Comment of the day

Here is Britmouse:

I find it astonishing that Krugman and Wren-Lewis, having done post after post in 2012 describing how the UK does have real fiscal austerity in 2012, are suddenly happy to now argue that a relaxation of fiscal austerity in 2012 is the “reason” for GDP recovery in… erm, 2013.


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40 Responses to “Comment of the day”

  1. Gravatar of W. Peden W. Peden
    20. December 2013 at 11:54

    I assume that fiscal stimulus is not supposed to work with long and variable lags…

  2. Gravatar of Mark A. Sadowski Mark A. Sadowski
    20. December 2013 at 12:06

    W. Peden,
    “I assume that fiscal stimulus is not supposed to work with long and variable lags…”

    Evidently it depends on the school of economics. Today I was told by Phillip Pilkington that he is a Post Keynesian, and not only do they think that fiscal stimulus works with lags, it essentially works forever:

    http://fixingtheeconomists.wordpress.com/2013/12/19/omg-tapering/#comment-2794

    “I’m a Post-Keynesian and we think that stimulus has long-run effects.”

  3. Gravatar of ssumner ssumner
    20. December 2013 at 14:56

    Woodford says fiscal policy works with leads.

  4. Gravatar of W. Peden W. Peden
    20. December 2013 at 15:33

    Scott Sumner,

    That would make more sense. If a government tells me that it’s going to raise indirect taxation, I don’t have to wait until they’ve done so before adjusting my expenditure plans.

  5. Gravatar of Philip Pilkington Philip Pilkington
    22. December 2013 at 13:40

    “Long-run effects” does not mean “forever”, Mark. The idea is that it will produce cyclical upswings in investment (as I said either in that comment or another). This is called the “accelerator effect” and is fairly well-known in macroeconomics.

  6. Gravatar of Mark A. Sadowski Mark A. Sadowski
    22. December 2013 at 15:22

    Philip,
    “This is called the “accelerator effect” and is fairly well-known in macroeconomics.”

    In “normal” macroeconomics the accelerator effect only works in one direction so long as the variable in question continues to move in that same direction.

    According to the October 2013 IMF Fiscal Monitor the Cyclically Adjusted Primary Balance (CAPB) has been significantly increasing in the US for three years, and in the UK for four years now. See bottom half of Table 2 on Page 70:

    http://www.imf.org/external/pubs/ft/fm/2013/02/pdf/fm1302.pdf

    Apparently in Post Keynesian Economics (at least according to you) fiscal stimulus has accelerator effects up to several years later, even in the face of significant fiscal consolidation.

  7. Gravatar of Philip Pilkington Philip Pilkington
    23. December 2013 at 05:54

    “In “normal” macroeconomics the accelerator effect only works in one direction so long as the variable in question continues to move in that same direction.”

    I don’t understand this at all. Here is Wikipedia on the accelerator effect:

    =====

    “The accelerator effect in economics refers to a positive effect on private fixed investment of the growth of the market economy (measured e.g. by a change in Gross National Product). Rising GNP (an economic boom or prosperity) implies that businesses in general see rising profits, increased sales and cash flow, and greater use of existing capacity. This usually implies that profit expectations and business confidence rise, encouraging businesses to build more factories and other buildings and to install more machinery. This may lead to further growth of the economy through the stimulation of consumer incomes and purchases, i.e., via the multiplier effect. The accelerator effect also goes the other way: falling GNP (a recession) hurts business profits, sales, cash flow, use of capacity and expectations. This in turn discourages fixed investment, worsening a recession by the multiplier effect.”

    http://en.wikipedia.org/wiki/Accelerator_effect

    =====

    That’s really rather simple. Investment is put as a function of GDP. So, when GDP increases investment should increase… right?

    Now, when a government increases the budget deficit GDP increases. Even with no multiplier GDP will increase. This increase in demand will then lead to an increase in investment via the accelerator effect.

    But this increase in investment in turn increases GDP which then increases investment again. This is called a “cyclical upswing” and is pretty clear in the work of, for example, Harrod and Domar or Robinson.

    In the comments I was saying that budget deficits have “long-run effects”. This is precisely what I meant. An initial increase in expenditure will drive further increases in expenditure and so the growth path of an economy that engaged in fiscal stimulus will, ceteris patribus, be higher than an economy that did not over the next, say, decade. The evidence of this — when we compare the US and the UK to Ireland and Greece — is pretty clear after the present recession. And the underlying causation can actually be tracked in the national accounts where the QE story, as I demonstrated to you in the case of Japan, cannot.

  8. Gravatar of Philip Pilkington Philip Pilkington
    23. December 2013 at 06:20

    You can see the causality in even the most primitive of graphs in this regard. The following is from FRED.

    http://fixingtheeconomists.files.wordpress.com/2013/12/deficit-and-investment.jpg?w=621

    Just to be clear, I’m not saying that the above graph shows everything that happened. We have to take into account multiplier effects as well as the change in the trade balance.

    However, the above graph tells a fairly powerful story: the increase in the budget deficit and the active fiscal stimulus in the US during 2008 led to a cyclical upswing in investment. Indeed, the budget deficit and private investment bottomed out at literally the same time!

    Now compare that with Ireland and its not hard to tell what’s going on here…

    http://bilbo.economicoutlook.net/blog/wp-content/uploads/2012/09/Ireland_Indexed_C_I_G_2007_2012Q2.jpg

    As I said, we can actually track the causality in the national accounts unlike the QE story which is surrounded with an aura of mystery.

  9. Gravatar of ssumner ssumner
    23. December 2013 at 06:38

    Philip, I don’t understand your point about the deficit and investment. The graph you present shows they are negatively correlated. A bigger deficit is associated with less investment. There may be a sort of causality story one can tell, but surely not from that graph!! The graph merely shows correlation, and in the wrong direction.

  10. Gravatar of Philip Pilkington Philip Pilkington
    23. December 2013 at 07:30

    Scott,

    I’m assuming the argument laid out in my first response — i.e. an accelerator effect. Thus we must assume a lag.

    We must also assume that as investment picks up tax revenues will rise and transfer payments will fall and close the deficit — I probably should have stated this explicitly; this is the principle of an “endogenous deficit” or the “automatic stabilisers”.

    So, to tell the story coherently…

    1) Investment crashes beginning around mid-2006.

    2) Budget deficit begins to open up endogenously as tax receipts decline and transfer payments increase around the beginning of 2007.

    3) Provisionally using the CBO estimates we assume that the 2009 stimulus begins to take effect immediately [http://upload.wikimedia.org/wikipedia/commons/c/c6/CBO_GDP_impact_of_ARRA_2009.png].

    4) In early 2009 as contraction peters out and a combination of the endogenous deficits and the activist stimulus program kick in investment begins to respond in line with the accelerator effect.

    5) As investment rises it cyclically reinforces itself and closes the budget deficit as tax revenues rise and transfer payments fall.

  11. Gravatar of Mark A. Sadowski Mark A. Sadowski
    23. December 2013 at 10:18

    Philip,
    Even if one believes that the effects of fiscal policy last as long as a decade (highly dubious) they are not asymmetric. When expenditures are reduced and revenues increased they have contractionary effects on the economy. The US fiscal stimulus is estimated by the major private forecasters (Goldman Sachs, Morgan Stanley, Moodys, Global Insight etc.) and government forecasters (OMB, FRB, CBO etc.) to have increased the rate of growth of GDP only through the middle of calendar year 2010. See this graph showing estimates by Goldman Sachs for example:

    http://jaredbernsteinblog.com/wp-content/uploads/2012/05/cliff2.png

    See also this graph of Goldman Sachs’ estimates of the effects of the 2013 changes in Federal fiscal policy:

    http://jaredbernsteinblog.com/wp-content/uploads/2013/04/fadingfisc.png

    Note that conventional mainstream macroeconomic estimates show that when you include all levels of government US fiscal policy has consistently been a net drag on the rate of growth of GDP for over three years now.

    I seriously doubt that Post Keynesian Economics is the only school of economics that believes in infinite asymmetric fiscal multipliers lasting decades.

  12. Gravatar of Mark A. Sadowski Mark A. Sadowski
    23. December 2013 at 11:31

    Philip,
    The graph of Ireland shows general government consumption spending. So you brought up this measure of government spending. I personally think the change in cyclically adjusted primary balance as a better measure of fiscal policy stance.

    You’ve mentioned Greece in this comment thread and Spain in the comment thread on your blog. Let’s look at real general government consumption spending in those countries and the US and the Euro Area as a whole:

    http://appsso.eurostat.ec.europa.eu/nui/show.do?query=BOOKMARK_DS-055780_QID_-360AA95D_UID_-3F171EB0&layout=TIME,C,X,0;GEO,L,Y,0;S_ADJ,L,Z,0;UNIT,L,Z,1;INDIC_NA,L,Z,2;INDICATORS,C,Z,3;&zSelection=DS-055780S_ADJ,SWDA;DS-055780INDIC_NA,P3_S13;DS-055780INDICATORS,OBS_FLAG;DS-055780UNIT,MIO_NAC_CLV2005;&rankName1=INDIC-NA_1_2_-1_2&rankName2=S-ADJ_1_2_-1_2&rankName3=INDICATORS_1_2_-1_2&rankName4=UNIT_1_2_-1_2&rankName5=TIME_1_0_0_0&rankName6=GEO_1_2_0_1&sortC=ASC_-1_FIRST&rStp=&cStp=&rDCh=&cDCh=&rDM=true&cDM=true&footnes=false&empty=false&wai=false&time_mode=NONE&time_most_recent=false&lang=EN&cfo=%23%23%23%2C%23%23%23.%23%23%23

    (I’ve included 2008Q1 since your graph starts then.)

    Between 2009Q4 and 2013Q3 real general government consumption spending has fallen by 5.3% in the US and by 0.5% the Euro Area as a whole. Real general government consumption spending has fallen by 5.4% and 9.3% in Spain and Ireland respectively. The most recent figure available for Greece is in 2011Q1. Real general government consumption spending fell by 20.0% from 2009Q4 to 2011Q1 in Greece.

    So yes, since 2009Q4 real general government consumption spending has fallen by more in Ireland and Greece than in the US, but it has fallen by almost exactly the same amount in Spain, and for the Euro Area as a whole real general government consumption spending has barely changed.

    (And the appropriate level of comparison is the currency area since we should also take into account monetary policy. Bringing up Spain, Ireland and Greece makes no more sense than bringing up Arizona, Florida and Michigan.)

    Since you claim fiscal policy has effects that can last up to a decade, let’s look at the change in real general government consumption spending in the past ten years. Between 2003Q3 and 2013Q3 real general government consumption spending has increased by 6.6% in the US and by 13.1% in the Euro Area as a whole. It has increased by 28.7% and 4.8% in Spain and Ireland respectively. Real general government consumption spending increased by 19.0% from 2003Q3 to 2011Q1 in Greece.

    So real general government consumption spending has increased by roughly double the proportion in the Euro Area as a whole as it has in the US. Even after the recent reductions real general government consumption spending is up by much more than the Euro Area average in Spain and Greece. Only in Ireland has real general government consumption spending grown by less than in the US, and then by only the narrowest of margins.

    If the effects of fiscal policy are and long lasting as you claim then by this measure of fiscal policy stance the Euro Area should be greatly outperforming the US, and Spain and Greece should be booming.

  13. Gravatar of Mark A. Sadowski Mark A. Sadowski
    23. December 2013 at 12:52

    Philip,
    As you’ve seemingly acknowledged in your most recent comment, by itself the fiscal deficit is a terrible measure of fiscal policy stance. It is even worse than real general government consumption expenditures (which is of course inadequate since it fails to take into account government revenue) because both spending and revenue are endogenous to the state of the economy.

    Let’s look at the general government deficit as a percent of GDP versus a much better measure, the general government cyclically adjusted (“structural”) balance as a percent of potential GDP for the US, Spain, Ireland and Greece:

    http://www.imf.org/external/pubs/ft/weo/2013/02/weodata/weorept.aspx?sy=2003&ey=2013&scsm=1&ssd=1&sort=country&ds=.&br=1&c=174%2C184%2C178%2C111&s=GGXCNL_NGDP%2CGGSB_NPGDP&grp=0&a=&pr.x=72&pr.y=6

    The US general government deficit peaked at 12.9% of GDP in 2009. Ireland’s deficit reached 30.5% of GDP in 2010 but that was ananomaly connected with the bailout of Ireland’s largest banks so let’s ignore that. The general government deficit peaked at 11.2%, 13.8% and 15.6% of GDP in Spain, Ireland and Greece respectively. So by this crude measure it would appear that fiscal policy was more stimulative in Ireland and Greece than in the US. This is of course one reason why your graph of the US Federal deficit was so meaningless.

    Even if we look at changes in the general government deficit the picture does not change much. Between 2003 (after all, you said it had effects lasting up to a decade) and 2009 the general government deficit increased by 8.2% of GDP in the US. For comparison it increased by 10.8%, 13.4% and 9.9% of GDP in Spain, Ireland and Greece respectively. And from 2009 to 2013 the general government deficit narrowed by 7.1% of GDP in the US. For comparison it narrowed by 4.5%, 6.2% and 11.5% of GDP in Spain, Ireland and Greece respectively. So by this crude measure it would appear that fiscal policy was more expansionary leading up to the crisis in Spain, Ireland and Greece than in the US, and has been less contractionary since then in Spain and Ireland than in the US.

    Now, let’s look at the general government cyclically adjusted balance. You’ll note that even the general government cyclically adjusted balance was less at peak in the US than it was in Spain, Ireland or Greece. Thus changes in the balance are probably a better measure than levels.

    Between 2003 and 2010 the general government cyclically adjusted balance decreased by 3.8% of potential GDP. For comparison between 2003 and 2009 the general government cyclically adjusted balance decreased by 8.3% and 13.0% of potential GDP in Spain and Greece respectively. From 2003 to 2008 it decreased by 11.7% of potential GDP in Ireland. From 2010 to 2013 the general government cyclically adjusted balance increased by 4.1% of potential GDP in the US. For comparison between 2009 abd 2013 the general government cyclically adjusted balance increased by 4.4% and 19.7% in Spain and Greece respectively. Between 2008 and 2013 the general government cyclically adjusted balance increased by 6.7% of potential GDP in Ireland. So by this measure, fiscal policy was more expansionary leading up to the crisis in Spain, Ireland and Greece than in the US, but it has been more contractionary since in these three countries, although only barely so in Spain. Moreover from 2003 to 2013 the general government cyclically adjusted balance increased by 0.3% of potential GDP in the US, compared to a decrease of 3.9% and 5.0% of potential GDP in Spain and Ireland respectively, and an increase of 6.7% of potential GDP in Greece.

    So it would seem to me that not only are cyclically adjusted balances a better measure of fiscal policy stance than the crude unadjusted deficit, but changes are a better measure than simple levels, and recent changes matter much more than changes that occurred over the span of a decade.

    P.S. An even better measure of fiscal policy stance is the change in the general government Cyclically Adjusted Primary Balance (CAPB) (since it adjusts for changes in spending on net interest) which you will find in the bottom half of Table 2 on page 70 of the October 2013 IMF Fiscal Monitor:

    http://www.imf.org/external/pubs/ft/fm/2013/02/pdf/fm1302.pdf

  14. Gravatar of Philip Pilkington Philip Pilkington
    23. December 2013 at 16:55

    Mark,

    You’re really not understanding me at all. I will make a couple of comments.

    1) I don’t really care what major institutions make their estimates of the effects of fiscal stimulus to be. Any time I have looked into their methodology it has been shabby. I’ll stick to my own, thanks.

    2) It’s not that fiscal stimulus “lasts decades”. That’s a terrible misconstruel of what I’m saying. I’m afraid that the reason I cannot communicate what I am saying to you is that you, like most mainstream economists, think in terms of statics while Post-Keynesianism is a dynamic theory. Each period in PK economics feeds into the next. So, a dearth of investment in period T will lead to less investment in period T+1 which will lead to less investment in period T+2 and so on and so on. It’s like hysteresis in unemployment. It’s not just a one-off loss. It’s something that causes the whole system to build at a slower pace permanently. And yes, the reason that other schools do not recognise these DYNAMICS is because they operate in a static framework — even DGSE models are comparative statics and not true dynamics.

    3) What was important in the graph of Ireland was only the investment spending. I assume that every reader on here is educated enough to know that Ireland has engaged in substantial austerity. So, I was showing that in the case of the US the stimulus and lax fiscal policy relative to Ireland had caused investment to pick up — as the accelerator effect would tell us — while in Ireland the fiscal drag had sent investment lower and lower — again, for reasons that the accelerator would make clear.

    4) Fiscal policy stance really matters very little. Personally I don’t care if the government spends voluntarily or allows the automatic stabilisers to do the work. It’s all the same to me. It just depends on which mechanism has a higher multiplier. And, thankfully, automatic stabilisers have a very high multiplier because transfer payments are usually never saved.

    5) I tend to avoid the CAPB for this reason. (A) It really doesn’t matter, only total fiscal stance matters and (B) It is basically a BS measure as I laid out here:

    http://fixingtheeconomists.wordpress.com/2013/08/17/alternate-reality-economics-left-business-observer-spiked-with-the-ergodic-poison/

    The CAPB is the equivalent to ideas of the “multivrse” in physics. I.e. it is abstract metaphysical nonsense. It is a nice measure for policymakers to fret and frown over but it is mostly rubbish. Just stick with actual fiscal stance and measure the multipliers of its components. Occam’s razor and all that…

  15. Gravatar of Mark A. Sadowski Mark A. Sadowski
    23. December 2013 at 21:13

    Philip,
    1) In my opinion the measures you are using are the very definition of shabby. The first graph you posted was of the Federal deficit as a percent of GDP derived by taking the quotient of the fiscal year deficit by the calendar year GDP. The second graph was one Billy Mitchell created from Ireland Central Statistics Office data using nominal figures in order to exagerate the decline in GDP components since, as nearly everyone knows, Ireland has been in deflation since 2007Q4.

    2) The only thing dynamic about the data you have presented so far is that it has time on the horizontal axis. You still haven’t explained how the US fiscal stimulus has managed to have such stimulative effects when for example, by almost any measure you could care to choose, fiscal policy was more expansionary in Spain than in the US from 2003 to 2009/2010 and has been roughly as, or less contractionary, since.

    3) Real gross fixed investment spending is down over 20% in the Euro Area as a whole since 2008Q1, and in fact is lower than it was a decade ago, unlike in the US where it has nearly fully recovered to peak levels. But since real general government consumption spending has barely changed in the Euro Area since 2009Q4 and is up sharply from a decade ago, unlike in the US where it has been reduced sharply since 2009Q4 and has increased little in a decade, what has this to do with fiscal policy?

    http://research.stlouisfed.org/fred2/graph/?graph_id=152666&category_id=0

    4) Raw general government deficits imply that fiscal policy in Spain Ireland and Greece was far more expansionary than in the US from 2003 to 2009 and has been substantially less contractionary in Spain and Ireland than in the US since 2009. This contradicts what you have said about their relative fiscal stance far more severely than the cyclically adjusted measures.

    5) In your post you said:

    “In fact, this leads me to wonder if some of this huge increase is due to bank bailouts in the likes of Ireland. If this is the case then why are these not abstracted from out of Henwood’s measure? After all, these were not discretionary increases in government spending in the normal sense of the term and thus should not be included since Henwood wants to get to grips with the level of discretionary government spending relative to taxation; that is, in his language, “the active effects of policy” and not “passive changes in revenue and spending that simply reflect ups and downs in the economic cycle”. My reckoning is that you should count the bailouts in the latter.”

    The bailouts of the large Irish banks *are* excluded from cyclically adjusted measures. If you look at the link I provided above to standard and structural deficits you’ll see that unadjusted measure has an anomalous increase to 30.5% of GDP in 2010. That does not appear on any of the cyclically adjusted measures, nor should it.

  16. Gravatar of Philip Pilkington Philip Pilkington
    24. December 2013 at 04:33

    Mark,

    1) ESTIMATES and MEASURES are two entirely different things. I was quite clear that the MEASURES I was showing were just illustrative of the argument I was putting forward. Now, if you can show that my MEASURES are so flawed that they undermine my argument then have at it. That would, for example, mean that you would have to show that the deflation that Ireland has supposedly been in since Q4 2007 — which is nonsense anyway because since 2011 Ireland has had a positive inflation rate — would have to completely undermine my argument that investment fell. Even if you count the deflation from 2008-2011 this will not affect the point I was making at all. Nor will it affect the point I am making with regards the US. Try if you want, but an educated glance says that it will not.

    2) What I’m saying seems to be entirely going over your head. I’m not going to bother trying to explain government deficit spending — NOT fiscal policy stance — has long-run dynamic effects. You’re just not listening.

    3) Fiscal DEFICITS have decreased in the Euro Area through austerity. They also decreased in the US but mainly through growth. What has happened is perfectly explainable in terms of the accelerator.

    4) Not at all. Again, if you understand the government budget balance as being endogenous and you account for the accelerator it will be clear what is going on. It is the story that I told a few posts ago. You may also want to note that you are counting fiscal deficits as a % of GDP. In the US GDP has been growing while in Ireland it has not. So, the actual size of the deficit is being masked somewhat in the US relative to that of Ireland. This is the well-worn case that deficit-to-GDP measures have both a numerator and a denominator.

    5) The quote you pull is clearly a QUESTION. I write “this leads me to wonder…”. If my guess was incorrect then that makes the CAPB measures even more odd. They imply that the Irish government actively increased their spending relative to taxation between 2007 and 2008. I can tell you for a fact living in the country at the time: that did NOT happen. There was no Irish stimulus. So, if the CAPB does not contain the bank bailouts it is even more suspect. Why on earth is it registering a massive active policy of spending in the PIIGS in 2007/2008 when this never happened?

  17. Gravatar of Philip Pilkington Philip Pilkington
    24. December 2013 at 04:42

    I should also supplement part 4) in the above.

    4b) As is also well known, the recessions in, for example, Ireland which had the largest housing bubble ever recorded, were far more severe than the recession in the US . This must also be taken into account when comparing the cases. But I think the argument even stands up if we pretend that these recessions were on par with the one in the US.

  18. Gravatar of Philip Pilkington Philip Pilkington
    24. December 2013 at 06:27

    Mark,

    Here, I wrote this up with figures here. You can think about this quite clearly without those “otherwordly” CAPB measures. Just loo at the figures…

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/

  19. Gravatar of ssumner ssumner
    24. December 2013 at 11:06

    Philip, You said;

    “You can see the causality in even the most primitive of graphs in this regard.”

    It would help if you would avoid making these sweeping claims, and then come back later with entirely different claims. It makes it hard to follow your argument. In any case, the data doesn’t fit your model any better than the Keynesian model. Growth picked up this year even as fiscal policy got far more contractionary.

  20. Gravatar of Mark A. Sadowski Mark A. Sadowski
    24. December 2013 at 11:23

    Philip,
    1) The Irish GDP price deflator fell nearly 9% from 2007Q2 to 2009Q4. For the last four years there has been no perceptible trend up or down:

    http://research.stlouisfed.org/fred2/series/IRLGDPDEFQISMEI

    Bill Mitchell uses real figures methodically so it’s telling that he switched to nominal figures purely to exagerate the poor state of the Irish economy.

    2) You still haven’t addressed why fiscal policy has different effects in the US from other countries.

    3) According to the IMF Fiscal Monitor between 2009 and 2013 the general government balance increased by 7.1% and 3.3% of GDP in the US and the Euro Area respectively. The CAPB increased by 4.2% and 3.5% of potential GDP in the US and the Euro Area respectively. Thus it would appear that fiscal consolidation accounted for roughly 60% and 100% of the increase in the general government balance in the US and the Euro Area respectively. Nevertheless the US engaged in approximately 20% more fiscal consolidation as a percent of GDP than the Euro Area.

    4) This is precisely why one should want to use cyclically adjusted measures instead of the unadjusted measures. The CAPB is measured as a percent of potential GDP.

    5) The Irish CAPB decreased by 3.1% of potential GDP. Thus the majority. There were numerous fiscal policy changes in 2008, many of them designed to take advantage of Ireland’s decent fiscal policy situation to prop up the economy, particularly the real estate industry:

    http://finfacts.ie/irishfinancenews/article_1012447.shtml

    I see no reason why those cannot explain the decline in CAPB.

    As for the GIIPS in general, by some estimates Spain had the largest discretionary fiscal stimulus as a percent of GDP after China, and only Greece and Ireland did not engage in any explicit fiscal stimulus in 2008-2010. And then of course there are a variety of fiscal policy changes that take place every year in every country even if they aren’t advertised as “fiscal stimulus”.

  21. Gravatar of Philip Pilkington Philip Pilkington
    24. December 2013 at 11:44

    Mark,

    Did I articulate a model? I don’t recall doing so… Anyway…

    1) Arguments about Ireland’s deflation aside — it ended in 2011 — does what you’re saying really refute the fact that investment has been in freefall. Or is this a distraction so that you can seem like you’re making an argument by nitpicking and acting silly?

    2) I don’t understand this statement at all. Fiscal policy will have different effects in different neighborhoods and township, let alone different countries. It all depends on the multipliers.

    3) No. Because you can easily make the case that the US was growing its way out of its deficit while the Eurozone was cutting off its own nose to spite its face. This is, in fact, what happened.

    4) No. The CAPB is witchcraft and only economists would fall for such BS statistical manipulation.

    5) CAPB is a nonsense measure so I am not going to comment on this.

    Look dude, your argument on QE was airy and vague. And your current argument is based on dodgy statistical measures that no working economist takes remotely seriously. Your side are losing the argument for these reasons. It is increasingly becoming obvious to policymakers and actual policy economists that austerity is what is dragging down the Eurozone and it was stimulus that saved the US.

    Economists in central banks are increasingly becoming aware that QE didn’t do what it was supposed to do. Meanwhile the supporters — who increasingly look like a cult — are using sophistical rhetoric and dodgy arguments to prop up the position. They’re losing. You’re losing. And you will lose. Because no matter what way yo try to spin it with your CAPB witchcraft people in government just don’t buy it anymore. I talk to them. I know this.

    It’s always good to have a debate. I enjoy it and it allows me to clarify certain thoughts. But it matters very little if I win or lose (indeed, who decides?). Your argument is not credible from the point-of-view of most serious policymakers and economists today. Sorry.

  22. Gravatar of Mark A. Sadowski Mark A. Sadowski
    24. December 2013 at 12:09

    Philip,
    “As is also well known, the recessions in, for example, Ireland which had the largest housing bubble ever recorded, were far more severe than the recession in the US.”

    The largest ever recorded?!?

    I can think of six recent housing bubbles right off the top of my head that are bigger than the Irish bubble.

    According to ESCB data nominal house prices increased by 242.2% in Ireland from 1997 to 2007:

    http://www.bis.org/ifc/publ/ifcb31j.pdf

    But this ranks after (ten years or less):
    1) Estonia 1999-2007 392.4%
    2) Latvia 2002-07 374.3%
    3) Lithuania 2000 357.3%
    4) South Africa 1998-2008 337.7%
    5) Japan (6 large cities) 1981-91 288.2%
    6) Los Angeles 1996-2006 266.2%

    The data for the Baltic States comes from the above link. South Africa comes from here:

    http://housepricesouthafrica.com/#comment-4970

  23. Gravatar of Mark A. Sadowski Mark A. Sadowski
    24. December 2013 at 12:12

    Data for Japan can be found here:

    http://www.stat.go.jp/english/data/nenkan/1431-17.htm

    Los Angeles can be found here:

    http://research.stlouisfed.org/fred2/series/LXXRSA

  24. Gravatar of Mark A. Sadowski Mark A. Sadowski
    24. December 2013 at 13:19

    Philip,
    1) The point is that for someone who is concerned about shabby estimates your own data is pretty shabby.

    2) You continue to claim that fiscal policy is responsible for the US recovery when by standard measures US fiscal policy has been has been highly contractionary for three years in a row.

    3) No, this is not in fact what has happened. Since 2009 real general government final consumption, real general government total expenditures and the general government cylically adjusted primary balance has declined more in the US than in the Euro Area. These are simple facts.

    4) The change in CAPB is the best measure of fiscal policy stance currently available.

    “And your current argument is based on dodgy statistical measures that no working economist takes remotely seriously.”

    Nonsense. For example, Paul Krugman seems to take the CAPB very seriously:

    http://krugman.blogs.nytimes.com/2013/12/18/the-three-stooges-do-westminster/?_r=0

    As for the rest of what you say, I suspect that the ECB is edging slowly closer to adopting an even more expansionary monetary policy stance that may even include its first real QE program. If this happens it will be precisely because of the success of the US, the UK and the more recent example of Japan.

  25. Gravatar of Mark A. Sadowski Mark A. Sadowski
    24. December 2013 at 13:21

    Philip Pilkington:
    “For example, Sadowski is largely correct that Spain’s absolute fiscal stance is laxer than the fiscal stance in the US but in Spain’s case it is driven purely by the automatic stabilisers.”

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/

    Spain had a discretionary fiscal stimulus equal to 6.7% of GDP. Out of 43 announced stimuli packages as of March 2009 this was larger as a percent of GDP than any stimulus with the sole exception of China’s. By comparison the US discretionary fiscal stimulus was only 5.5% of GDP:

    http://www.networkideas.org/news/mar2009/Fiscal_Stimulus_Plans.pdf

    In short the whole premise of your post is completely wrong.

    But even beyond that, this is not the correct way to measure fiscal policy stance because not every discretionary reduction in the fiscal balance is advertised as a “discretionary fiscal stimulus”. That’s why measures like the IMF’s Cyclically Adjusted Primary Balance (CAPB) are so useful.

  26. Gravatar of Mark A. Sadowski Mark A. Sadowski
    26. December 2013 at 09:11

    Philip Pilkington:
    “I cannot source the figures in this paper. Can you please provide a link to an announcement by a government official stating the exact size of discretionary fiscal stimulus? I cannot find it anywhere.”

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/#comment-2853

    Isabel Ortiz appears to have gotten the $113.3 billion total for Spain’s fiscal stimuli from the International Labor Organization (ILO). You can find a link to a Word document containing the ILO’s spreadsheet (which has additional details) here:

    http://rodrik.typepad.com/dani_rodriks_weblog/2009/03/getting-the-global-stimulus-numbers-right.html

    Note that the ILO took special care to exclude financial efforts (bank injections, buying assets, loan guarantees etc.) from fiscal efforts (public spending on goods and services, tax cuts, spending etc.).

  27. Gravatar of Mark A. Sadowski Mark A. Sadowski
    26. December 2013 at 09:14

    Philip Pilkington:
    “That’s a pretty dodgy source. Everywhere I look I’m getting 40bn euros or 3.7% of GDP. See here:

    http://en.wikipedia.org/wiki/2008_European_Union_stimulus_plan#National_plans

    http://news.bbc.co.uk/2/hi/business/7749382.stm

    Anyway, I think this can be accounted for by the fact that the downturn in Spain was far, far deeper than in the US. See:”

    http://bit.ly/1gYAfKS

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/#comment-2858

    The ILO is a United Nations (UN) agency and Dani Rodrik is a professor at the John F. Kennedy School of Government at Harvard University. It’s interesting what organizations and people you consider “dodgy” and “shabby” (e.g. the IMF).

    The Wikipedia entry was unsourced. Thus I corrected it and cited the ILO/Rodrik spreadsheet mentioned above. It now reads 8.1% of GDP as that is the figure given by spreadsheet, and €90 billion ($113.37 billion) is in fact 8.1% of Spain’s 2008 GDP.

    As for the BBC, popular media frequently makes mistakes. In this particular case there’s no possible way that Italy did a fiscal stimulus of €80 billion as the source you cite claims. The most I’ve seen mentioned by any reliable source is €5 billion.

    Your graph of GDP compares nominal US GDP to real Spanish GDP, which only makes sense if your intention was to exagerate the decline in Spanish GDP relative to the decline in US GDP.

    To make a consistent claim one should really compare nominal to nominal or real to real. In the 2008-09 recession real GDP declined by 4.3% in the US and by 5.0% in Spain from peak to trough, so there’s almost no difference:

    http://research.stlouisfed.org/fred2/graph/?graph_id=152869&category_id=0

    More importantly, what is this supposed to explain about the size of Spain’s discretionary fiscal stimulus? It’s totally irrelevant.

    Spain passed three large fiscal measures in 2008 to address the worsening state of its economy. By many accounts the third one alone, the Spanish Plan for Economic Stimulus and Employment (Plan E) contained measures totalling to €165 billion or over 15% of Spain’s 2008 GDP. Even totally excluding the financial efforts in these three measures, it’s very unlikely that the fiscal stimulus portion was anything less than €90 billion.

    And in the final analysis, evidently you have now moved from debating the existence of Spain’s fiscal stimulus to debating its size. Your post clearly implies that Spain did not do a fiscal stimulus. At what point does a retraction occur?

    P.S. Spain also has one of the weakest systems of automatic stabilizers in the European Union (EU), and by some estimates it is even weaker than the US system. How did the general government deficit soar by so much more in Spain than in the US between calendar years 2007 and 2009 (13.1% of GDP vs 10.3% of GDP according to the IMF) if the decline in GDP from peak to trough was so similar and Spain did not do a discretionary fiscal stimulus?

  28. Gravatar of Mark A. Sadowski Mark A. Sadowski
    26. December 2013 at 12:45

    Philip Pilkington:
    “First of all, for the record, I still find those two measures dodgy. Why? Because estimates (remember we’re distinguishing between estimates and measures?) are based on a host of assumptions.

    And as to the ILO link you are providing, it is an unpublished word document linked to on a blog — would I cite that in a study? No. Or at the very least I’d be clear about what I’m citing.

    Onto the Spain vs. US issue. When you map the real GDPs we still see a substantial difference. See:

    http://bit.ly/19O1Z0u

    Indeed, we don’t see much difference between nominal and real in this regard. So, that’s not so much of a problem.

    Were there other factors driving Spanish investment down that were not there in the US? Yes. And I think I could guess at what they were (i.e. the housing crash was larger). I will try to investigate these in the coming days. I took a glance just now and I think that my intuition was right.

    But I have altered the above to say that there was a Spanish stimulus in 2008. I think that is beyond debate.

    P.S. Your graph was off too. If you check you’ll see that you indexed the dates differently on the two measures. This actually makes no minor difference as you’ll see if you fix it. I guess we all make mistakes, eh?”

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/#comment-2863

    Um, I did it that way intentionally. They are indexed such that peak real GDP is 100. US real GDP peaked in 2007Q4 and Spanish real GDP peaked in 2008Q1.

    In fact, if you do it on an annual basis, to make it a fair comparison you really should index US real GDP to 100 in 2007 and not 2008, since US real GDP peaked in 2007. On an annual basis US and Spanish real GDP declined by 3.1% and 3.8% peak to trough respectively:

    http://research.stlouisfed.org/fred2/graph/?graph_id=152888&category_id=0

    Thus even on an annual basis the difference in the decline from peak to trough in real GDP is insignificant. This is even more the case when one considers the US decline occured over two years instead of just one. (To be excruciatingly clear, US potential real GDP likely grew by more over two years than Spanish potential real GDP grew in one.)

  29. Gravatar of Mark A. Sadowski Mark A. Sadowski
    27. December 2013 at 09:22

    Philip Pilkington:
    “Mark,

    If I’m going to admit that I’m wrong I think you should probably do so too> Otherwise it comes off as slightly embarrassing….”

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/#comment-2869

    I’d like to oblige you but I’ve got literally hundreds of FRED graphs where I index peaks exactly same way. See for example this one on nominal GDP for six EU members:

    http://research.stlouisfed.org/fred2/graph/?graph_id=120025&category_id=0

    Or this one on employment in the US and the UK that I created only just yesterday:

    http://research.stlouisfed.org/fred2/graph/?graph_id=152909&category_id=0

    Indexing peaks to 100 for each country makes assessing relative peak to trough declines a very simple matter. And thanks to FRED it’s incredibly easy to do.

    And when you’ve got a large number of countries, each with different peak date, which country’s peak date are you going to say is more important than the others? Logically you could rank them according to size of the economy, but if you’re going to do it that way then a graph comparing annual real GDP should use 2007 for the US and Spain and not 2008:

    http://research.stlouisfed.org/fred2/graph/?graph_id=152944&category_id=0

    Is that an improvement? Not in my opinion.

  30. Gravatar of Mark A. Sadowski Mark A. Sadowski
    27. December 2013 at 10:50

    Philip Pilkington:
    “What I meant is that this graph gets basically the same result as the one I linked to a moment ago. The Spanish recession is clearly deeper by about one index point.

    What’s more, the Spanish stimulus came online sooner. It was announced in November 2008 while the US stimulus was in February 2009. Plus the Spanish stimulus was spent over two years while the US stimulus was spent over one year. That means that the stimulus did more “propping up” in Spain than in the US which indicates that the Spanish recession was far deeper. I glanced at the fall in housing investment and it seems much more acute than in the US. I will do something on this in the next few days.”

    http://fixingtheeconomists.wordpress.com/2013/12/24/how-the-us-fiscal-stimulus-worked-and-why-spain-is-still-stuck-in-a-rut/#comment-2875

    Measured on an annual basis, peak to trough real GDP declined by 3.1% in the US and 3.7% in Spain, so the US recession was 82% as deep as Spain’s. Measured on a quarterly basis, peak to trough real GDP declined by 4.3% in the US and 5.0% in Spain so the US recession was 86% as deep as Spain’s.

    Both the US and Spain did more than one fiscal stimuli. Different institutional accountings include some and not others. Both the OECD and the IMF include the 2008 US fiscal stimulus which was signed into law in February 2008 and distributed as a tax rebate in 2008Q2. The ILO appears to be counting all of the fiscal stimuli that Spain enacted in 2008, whereas the IMF and the OECD do not.

    As you apparently note, Spain’s Plan E started before the US’s ARRA but seems to have been almost entirely distributed over 2009 and 2010. ARRA funding started in March 2009 and evidently there are some programs which do not conclude until the end of the 2019 fiscal year. But according to the CBO’s most recent detailed estimates approximately 88% of ARRA was distributed in the 2009-11 fiscal years with 48% in the 2010 fiscal year alone. (US Federal fiscal years start on October 1.)

  31. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. December 2013 at 11:45

    My conversation with Philip Pilkington continues.

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/

    1) “All data is from the OECD and is expressed in constant prices.”

    Just a minor nitpick, but when calculating proportions it’s methodically more correct to do it in current prices, otherwise the proportions may not add up correctly and you can generate results that are obviously incorrect (e.g. net exports contributing to growth when trade is actually balanced). However, in this particular instance I don’t think it affects your main point one bit (so I’m just being anal).

    2) It’s conventional wisdom that investment is more volatile than consumption and that residential investment is more volatile than overall investment.

    But how does this affect macroeconomic performance? That all depends on how well policymakers manage aggregate demand. All other things being equal we might expect a high investment economy to be more volatile than a low investment economy, and a high investment economy to perform worse than a low investment economy in a recession. But if policymakers to a better job of managing aggregate demand in the high investment economy than in the low investment economy we might not find any difference.

    3) Spain, Ireland and Greece had unusually high levels of residential investment prior to the recession and the decline in residential investment in those countries explains a great deal of the decline in GDP in those countries.

    Residential investment peaked at 12.5%, 14.1% and 12.5% of GDP in Spain, Ireland and Greece in 2006, 2006 and 2007 respectively. This compares to 6.5% and 6.8% in the US and the Euro Area in 2005 and 2006/2007 respectively. Between 2008 and 2012 the proportion of GDP that was attributable to residential investment declined by 5.6%, 6.6% and 4.9% respectively. This compares to 2.3% and 1.1% inn the US and the Euro Area between 2007 and 2011 and 2008 and 2012 respectively.

    Given Spain, Ireland and Greece are all members of the Euro Area and thus are subject to the same monetary policy we might very well expect them to perform worse than the Euro Area average once one accounts for differences in fiscal policy.

    Before moving on it might be worth mentioning that both Spain and Greece have always had a large proportion of GDP devoted to residential investment. It averaged 7.3% in Spain from 1970 through 1999 and 15.3% of GDP in Greece from 1960 through 2001 according to AMECO. In contrast it averaged only 5.2% of GDP in Ireland from 1975 to 1997 and 6.3% in the EA12 from 1991 through 2002 according to AMECO. It averaged 4.7% of GDP in the US from 1955 through 1991 according to FRED. In fact prior to the recession residential investment had never been below 6.0% of GDP in Spain, and had never been below 9.0% of GDP in Greece. (Note also that the US set neither its highest (6.9% of GDP in 1950) nor its lowest (0.7% of GDP in 1944) rate of residential investment during the housing bubble.)

    It also might be worth mentioning before moving on that the high levels of overall investment attained in Spain, Ireland and Greece attained before the recession (31.0%, 28.2% and 26.7% of GDP respectively) was exceeded by all of the BELLs (Bulgaria, Estonia, Latvia and Lithuania) as well as Slovenia although none of these countries had a peak rate of residential investment higher than the peak Euro Area average. Thus these countries, which are all either in the Euro Area, or are pegged to the euro, are subject to the same volatility problem as Spain, Ireland and Greece.

    4) Fiscal policy explains the relative differences in nominal GDP (NGDP) performance of Spain, Ireland and Greece perfectly. (That is, within the confines of the ECB’s dreadful monetary policy, and given the fact these are all high investment economies, Spain’s fiscal stimulus *did* work.)

    Consider the changes in Cyclically Adjusted Primary Balance (CAPB via IMF Fiscal Monitor) relative to 2008 (percent of potential GDP):

    Year-EuroA.-Spain-Ireland-Greece
    2009–(-1.8)–(-4.2)–2.6–(-4.9)
    2010–(-2.0)–(-2.5)–5.3—-2.7
    2011–(-0.5)–(-1.5)–6.8—-8.6
    2012—-0.6—–1.5—8.1—11.9

    And here is the nominal GDP of these entities indexed to 100 in 2008:

    http://research.stlouisfed.org/fred2/graph/?graph_id=153157&category_id=0

    Note that Spain had a more expansionary fiscal policy than the Euro Area average in calendar years 2009-11 relative to 2008 but it has underperformed the Euro Area in NGDP throughout. This can be explained by the fact that Spain is a high investment economy. Note also that Ireland had the most contractionary fiscal policy in 2009-11 relative to 2008 and performed the worst in terms of NGDP in 2009-2011. Greece went from having the most expansionary fiscal policy in 2009 to the least in 2012 relative to 2008 and its NGDP performance rank relative to the other two high investment economies matches its fiscal policy rank.

    In short, subject to a persistent aggregate demand shortfall, high investment economies underperform relative to other economies, but fiscal policy can explain relative performance. Spain would very likely have performed worse relative to Ireland (throughout) and Greece (in 2010-12) if it had not been for its more expansionary fiscal stance.

    5) Monetary policy can also explain relative performance among high investment economies.

    All of the high investment economies I have mentioned so far are part of the Euro Area or are pegged to the euro. Thus they are all subject to the same monetary policy. The only advanced high investment economy not pegged to the euro that I could find is the small island economy of Iceland.

    Investment as a percent of GDP peaked at 35.6% of GDP in 2006 in Iceland. Residential investment peaked at 6.9% of GDP in 2007, not at the same stratospheric levels as in Spain, Ireland and Greece but still higher than the Euro Area average. Investment declined from 24.6% of GDP in 2008 to 12.5% of GDP in 2010. Residential investment declined from 5.5% of GDP in 2008 to 2.3% of GDP in 2010.The decline in investment from peak was 23.1% of GDP in Iceland compared to 11.2% of GDP in Spain. Investment declined by 12.1% of GDP in Iceland and by 9.3% of GDP in Spain. The decline in residential investment during the recession was 3.3% of GDP in Iceland and 5.6% of GDP in Spain. So there was larger decline in overall investment in Iceland than in Spain although less of it was in the form of residential investment.

    Here is NGDP in Iceland, Spain and the Euro Area indexed to 100 in 2008:

    http://research.stlouisfed.org/fred2/graph/?graph_id=153176&category_id=0

    As you can see, unlike in much of the advanced world, NGDP never fell in Iceland on an annual basis, and furthermore it rose by nearly 15% from 2008 to 2012 unlike in spain where it fell by over 5%. Iceland’s CAPB increased by about 10%, 14%, 17% and 19% of potential GDP relative to 2008 in 2009 through 2012 respectively. So Iceland’s fiscal policy has been very tight, tighter than either Ireland’s or Greece’s throughout.

    Yes, real output and employment has yet to fully recover in Iceland, but the unemployment rate is currently only 4.8%, so given that and its relatively robust inflation rate, it’s impossible to argue that Iceland is suffering from an aggregate demand shortfall.

  32. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. December 2013 at 15:36

    Substantive error:

    “Investment declined by 12.1% of GDP in Iceland and by 9.3% of GDP in Spain.”

    should read

    “Investment declined by 12.1% of GDP in Iceland and by 9.3% of GDP in Spain during the recession.”

  33. Gravatar of Geoff Geoff
    30. December 2013 at 15:54

    Mark:

    Whatever, GDP isn’t a reliable measure of economic health anyway.

  34. Gravatar of Mark A. Sadowski Mark A. Sadowski
    1. January 2014 at 11:26

    Geoff,
    Nor are you.

  35. Gravatar of Mark A. Sadowski Mark A. Sadowski
    1. January 2014 at 11:28

    Philip Pilkington:
    “The inflation in Iceland was caused by a massive decline in the value of the currency.

    http://en.wikipedia.org/wiki/Icelandic_kr%C3%B3na#Issues_affecting_the_currency

    It’s a small open economy with a current account deficit of over 20% at the time of the crisis. When the currency fell import prices went through the roof. This is extremely common knowledge. It has nothing to do with monetary policy.”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2909

    The Exchange Rate Channel is one of the most important channels of monetary policy. Changes in relative prices and wages are easily made via currency depreciation. Iceland experienced an enormous adjustment in prices and wages relative to the European core precisely through the fall in the krona.

    Sweden and Poland underwent smaller depreciations in July 2008 through March 2009, with Sweden suffering a relatively mild recession and Poland avoiding one entirely. Spain probably needed a similar adjustment, but that adjustment will instead require years of grinding wage deflation in the face of high unemployment (unless there is a change in ECB policy).

  36. Gravatar of Mark A. Sadowski Mark A. Sadowski
    1. January 2014 at 11:29

    Philip Pilkington:
    “You’re not serious, are you? Do you really think that the value of the Krona was more than cut in half because of the central bank’s monetary policy stance? Do you know anything about what happened to Iceland in 2008?”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2915

    The Eurostat Price Level Index for Iceland rose from 18.7% above the EU-28 price level average in 2001 to 59.2% above the average in 2007, an increase of 34.1% in six years:

    http://appsso.eurostat.ec.europa.eu/nui/show.do?query=BOOKMARK_DS-053404_QID_-24D77D4E_UID_-3F171EB0&layout=TIME,C,X,0;GEO,L,Y,0;INDIC_NA,L,Z,0;AGGREG95,L,Z,1;INDICATORS,C,Z,2;&zSelection=DS-053404INDICATORS,OBS_FLAG;DS-053404AGGREG95,00;DS-053404INDIC_NA,PLI_EU28;&rankName1=INDIC-NA_1_2_-1_2&rankName2=INDICATORS_1_2_-1_2&rankName3=AGGREG95_1_2_-1_2&rankName4=TIME_1_0_0_0&rankName5=GEO_1_2_0_1&sortC=ASC_-1_FIRST&rStp=&cStp=&rDCh=&cDCh=&rDM=true&cDM=true&footnes=false&empty=false&wai=false&time_mode=NONE&time_most_recent=false&lang=EN&cfo=%23%23%23%2C%23%23%23.%23%23%23

    Thus the depreciation of the krona was widely viewed as desirable, if not inevitable. The following shows the krona-euro exchange rate corrected for HICP (the real exchange rate) set to 100 in June 2007:

    http://research.stlouisfed.org/fred2/graph/?graph_id=153349&category_id=0

    Even after the 36% decline in the real exchange rate between June 2007 and September 2008 the krona was probably still overvalued relative to the euro (and since 2010, the Price Level Index in Iceland has been consistently above the EU-28 average). Nevertheless, at that point the Central Bank of Iceland (CBI) decided that stabilizing the exchange rate was to be a key policy objective, otherwise it would become increasingly impossible to achieve the CBI’s inflation objective.

    The attempt at pegging the krona to the euro in early October was initially botched due to the failure to impose capital controls (something which the Baltic States always effectively had during their pegs). It was this that precipitated the exchange rate crisis which was then brought under control by the imposition of capital controls, something the CBI should have done from the moment they decided to stabilize the exchange rate.

  37. Gravatar of Mark A. Sadowski Mark A. Sadowski
    2. January 2014 at 12:45

    Philip Pilkington:
    “Thanks for the narrative Mark, I’m well aware of all the above. You may have also noted the extensive capital flight that actually caused the depreciation, assuming that we as economists are still actually interested in causality.

    But let’s just be clear so that the key point doesn’t get lost here. You wrote:

    “Monetary policy can also explain relative performance among high investment economies.”

    And then went on to give the Iceland example. But of course monetary policy does not explain the high NGDP in Iceland. As you just now yourself admitted, the central bank in Iceland tightened monetary policy to try to stifle an inflation that was caused by a currency crisis that occurred around the beginning of 2008 after an extensive capital flight from the country.

    In short: no, monetary policy cannot really explain anything, anywhere after the crisis. It was ineffective everywhere it was tried because, as I have been maintaining from the start, it is a very haphazard policy instrument. And the “market monetarist” faith in it is just that: faith, with no real empirical evidence beyond a few spurious relationships.

    Yes, if I didn’t call you out on the currency crisis in Iceland you could easily have done regressions on NGDP and interest rates after 2009 and thus provided so-called “evidence” of market monetarist claptrap and I would imagine most people would have accepted it… This is in part because the market monetarist crowd have spread this ridiculous notion that NGDP is somehow a good measure of economic “progress” whereas in many countries such as Iceland the high inflation has been a huge problem for the country who at one time even considered trying to adopt the Canadian dollar to counteract the disastrous rise in import prices. If you’d used a standard measure for Iceland — i.e. real GDP — it would have been clear how bad the situation is there. And no, it is not one that can be solved with fiscal stimulus because the country has such bad balance of payments difficulties.

    Market monetarism is truly the new monetarism in that it relies on dubious measures of economic progress and spurious relationships (both of these are tied up with one another). When you dig down into the market monetarist arguments they are almost wholly wrong and the results can be explained by a standard Keynesian framework — usually by looking at the external balance, the currency, the government fiscal balance and the extent to which investment fell prior to the recession.”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2920

    Philip Pilkington:
    “You may have also noted the extensive capital flight that actually caused the depreciation, assuming that we as economists are still actually interested in causality.”

    True, there was extensive capital flight between the time that the CBI attempted to peg the krona to the euro in early October 2008, and the imposition of capital controls in late November. But capital flight cannot explain the depreciation that the krona experienced prior to that for the simple reason that there were large capital *inflows* all during that time.

    Capital flows were positive every quarter from 2007Q2 through 2009Q2. In fact in 2008Q4, the quarter of the currency crisis, capital inflows reached 20.8% of GDP, a rate of inflow only exceeded by the 31.1% rate reached in 2008Q1. The reasons for the krona’s depreciation from June 2007 through September 2008 are complex, but they have little to due to capital flight.

    Philip Pilkington:
    “As you just now yourself admitted, the central bank in Iceland tightened monetary policy to try to stifle an inflation that was caused by a currency crisis that occurred around the beginning of 2008 after an extensive capital flight from the country.”

    To be clear, the currency crisis erupted *after* the CBI fumbled in its attempt to peg the krona. At that point investors quite rightly feared that the CBI had lost control of the exchange rate. And the move to stabilize the exchange rate was viewed as appropriate given year on year inflation was double digit and had been so since April 2008.

    Philip Pilkington:
    “In short: no, monetary policy cannot really explain anything, anywhere after the crisis. It was ineffective everywhere it was tried because, as I have been maintaining from the start, it is a very haphazard policy instrument.”

    Then it seems exceedingly odd that everywhere that it has been tried, namely the US, the UK, Sweden, Poland and Iceland, NGDP growth has been far more robust than where it has not been tried, namely the Euro Area.

    Philip Pilkington:
    “This is in part because the market monetarist crowd have spread this ridiculous notion that NGDP is somehow a good measure of economic “progress” whereas in many countries such as Iceland the high inflation has been a huge problem for the country who at one time even considered trying to adopt the Canadian dollar to counteract the disastrous rise in import prices. If you’d used a standard measure for Iceland — i.e. real GDP — it would have been clear how bad the situation is there.”

    To be precise, aggregate demand (AD) is nominal GDP (NGDP) when inventory levels are static (i.e. nominal Final Sales of Domestic Product). Thus for all intents and purposes AD is in fact virtually identical to NGDP. The whole reason for looking at NGDP is that it is the appropriate metric for measuring the effects of those policies intended to regulate AD, namely monetary and fiscal policy.

    Real GDP (RGDP) can change due to shifts in short run aggregate supply (SRAS). Just as by itself inflation can tell us nothing about AD, by itself RGDP growth can tell us nothing about AD. And since the AD-AS Model was introduced by Keynes in Chapter 3 of the General Theory, I have no doubt that he would agree with this were he alive today.

  38. Gravatar of Mark A. Sadowski Mark A. Sadowski
    2. January 2014 at 14:33

    Philip Pilkington:
    “Still citing Iceland in there… hmmm…

    Maybe you should consider that the Euro Area has a single currency and thus is imposing austerity while countries with their own currencies — i.e. the ones that control monetary policy — have no such pressure. You know… maybe you’re engaging in “spurious correlation” here. Econometrics 101.

    Or just keep running blind regressions on large swathes of data without engaging in any interpretation. I guess that’s what most economists do these days.

    Anyway, this debate has descended into the pit. Good talking to you though. Keep the NGDP flag flying.”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2925

    Philip Pilkington:
    “Maybe you should consider that the Euro Area has a single currency and thus is imposing austerity while countries with their own currencies — i.e. the ones that control monetary policy — have no such pressure. You know… maybe you’re engaging in “spurious correlation” here. Econometrics 101.”

    That might be true in the case of Sweden, which has not engaged in much if any fiscal consolidation. But according to the October 2013 IMF Fiscal Monitor, between 2009 and 2013 the cyclically adjusted primary balance (CAPB) of the US, the UK, Poland and Iceland has increased by 4.3%, 6.2%, 3.8% and 9.0% of potential GDP, whereas in the Euro Area it has only increased by 3.4% of potential GDP.

  39. Gravatar of Mark A. Sadowski Mark A. Sadowski
    2. January 2014 at 15:22

    Philip Pilkington:
    “So, according to your CAPB measures the austerity has been worse in Europe? Yeah, thanks. We all know that. I’m from Ireland, you know, and I live in the UK.

    So, austerity is worse in Europe. Maybe that’s the cause you’re looking for. Not eased monetary policy. Jeez, how many times do I have to say it: austerity is the cause of low growth in Europe relative to the US and the UK!!!

    **Not that I think the CAPB is an acceptable measure, but however…”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2929

    Philip Pilkington:
    “So, according to your CAPB measures the austerity has been worse in Europe?”

    An *increase* in a fiscal balance means fiscal consolidation is taking place. Thus when the CAPB increases more in one currency area than another that means more fiscal consolidation is taking place within that currency area.

    Thus since 4.3%, 6.2%, 3.8% and 9.0% are all larger in magnitude than 3.4%, that means that austerity has been *worse* in the US, the UK, Poland and Iceland than in the Euro Area between 2009 and 2013.

  40. Gravatar of Mark A. Sadowski Mark A. Sadowski
    2. January 2014 at 15:33

    Philip Pilkington:
    “More austerity in the US and UK than in Ireland then? And you wonder why I say don’t trust the CAPB?

    It’s a garbage measure, as I’ve said from the beginning. Austerity has been fierce in Ireland. I had to emigrate. You’d be laughed out of the halls of Irish government making that case… and rightly so.

    Anyway, I’ve had enough now. If you want to believe that austerity is easier in Ireland than in the US you can believe that if you want.

    Also, if you’re going to use garbage measures like the CAPB you could at least disaggregate them and not talk about the Euro Area as a whole. The fiscal issues in Germany are very different from the fiscal issues in Greece.”

    http://fixingtheeconomists.wordpress.com/2013/12/28/understanding-why-the-us-stimulus-package-worked-while-the-spanish-package-did-not/#comment-2931

    Philip Pilkington:
    “More austerity in the US and UK than in Ireland then?”

    No. More fiscal austerity in the US, the UK, Poland and Iceland than in the Euro Area between 2009 and 2013.

    Philip Pilkington:
    “Also, if you’re going to use garbage measures like the CAPB you could at least disaggregate them and not talk about the Euro Area as a whole. The fiscal issues in Germany are very different from the fiscal issues in Greece.”

    But we’re talking about monetary policy. Disaggregating currency areas would be illogical. It would make exactly as much sense as talking about the monetary policy of Arizona, Florida and Michigan.

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