The game of musical chairs, continued.

You don’t need DSGE models to understand business cycles, it’s basically just a game of musical chairs.  Nominal wages are very sticky and NGDP is very volatile. So when NGDP falls there is less money to pay workers, and rather than taking nominal wage cuts you get lots of workers sitting on the floor—unemployment. Britmouse has a couple graphs that show this pattern for Britain. (Read his post for a full explanation.)  He used NGDP at basic prices net of taxes, which is the funds available to pay workers. Notice that when NGDP plunged in 2008-09, the real wage defined as W/NGDP per capita soared, and so did unemployment. BTW, British hourly nominal wages have been rising at a 2.2% rate in recent years, so inflation is not a problem.  If the CPI number shows high inflation, the problem is supply side, not excessively easy monetary policy.  (Thanks to W. Peden and John Hall who also sent me wage data.)UK Hourly Wages to Nominal GDP

UK Unemployment Rate.

UK Unemployment Rate. Source: ONS Series MGSX


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35 Responses to “The game of musical chairs, continued.”

  1. Gravatar of Ron Ronson Ron Ronson
    28. January 2013 at 07:55

    At first site the narrative seems compelling. Demand for money increases causing NGDP to fall, As wages don’t also fall we end up with higher unemployment.

    But the UK’s inflation targeting policies should have been sensitive to the increased demand for money and did indeed increase the money supply sufficient to hit the inflation target. But this did not prevent falling NGDP.

    I can see 2 reasons for this

    1) A supply shock occurred around the same time that meant that the inflation target was hit but in effect we still had tightening monetary policy (supply didn’t fully meet the increased demand)

    or

    2) In parallel to the increased demand for money there was a parallel decrease in the demand for labor (perhaps due to the extreme uncertainty that existed at that time).

    If the reason IT didn’t work was 1) then NGDPT is the answer. If the reason is 2) then NGDPT will only work if it can be shown to not only address issues with the demand for money but also if it addresses issues with business confidence.

  2. Gravatar of ssumner ssumner
    28. January 2013 at 08:07

    Ron, Even if there were structural problems, the crash in NGDP almost certainly made the problem worse. But I certainly agree that Britain has structural problems–although I’d point to big government more than uncertainty.

  3. Gravatar of Geoff Geoff
    28. January 2013 at 08:52

    “You don’t need DSGE models to understand business cycles, it’s basically just a game of musical chairs. Nominal wages are very sticky and NGDP is very volatile. So when NGDP falls there is less money to pay workers, and rather than taking nominal wage cuts you get lots of workers sitting on the floor—unemployment.”

    Sure, this can be a proximate explanation, but does it explain what caused that proximate cause, namely, what caused NGDP to fall (in the absence of additional OMOs from the CB)?

    Why did the Fed find itself in a position of having to increase the monetary base to the extent that was needed, in order to prevent NGDP from falling the way it did? What was going on in the market that made people hold onto their incomes longer and spend more slowly than before?

    Most people tend not to suddenly reduce their spending for no explainable reason. The most likely explanation for falling spending would seem to be on the “structural side” in some way.

    Given this likelihood, that opens the door to analyzing what can affect the structure. While there can be many reasons for changes in structure, from regulations, to taxes, to natural disasters, I think that the monetary system itself also plays a role. Perhaps the monetary system itself is the primary factor in affecting the structure in such a way as to then lead many people to suddenly decrease their spending.

    I guess it’s tempting to always fall back on: “Spending fell because the CB did not engage in enough OMOs”, and “Lack of enough OMOs “made things worse” for the economy”, but none of these lines of thinking really address the core issue of why spending fell in the first place, or, equivalently, why so many people suddenly wanted to hold onto their incomes for a longer period.

  4. Gravatar of Gregor Bush Gregor Bush
    28. January 2013 at 09:00

    “If the CPI number shows high inflation, the problem is supply side, not excessively easy monetary policy.”

    I agree with that statement. But most proponents of inflation targeting (and the Consensus of economists) would not. They would say that that monetary policy should adjust to ensure that the forecast of inflation remains at 2%. They beleive that keeping inflation and inflation expectations at 2% is an end in and of itself. They also beleive that CPI inflation relative to target is a good indicator of capacity pressures. Take a look at the BoC’s mission statement on thier website:

    “Low, stable and predictable inflation is the best contribution that monetary policy can make to a productive, well-functioning economy.”

  5. Gravatar of honeyoak honeyoak
    28. January 2013 at 10:55

    Hey Scott, give this a look and tell us what you think:

    http://papers.nber.org/papers/w18746#fromrss

  6. Gravatar of Another take on the “game of musical chairs” view of business cycle | Historinhas Another take on the “game of musical chairs” view of business cycle | Historinhas
    28. January 2013 at 12:36

    [...] did a post that describes Scott Sumner´s “game of musical chairs” view of business cycles. I thought it interesting to see how it compares to the US [...]

  7. Gravatar of OhMy OhMy
    28. January 2013 at 12:36

    Ssumner,
    you are implying that if wages weren’t sticky there would be no unemployment. Keynes showed this is incorrect.

  8. Gravatar of Greg Ransom Greg Ransom
    28. January 2013 at 12:42

    Economists need better explanations of why NGDP is volatile and why wages are sticky and they need better explanations of the nitty-gritty of the structure of things changes throughout each margin in the economy which produces changes in NGDP and they need to be able to connect that to the nitty-gritty of the structure of changes and failuresmof in employment and wages — economics PUNT on this most basic explanatory demand — imagine if biologists PUNTED on connecting up changes in the environment to changes in adaptations and genes and in populations. Darwinain biology would be a disreputable JOKE.

  9. Gravatar of Geoff Geoff
    28. January 2013 at 13:23

    OhMy:

    “Keynes showed this is incorrect.”

    Actually he didn’t. Keynes actually “refuted” the argument that lower wage rates and prices eliminates unemployment by assuming a different, indeed opposite context of rising wage rates and prices.

    Keynes’ contradictory passage is in chapter 11 of the GT:

    “If there is an increased investment in any given type of capital during any period of time, the marginal efficiency of that type of capital will diminish as the investment in it is increased, partly because the prospective yield will fall as the supply of that type of capital is increased, and partly because, as a rule, pressure on the facilities for producing that type of capital will cause its supply price to increase.

    Sorry, you can’t argue against the ability of a fall in wage rates and prices (which of course leads to falling supply prices, not rising supply prices) to achieve full employment by literally denying that context and assuming a context of rising prices.

    It would be like arguing against the ability of stable NGDP growth to prevent undue unemployment, by presenting a series of arguments and explanations that deny the context of stable NGDP growth.

  10. Gravatar of Doug M Doug M
    28. January 2013 at 13:47

    First a point of asthetics — the time scales on these two graphs are nearly but not quite exactly the same. This undermines the explanitory power of both.

    Wages / NGDP — What does this really mean. I know that you like to use NGDP as a stand in for aggregate demand. But, it is in fact a measure of ouput. As output = income, this could be interpreted as the shared of total income taken as wages. It could aslo be interpreted as a measure of competitiveness. I suppose output / wages would be competitiveness. But, I am ready to buy this as a measure of the real wage.

  11. Gravatar of Don Geddis Don Geddis
    28. January 2013 at 15:22

    @Greg Ransom: In fact, Mendel figured out biological inheritance, without knowing anything about the mechanism (genes).

  12. Gravatar of Don Geddis Don Geddis
    28. January 2013 at 15:28

    @Geoff: If the central bank has the power to undo the effects of changes in velocity, then it seems as though it is no longer such a critical topic, to understand the “proximal causes” for the velocity change. Whatever desires the public has to hold on to currency, the Fed can accommodate that, and thus “screen off” the negative economic consequences of unstable NGDP.

    (For this not to work, you’d need to argue that velocity changes cause significant economic effects on their own, even in the presence of stable NGDP.)

  13. Gravatar of Geoff Geoff
    28. January 2013 at 16:29

    Don Geddis:

    Your explanation makes the tacit presumption that the desire of the public to “hold on to currency” is somehow an independent function apart from monetary policy, when in reality, in a context of NGDP targeting, this quantity of money is actually whatever additional quantity of money the Fed has to create in order to maintain its own target NGDP.

    It would be like me wanting to target a particular growth in the sale of potatoes among the public, and then interpreting my own increasing and decreasing potato issuance in order to bring that sale target about, is somehow an independent desire on the part of the public to “hold” potatoes.

    The change in the rate of my issuance of potatoes isn’t the public telling me their demands to hold more or hold less hold potatoes. It is the public telling me how many potatoes that want to hold versus sell, given that I am targeting the sale of potatoes.

    Because of this, it is entirely possible that my potato issuance changes is itself playing a role in future increases or decreases in potato demand among the public. It would be absurd for me to interpret my own increases or decreases in potato issuance as simply “accommodating” changes in the demand for holding potatoes. On the contrary, my activity of constantly needing to change potato issuance rates to bring about my target could very well be due to a constant “push back” from the public that is telling me that my issuance activity is not stabilizing, but destabilizing.

    I don’t think it is the case that “for it not to work”, there only has to be “significant” effects from velocity changes in a constant of stable NGDP. I think another reason “for it not to work” is if my issuance activity is having a destabilizing effect that I find myself constantly having to adjust my own issuance rates. Rather than “accommodating” the public’s desire to hold more or less commodity, I am in fact acting against the public’s desire because I am forcing a stable NGDP on the public when market forces may call for different rates of NGDP.

    Now, I realize you “don’t agree” with the economic argument regarding the optimal or “right” quantity of money, and hence spending, but then I could very well say the same thing to you, that I “don’t agree” with your political argument that calls for an introduction and perpetuation of force in otherwise consensual market activity in money industry. So again, I will only point out to you that you are not going to be able to settle this dispute on rational grounds, because I’m playing by market rules, and you’re playing by force/obedience rules.

    So really all I can say is that your whole framework is ultimately grounded on anti-economic, irrational grounds, and the rhetoric of “accommodating” and “undo the negative effects”, and so on, are misleading, rather deceitful terms that mask your actual stand-offish “obey my rules or else” position.

  14. Gravatar of Bill Woolsey Bill Woolsey
    28. January 2013 at 17:17

    “I am in fact acting against the public’s desire because I am forcing a stable NGDP on the public when market forces may call for different rates of NGDP.”

    What market forces “call” for a different “rate” of NGDP?

  15. Gravatar of ssumner ssumner
    28. January 2013 at 17:52

    Geoff, I don’t think the Fed needed to increase the base by a large amount.

    Gregor, Many inflation targeting proponents favor a “flexible inflation targeting” regime.

    HoneyOak, I’ll take a look.

    OhMy, I don’t imply things. If I want to say it, I say it.

    Greg, NGDP is volatile because central banks don’t do NGDPLT, as Hayek asked them to do.

    Doug, NGDP is AD and it is income and it is output.

    Wage/NGDP is not the share of NGDP earned as wages, because it measures hourly wages.

  16. Gravatar of Don Geddis Don Geddis
    28. January 2013 at 18:38

    @Geoff: I love how you can take a narrow technical comment, completely ignore the content, and instead of thinking about it and responding, just use it as an excuse to repeat your usual tiresome political ranting. Impressive!

  17. Gravatar of Geoff Geoff
    28. January 2013 at 18:41

    Dr. Sumner:

    “Geoff, I don’t think the Fed needed to increase the base by a large amount.”

    I’m not not sure what this is supposed to be in response to. And I am not sure how to interpret it even if I was sure, because “large” is a rather subjective term that isn’t saying much.

  18. Gravatar of Greg Hill Greg Hill
    28. January 2013 at 18:54

    Scott,

    When I saw “musical chairs” in your title I thought you were going to discuss the end of the asset bubble. When the music stops, everyone is scrambling to unload their assets, asset prices fall, and spending falls, particularly when households and firms are both trying to reduce their outstanding debt.

    To pick up OhMy’s point above, it’s not at all clear that falling wages would be the answer to your prayers. There are at least three possible slips between cup and lip: 1) aggregate demand could be lower with lower wages; 2) prices could fall, leaving real wages unchanged; and 3) the real burden of debt rises, along with foreclosures, bankruptcies, etc. (Geoff’s counterargument above, which focuses on the diminishing marginal efficiency of increasing investment, makes no sense, to me at least).

  19. Gravatar of Fed Up Fed Up
    28. January 2013 at 20:19

    “Nominal wages are very sticky and NGDP is very volatile.”

    I believe sticky wages and sticky prices are actually about a shortage of MOA/MOE.

    So… I am going to repost this.

    My post (of what Scott said) said: “(central) Bank reserves are a medium of account, so if their value falls then the price level rises.”

    And, “… Instead, all other prices in the economy adjust. That’s why I monomaniacally focus on the base.”

    I disagree that (central) bank reserves are a medium of account. With no gold standard or no other commodity standard, MOA = MOE = currency plus demand deposits. (central) Bank reserves don’t circulate in the real economy.

    Scott’s post said: “Fed Up, Yes, if there is no demand for currency my example doesn’t hold. You are wrong about reserves, a MOA does not have to circulate in the real economy.”

    So it sounds like we agree that (central) bank reserves don’t circulate in the real economy. OK?

    Does a MOA have to circulate in the real economy? No. However, it could.

    I still don’t believe (central) bank reserves are part of the MOA. $1 of currency and $1 of demand deposits both buy the same amount, and there is 1 to 1 convertibility at a bank. That makes MOA = MOE = currency plus demand deposits. Plus, if there is a large demand for currency above the amount of vault cash and (central) bank reserves, the central bank should meet that demand.

    Also, let me try these examples.

    First, $800 billion in currency, $200 billion in (central) bank reserves, and $6.2 trillion in demand deposits. Next, they go to $800 billion in currency, $2.2 trillion in (central) bank reserves, and $3.2 trillion in demand deposits. I believe you would say MOA has gone from $1 trillion to $3 trillion and therefore the price level rises. I say MOA = MOE = currency plus demand deposits has gone from $7 trillion to $4 trillion, and the most likely scenario is that the price level falls.

    Second, $800 billion in currency, $200 billion in (central) bank reserves, and $6.2 trillion in demand deposits. The reserve requirement is zero, and there is no extra demand for currency. Next, they go to $800 billion in currency, $200 billion in (central) bank reserves, and $13.2 trillion in demand deposits. I believe you would say MOA has gone from $1 trillion to $1 trillion and therefore the price level stays the same. I say MOA = MOE = currency plus demand deposits has gone from $7 trillion to $14 trillion, and the most likely scenario is that the price level rises.

  20. Gravatar of Fed Up Fed Up
    28. January 2013 at 20:29

    “Doug, NGDP is AD and it is income and it is output.”

    I’m pretty sure you are assuming that all output that is made is sold (demanded). What if there is more output made than is sold (demanded)?

  21. Gravatar of Fed Up Fed Up
    28. January 2013 at 20:45

    References for me.

    http://www.themoneyillusion.com/?p=18700

    http://www.themoneyillusion.com/?p=18953

    http://neweconomicperspectives.org/2013/01/understanding-the-permanent-floor-an-important-inconsistency-in-neoclassical-monetary-economics.html

  22. Gravatar of Geoff Geoff
    28. January 2013 at 20:51

    Don Geddis:

    “@Geoff: I love how you can take a narrow technical comment, completely ignore the content, and instead of thinking about it and responding, just use it as an excuse to repeat your usual tiresome political ranting. Impressive!”

    Wait, I am attempting to emphasize economics in this debate that has you wanting to keep it a political power game, and I have seen you write more than one post that are essentially political rants about definitions of optimal quantity of money. You believe politics should decide, whereas I think competitive markets should decide.

    The “political rant” I typed was actually just a description, an explication, of your non-economics, pro-politics position regarding how to settle disputes about optimal quantities of money. I really don’t see how you can characterize my previous comment as a “rant”, rather than a “this is what I am reading you say about money, and why I think it’s on the wrong track.”

    I don’t understand how you can say I “ignored the content”. I specifically responded to the assumptions that I think underlie it! That requires a serious consideration of the content. Sorry if I skipped some steps, but I thought what you said was crystal clear, and so I chose to address the assumptions that seem to ground it, because that is where right and wrong thoughts occur.

    I love love love how you completely ignored the content of my post, and yet you have the temerity to accuse me of the same. Now that’s impressive!

    Greg Hill:

    “(Geoff’s counterargument above, which focuses on the diminishing marginal efficiency of increasing investment, makes no sense, to me at least).”

    It is Keynes’ MEC that is the core concept that he used to conclude that falling wage rates and prices cannot eliminate unemployment. I focused on capital prices because they are of course related to the MEC. Keynes believed that the MEC would fall when more net investment is made during a depression that sees falling wage rates and prices, when in reality not only is more net investment a response to falling prices, but it also contributes to profitability, i.e. pushes up the MEC, due to the fact that more net investment generates revenues but smaller costs (due to depreciation charges deferring the costs over time instead of all up front, like wages).

    Your three counter-examples [recall: 1) aggregate demand could be lower with lower wages; 2) prices could fall, leaving real wages unchanged; and 3) the real burden of debt rises, along with foreclosures, bankruptcies] are all intimately related, indeed dependent on, that which Keynes understood as the MEC.

    However, I think they are wrong, if the context is a depression, idle resources, and monetary deflation.

    “Aggregate demand could be lower with lower wages”: If wages are falling, then that removes perhaps the largest problem that results from falling aggregate demand. Aggregate demand falling is not inherently problematic. The reason economists focus on it is because falling aggregate demand is a problem when certain prices are sticky. But if you presume wages are not sticky, but falling, then there’s no problem.

    Also, in the context of depression, falling wage rates would almost certainly be accompanied by a rise in total wage payments, as investments that were initially postponed because of too high costs, are finally made. But even if decreasing wage rates were not accompanied by a rise in total demand for labor, it would still decrease business costs, so the falling spending would not necessarily imply falling profitability. Falling revenues and equivalently falling costs does not reduce profitability.

    “Prices could fall, leaving real wages unchanged”: Yay!

    “The real burden of debt rises, along with foreclosures, bankruptcies”: Those who are indebted really have no justification to hold the rest of the country hostage, let alone be “accommodated” with more inflation, the costs of which are negatively externalized onto everyone who holds dollars. What is the justification for externalizing these costs on those who are not indebted, or who are but don’t default?

    Also, for the solution to increase inflation, to avoid debt overhang…have you considered whether or not inflation itself encourages debt, and as a result, any solution of more inflation to get around the debt problem, would encourage more debt, which makes the economy even less capable of absorbing a given “demand shock”, which then leads to more inflation, more debt, etc? If you looked at a chart of debt, and the rate of growth relative to the rate of growth of the population, GDP, NGDP, and so on, it’s not even close. Why can’t bankruptcies take place? Capitalism without bankruptcies is like Christianity without hell. Failure is a very important component to overall success. Those who never fail, never succeed.

  23. Gravatar of Geoff Geoff
    28. January 2013 at 21:03

    Fed Up:

    “I’m pretty sure you are assuming that all output that is made is sold (demanded). What if there is more output made than is sold (demanded)?”

    Then there was not enough production of that which if it had been produced, then it would have been sold. The production of that which is not sold, represents partial over-expansion, and because people have an essentially limitless desire for more real wealth in general, even the most ascetic of monks, it means that the goods that were not produced that would otherwise have been sold if they were produced, represents partial under-expansion.

    Unfortunately, because most people only consider that which they can see, they make an unjustified leap and conclude that the general surplus of production that occurs every 5 years or so (business cycle), is ipso facto a scenario of insufficient nominal spending.

    Even the most diehard NGDP targeting theorists would be compelled to revise their chosen target percentage if there arose a persistent surplus of unsold goods during a period of planned for NGDP growth. For example, if 5% NGDP growth took place and yet there persisted unsold goods and labor, then it is almost certain that NGDP theorists would conclude “My target is too low”, and they will conclude that “prices are even more sticky then I thought, so let’s up the target to 5.5%”, or some such.

    The point is that they too would not consider the observable general surplus of unsold goods to be a partial over-expansion of goods with a corresponding, unseen, partial under-expansion of goods (which BTW more money and spending cannot solve), but rather, they will conclude that there needs to be more nominal demand to clear the market.

  24. Gravatar of DKS DKS
    28. January 2013 at 23:25

    Scott,

    For CPI versus nominal hourly wages, it sounds like you’re saying that if CPI is rising faster than hourly wages, the central bank should grit its teeth and stay focused on NGDP.

    Aren’t there a few rare cases where NGDP and hourly wages would diverge? This is obviously a minor issue, but in those cases, would it make more sense to stabilize NGDP or hourly wages?

  25. Gravatar of Bill Woolsey Bill Woolsey
    29. January 2013 at 04:23

    If nominal GDP targeting is feasible, then lower wages almost certainly result in more employment.

    Arguments that lower wages will lower demand are arguments that nominal GDP targeting is not feasible. It is an argument that a lower hourly wage will reduce nominal GDP.

    If prices fall in proporition with wages (so that real wages do not fall,) then the lower price level results in more real demand, given nominal GDP. A given flow of nominal spending on output allows the purchase of more actual goods and services. For firms to produce them, they need for labor, and so there is no employment.

    If it is assumed that product prices are perfectly felixible and that only wages are sticky, then a decrease in nominal GDP results in higher real wages and reduced labor demand. If wages fall, then prices fall too, but less than in proportion to wages, and so real wages fall. This results in higher labor demand.

    But if prices and wages are equally sticky, then a drop in nominal GDP will result in lower real expenditures, reduced output due to lower real sales and reduced employment due to less labor being needed to produce less output. Real wages stay the same. If prices and wages both fall, then real wages remain the same, but given nominal GDP, real expenditures rise, firms sell more, produce more, and hire more workers.

    Now, if lower prices and wages reduce nominal GDP, then that says nominal GDP targeting is not feasible. And so, that is what this amounts to.

    Given nominal GDP (which nominal GDP targeting is supposed to give,) then flexible (lower) wages will allow for more employment one way or another.

  26. Gravatar of Geoff Geoff
    29. January 2013 at 05:10

    Bill Woolsey:

    You are assuming that unchanged overall “spending” will ipso facto mean unchanged nominal demand for labor, when that is an empirical question, not an analytic one, for there are things that money can buy other than labor. NGDP can remain the same, and the demand for labor can rise, fall, or stay the same. In other words, NGDP and wage payments can move in different directions.

    “Demand for commodities is not demand for labor.” – John Stuart Mill.

    Historically, there has actually been a fall in wage payments relative to NGDP since around the 1970s. Wage payment changes have not followed NGDP changes for the last 40 or so years.

    Now, I am not arguing that there is zero relationship between NGDP and wage payments. After all, NGDP is to a large extent a function of wage payments, as wage earners spend or invest their incomes that isn’t a part of NGDP, on goods the purchases of which are a part of NGDP. So we would expect NGDP to change if wage payments change, ceteris paribus. If the Fed is targeting NGDP however, then it would have to bring about an increase in incomes that may or many not include wage payments. The Fed could very well increase non-wage incomes when it targets NGDP in a context of falling wage payments.

  27. Gravatar of ssumner ssumner
    29. January 2013 at 05:59

    Geoff, You said:

    “Why did the Fed find itself in a position of having to increase the monetary base to the extent that was needed, in order to prevent NGDP from falling the way it did?”

    Then I said:

    “Geoff, I don’t think the Fed needed to increase the base by a large amount.”

    Then you said;

    “I’m not not sure what this is supposed to be in response to.”

    Greg Hill, You said;

    “To pick up OhMy’s point above, it’s not at all clear that falling wages would be the answer to your prayers.”

    I never claimed it was.

    Fed up. Of course reserves are a MOA–it’s not even debatable. The price of $1 in reserves is always one dollar.

    You said;

    “I believe you would say MOA has gone from $1 trillion to $3 trillion and therefore the price level rises.”

    No, I’d say it rises ceteris paribus, but you didn’t hold ceteris paribus in your example.

    Fed up, Output not sold is part of “I” inventory investment.

    DKS—Hourly wages.

  28. Gravatar of Bill Woolsey Bill Woolsey
    29. January 2013 at 09:42

    Geoff:

    If nominal GDP remains on a a target growth path, then a sufficiently large decrease in nominal wages will generate all the labor demanded needed.

    Depending on the situation this might require lower real wage or else lower product prices as well as lower nominal wages with little change in real wages.

    With an interest rate targeting regime and no nominal anchor, then lower wages and prices could easily result in lower nominal GDP and little or no change in employment.

    With a fixed quantity of outside money, then lower prices and wages have to increase real money balances, which tend to lower real interest rates while raising real wealth and so increase consumption through the Pigou effect. Should work.

    If there is no outside money and only a pure credit money, then things are much more dicey.

    P.S. The Mill quote is misleading.

  29. Gravatar of Greg Hill Greg Hill
    29. January 2013 at 10:28

    Geoff, I could agree with almost everything you said in response to my post provided you put “not” in front of it. Consider just one of your claims, viz. that Keynes’s explanation of the MEC of capital is inconsistent with his account of why falling wages won’t necessarily lead to increased employment.

    You write, “Keynes actually ‘refuted’ the argument that lower wage rates and prices eliminates unemployment by assuming a different, indeed opposite context of rising wage rates and prices,” and then you go on to quote a passage from the GT, chap. 11, where Keynes explains why the MEC of capital will fall as investment rises.

    Your claim to the contrary notwithstanding, Keynes did not make this statement in a “context of rising wage rates and prices.” If you’ll return to the passage you quoted, you’ll notice that Keynes says, “‘If there is an increased investment in any given type of capital during *any period of time*, the marginal efficiency of that type of capital will diminish as the investment in it is increased . . .” (my stress). “Any period of time” does not mean, in your phrase, a “context of rising wages rates and prices.”

  30. Gravatar of Fed Up Fed Up
    2. February 2013 at 15:15

    “Fed up. Of course reserves are a MOA–it’s not even debatable. The price of $1 in reserves is always one dollar.”

    Sure it is debatable because demand deposits are supposed to be 1 to 1 convertible to currency. $800 billion in currency, $200 billion in (central) bank reserves, and $6.2 trillion in demand deposits. Full bank run. How much currency then?

    “You said;

    “I believe you would say MOA has gone from $1 trillion to $3 trillion and therefore the price level rises.”

    No, I’d say it rises ceteris paribus, but you didn’t hold ceteris paribus in your example.”

    So why would demand deposits going down matter? How about the second example (monetary base stays the same but demand deposits go up so currency plus demand deposits doubles)?

    “Fed up, Output not sold is part of “I” inventory investment.”

    OK, but companies will only add so much to inventory. Once they reach a certain level, they will stop overproducing.

  31. Gravatar of Fed Up Fed Up
    2. February 2013 at 17:16

    “The production of that which is not sold, represents partial over-expansion, and because people have an essentially limitless desire for more real wealth in general, even the most ascetic of monks, it means that the goods that were not produced that would otherwise have been sold if they were produced, represents partial under-expansion.”

    No, it is not. That’s the assumption of economists. What do Bill Gates, Warren Buffett, Carlos Slim, Apple, Cisco, Intel, Microsoft, etc. want that they don’t have? I’d say nothing. I see almost zero under expansion. That is one of the reasons the housing bubble happened.

    “For example, if 5% NGDP growth took place and yet there persisted unsold goods and labor, then it is almost certain that NGDP theorists would conclude “My target is too low”, and they will conclude that “prices are even more sticky then I thought, so let’s up the target to 5.5%”, or some such.”

    So does that mean more price inflation? If so, how? What if higher prices lead to less real GDP?

    Does that mean more real GDP? If so, how?

  32. Gravatar of Geoff Geoff
    4. February 2013 at 19:01

    Dr. Sumner:

    I don’t think that answers the question, but rather a tangential point regarding the particular size of the change in the base and what description one might use to describe that change.

    I am not talking about the actual size of the change, just that there had to be a change.

    I was just wanting to know why the Fed found itself in a position that it had to increase the size of the base to an extent that was needed to prevent NGDP from falling the way it did. I don’t think a mere announcement of NGDP targeting would have been sufficient. I think they also would have had to increase the base by a larger percentage than what it likely would have had to increase the base if it was engaging in NGDP targeting say 5 years prior.

    I wasn’t saying anything about the actual size of the change in the base. I was just asking why the Fed had to increase the base (to whatever degree) to the extent that was needed to prevent NGDP from falling the way it did.

    My only explanation, so far, is that the demand for money suddenly rose throughout the economy, which the Fed had to “not allow” decrease NGDP. I guess I am asking why did so many people want to hold so much more money for so much longer, that the Fed had to keep increasing the base to prevent NGDP from falling?

  33. Gravatar of Geoff Geoff
    4. February 2013 at 19:17

    Bill Woolsey

    “If nominal GDP remains on a a target growth path, then a sufficiently large decrease in nominal wages will generate all the labor demanded needed.”

    Can it not do that with a lower NGDP? Wouldn’t the sufficiently large decrease in nominal wages just be somewhat more?

    “With an interest rate targeting regime and no nominal anchor, then lower wages and prices could easily result in lower nominal GDP and little or no change in employment.”

    Isn’t price inflation targeting a nominal anchor?

    “With a fixed quantity of outside money, then lower prices and wages have to increase real money balances, which tend to lower real interest rates while raising real wealth and so increase consumption through the Pigou effect. Should work.”

    The Pigou effect contradicts the lesson from Mill that consumption doesn’t finance wages.

    Also, and related, consumer goods companies aren’t the only companies that employ labor or earn profits. A rise in consumption spending always and everywhere comes at the expense of otherwise less spending on labor and materials, since a dollar spent on consumption is a dollar not spent on labor or materials. You can’t spend the same dollar on two different things. Also, you can’t say that what you really mean is that more consumption spending will enable consumer companies to have more money with which to pay wages thereafter. This is because this is not consumption spending, but saving and investing in labor.

    “If there is no outside money and only a pure credit money, then things are much more dicey.”

    Ain’t that the truth.

    “P.S. The Mill quote is misleading.”

    Don’t see how. It’s straightforward to me. It is just saying when you buy a loaf of bread, you’re not paying the wages of the bakers. You’re buying bread, not labor. Aggregate demand for products doesn’t finance wages either. Aggregate demand can be 100% of all money spent on everything, with zero nominal spending on labor and capital assets/materials. All the various forms of spending are in competition with each other.

    Greg Hill:

    “Geoff, I could agree with almost everything you said in response to my post provided you put “not” in front of it.”

    You have an interesting way of saying you disagreed with almost everything I said.

    “Consider just one of your claims, viz. that Keynes’s explanation of the MEC of capital is inconsistent with his account of why falling wages won’t necessarily lead to increased employment.”

    “You write, “Keynes actually ‘refuted’ the argument that lower wage rates and prices eliminates unemployment by assuming a different, indeed opposite context of rising wage rates and prices,” and then you go on to quote a passage from the GT, chap. 11, where Keynes explains why the MEC of capital will fall as investment rises.”

    “Your claim to the contrary notwithstanding, Keynes did not make this statement in a “context of rising wage rates and prices.” If you’ll return to the passage you quoted, you’ll notice that Keynes says, “‘If there is an increased investment in any given type of capital during *any period of time*, the marginal efficiency of that type of capital will diminish as the investment in it is increased . . .” (my stress). “Any period of time” does not mean, in your phrase, a “context of rising wages rates and prices.””

    Greg, you’re getting caught up in the rhetoric and not looking at the bigger picture. The motivation for that passage is in response to the classical argument for falling wage rates and prices. Just consider the remarks by Keynes to set up this explanation, when he said “Perhaps it will help to rebut the crude conclusion that a reduction in money-wages will increase employment “because it reduces the cost of production”.”

    More to your point though, can’t you see that “any period of time” includes all contexts, which would mean we have to measure up Keynes’ arguments in a context of falling wage rates and prices, which is just one context among many? I thought that was obvious.

  34. Gravatar of Fed Up Fed Up
    14. February 2013 at 19:15

    Reference:

    http://www.themoneyillusion.com/?p=19333

  35. Gravatar of Fed Up Fed Up
    14. February 2013 at 19:17

    http://www.themoneyillusion.com/?p=19174

    ssumner said: “There are all sorts of ways money can be defined.”

    So I say the term money should never be used and inflation and income should never be used without some sort of qualifier (price inflation, national income, etc.).

    Plus, what should currency plus demand deposits be called? With no commodity standard, I call them medium of account and medium of exchange.

    Lastly, $800 billion in currency, $200 billion in (central bank) reserves, and $6.2 trillion in demand deposits with no commodity standard. Next, bank run happens. How much currency is there now?

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