David Andolfatto has a new post raising some questions about NGDPLT. He presents this graph of the price level (in logs):
And here is an easier to see version:
Then Andolfatto comments:
The PCE inflation rate since 1990 averaged 2.09% per annum.
What’s interesting about this diagram is that even though the Fed does not officially target the PCE price level, the data above suggests that the Fed is behaving as if it does.
As a price-level (PL) target is equivalent to a nominal GDP (NGDP) target in a wide class of macroeconomic models (especially under the assumption of constant productivity growth), then what more does the NGDP crowd expect from an official NGDP target? Seems to me that they are just asking for more price inflation and wishfully hoping that some of the subsequent rise in NGDP will take the form of real income.
Tell me I’m wrong (and why).
I think he’s wrong for many reasons, but I’ll just list a few.
1. Government price indices don’t measure the prices that are of macroeconomic interest. For instance in the 6 years after the housing bubble peaked the US, BLS data shows housing prices rising by about 10%, while Case-Shiller showed a 35% decline. Housing is 39% of the core CPI. That’s a big deal.
2. But even if the data were accurate, prices are the wrong variable, and models that suggest PLT is equivalent to NGDPLT are simply wrong. Indeed one of the strongest arguments for NGDPLT is that it does better when productivity growth is unstable. And productivity growth in America is unstable.
3. It’s also a mistake to draw a trend line on the assumption that the Fed is doing PLT at 2.09%, if it is not in fact doing PLT at 2.09%. Fitted trend lines trick the human eye, as I’ve discussed in previous posts. Do I have evidence that they were not doing PLT at 2.09%? Sure, lots of evidence. The Fed called for fiscal stimulus in late 2008 and early 2009, which would have been sheer madness if they had been doing PLT at 2.09%. As you can see from the graph, the price level was actually above target in 2008, suggesting an overheating economy. That strongly suggests the trend line is in the wrong place.
4. You might respond that the trend line sure looks accurate. Yes, but I could draw a different trend line that would look equally accurate from 1990 to 2008, and then show the price level below target after 2008. Who’s to say that’s not right? Indeed that trend line would be far more consistent with the Fed’s calls for fiscal stimulus, and complaints from Fed officials that demand has fallen short of their goals.
If PLT and NGDPLT really were similar policies, then why does NGDP look far below trend since 2008, while the price level (according to Andolfatto, but I have my doubts) is right on trend?
Unfortunately I don’t know how to add trend lines to St Louis Fred graphs. But here’s the graph I’m thinking of, from January 1990 to September 2008. If you assume the Fed was doing PLT during that period, and fit a trend line, I claim that the period after September 2008 would entirely lie below the trend line. That would be partly because the slope would be steeper, and partly because the trend PL would be higher in September 2008 than on Andolfatto’s graph.
HT: Mark Thoma, Bill Ellis.