Ryan Avent and Matt Yglesias on monetary offset
Here’s Ryan Avent:
There is little reason to expect the economy to accelerate in the near term. Barack Obama desperately wants to scrap the sequester, but unless congressmen heard a groundswell of protest in their districts during this week’s recess, they are unlikely to return to Washington motivated to fix it. The Federal Reserve had expected to start tapering off quantitative easing (QE), under which it buys $85 billion of government bonds a month with newly created money. The March air pocket prompted it to reconsider, and this past week it opened the door to ramping up QE. But the April report does not show the sort of stall that would prompt the Fed to pull the trigger. The year 2013 has so far held less economic drama than 2012, 2011 or 2010, but it has not given any reason to expect the final result to be different.
And here’s Matt Yglesias:
The Federal Reserve Seems to be Doing an OK Job of Counteracting Tight Fiscal Policy
Mike Konczal had an interesting weekend column arguing that the 2013 data we’ve had so far shows that the Federal Reserve can’t counteract the negative impact of contractionary fiscal policy. The more I think about it, the less convinced I am.
. . . according to the advanced estimate in the first quarter of 2013, real GDP grew at a 2.5 percent annual rate. That compares to 2.4 percent average growth in 2010, 1.8 percent average growth in 2011, and 2.2 percent average growth in 2012. Your Keynesian prior is presumably that the combination of a large tax increase on a small number of wealthy people, plus a small tax increase on a broad mass of wage earners, plus a sharp across the board cut in government spending would lead to slower economic growth than we’d seen in previous quarters. But based on the advanced estimate, we actually just saw an above-average quarter. Frankly, I hesitate to draw any sweeping conclusions from GDP data that’s still subject to revision, but as far as we can tell I would come down 180 degrees from Konczal’s position””we’re seeing that the Fed has successfully put a floor beneath the economy that allows the private sector to keep growing even in the face of government cutbacks and tax hikes.
Cheers to Charles Evans, hero of the recovery.
Does that mean austerity is wonderful and fiscal stimulus is bunk. No, it doesn’t. The standard critique of fiscal stimulus is that since the Federal Reserve has such a large role in steering the macroeconomy, monetary policy will offset any attempted fiscal expansion with deliberate monetary contraction. The plain text of the Evans Rule is a temporary suspension of this principle. If fiscal stimulus causes both an increase in real growth and an increase in the price level, the Fed will smile upon that conclusion as long as the impacts are modest. The Fed has given Congress a very effective parachute to counteract the fiscal plunge, but Congress could enact a jetpack that would be even more potent.
I agree with much of Yglesias’s post, but not the final paragraph I quote. And the reason is nicely explained in the Avent quotation—the Fed is steering in both directions; more QE or less, it all depends on how the economy is doing.
A brief comment on Yglesias’s criticism of Tabarrok. I agree with Yglesias that sophisticated Keynesians view the fiscal multiplier as being roughly zero when the economy is not at the zero bound. If I had to defend Tabarrok I’d argue that the vast majority of Keynesians are not sophisticated, and also that our undergraduate textbooks still teach the multiplier as if it applies to the economy when not at the zero bound. Most Keynesian pundits have this “simple” view of the multiplier. However Tabarrok did specifically mention Paul Krugman, and Yglesias is correct about Krugman’s interpretation of the 1990s.
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4. May 2013 at 06:28
“And the reason is nicely explained in the Avent quotation””the Fed is steering in both directions; more QE or less, it all depends on how the economy is doing.”
Unfortunately, this argument leads to the bothersome conclusion that we are getting exactly the kind of recovery that the Fed wants us to have.
Or, to the equally bothersome conclusion that the Fed would prefer faster growth but is unwilling to use its instruments to get there. In other words, the argument that if the Fed Funds target was 3% instead of 0% right now the Fed would surely loosen, but even though it would cut the Fed Funds rate if it could, it won’t use more unconventional policy moves unless the economy deteriorates from its present state.
4. May 2013 at 06:51
“according to the advanced estimate in the first quarter of 2013, real GDP grew at a 2.5 percent annual rate. That compares to 2.4 percent average growth in 2010, 1.8 percent average growth in 2011, and 2.2 percent average growth in 2012.”
One quarter’s data aided by an inventory bump . . .
“Your Keynesian prior is presumably that the combination of a large tax increase on a small number of wealthy people, plus a small tax increase on a broad mass of wage earners, plus a sharp across the board cut in government spending would lead to slower economic growth than we’d seen in previous quarters.”
. . . plus consumers saving less to offset the tax hike does not equal sustainable economic growth . . . yet. SS could me right, but let’s not crack the champagne after a few months.
4. May 2013 at 07:40
It seems like Yglesias believes in fiscal stimulus still, I don’t understand the jetpack analogy in any other context. I sometimes wonder if people visualize changes in AD from fiscal and monetary differently(a lot of intro textbooks tend to talk about the effects of fiscal stimulus in a more “real” way).
I agree with Tabarrok on this one, the vast vast majority of older economists I have met and pretty much every economist who studied in a country other than America have a very unsophisticated view of how fiscal stimulus and monetary policy interact. It is even worse at the high school level, the A level and IB basically teach the money hole Keynesianism (I still can’t get my head around the fact that economists spent years without seeing the obvious problems with the MPC multiplier) without so much as a single mention of expectations or any real role for monetary policy. The AP is a bit better but not by too much, it is a real shame that in many cases students are actively learning the opposite of most modern thought.
While it is true that Krugman certainly has a much more sophisticated view in reality, casually perusing his op-eds would probably not reveal that. Especially since he is often saying things like “The main reason our economic recovery has been so weak is that, spooked by fear-mongering over debt, we’ve been doing exactly what basic macroeconomics says you shouldn’t do “” cutting government spending in the face of a depressed economy.”.
4. May 2013 at 07:48
Doesn’t a cycle low in jobless claims and record high in the S&P 500 suggest Avent is too pessimistic about a pickup in growth from here despite fiscal tightening?
Would seem to me the Fed is now targeting the forecast with ‘QE Flex/The Bernanke-Evans Rule’. And thus far, Q1 GDP and average job gains through the first four months of the year, suggests the Fed’s forecast is being met. QE will ramp up or ramp down if that changes.
But I think the Fed would let better-than-expected growth run for a while to get PCE inflation back to target. Welcome to the wonderful world of a zero fiscal multiplier.
4. May 2013 at 07:54
“That our undergraduate textbooks still teach the multiplier as if it applies to the economy when not at the zero bound.” It’s absolutely ridiculous. We’re told that the multiplier is by god “1/MPC” and hey, since most of us spend all our income, it must be… 5. To be fair, the self-correcting AS-AD is just as much of a joke (in the way it’s taught).
Yglesias assumes a fairly un-“sophisticated” Keynesian. He says:
“Your Keynesian prior is that [austerity measures] would lead to slower economic growth [when we] actually just saw an above-average quarter.”
No? We know growth is supposed to accelerate? We know that naturally the economy adds jobs. So I would have predicted no such thing. I never bought the economic doomsaying of American austerity. It’s too small a % of GDP.
Here’s why our growth is in the dumps, and why a “persistent” jobs report isn’t a success for any body: http://bit.ly/17C7gVG
Just look at how terribly we’re doing today against ANY other recession. Tabarrok’s post was unfair on many points. Not just the AS headwinds during Clinton, but the fact that a noisy growth rate line clipped at 1990 doesn’t mean much. We expected a lot more.
Here’s my problem with austerity. I’m all for easier money etc. but what’s the point of cutting important services when people are suffering? I’m not talking about an abstract multiplier.
That too, this sharp a drop in real government spending makes no sense against the inflationary nature of government’s role in defense, education, and healthcare, which grows above trend inflation rates. That means even keeping govt/GDP constant, we’re loosing out real services.
I don’t think we’ve ever cut spending so sharply during a recovery as frail as this one. Look at my graph, can that flat-line of pathetic growth really be explained by tight money only?
Also, I’ve frequently said that I don’t think the output gap is as big as we think it is. But not nearly to the extent this graph indicates. And this assumption also has implication for the MM-types who don’t think a current NGDPLT regime has above-trend inflationary costs (because only so long as we are below full emp does that hold).
By the way, a Martin Wolf piece you might like: http://www.ft.com/intl/cms/s/0/d049482c-cb8f-11dd-ba02-000077b07658.html
4. May 2013 at 07:57
So the Fed will tighten if the sequester were to end? At any rate this seems to put us in a box.
If we stay at this level we just continue a slow recovery-not terrible but not what’s needed to really get traction.
According to you the Fed won’t allow any fiscal stimulus-they will immediately tighten-and they won’t do any more monetary easing. So as usual the Fed will do what it needs to avoid deflation but it won’t go beyond doing just enough.
4. May 2013 at 07:59
Is the point that if the sequester were ended this would enable the Fed to pull back on QE so we’d be in the same position anyway?
4. May 2013 at 09:01
‘…what’s the point of cutting important services when people are suffering?’
Those ‘important services’ create high marginal tax rates for the recipients of them. Sometimes over 100%.
4. May 2013 at 09:15
Patrick Sullivan,
That is a good argument for why the services are bad for the economy. But, it doesn’t mean the services are bad for the recipients (which it seems like you were implying).
4. May 2013 at 09:33
“Those ‘important services’ create high marginal tax rates for the recipients of them. Sometimes over 100%.”
I don’t understand how you reach this conclusion. I don’t understand how we benefitted from closing headstart centers, basic research funding, and food for the poor.
And even if you believe that the market does this stuff better, it needs time to adjust. Sudden and rapid cuts are wrong.
4. May 2013 at 09:55
Michael, That might be the case.
jurisdebtor, I’ll present more evidence soon.
Rob, Very good comment.
Tommy, I wouldn’t put too much weight on stocks. It does suggest a recession is very unlikely, but I still think 2% growth is a strong possibility. But a few more weeks of very low jobless claims might convert me to your viewpoint.
Ashok, Most of the austerity is in wasteful military spending, which should be cut.
Mike Sax, You said;
Is the point that if the sequester were ended this would enable the Fed to pull back on QE so we’d be in the same position anyway?”
That’s one possibility. Another is that they’d refrain from expanded QE, which they’d do if the sequester stayed in place.
4. May 2013 at 10:14
“Ashok, Most of the austerity is in wasteful military spending, which should be cut.”
Yes. And there’s a good chance anti-austerians are more swayed by their (probably) progressive ideology, and they’d agree.
But the value of a dollar is far higher in basic STEM research, early education etc. So the real value of loss (quantity*quality) might be *more* equally distributed.
But we agree the conversation’s been perverted when it’s considered solely from a Keynesian aspect.
4. May 2013 at 11:43
Mike Sax –
“According to you the Fed won’t allow any fiscal stimulus-they will immediately tighten-and they won’t do any more monetary easing. So as usual the Fed will do what it needs to avoid deflation but it won’t go beyond doing just enough.”
It’s easier to think of it the other way around, in my opinion. If the Fed thinks we need more stimulus, why weren’t they doing it before the sequester? In other words, the proof that the Fed doesn’t want more stimulus is that the Fed doesn’t do more stimulus.
4. May 2013 at 11:52
Geez Negation. This only gets tougher to follow-LOL. I’ll say this Market Monetarists win the award for being most counterintutitve.
What do you make of the fact that the Fed has criticized austerity-certainly at least in the form of the sequester?
“If you want evidence that the Federal Reserve would not offset the pro-growth impact of looser fiscal policy, you need look no further than today’s FOMC statement, which offers no change of policy but a clear statement that “fiscal policy is restraining economic growth”.
“Beyond that, no real change of policy or statement. It continues to be curious to me that the Fed is willing to accept levels of inflation below what they say is desirable, even as the labor market continues to be weak. The view appears to be that there are mysterious and hard to quantify risks of more aggressive monetary policy, so instead the Fed will call for looser fiscal policy and promise to not offset it. The Fed isn’t staffed by dummies, though, and they must know perfectly well this isn’t going to happen.”
http://www.slate.com/blogs/moneybox/2013/05/01/fiscal_policy_is_restraining_economic_growth_may_2013_fomc_statement.html
4. May 2013 at 12:45
Fair point, Mike. I would just really like to know what those “mysterious and hard to quantify risks of more aggressive monetary policy” are. My position is that if $85 a month in QE isn’t enough to hit the Fed’s objective, then why not $90 Billion or $100 Billion, rather than have the Treasury pass debt onto our children funding Cowboy Poetry Festivals.
Is there some reason that borrowing money from the public to increase AD is less risky than raising AD directly through the Fed?
4. May 2013 at 13:09
‘…it doesn’t mean the services are bad for the recipients….’
If the services provide disincentives for the recipients to engage in behavior that would turn out to be good for them, it does mean that.
4. May 2013 at 13:23
‘I don’t understand how you reach this conclusion. I don’t understand how we benefitted from closing headstart centers, basic research funding, and food for the poor.’
It is a highly complex world. But, not so complex that we couldn’t think a little. I first note that there seems to be some appeal to argumentum ad misericordiam with ‘head start centers’ and ‘food for the poor’.
‘Basic research funding’ suggests a bit of self-interest, coming as it does from an intern at a think tank.
But, that aside, if we provide ‘food for the poor’ under rules that make any attempt by the poor to improve their condition outside the government program (i.e., if you learn to fish we’ll sink your row boat), then we are hurting them.
Casey Mulligan explains the conclusion in detail here;
http://www.amazon.com/The-Redistribution-Recession-Distortions-Contracted/dp/0199942218
4. May 2013 at 17:17
Patrick Sullivan,
Here’s your claim (I believe): A poor person doesn’t work less as a result of government programs because he/she is maximizing utility. It’s not because the tax is so high that the costs of working no longer outweigh the benefits. It is beyond that. The poor person could still be better off, but he/she just doesn’t realize it. There is a behavioral issue resulting from high marginal tax rates that causes poor people to lose the ability to maximize utility.
Let’s take that argument further. Perhaps poor people won’t respond well to being cut off from government programs. They are myopic and don’t maximize personal utility, so why should we expect them to work hard under any circumstances? They just sound like psychologically disabled people to me.
4. May 2013 at 17:36
‘Here’s your claim (I believe)….’
It’s a classic sign of a weak argument when you have to re-write it in a form you think you can refute. I’ve made my argument very clear; people respond to the incentives they face…even poor people, because they are human beings.
4. May 2013 at 18:11
“It’s a classic sign of a weak argument when you have to re-write it in a form you think you can refute. I’ve made my argument very clear; people respond to the incentives they face…even poor people, because they are human beings.”
What if the parents have bad incentives? Should their kids pay? And I’m sorry, demand is ability and willingness. For the people that have no “ability” for important things, there might be role for government policy.
“It’s a classic sign of a weak argument when you have to re-write it in a form you think you can refute. I’ve made my argument very clear; people respond to the incentives they face…even poor people, because they are human beings.”
It’s a classic sign of a weak argument when you have to tell someone that their argument is a classic sign of a weak argument without refuting it.
Now, I’d say more (and actually refute your argument), but that seems to be it.
5. May 2013 at 05:04
Patrick Sullivan,
But you are claiming that they respond irrationally. Suppose I have a job. Then, the government comes along and says: “If you don’t have a job, we will give you free stuff.” Then, I quit my job to get free stuff. This is bad for everyone else, but why is it bad for me? To claim that it is bad for me, you must assume that I am unable to maximize utility and respond correctly to incentives. You must invoke some sort of behavioral non-standard utility theory to argue that more choices for an individual lead to that individual being worse off.
5. May 2013 at 05:08
Also, I was clearly restating your argument so that you could either argue with my logic or my premises (feel free to point out that I misunderstood your initial point). If I don’t restate your argument, then I am still arguing with whatever I think your argument is, but implicitly instead of explicitly.
5. May 2013 at 05:20
Ashok, I see little evidence that Federal spending on early childhood education helps. At least if you mean programs like Head Start. STEM research may help, but probably not much at the margin.
6. May 2013 at 09:05
“What if the parents have bad incentives? Should their kids pay?”
Well, a good first step might be making their incentives less bad by rewarding work, the poor can face ridiculous MTRs because of policies intended to help them.
But keep in mind, the large majority of people that are poor must by definition place a higher premium on leisure and other things that are negatively correlated to income. Other people work 100+ hour weeks and never take vacation, and very few of them are poor. Which choice is less rational? I don’t think anyone can really say.
11. May 2013 at 05:39
[…] Sumner on his assertion that monetary policy is moving the economy, to which he said “I’ll present more evidence soon.” Well, today, I guess, is “soon”, because today Sumner presents some evidence […]