations will change, and radically.

  40. Gravatar of Doc Merlin Doc Merlin
    29. March 2012 at 17:50

    @Majorajam
    “And all of this is getting to a point when it might be testable. Because the next Republican to enter the White House is going to be under serious pressure to appoint one of those crazy hawks they’ve got, if they aren’t under pressure to abolish the Fed entirely. When that happens, it will be pretty clear what the expectations were, because expectations will change, and radically.”

    A Ron Paul as a Fed Chairman?

  41. Gravatar of Jim Glass Jim Glass
    29. March 2012 at 17:52

    NGDP growth rates were near 5% in the Q1,Q2 2008 period. Up until Q1 2008, NGDP had even been above trend.

    FRED does not agree.

    quarter ……. NGDP …. Growth annual rate

    10/1/2007 … 14253.2 … 1.036
    01/1/2008 … 14273.9 … 1.005
    04/1/2008 … 14415.5 … 1.040
    07/1/2008 … 14395.1 … 0.994
    10/1/2008 … 14081.7 … 0.915
    01/1/2009 … 13893.7 … 0.947
    04/1/2009 … 13854.1 … 0.988
    .
    As the late great Patrick Moynihan used to say, we’re all entitled to our own opinions but not to our own facts.

    The problem is that the Fed was perceived as being loose in 2008.

    Hey, with cumulative NGDP growth of 0.99% (and real GDP at -1.1%) during the nine months until July 1, how much looser could they be perceived to be?

  42. Gravatar of Steve Steve
    29. March 2012 at 18:32

    @ Majorajm, Jim Glass

    Majorajm wrote:
    “There could be no greater monument to the insanity of ‘market monetarism’ than that you genuinely think that the reason NGDP plummeted in the second half of 08 was due to ineffective expectation settings by the Fed.”

    That’s pretty funny. I personally cashed out half of my stocks and cut my spending budget by 75% in response to the September 2008 Fed meeting. I realize I am not typical, but that policy statement was horrific. Prior to Q3 2008 the Fed had always tried to stabilize the economy even while fighting inflation. You know, the dual mandate. In September 2008, the Fed made it clear that they were experimenting with a HARD MONEY REGIME which required a completely different equilibrium — a mad dash for cash. There would be no underpinning the economy and no make up for deflationary undershoot. Whether you realized it that day, or a little later, depended on your insight into the Fed and how far downwind of the crash you were.

    It wasn’t just me, either. I received credit card cancellation notices on 50% of my credit cards over the next few weeks, despite being current and having an 800 credit score.

    Majorajm wrote: “And all of this is getting to a point when it might be testable. Because the next Republican to enter the White House is going to be under serious pressure to appoint one of those crazy hawks”

    Again a funny statement. IT WAS ALREADY TESTED IN SEPTEMBER 2008. And it wasn’t politically tenable. But if you get your wish, the next Republican to enter the White House may also be the last Republican to enter the White House.

  43. Gravatar of Jon Jon
    29. March 2012 at 18:37

    Jim,

    I looked my numbers up on Fred before commenting. Youre computing percentage changes without adjusting the measurement period.

    Just plot GDP and potential GDP you can clearly see that slopes are nearly identical in H1 2008.

  44. Gravatar of Majorajam Majorajam
    29. March 2012 at 19:31

    Steve, if you think the financial crisis was a function of what the Fed did or didn’t say in its September 2008 meeting, there’s genuinely nothing I can do for you. Truly, it would be impossible to redress that level of ignorance. I’m certain there was someone out there that rebalanced out of stocks on October 15 1987 because the moon was in Jupiter or whatever, but I’m sorry to have to report that doesn’t establish causality.

    You misread my comment there at the end. It regarded what would happen to the markets if a hawk, let alone a hard money type, was appointed chairman. For this very reason, and for the fact that the GOP establishment still has influence, it’s not going to happen in a Romney presidency. And frankly, as much as part of me loves to see a masterpiece of hubris and stupidity like has been the GOP in the era of Obama lead to its inevitable nemesis, I’m actually pretty happy that it won’t.

  45. Gravatar of Steve Steve
    29. March 2012 at 20:10

    @Majorajam

    I figured you would respond to my anecdote with personal attacks. It’s a nice reflection on your depth and character.

    The WSJ ran an Op-Ed the day after the Sept 2008 Fed meeting. Here are some direct quotes:

    “The Fed’s Epic Day”

    “The Federal Reserve had one of the more momentous days in its history yesterday”

    “Can a Fed chairman stand up to the inevitable lobbying from business and the political class when the economic moment demands a hard line for hard money?”

    “Yesterday was a moment for saying no”

    Sure sounds like a regime shift to me. Apparently it did to the WSJ Editorial Board as well, in real time. A HARD LINE FOR HARD MONEY! But I guess you had to have your eyes open in order to see it.

  46. Gravatar of Steve Steve
    29. March 2012 at 20:26

    Here’s another WSJ column from that week:

    “Common Sense”
    “By James P. Stewart”
    “I continue to eye some of the financial stocks. Bank of America, which I own, is well-capitalized and is doing exactly what I would do if I were the CEO, which is aggressively capitalize on its strength [Buy Merrill Lynch]”

    Does this sound like a financial crisis or a monetary regime shift to you? We had WELL-CAPITALIZED BANKS and a HARD LINE FOR HARD MONEY. That’s from the WSJ September 17, 2008.

  47. Gravatar of Like in Ulysses and the Sirens, John Taylor wants to “tie up the Fed” | Historinhas Like in Ulysses and the Sirens, John Taylor wants to “tie up the Fed” | Historinhas
    29. March 2012 at 20:46

    [...] Scott Sumner recently wrote a post entitled: “John Taylor on monetary policy in 2008”. Between 2008 and 2009 NGDP fell at the fastest pace since the Great Depression.  That suggests [...]

  48. Gravatar of Like in Ulysses and the Sirens, John Taylor wants to “tie up the Fed” | Brucetheeconomist's Blog Like in Ulysses and the Sirens, John Taylor wants to “tie up the Fed” | Brucetheeconomist's Blog
    29. March 2012 at 21:45

    [...] Coincidentally, Scott Sumner recently wrote a post entitled: “John Taylor on monetary policy in 2008”. [...]

  49. Gravatar of Bill Woolsey Bill Woolsey
    30. March 2012 at 04:05

    “Taylor mentions the big interest rate cut from August 2007 to April 2008. But during this period there was no increase in the monetary base, so the fall in rates represents less demand for money, not more supply. I can’t imagine why he would argue that money was too easy in 2008.”

    What do you mean by “demand for money?” Are you saging that during this periiod people decided to hold less money? Do you mean that people wanted to hold less hand-to-hand currency and/or banks wanted to hold smaller reserve balances? (Following your general rule of identifying money with base money.)

    Or does this have to do with a reducdtion in the demand for credit?

    If the demand for money (base or otherwise) were falling and this led to lower market interest rates as a liquidity effect (people spending base money holdings to purchase securities for example,) then this should have soon led to rising expenditures on output and a higher price level.

    On the other hand, if the demand for _credit_ was falling, then a lower interest rate would be coordinating, and efforts by a central bank to keep it up would be deflationary.

    Demand for money? Or demand for credit?

  50. Gravatar of Bill Woolsey Bill Woolsey
    30. March 2012 at 04:05

    “Taylor mentions the big interest rate cut from August 2007 to April 2008. But during this period there was no increase in the monetary base, so the fall in rates represents less demand for money, not more supply. I can’t imagine why he would argue that money was too easy in 2008.”

    What do you mean by “demand for money?” Are you saging that during this periiod people decided to hold less money? Do you mean that people wanted to hold less hand-to-hand currency and/or banks wanted to hold smaller reserve balances? (Following your general rule of identifying money with base money.)

    Or does this have to do with a reducdtion in the demand for credit?

    If the demand for money (base or otherwise) were falling and this led to lower market interest rates as a liquidity effect (people spending base money holdings to purchase securities for example,) then this should have soon led to rising expenditures on output and a higher price level.

    On the other hand, if the demand for _credit_ was falling, then a lower interest rate would be coordinating, and efforts by a central bank to keep it up would be deflationary.

    Demand for money? Or demand for credit?

  51. Gravatar of Bill Woolsey Bill Woolsey
    30. March 2012 at 04:05

    “Taylor mentions the big interest rate cut from August 2007 to April 2008. But during this period there was no increase in the monetary base, so the fall in rates represents less demand for money, not more supply. I can’t imagine why he would argue that money was too easy in 2008.”

    What do you mean by “demand for money?” Are you saging that during this periiod people decided to hold less money? Do you mean that people wanted to hold less hand-to-hand currency and/or banks wanted to hold smaller reserve balances? (Following your general rule of identifying money with base money.)

    Or does this have to do with a reducdtion in the demand for credit?

    If the demand for money (base or otherwise) were falling and this led to lower market interest rates as a liquidity effect (people spending base money holdings to purchase securities for example,) then this should have soon led to rising expenditures on output and a higher price level.

    On the other hand, if the demand for _credit_ was falling, then a lower interest rate would be coordinating, and efforts by a central bank to keep it up would be deflationary.

    Demand for money? Or demand for credit?

  52. Gravatar of Majorajam Majorajam
    30. March 2012 at 08:39

    Steve,

    Firstly, calling an ignorant argument ignorant may not be tactful, but is isn’t personal. Secondly, I have to ask, do the failures of New Century Financial, Northern Rock, Bears Stearns, Freddie Mae & Fannie Mac can also safely be blamed on the Fed’s September announcement notwithstanding their having all happened beforehand?

    And now I’m just spitballing here, but I’m pretty sure that surging defaults began to freeze up various sectors of the global credit markets as early as 2007 triggering the ECB and the Fed start drastically pumping liquidity into the system. Was that, too, a function of the September 2008 Fed announcement?

    And now I’m thinking that the bottom didn’t fall out of credit conditions until after Lehman was allowed to default. Hmmm… One would think the Fed announcement would’ve been the catalyst given those Wall Street Journal regime change screaming headlines, but I guess if you really had your eyes open, and perhaps squinting very strenuously, you could see clearly how it all relates back to that Fed announcement.

    Perhaps I could be better at holding my tongue, but you could stand a glimpse from the mirror next time you ask someone to open their eyes.

  53. Gravatar of Steve Steve
    30. March 2012 at 09:22

    Before Sept 2008, most financial companies in trouble were the bad apples. Before Sept 2008 the Fed could plausibly have claimed to care about the dual mandate. Yes, some of the hard money ideas that led to the Fed’s Sept 2008 decision were on display much earlier; it’s just that those ideas didn’t seem to represent the majority prior to Sept 2008.

    The Lehman bankruptcy did lead to huge problems including a surge in money demand, but the Fed only partially accommodated that demand. And the Fed did continue to make things worse after Sept 2008; e.g., IOER in Oct 2008, and Lacker’s speech warning about inflation in Nov 2008.

    However, Sept 2008 was pivotal. That’s when the Fed decided to crush AD in order to crush commodity prices in order to raise AD. That was the WSJ logic, John Taylor’s logic, and the Fed’s logic. It’s in the contemporaneous news reports. The contemporaneous news reports also show that people still thought the financial problems were contained to bad apples, but that AD needed to be crushed to lower commodity prices.

  54. Gravatar of Majorajam Majorajam
    30. March 2012 at 10:29

    I would ask if you had a smidgeon of actual evidence that the Fed was out to ‘crush’ commodity prices, but as the answer would no doubt be depressing. But let’s assume they had? Would that have had any implications for whether or not we were going to experience a financial crisis, as opposed to when? No, it would not. By 2008, the dye was cast.

    Obviously, letting Lehman go bust was the critical mistake, in that the potential positives of blowing up speculators and their financiers were quickly dashed via subsequent serial bailouts both overt and covert, all whilst the profound negative ramifications were not so easily remedied. But while those decisions matter, and have actual mechanisms and measurable evidentiary support, there is little other degree to which this story involved the Fed.

    As to the twinkie, err.., bad apple defense, I would invoke Minskian pith about how these kind of post-hoc explanations of financial crises are ubiquitous in the wake of such events, not to mention useless and unfalsifiable, but in this case that is entirely unnecessary. If Lehman was a good apple, that batch of cider would be more lethal than anthrax, and it certainly would taste any sweeter with AIG, the monolines, WaMu, Wahcovia, Citi, etc. thrown in.

    There were some bad apples alright, and they were also known as the global financial industry.

  55. Gravatar of D R D R
    30. March 2012 at 10:33

    “There were some bad apples alright, and they were also known as the global financial industry.”

    Hear, hear.

  56. Gravatar of Steve Steve
    30. March 2012 at 11:20

    I never said Lehman was a good apple. I said the bad apples were in trouble before the Sept 2008 Fed meeting. Lehman was bankrupt before the Sept 2008 Fed meeting. If bankrupt doesn’t count as “in trouble” I don’t know what does.

    Counterfactuals are hard both to prove and to disprove. The consensus counterfactual is that blowing up Lehman was the trigger for the crash, and led to various bailouts. If it had been resolved in an orderly way, or better regulated, the crash could have been avoided. The first case, that an orderly resolution would have been helpful, I completely disagree with given the Fed’s agenda. The second, better regulation or less leverage a long long time ago, is quite plausible.

    However, my counterfactual is that the Fed was going to keep contracting NGDP and blowing up more and more things (banks, insurance companies, autos, manufacturing, governments, PBGC (pensions), etc., until it had crushed commodity prices. That’s what happens when you target headline inflation during a supply shock. It just so happens that blowing up Lehman was sufficient to accomplish their goals, and gave them plausible deniability at the same time.

    It’s worth considering that your counterfactual may be wrong. If thought about mine a lot, and agreed that different financial regulation a full decade ago might have helped, but that targeting headline inflation during a supply shock was the proximate problem.

    FWIW, I have the same thesis regarding Europe, and I’ve posted such long ago in this forum. Europe will keep blowing up countries one at a time until it targets higher NGDP, enacts fiscal union, or splits up. Until then, formerly “good” countries (like Ireland) will have a knack for turning bad. Not Greece, they were always bad, but perhaps France will turn bad? The European crisis is remarkably parallel to the US crisis. Better regulation a full decade ago (fiscal coordination, labor market liberalization) could have helped, but now that the die is cast NGDP contraction is going to pick off one country at a time.

  57. Gravatar of 123 123
    30. March 2012 at 12:26

    Scott,

    Bill Woolsey is right.

    Taylor is basically arguing that demand for money fell, so the money was too easy. You should be saying that demand for credit fell.

  58. Gravatar of W. Peden W. Peden
    30. March 2012 at 12:39

    Steve,

    That’s a very good explanation of the logic of (naive) inflation targeting during a supply-shock. I agree that it’s September, not October, which is the crucial month: that’s also the month when the Fed gains the power (with clear intent to use) to pay interest on excess reserves so as to sterilize what would have otherwise been the stimulating effects of providing liquidity to the imploding banking sector.

    One statistical exercise that I would love to be able to do is to create something like the M4ex aggregate we have in the UK, but for the US. That would mean taking M2 and stripping out the deposits of non-bank financial intermediares, thus removing the distorting effects of the collapse of the interbank lending market.

    Why? Let’s look at what (basically) limiting our analysis to the non-banking publci does to the UK data-

    http://www.bankofengland.co.uk/statistics/PublishingImages/m4/2009/dec/m4sa.gif

    http://www.bankofengland.co.uk/statistics/PublishingImages/fm4/2012/jan/CHART1.GIF

    M4 goes from being a lagging variable to a leading indicator, as broad money traditionally was-

    http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/qb1101.pdf (p.25)

    US M2 looks remarkably like UK M4 (unadjusted) in its unusual velocity behaviour in the 2001-2002 and 2008-2009 recessions, so it would be interesting to see if M2ex would similarly go from being a leading to a lagging behaviour if controlled for the entry of banks’ deposits into the stats-

    http://research.stlouisfed.org/fred2/graph/?id=M2#

  59. Gravatar of Majorajam Majorajam
    30. March 2012 at 13:45

    It’s just silly to say that the Fed was trying to blow up anything, when you understand the prerogatives of the institution and the politics involved. I had it in my head that the Fed meeting came before Lehman when in actuality it was the following day, but that really only goes to show how irrelevant it was, given the scope of what began unfolding in the credit markets after Lehman.

    As far as your counterfactual, it’s probably worth noting that the equity market decidedly didn’t interpret the Fed’s message as relevant, or in the way you did, being that the S&P was up 5% from the meeting to week end.

    Now, there are two possible explanations for that. First, the market indeed was hanging on every word from the Fed, like you’re presupposing, but just didn’t read the Fed’s pronouncement the way you and your WSJ headline writers did, or at least not at first. Regardless of how plausible that scenario is, and I’ll plead the 5th, that scenario would of course not be good for your argument.

    The second possibility is that a market was at the time far more concerned with the exploding financial system rallied after the bailout of AIG. I know which one of these I would bet heavily on, and which I wouldn’t touch with a barge pole. But for the purpose of our discussion here, it’s a distinction without a difference.

    Of course, what the equity market took time to realize was that the damage was done; that all the Fed’s guarantees and all the Fed’s acquiescence weren’t going to put the credit markets back together again. And this is very easy to see in chart form, whether you’re looking at interbank spreads, trading volumes, the CDS market, the repo market or the money markets, etc. etc.

    The genie most definitely wasn’t going to get back into the bottle because the Fed and Treasury decided to reverse their ‘principled’ Lehman stance by falling all over themselves to bailout AIG (and not just bail them out of course, but as we later found out, use them as a conduit to funnel money into the financial system).

    So we’ll have to call that one strike 16,458 on the theory that the Fed was responsible for the financial crisis not by improper management of the system in its lead up, but tight money policies during the calamity.

    As for those other strikes, we’ve covered some of this ground, but the most important is a predictive analytical framework, something Minsky developed. And of course that’s not favorable to this view of yours either. But seeing as that’s a bigger enchilada, you may want to simply consider the state of balance sheets of all of your ostensible good apples (the ones that had the good sense to wait until after policy makers failed Lehman experiment to default).

    We actually have a pretty good sense, in retrospect, of just how underwater these institutions were, and lets not forget the global element- RBS, HBOS, Lloyds, Fortis, UBS, AIB, BofI, etc. etc. etc. Rotten to the core, the lot of them.

  60. Gravatar of Steve Steve
    30. March 2012 at 14:59

    @Majorajam

    “It’s just silly to say that the Fed was trying to blow up anything”

    I never said that and I hate when people make stuff up to try twist an argument. The Fed was *trying* to lower commodity prices, while things were blowing up “by accident” along the way.

    “the equity market decidedly didn’t interpret the Fed’s message as relevant, or in the way you did, being that the S&P was up 5% from the meeting to week end.”

    The market sold off on the Fed announcement, and rallied later in the week on TARP and the short-selling ban. The big winners were financial stocks while other sectors were weaker. [I'd ridicule your statement in light of your professed disbelief in EMH, but I hate EMH debates ;) ]

    There were lots of different things going on here:
    1) The market sold off immediately after the Fed announcement because people recognized that the Fed was taking monetary policy out of the game. The rally later in the week occurred for different reasons.
    2) Some people believed in the WSJ/Taylor voodoo that lower AD = lower commodities = higher AD, allowing commodities to decline while other stocks rallied.
    3) Some people were betting on an explicit bailout of the financial sector while the rest of the economy was ignored (or targeted to lower NGDP).
    4) Some people thought that the “surviving” banks were still well-capitalized (the WSJ columnist I quoted).
    5) There were technical factors as work such as the short-selling restriction.

    I’d bet on all of the above.

    “the theory that the Fed was responsible for the financial crisis not by improper management of the system in its lead up, but tight money policies during the calamity.”

    If you change “not” to “BOTH”
    and you change “but” to “AND”
    we’d have something to talk about.

  61. Gravatar of Majorajam Majorajam
    30. March 2012 at 20:50

    Steve, you claimed the Fed meeting was pivotal- no, sorry, REGIME CHANGING- now it was so very pivotal the markets broke some wind before rallying decisively for the rest of the week. And you see no problem with whistling by that graveyard as if I wouldn’t notice. ‘It wasn’t AIG, it was actually the mother of all bailouts, TARP’-as if that’s consistent with your original story.

    Neither do you seem interested to tell me, for example, how the Fed’s cutting policy rates from 2% to 1.5% would have prevented, say, Citi, from technical insolvency. Citi, aka long only plus liquidity puts, aka SIVs are a great way to boost ROE, aka the mark. Really. I’m all friggin ears.

    In point of fact, the stock markets rallied on the bailouts announced that week, starting with AIG, and Merrill, and then TARP and all the other bailout initiatives that were announced on the Friday, which were very much of a piece with Fed and Treasury messaging after Lehman that, in your best leave it to Beaver chirp ‘please come back Mr. Market. Honest, we didn’t mean anything by it- and, and no one else is going to be allowed to go under again, scouts’ honor’.

    Speaking of the correctness of my version of events, the AIG rally was very much of a piece with the relief rallies we saw after the bailout of Bear andafter the bailout of the agencies, and that didn’t escape the attention of market participants at the time. The only thing that seemed to be changing was the amount of relief, which was shorter and shallower with each new bailout, to the point in October you’d be measuring it in tics.

    In the research field, we call these things ‘patterns’, and they can often prove useful in explaining phenomena. In case that is you’re actually interested in making an effort in that regard. Eyes open of course.

  62. Gravatar of 123 123
    31. March 2012 at 00:36

    @Steve

    “The market sold off on the Fed announcement, and rallied later in the week on TARP and the short-selling ban”

    18 Sept. FOMC announcement and two 19 Sept. Fed Board announcements were very important.

    http://www.federalreserve.gov/newsevents/press/monetary/2008monetary.htm

  63. Gravatar of Steve Steve
    31. March 2012 at 06:47

    123, Yes, there were a lot of initiatives that week: AIG, money markets, TARP, short-selling, and rumors of rumors.

    Majorajm, the Fed and Treasury said Please come back BANKS we aren’t going to let any more fail, BUT WE’RE STILL GOING TO DELIVER HARD MONEY TO CRUSH COMMODITIES BY WAY OF LOWER NGDP.

    It was a funny form of non-stimulatory stimulus for the financials only.

  64. Gravatar of David Pearson David Pearson
    31. March 2012 at 10:12

    Steve,
    Fed Funds futures discounted inaction at the September meeting back in late July and early August.

    I don’t disagree with your basic idea that the Fed was concerned over headline inflation. However, to claim that this was surprising to markets in September of 2008 is quite a stretch. If that had been the main market worry, markets would have crashed in August, 2007 in anticipation of the Fed’s inaction. In fact, they rallied in August after the GSE-related June sell-off.

    Market responses during the GFC (August 2007-March 2009) had more to do with bail outs than rates. Markets understood that velocity is determined by the health of the financial system, and that letting firms fail ran the risk of pushing the economy into deflation. Thus, markets rallied on every news of bank creditor bail outs:

    -August 2007: the global liquidity injection and NYFed’s decision to accept ABCP at the discount window

    -March 2008: the Fed makes Bear Stearns creditors whole

    -July 2008: markets believe that GSE preferred shareholders (bank creditors) would be bailed out.

    -November 2008: Fed backstops Citi’s liabilities to the tune of $300b; increases its support to AIG; announces TALF; and agrees to buy $100b in Agency mortgages.

    The Lehman failure was not a shock to markets; the Fed and Treasury’s September decision to allow bank creditor losses was. The Fed wrote a check — the “Fed put” — that it wouldn’t cash when the time came. This was the “regime change” that sent the markets into a tailspin. The Fed spent the next six months convincing markets that bank creditor losses would not be tolerated; ultimately, markets went along. We then went through exactly the same sequence in Europe: Greece’s creditors experienced losses; the ECB then had to convince all other sovereign/bank creditors they would be made whole. That process is still ongoing.

  65. Gravatar of 123 123
    31. March 2012 at 10:27

    @David Pearson

    “However, to claim that this was surprising to markets in September of 2008 is quite a stretch”

    It was surprising that rates were not cut immediately after Lehman. Lehman was an unanticipated surprise, and it was shocking that it was not countered with an unanticipated monetary stimulus.

  66. Gravatar of David Pearson David Pearson
    31. March 2012 at 10:48

    123,

    I agree. FFR policy itself was not important to markets; it was the Fed’s inaction in the face of bank creditor losses that caused velocity to crash. This inaction was primarily the Fed’s inability to put together a “Maiden Lane” for Lehman. Leaving rates at 2% added insult to that very serious injury.

  67. Gravatar of 123 123
    31. March 2012 at 11:06

    @David Pearson
    It is possible to have monetary policy whereby it is socially optimal to let Lehmans fail. See Greece, ECB.

  68. Gravatar of David Pearson David Pearson
    31. March 2012 at 11:22

    123,
    I agree again. The problem was writing a Fed put in the first place. It led to a fragile financial system dominated by shadow banks that were utterly unhedged against illiquidity and AAA-rated downgrade risk. Stability-seeking regimes are an inherent mechanism for socially suboptimal wealth transfers.

  69. Gravatar of Peter N Peter N
    31. March 2012 at 11:34

    @ Jim Glass

    FRED doesn’t love you as much as you think. You’ve been Moynihaned.

    http://research.stlouisfed.org/fredgraph.png?g=67E

  70. Gravatar of Steve Steve
    31. March 2012 at 11:51

    David, 123, I mostly agree with both of you.

    I do think that the markets were surprised that the Fed was *still* concerned with headline inflation after Lehman went bankrupt. Personally I think the Fed needed to cut straight to 0% in Sept. I don’t know how markets would have taken that, but it couldn’t have been worse than what happened.

    All of these counterfactuals are hard to analyze because we are talking about specific policy actions, whereas the regimes and expectations matter too as David points out.

    I focus on September because prior to that I believed we had a “dual mandate” regime whereas after September I believed we had a “headline inflation” regime. Moreover, it wasn’t clear if we had a 2%, 1%, or 0% headline inflation regime. Some Fed presidents, like Bill Poole, had advocated a 0% headline inflation regime. It’s quite likely some economists realized this before I did, and others later. But the uncertainty itself was part of the problem.

    Over the last four years the Fed has clarified that they are in fact pursuing a headline inflation regime, so the intuition that they gave up on the dual mandate was correct. They did however choose the more generous 2% variety rather than the stingy 0% variety and have recently indicated a small amount of flexibility.

  71. Gravatar of dtoh dtoh
    31. March 2012 at 12:29

    @David Pearson
    “The problem was writing a Fed put in the first place. It led to a fragile financial system dominated by shadow banks that were utterly unhedged against illiquidity and AAA-rated downgrade risk. Stability-seeking regimes are an inherent mechanism for socially suboptimal wealth transfers.”

    I think your analysis is spot on except that politically and practically there will always be a Fed put. There’s no getting around it because:

    Bankers have significant political influence.
    Ex-bankers hold key policy positions.
    Politicians and central bankers panic in a crisis.
    There are real systemic effects from a bank failure.

    Much better to make the put explicit. Give the Fed a call at the same time. And put effective asset/equity ratio regs in place.

  72. Gravatar of David Pearson David Pearson
    31. March 2012 at 13:10

    dtoh,

    I agree — some wealth transfer will always occur. The problem with stability-seeking regimes is that they increase the potential scale of that transfer. Imagine a forest ranger that promises that any small fire will be fought aggressively. The result: people build homes closer to the forest as insurance rates fall, and the underbrush — the fuel — accumulates. Promising “no fires” creates the risk of a catastrophic one. So goes monetary policy.

  73. Gravatar of dtoh dtoh
    31. March 2012 at 15:38

    @DP
    I agree. The wealth transfer doesn’t both me as much as the fact that the finance business sucks in so much talent that would be better deployed elsewhere in the economy.

    As I said, I don’t think you can get around the Fed put so I believe the way to deal with it is twofold.

    1) Let the Fed flexibly set bank asset/equity ratios by asset class.

    3) Require that any compensation over X paid to a bank employee be paid in the form of common stock (not options) which vests over a 5 year period following end of employment.

    As long as you have TBTF (inevitable IMHO), this is the only solution.

  74. Gravatar of Jim Glass Jim Glass
    31. March 2012 at 19:10

    Peter N:

    How, before even clicking on your link, did I know that it would be to a graph drawn *year-over-year* to try to re-make a claim about quarterly numbers?

    When discussing particular quarterly numbers I prefer to look at those actual quarterly numbers.

    Here they are again, for those who did not comprehend them the first time.

    GDP and RGDP quarterly, and change from prior quarter at annual rate:

    quarter ……. GDP …. change …. RGDP …. change
    10/1/2007 … 14253.2 … 1.036 … 13326.0 … 1.017
    01/1/2008 … 14273.9 … 1.006 … 13266.8 … 0.982
    04/1/2008 … 14415.5 … 1.040 … 13310.5 … 1.013
    07/1/2008 … 14395.1 … 0.994 … 13186.9 … 0.963
    10/1/2008 … 14081.7 … 0.916 … 12883.5 … 0.911
    01/1/2009 … 13893.7 … 0.948 … 12663.2 … 0.933
    04/1/2009 … 13854.1 … 0.989 … 12641.3 … 0.993
    07/1/2009 … 13920.5 … 1.019 … 12694.5 … 1.017
    10/1/2009 … 14087.4 … 1.049 … 12813.5 … 1.038

    Pat Moynihan, wherever he may be, is wagging his finger saying “tsk, tsk”.

  75. Gravatar of 123 123
    1. April 2012 at 02:46

    @David Pearson

    “Imagine a forest ranger that promises that any small fire will be fought aggressively.”

    Small fires are essential. During gold standard, they were provided by gold points – effectively there was a gold corridor in place. Similarly, 0,5% deviations from a fixed NGDP path should be allowed.

  76. Gravatar of David Pearson David Pearson
    1. April 2012 at 05:40

    123,
    0.5% deviations are hardly “fires”.

    Put yourself in the place of a shadow bank risk manager. The Fed promises 4.5%-5.5% NGDP growth forever. This is a key input into a Value At Risk (VAR) model: a model that computes the range of probable values for a portfolio given macroeconomic variables. Such a narrow corridor would spit out the following changes to portfolio composition: more leverage, less liquidity, riskier assets. In other words, less insurance against fire, and more proximity to the fuel.

  77. Gravatar of Jon Jon
    1. April 2012 at 07:23

    Jim Glass: Please stop trolling. Your error was pointed out to you before, you’re quoting quarterly changes and calling them annualized.
    Nominal Output
    GDP Trend GDP Annualized Rate
    2007-07-01 14126.2 14008.1 4.27564
    2007-10-01 14253.2 14157.3 3.59616
    2008-01-01 14273.9 14327.6 0.58092 *
    2008-04-01 14415.5 14497.1 3.96808
    2008-07-01 14395.1 14687.5 -0.56604
    2008-10-01 14081.7 14783.0 -8.70852

    As you can see only the January ’08 point shows a stall in growth, and at that time, GDP was returning to trend after being above trend in the previous quarters.

  78. Gravatar of 123 123
    1. April 2012 at 08:19

    @David Pearson

    Yes, when monetary policy is more stable, higher debt/GDP ratios would be optimal than otherwise.

    That is a good thing, assuming NGDP corridor is wide enough so the Fed is always profitable.

  79. Gravatar of Dave Schuler Dave Schuler
    1. April 2012 at 09:34

    Dr. Taylor has responded to you, after a fashion.

  80. Gravatar of Steve Steve
    1. April 2012 at 11:11

    Taylor’s response was reasonable until the last two paragraphs where he perpetuated the myth that oil price moves are driven by currency rather than supply and demand.

    He continues to ignore the fact that oil rose in EUR, CAD, JPY and numerous other currencies. He also ignores the role of supply shocks.

    Taylor wrote:
    “one possible unintended consequence of the Fed’s large unanticipated interest rate cut in early 2008 was the decline in the dollar and associated jump in oil and gasoline prices”

    “such a discretionary move tied to stock prices could have adversely affected the Fed’s credibility regarding the dollar and thereby affect oil prices”

  81. Gravatar of TheMoneyIllusion » Beckworth on Taylor on Hetzel TheMoneyIllusion » Beckworth on Taylor on Hetzel
    1. April 2012 at 11:54

    [...] monetary policy have not diverged from Taylor’s views as much as I had feared.  I recently did a post pointing to a 2008 Taylor article that seemed to suggest money was too easy in 2008.  In the new [...]

  82. Gravatar of ssumner ssumner
    1. April 2012 at 13:18

    Everyone, Many of these comments are answered in my newest post on Taylor. I’ll just focus on a few that need addressing here.

    Tom, You said;

    “In particular, had his Taylor Rule been followed 2002- 2005, the boom would have been far less, with less bust later (Tho perhaps a slower econ would have had W. Bush not getting re-elected in 2004).”

    I’m not convinced that big booms lead to big busts. The 1960s boom was really big, but led to a small recession in 1970. The 1920s boom was mostly supply-side (prices were stable) and yet a big bust followed.

    You said;

    “b)there is long experience of how oil price changes have a disproportionate short term effect on the economy,”

    Yes, if caused by supply shocks, but not oil price increases caused by easy money. Economic theory predicts those would be expansionary. (Never reason from a price change.)

    You said;

    “Finally, it’s a huge weakness of your own NGDP targeting story that I still don’t know what specific policies you would have done differently, when, in the 2001-2011 timeframe, or longer. With a Taylor Rule, not so different from what I understand you say you like, I feel far more comfortable.”

    Isn’t that a non-sequitor? How can your admitted ignorance of my policy be a flaw in the policy itself? I want the Fed to target NGDP expectations. I’ve suggested several ways they could do that. My plan is just as specific as Taylor’s

    You said;

    ““Why not NGDP?” — because the Fed DOES control the Fed rate. Thus a Taylor Rule is certainly achievable, and it’s not clear that, under crisis, the Fed really can effectively target NGDP.”

    I find it hard to believe there is still a single person on planet Earth who can defend fed funds targeting. It’s a policy that completely locks up and fails when we need it most–when nominal rates hit zero. I’d rather the Fed target the price of zinc. Almost anything would be better.

    My proposal has no zero bound, and doesn’t fail when we need it most.

    orionorbit, It looks like NGDP fell from 260 to 210 during the crisis, and then rebounded sharply. RGDP also fell sharply, and then rebounded fast.

    So I don’t see the problem. But if I’m wrong, then I’d guess Turkey was hit by a real shock (say less international trade of manufactured goods.) I’ve never argued that NGDP targeting would prevent recessions in small open economies.

    Jon, He now says money was too tight back then–which is my view.

    Majorajam, You said;

    “The fact is that, for all intents and purposes, the market knows where the Fed is coming from and going with a huge lead time.”

    That must be why the DOW sometimes jumps or falls by 100s of points in the minutes after a 2:15 Fed announcement.

    Bill and 123, I meant the demand for money as a function of interest rates shifted left. But that’s not what people usually consider easy money.

    I agree that the demand for credit also fell, and that that is a more useful way to think about things.

    Dave, Thanks for the link.

    I agree with those commenters who saw September and October 2008 as representing the biggest Fed errors. They went off course as the markets crashed, and the markets crashed because they went off course.

  83. Gravatar of John John
    1. April 2012 at 15:30

    I’m also puzzled that someone would look at the price of oil when deciding whether money was too easy or too tight. Why not NGDP?

    Does this show or tend a show an intent on the part of Taylor to be dishonest and disingenuous?

  84. Gravatar of Majorajam Majorajam
    2. April 2012 at 10:12

    That must be why the DOW sometimes jumps or falls by 100s of points in the minutes after a 2:15 Fed announcement.

    I must say that it’s nice to see you make a quasi-empirical argument. I would encourage you to explore that rabbit hole yet more deeply. In this case, that could mean actually gathering some data and summarizing it regarding whatever point it is you’re trying to make (not at all clear).

    The case at issue in this thread is instructive because the DOW ‘jumped’ by a few hundred points through the balance of the week after the Fed’s September statement. So, I guess you could say that market expectations were for strong inflationary pressures in 1Q 2009?

    As I say, you seem cognizant of the data and to have some sort of point in mind, so I’ll let you fill in the blanks.

  85. Gravatar of Majorajam Majorajam
    2. April 2012 at 11:05

    Steve, the Fed’s concern about ‘headline inflation’, i.e. oil prices, was and is not a mystery. They were faced with a situation where all of the easing it had undertaken starting in 2007 had failed to prevent the crisis from accelerating. Meanwhile, (based, amongst other things, on the ‘Sumner Standard’ for price action in the moments after a Fed announcement), there was very strong evidence that rate cuts were fueling the embargo-esque meltup in oil prices.

    So here’s the Fed, sitting amidst forecasting models showing the unequivocal and deleterious effects that surging oil prices were having- to a large extent, a matter of arithmetic- and simultaneously aware that the crisis was due to souring residential mortgage and other consumer liabilities (and other sectors highly sensitive to consumer spending, e.g. CMBS). Of course, they’re concerned, and concerned to the point where the issue was one amongst those they were managing (recalling that they were pumping money into the credit markets even without rate cuts).

    To not have been would have required pretending as that none of that mattered, because, what exactly? Because the textbooks said so? The same textbooks whose principle accomplishments heretofore consisted of reliably predicting the extraordinary improbability of that things which would ultimately come to pass? Those textbooks?

    ‘Where the Fed was coming from’ never changed throughout the process. All that changed was the Fed’s confidence in its approach. Being that wrong for that long that publicly, with so much on the line, will do that to people.

    Speaking of which, anyone who thinks a strict targeting regime would remove Fed discretion when it matters most either doesn’t understand the institution or has never actually been in the position of defending a decision that defies the evidence due to its being based on the teachings of some discredited textbook.

  86. Gravatar of Jim Glass Jim Glass
    2. April 2012 at 12:21

    Jim Glass: Please stop trolling. Your error was pointed out to you before, you’re quoting quarterly changes and calling them annualized.

    It’s amusing how people insist in highlighting their own disingenuousness so nobody in the world can miss it.

    They claim something specific happened in a given quarter, growth was such-and-such for that quarter.

    Then one points out the *actual* growth rate for the quarter was very different than claimed, expressing that actual rate an annualized basis for clarity — just as one hears the latest GDP release on the evening news or reads it in the newspaper.

    They then cry: “No, no, no, that is an error you troll, you must cite what happened over the prior *four* quarters, growth over the *four* quarters to then!”

    Why? And why just four? Why don’t you insist I quote growth over the prior six quarters, or nine, or 12?

    If you want to obscure and deny what actually happened in Q3 of 2008, that would be even better for you, wouldn’t it?

  87. Gravatar of CKE CKE
    2. April 2012 at 18:30

    There is a strong correlation on the timing of interest rate cuts in 2007-8 and the run up in oil prices. As someone who was active in analyzing and forecasting energy prices during that time period, I’m of the opinion that many traders perceived the Fed’s move as an indication of a loose money policy, and this was one piece of information (not the only) that helped initiate a run on virtually all commodities, not just oil. Runs develop a life of their own and trends have a tendency to be reenforced: trend following can be a very successful trading strategy. Although there were forecast for $200 oil at the time, I doubt many traders believed that but no one knew when the wild ride would stop. Note that runs virtually always overshoot and this runs impact on the overall economy certainly helped bring it down.

    Perception and reality are not always aligned, but more importantly there are no crystal balls to help sort real time fact from fiction. Time usually does the trick,eventually.

    I’m a little surprised that the Fed treasury sales of that time period have not received much attention here. Selling xxx billion in treasuries and driving reserves negative in the process seems pretty tight. Think about the impact of that on bank cash flows. I bet it wasn’t helpful.

  88. Gravatar of ssumner ssumner
    4. April 2012 at 05:17

    John, I have no reason to question motives.

    Majorajam, You said;

    “The case at issue in this thread is instructive because the DOW ‘jumped’ by a few hundred points through the balance of the week after the Fed’s September statement. So, I guess you could say that market expectations were for strong inflationary pressures in 1Q 2009?”

    This is the sort of comment that drive me nuts. I have no idea what you are talking about. I don’t know what news occurred during those weeks that would have affected the market. I have no idea what happened to inflation expectations because you haven’t provided the TIPS spreads. And I can’t look them up because I don’t know what year you are referring to.

    CKE, You said;

    “Perception and reality are not always aligned, but more importantly there are no crystal balls to help sort real time fact from fiction.”

    Exactly. The perception may be that market have lots of momentum, but they don’t. I very much doubt that Fed policy played a big role in rising oil prices. If money was easy then we should have had fast NGDP growth, but in fact it slowed. That suggests other factors like Chinese demand were mostly responsible. In addition, rates were cut sharply in the second half of 2008 and yet oil prices plunged very sharply. So people are just cherry picking one period where the correlation seemed close, but was probably spurious.

  89. Gravatar of Policy Failure and the Great Recession | Economics One Policy Failure and the Great Recession | Economics One
    11. July 2013 at 15:06

    [...] this regard Scott Sumner recently raised some good questions about the part of my analysis on the crisis, where I wrote [...]

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