An open letter to conservatives

There has recently been a lot of pushback against QE from conservatives.  In this post I pointed out that plenty of conservatives support monetary stimulus.  Here I’d like to direct 7 arguments against my fellow right-wingers:

1.  The Fed isn’t really trying to create inflation.

The Fed doesn’t directly control inflation; they influence total nominal spending, which is roughly what Keynesians call aggregate demand.  Whether higher nominal spending results in higher inflation depends on a number of factors, such as whether the economy has a lot of underutilized resources.  But it’s certainly true that for any given increase in NGDP, the Fed would prefer more RGDP growth and less inflation.  Even after QE2, the Fed still expects less than 2% inflation for years to come.  If the Fed had any marketing sense, they’d be telling the public they are trying to boost recovery by increasing national income, not increasing the cost of living.  It would also have the virtue of being true.

2.  “But doesn’t economic theory teach us that printing lots of money creates high inflation?”

In general that is true.  But there are three important exceptions:

1.  If the monetary injections are expected to be temporary, the inflationary effect is far smaller.  The Japanese central bank did lots of QE in 2003, but pulled much of the money out in 2006 when deflation ended.  It worked in preventing high inflation, indeed it may have worked too well.

2.  If interest rates are near zero, the public demands more liquidity.  The Fed can supply that liquidity with little impact on the price level.

3.  If the Fed pays interest on reserves, then the quantity theory of money (more money means more inflation) doesn’t necessarily hold.  They recently started paying interest on reserves, and that’s one reason why the big injections from 2008 didn’t have an inflationary impact.  The Fed can adjust the rate as necessary, and indeed in my view a lower IOR would be more effective that QE2.

3.  “But isn’t the gold market signaling high inflation?”

Possibly, but the indexed bond market is superior to gold prices for two reasons.  First, gold is trading in a global market, and we are interested in US inflation.  More importantly, gold prices reflect all sorts of factors (industrial demand in Asia, central bank demand, a recent drop-off in new discoveries, a hedge against all sorts of financial risks, including eurozone turmoil.)  Furthermore the indexed bond market (TIPS spreads) has recently been more accurate than gold—correctly predicting low inflation in the US since late 2008. 

4.  “Doesn’t printing money just paper over real (structural) problems in the economy?”

There are structural problems, but there is also a shortfall of nominal GDP.  The structural problems showed up when growth slowed in late 2007 and early 2008 as a result of sharply lower housing construction.  This is necessary re-allocation of resources and should not be resisted.  But even Friedrich Hayek suggested that we needed to avoid a “secondary deflation”, which would show up as falling NGDP, and would depress output in even those healthy industries that had not over-expanded.  In late 2008 output fell across the board as NGDP declined.  Monetary policy can only address the insufficiency of total nominal spending, not the structural problems.  Furthermore, more nominal spending would boost employment, which would speed up the time when Congress eliminates the 99 week extended UI benefits–which is one of the structural problems.

5.  “Isn’t this just hubris—the idea that money can be centrally planned?”

Most right wing economists are not comfortable with the idea of giving discretion to the central bank.  I am no exception.  I happen to favor making the dollar convertible into NGDP futures contracts as a way of stabilizing NGDP growth expectations at a low and stable rate.  Milton Friedman favored a stable money supply growth rate, but late in his career (after velocity bounced around) endorsed a policy of stabilizing market expectations of inflation in the indexed bond market.  These systems would allow the market, not the Fed, to determine the appropriate level of money for the economy’s needs.  But we aren’t there yet, and given the Fed does use discretion, Friedman was not at all hesitant about recommending policies that he thought would do the least damage.  I believe that is stable NGDP growth expectations.

6.   The conservative critique of stimulus is incoherent

When I started my blog in early 2009, fiscal stimulus was the hot issue.  Many conservatives were opposed to fiscal stimulus, arguing (correctly in my view) that it would fail.  And they made it quite clear that “failure” meant deficit spending would fail to boost nominal spending.  The implicit assumption was (almost everyone agreed) that more nominal output would be desirable, and the argument was that fiscal stimulus could not deliver it.  With monetary stimulus, the right is making exactly the opposite argument—they are opposed to QE because it might succeed in boosting NGDP.  Both fiscal and monetary stimulus boost NGDP (if they work at all) by shifting AD to the right.  Whether that extra spending shows up as inflation or real growth is of course an important issue.  But it makes no sense to argue fiscal stimulus would fail because it would not boost NGDP, and simultaneously argue that monetary stimulus would fail because it would increase NGDP.  I’m sure the right doesn’t think of its views in those terms, but that is essentially the message they are sending out, and it is an extremely incoherent message.

7.  “Won’t monetary stimulus just paper over the failures of the Obama administration, allowing him to get re-elected?”  

That’s an argument unworthy of principled conservatives.  After 30 years of major neoliberal reforms all over the world (even in Sweden!) it’s time for conservatives to become less defeatist about the possibility of making positive improvements in governance.  We need to do the right thing, and let the political chips fall where they may.  If monetary stimulus is tried, and succeeds in boosting NGDP (which even conservatives implicitly acknowledge can happen when they worry about inflation) then it would drive a stake through the heart of the Krugmanite fiscal stimulus argument (for future recessions.)

I don’t think conservatives realized it at the time, but I (and a few other quasi-monetarists) had the strongest argument against fiscal stimulus in late 2008 and early 2009.  We said; “Yes, stimulus is needed, but monetary stimulus is much more effective and less costly than deficit spending.”  At the time, most on the left argued that monetary stimulus wouldn’t work if rates were near zero.  Well rates are still near zero, and many of those same liberals are now insisting that the Fed is responsible for fixing the AD shortfall.  They’ve come over to our side.  Just as in earlier decades they gradually accepted the Friedman/Schwartz argument that monetary policy errors caused the Great Contraction of 1929-33, not the failures of capitalism.  If conservatives keep predicting inflation that the financial markets don’t see, Krugamn will continue to rub their faces in failed predictions.  If we adopt the view that monetary policy is the appropriate way to keep NGDP growing at an adequate rate, then we win and Krugman loses.  So which will it be?


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133 Responses to “An open letter to conservatives”

  1. Gravatar of rob rob
    16. November 2010 at 09:03

    I know you want nothing more than for non-economists to give their seat-of-the-pants market interpretations here, so here goes: looks to me like the market was headed up in anticipation of looser money; now that the Fed has shown its hand and the market has considered it, the market is showing its disappointment, it is still hungry. The drama over Ireland is smoke for the S&P, the market is changing directions and headed down. And so goes oil and gold.

    Conservatives: beware what you don’t wish for.

  2. Gravatar of JTapp JTapp
    16. November 2010 at 09:19

    Krugman’s argument is that the Holtz-Eakin and Taylor (and the GOP) desire Obama to fail, hence they don’t want the Fed to do anything. While I would not put them in this camp, I read too many other conservatives that want unemployment to be 10% heading into November 2012. From a political standpoint, people like Paul Ryan have their ideas supported and promoted by Cato. Cato opposes central bank activity, so Ryan backs their position as well.

    Taylor, Holtz-Eakin, etc. have now opposed to QE so they now have a vested interest in seeing that the Fed does indeed fail so that Krugman doesn’t have another talking point.

  3. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 09:28

    It seems to be common knowledge among conservative/libertarian commentators that:

    (1) The money supply is increasing
    (2) The price level is rising
    (3) Nominal incomes are stagnant or falling

    (1) is true because the Fed is printing money at an unprecedented rate; (2) is true because most prices are higher than one year ago; and (3) is true because during recessions money is just more scarce.

    I just don’t know what to say about this, so here are some exclamation and question marks: !!!?!?!?!?!?!?!?!?!?!!!????!!!!??!

  4. Gravatar of Brett Brett
    16. November 2010 at 09:37

    Did Krugman ever leave your “side” on monetary policy? It seems like he comes back to it whenever he’s not explicitly arguing for some form of federal spending (which is quite often nowadays – I miss the Paul Krugman economist from the 1990s).

  5. Gravatar of Ryan Ryan
    16. November 2010 at 09:42

    1 – People are not stupid, and they know the difference between a a real $1000 salary increase and a pretend $1000 salary increase.

    2 – Printing money causes inflation except when people can see through the ruse, in which case it doesn’t work. See my point #1. This is why you spend so much time arguing that it has to be done “convincingly.”

    3 – There are currency crises in Greece and Ireland. Why do you say we should not be looking at a global inflation indicator? Also, I would argue that rising gold prices are more an indicator of loss of monetary faith than of inflation.

    4 – Hayek is not the only Austrian, and he changed his mind often. Sending new piles of money to chase after more bad investments (assuming my point #1 doesn’t hold) will yield nothing other than another bubble. Didn’t we already see this with the dot-com and 9/11 dips?Boosting malinvestment will results in (yep) more malinvestment. It’s a tautology.

    5 – You haven’t really addressed the hubris point, you’ve just accused other conservatives of the same hubris.

    6 & 7 – I won’t address these points because I don’t agree with conservatives or liberals here.

  6. Gravatar of Benjamin Cole Benjamin Cole
    16. November 2010 at 09:48

    You gotta love the Dow and the right-wing.

    They hate China for tightening money, and they hate the Fed for loosening money.

    Okay.

  7. Gravatar of Jon Jon
    16. November 2010 at 09:53

    Bravo, let’s sat it again avoiding inflation requires that the congress and the president take action to repeal those measures which are retarding growth and to institute new measures only when compatible with boosting the real growth rate.

  8. Gravatar of Pietro Poggi-Corradini Pietro Poggi-Corradini
    16. November 2010 at 10:05

    Can we had more questions? Here is mine:

    * As a skeptic of aggregation I’m uncomfortable with the concept of Aggregate Demand, why should I be more comfortable with NGDP? And for that matter why should I fear the equation Y=C+I+G, but not fear the equation MV=PQ?

  9. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 10:05

    Ryan said: “People are not stupid, and they know the difference between a real $1000 salary increase and a pretend $1000 salary increase.”

    But “do they know the difference between a real $1000 salary” decrease “and a pretend $1000 salary” decrease?

    Nominal income is about 13 percent below its pre-recession trend, and yet prices are only about 2 percent lower. This suggests either a radical decline in the productive capacity of the economy or significant downward price rigidities. Since unemployment is abnormally high, the latter seems like a far more likely explanation. The difference between nominal income and the general level of prices can be corrected by expanding the money supply with policies like QE2.

    If Scott and the other quasi-monetarists are correct, then inflation will be mitigated as unemployed resources (including labour) are redeployed. In other words, rising nominal income will coincide with rising real income, because we are currently inside the production possibilities frontier. Although issues of recalculation may frustrate this redemployment of resources (and inflate to some degree), much of the additional monetary income will not be “pretend”.

  10. Gravatar of Ryan Ryan
    16. November 2010 at 10:14

    @Lee Kelly

    Market corrections almost always come with price deflation. The reason is pretty obvious: when times are tough people save more and spend less. Wouldn’t you expect prices to decrease? Why in heaven’s name is this a problem?

    Where I disagree with monetarists and Keynesians is that I don’t believe this is an irreversible downward spiral. Lower prices are good for what you guys call “aggregate demand.”

    It is misguided to fight this because it is entirely natural. Keeping prices high via printing presses and make-believe feeds additional “structural problems” (malinvestment) and disproportionately punishes those who could benefit most from a price reduction, i.e. the poor, the unemployed, and those industrious few who saved the most during times of plenty so that they could provide for themselves on rainy days.

  11. Gravatar of JTapp JTapp
    16. November 2010 at 10:25

    @Ryan I think the Austrian position is that wages and prices need to fall by about 12% right now. Go around your workplace and ask how many of your fellow employees would be willing to sign up for a 12% wage cut, so long as prices also fall by 12%. Observe how long it takes you to explain that their purchasing power won’t be hurt. Multiply that by 300 million people. Observe the riots in Greece over nominal wage cuts in the presence of deflation. Observe how long its taking unemployment to fall in Estonia– which follows a very Austrian macroeconomic policy.
    Then ask yourself: which is easier, boosting NGDP or waiting for that 12% cut.

  12. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 10:28

    Ryan,

    I do not believe that deflation is an “irreversible downward spiral.” In fact, my favourite monetary rule would probably deliver mild deflation in the long run.

    Anyway, saving only reduces spending when people save by increasing money balances. If money is a commodity, then holding money balances is speculative. If money is a bank liability, then holding money balances is an investment. Since our present system uses liabilities as money, holding money balances is an investment, i.e. an increase in money demand should correspond to an increasing supply of credit. Since we have a central bank that commands and controls the monetary order, it is often impossible for the supply and demand for money to equilibrate without measured and timely action by the Fed: like QE2.

    I do not like this arrangement; I do not like central banking. But since it is what we presently have, we just have to make do.

  13. Gravatar of rob rob
    16. November 2010 at 10:35

    @Ryan, you said: “Lower prices are good for what you guys call “aggregate demand.”

    I believe you are making the mistake of what Scott calls “reasoning from a price change.” If lower prices are the *result* of less demand, there is no reason to believe those lower prices will be “good for” demand.

  14. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 10:35

    Ryan,

    Market corrections do not “always come with price deflation.” Why do you think that? I am sure that no Austrian scholar holds such a view. Market corrections involve a reallocation of resources, not an unallocation. This is achieved by changing the relative profitability of producing different goods instigated by shifts in spending — demand rises and falls for different goods. All else constant, total spending and the general level of prices will be unchanged. These principles hold just as much during as recession as during normal times.

  15. Gravatar of W. Peden W. Peden
    16. November 2010 at 10:39

    Ryan,

    Why is contractionary monetary policy from the Fed (e.g. subsidising the banks for not lending by paying IOR) entirely “natural” and not make-believe deflation? Why is expansionary monetary policy to stabilise nominal conditions a papering over of structural problems, while contractionary monetary policy that destabilises nominal conditions is just letting the market get on with it?

    Subsidising the banks in order to make them not lend money to private business and private individuals doesn’t sound like a natural situation to me. Maybe that fits into your definition of a free market situation, but it sounds like more Fed meddling to me.

    As for the claim that the poor benefit the most from price decreases, did the poor do better in the early 1930s when the US was in a deflationary contraction or in the 1990s when inflation was moderate?

    Do the poor really benefit so much from prices (particularly house prices) falling that it makes up for the costs to them of higher unemployment and previously good debt going bad as a result of deflation?

    If savers really want to avoid inflation, it is quite easy. One simply has to be willing to do without the money for a while and put in into a long-term account. If that’s too much hassle, it’s a lot less hassle than losing your home because the Fed wants to subsidise banks.

    However, we can test your analysis empirically: it implies that, since people can see the effects of this bout of QE coming, it will have absolutely no effect on inflation. We can hold this up against the monetarist prediction, which is that a sustained and committed monetary stimulus will raise NGDP.

  16. Gravatar of W. Peden W. Peden
    16. November 2010 at 10:42

    Lee Kelly,

    An example of this would presumably be the October 1987 stock market crashes, which though they were severe, did not (at least in the UK and US) cause a depression. There was an allocation of resources away from the stock market bubble, but in the UK this was actually followed by a period of near-double digit inflation and serious overheating in 1988.

    A market correction is simply a matter of money chasing good profits after a bubble goes bad. That is quite a different matter from a nominal shock, which are (in a discrectionary monetary regime) the result of central banking policy.

  17. Gravatar of David Pearson David Pearson
    16. November 2010 at 10:46

    Scott,

    All else equal, the gold price in U.S. dollars is sensitive to U.S. dollar inflation expectations regardless of the location of the buyer (“global” or not).

    Yes, gold is sensitive to other factors, but the change in industrial demand is both small and relatively stable, and thus cannot account for large fluctuations in the gold price. As for being a hedge against financial dislocations: In every case except inflation, currency is a more liquid — and lower cost — hedge against financial crises. It would violate EMH for gold to be used in lieu of currency as a hedge against anything but a loss of currency purchasing power.

    The real question is whether the TIPS/gold divergence violates EMH. If you are right and EMH applies, an arbitrage opportunity exists to sell TIPS and use the proceeds as margin to short gold futures. It is simply not believable that “other factors” such as industrial demand would negate that arbitrage opportunity.

  18. Gravatar of doug doug
    16. November 2010 at 10:53

    two points: First, why do you mistakenly believe that the conservative politicians are attempting to do anything other than destroy this country? They could not care less that their arguments are nonsensical, and you must be one of them “smarties” to says so.

    and Second, seems to me that if you move in the direction you indicate that means Krugman wins. However it’s a win-win in that conservatives stop looking like idiots and liars.

  19. Gravatar of Tom of the Missouri Tom of the Missouri
    16. November 2010 at 11:05

    Could you please critique John Taylor’s arguments? Do you think he is incoherent? http://johnbtaylorsblog.blogspot.com/

  20. Gravatar of Open Letter to Conservatives on Monetary Policy | The American Catholic Open Letter to Conservatives on Monetary Policy | The American Catholic
    16. November 2010 at 11:07

    [...] on Monetary Policy Tuesday, November 16, 2010 A.D. | Author Black Adder By monetary economist Scott Sumner: 1. The Fed isn’t really trying to create [...]

  21. Gravatar of Ryan Ryan
    16. November 2010 at 11:12

    @JTapp – Not sure where you got the 12%, but a monetary crisis in Greece, and an impending one in Ireland, is not exactly the best evidence for inflationary policy, is it?

    @rob – Ha, I actually predicted someone would say that to me. ;) My response is, whether prices fall for lack of demand or for some other reason, the incentive value of a low price remains the same.

    @Lee Kelly – I didn’t say “always,” I said “almost always.” The situation you described is a reallocation of resources without a market correction. Conceivable, but atypical. I’ll stick to what I said for now. ;)

    @W. Peden – I certainly would not suggest that we need contractionary monetary policy. I would opt instead for no monetary policy.

  22. Gravatar of Mike Sandifer Mike Sandifer
    16. November 2010 at 11:13

    Scott,

    I wonder if you’ve seen this:

    http://www.cnbc.com/id/15840232?video=1646743901&play=1

    Senator Bob Corker wants a bill to discard the Fed’s dual mandate in favor of an inflation target and/or price stability.

  23. Gravatar of Doc Merlin Doc Merlin
    16. November 2010 at 11:19

    ‘With monetary stimulus, the right is making exactly the opposite argument—they are opposed to QE because it might succeed in boosting NGDP.’

    No, we are arguing that it will boost NGDP, while at the same time slowing RGDP growth. While on the whole I support many of your views Scott. WRT QE, I have to disagree.
    Anyway, it is not just gold; commodity markets are inflating hugely, which signals large future cost-push inflation.

  24. Gravatar of Doc Merlin Doc Merlin
    16. November 2010 at 11:20

    @Ryan:

    ‘@JTapp – Not sure where you got the 12%, but a monetary crisis in Greece, and an impending one in Ireland, is not exactly the best evidence for inflationary policy, is it?’

    Actually, yes it is, as Rogoff and Reinhardt show in This Time Its Different. Over the last 500 years, very heavy inflation almost always follows a monetary crisis.

  25. Gravatar of Bonnie Bonnie
    16. November 2010 at 11:21

    Humm… what was the level of the CPI for 2004-2005 (just for instance – we can look at really any period from which the economy was stable and we felt like we were getting somewhere)? Has it ever shown a rate of <2% inflation during those periods? I haven't looked at the data, but my guess is that the answer is decidedly no.

    But the QE2 skeptics say that with more inflation we get bubbles and they like to talk about the dot.com boom and the housing craze as examples. Where is the statistical evidence that a 2-3% inflation rate drives bubbles? If their argument that the higher the rate of inflation the more likely bubbles are to form is true, we should have had bubble after bubble from the late 1960s through 1981 and far fewer after 1985. If my memory serves me correctly, that was not the case.

    In addition to there being no statistically significant evidence to that argument, I can't believe that they would actually argue that we can't have more money in the system because we can't trust people to do with it what they will. That is the one of the most stunning arguments for statism and against personal freedom I've heard coming from a so-call conservative – ever.

  26. Gravatar of Benjamin Cole Benjamin Cole
    16. November 2010 at 11:24

    Doc-

    We had big run-up in commodities prices before 2008, and no inflation.

    Japan has had no inflation, and some deflation for 20 years, come what may in commodities prices. Indeed, Japan is into its 18th straight month of deflation right now, as commodities go up. Gold has gone nutso, tahnks to demand for jewelry in India and China and maye right-wing hysteria.

    Does not the case of Japan prove a large industrial economy can have deflation even as commodities (a global market) go up?

    Why is the USA different from Japan?

  27. Gravatar of Morgan Warstler Morgan Warstler
    16. November 2010 at 11:27

    Scott, what if ALL consumer good prices are going up, but home prices are going down?

    http://online.wsj.com/article/SB10001424052702304173704575577922411085784.html

    I honestly think you aren’t able to see the fed has only one motivation: keep home prices from falling.

  28. Gravatar of Josh Josh
    16. November 2010 at 11:32

    @Ryan

    Not sure where you got the 12%, but a monetary crisis in Greece, and an impending one in Ireland, is not exactly the best evidence for inflationary policy, is it?

    Those are fiscal crises.

  29. Gravatar of W. Peden W. Peden
    16. November 2010 at 11:35

    Ryan,

    The choice right now is not between monetary policy and no monetary policy. It is a choice between monetary stimulus to rebalance the nominal situation or a continuation of contractionary Federal Reserve policy. In the words of Thatcher, “There is no alternative”.

  30. Gravatar of Mike Sandifer Mike Sandifer
    16. November 2010 at 11:38

    Scott,

    It’s not only conservatives who are attacking QE2. Stiglitz is also very confused, as seems increasingly the case over the last several years.

    http://blogs.wsj.com/economics/2010/11/11/stiglitz-to-obama-youre-mistaken-on-quantitative-easing/

    SIt seems Stiglitz makes a lot of statements which are taught to be fallacies even in intro macro.

  31. Gravatar of Um caso de “inércia intelectual”? « Historinhas Um caso de “inércia intelectual”? « Historinhas
    16. November 2010 at 11:41

    [...] Sumner (aqui) escreveu uma “Carta aberta” aos “conservadores” (grifo meu): Here I’d like to direct 7 [...]

  32. Gravatar of Doc Merlin Doc Merlin
    16. November 2010 at 11:47

    “Doc-

    We had big run-up in commodities prices before 2008, and no inflation.”

    Because the fed targeted inflation, so instead of massive price inflation we got an NGDP crash.

    “Japan has had no inflation, and some deflation for 20 years, come what may in commodities prices. Indeed, Japan is into its 18th straight month of deflation right now, as commodities go up. Gold has gone nutso, tahnks to demand for jewelry in India and China and maye right-wing hysteria.”

    Actually, iirc private individuals in India have been selling gold. Most purchases have been by large institutions.

    “Does not the case of Japan prove a large industrial economy can have deflation even as commodities (a global market) go up?”

    It can have price deflation while commodities rise, if marginal productivity is rising faster than commodities are rising.

    “Why is the USA different from Japan?”

    1. Because with the exception of the last month, commodities are going up in USD much faster than they are going up in Yen.

    2. Because the CPI calculation we use nowadays *understates* inflation in areas with very high market flexibility due to the substitution effect.
    Example: lets say that the price of foods rise because of monetary issues. So beef rises, so people buy more hamburger instead. The current index does hedonic adjustments so when a normal good rises in price, it counts that good much less heavily. It is true that under the Laspyeres calculation for CPI, that used to be used, we overstated inflation, but in the one we use now we understate it due to hedonic calculations. The new index also suffers from heteroskedasticity, when comparing across countries because in more flexible markets (like the US), it understates inflation more than in less flexible markets (like Japan). Because of this, we cannot directly meaningfully compare inflation rates between countries any more.

  33. Gravatar of Doc Merlin Doc Merlin
    16. November 2010 at 11:50

    @Mike Sandifer

    I think he is afraid of a trade war, or rounds of competitive devaluations which would both be absolutely horrible.

  34. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    16. November 2010 at 12:33

    ‘First, why do you mistakenly believe that the conservative politicians are attempting to do anything other than destroy this country? ‘

    Because he’s not obviously a lunatic? Doesn’t the very word ‘conservative’ suggest someone who wants to preserve the status quo?

    What did you make of Michelle Obama’s statement that she’d never been proud of this country…until her husband got a Presidential nomination?

  35. Gravatar of Contemplationist Contemplationist
    16. November 2010 at 12:45

    Doc I think Scott has mentioned previously that “competitive devaluations” will just increase global AD/NGDP which I guess we could use?

  36. Gravatar of Doc Merlin Doc Merlin
    16. November 2010 at 12:52

    @Contemplationist:

    But all countries aren’t suffering from an “NGDP shortfall,” only the west is. And excess NGDP is bad just as insufficient NGDP is also bad.

  37. Gravatar of Steve Roth Steve Roth
    16. November 2010 at 13:31

    “Well rates are still near zero, and many of those same liberals are now insisting that the Fed is responsible for fixing the AD shortfall. They’ve come over to our side.”

    I haven’t read all the comments, but somebody else has undoubtedly explained this, as Krugman has done a couple of dozen times. (Are you just not reading, or not hearing?)

    In my words:

    “Fiscal stimulus is what’s needed. But it’s politically impossible because a large group believes (or pretends to believe) that it won’t work. Monetary stimulus in these conditions is pushing on a string, but because of those people, it’s the only response we’ve got right now.”

    Even the wildest-eyed Keynesian agrees, without demur, that when rates and inflation are up, monetary policy *rules.* Nothing can match the kind of leverage all of us saw when Volcker eased in ’83. The economy — including unemployment — turned around within months. True economic magic.

    But pretending that monetary policy has that kind of moxie when inflation and rates are both at almost zero seems simply … delusional.

    The best thing would be if strong fiscal policy actually would generate some inflation (and growth), so monetary policy could get its mojo back.

    Either way, we’re printing money and dumping it into the economy. My question: should we dump it in at the top, so a specialized elite –the financial “community” in its infinite wisdom — can decide how to allocate it for our best interests, or shall we helicopter it in at the bottom, so the wisdom of the crowds can work its magic and allocate resources efficiently?

  38. Gravatar of Steve Roth Steve Roth
    16. November 2010 at 13:36

    To add: If the great moderation taught us anything (valid), it’s that the Fed has no problem controlling inflation when it turns up. Any time wages start to rise, they’re right on it.

  39. Gravatar of Steve Roth Steve Roth
    16. November 2010 at 13:38

    And to add one more: the bit in my first post about Volcker’s easing? That’s a pretty much direct lift from Krugman’s book-tour speech a year or two ago.

    Just who, at this moment, has their eyes closed, hands over their ears, and is humming loudly?

  40. Gravatar of christopher mahoney christopher mahoney
    16. November 2010 at 13:43

    99 week unemployment is creating a new class of long-term unemployed who, after two years, may be unemployable. It is surprising how little discussion there is in the MSM on this crucial topic.

  41. Gravatar of Benjamin Cole Benjamin Cole
    16. November 2010 at 14:00

    Doc-

    There was a peer-reviewed paper published recently in the American Economic Review to the effect that the current US BLS CPI overstates inflation by about 0.8 percent.

    Hedonic calculations? What about a cell phone vs. a rotary dial?

    BTW, a couple hundred years ago, as an undergraduate, I took a sociial stats course that referred to homocentricity. Stick that in your heteroskedacity.

    If the AER report is true, the core CPI is right about zero.

  42. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    16. November 2010 at 14:43

    ‘…or shall we helicopter it in at the bottom, so the wisdom of the crowds can work its magic and allocate resources efficiently?’

    You’re a Boldrinite, who favored junking Obama’s stimulus in lieu of the Treasury depositing $10,000 into every checking account in the country?

  43. Gravatar of Morgan Warstler Morgan Warstler
    16. November 2010 at 15:02

    Since the Fed announced a second round of quantitative easing, Ben Bernanke’s critics have grown in number to the point where even online cartoons seem to be telling him what to do. The public onslaught against quantitative easing took the form of an open letter from prominent, Republican-leaning economists, where they exhorted Bernanke to reconsider and discontinue QE2 because it risks “currency debasement and inflation.” Other Republican leaders even claimed the Fed’s dual mandate, maximum employment and price stability, should be re-written to leave out the former.

    The Federal Reserve has responded by going more public than ever. Chairman Bernanke led the platoon, writing an op-ed in the Wall Street Journal shortly after QE2 was announced. On Tuesday, New York Fed president, Bill Dudley, gave a rare interview to CNBC where he denied that the Fed’s policies were aimed at debasing the currency, instead blaming China’s inflation on their own currency schemes. Dudley also denied that the Fed was targeting stock prices, and that inflation isn’t a “way out,” adding that the Fed has all the tools to control it.

    http://blogs.forbes.com/afontevecchia/2010/11/16/tanking-equities-spiking-bond-yields-is-this-qe2/?boxes=marketschannelnews

  44. Gravatar of Benjamin Cole Benjamin Cole
    16. November 2010 at 15:26

    Bernanke needs to stand down that confederacy of feckless poltroons, known as the Republican Party, and all of their sniveling minions in the media and elsewhere.

    And stop IOR.

  45. Gravatar of Morgan Warstler Morgan Warstler
    16. November 2010 at 15:57

    Benji, his ONLY PLAY is to become chief Austerity cheerleader… even that might not save his agenda. He is of, for and by the banks, and the Tea Party intends to keep that money for themselves.

  46. Gravatar of Mike Sandifer Mike Sandifer
    16. November 2010 at 16:20

    Doc,

    You replied:

    “@Mike Sandifer

    I think he is afraid of a trade war, or rounds of competitive devaluations which would both be absolutely horrible.”

    I’m aware of his concerns, but they’re ridiculous.

  47. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 16:41

    Steve Roth,

    What rates are almost zero, all of them?

  48. Gravatar of Liberal Roman Liberal Roman
    16. November 2010 at 17:46

    Bernanke has to have courage in his convictions. If he does what is necessary and with enough credibility and the economy recovers, no one will remember this period.

    Also, the Fed is politically independent for A REASON!

    Sadly, I think the balls just keep bouncing the wrong way for him (and for me, I went all in long in mid-October). Right after announcing QEII, he gets the European debt crisis AND China raising rates. Of course, in a perfect world, he would reiterate his support of expansionary monetary policy and announce an increase in QEII. Unfortunately, he is worried about the public response. The irony of all ironies is that the HOPE and the GOAL is that Bernanke’s moves really do cause people to worry that he wants inflation and have them act accordingly

  49. Gravatar of scott sumner scott sumner
    16. November 2010 at 17:59

    Rob, Check out the new post–euro problems now are no different from back in May.

    JTapp, If the Fed fails then Krugman will be right and the conservatives will be wrong.

    Lee, I hope those facts aren’t common knowledge, as they are wrong (they would imply RGDP was falling.)

    Brett, I miss the 1990s Krugman too. He’s hard to pin down on money; each post emphasizes different aspects of his view–either advocating monetary stimulus, or being skeptical about its effect.

    Ryan, I don’t quite follow any of your comments–I’ll just say Greece and Ireland don’t have currency crises, they have debt crises.

    Benjamin, Actually the DOW likes easy money–the GOP doesn’t.

    Jon, I also favor better fiscal and regulatory policies, but the Fed controls inflation.

    Pietro, I don’t fear equations, I’d prefer that people don’t misuse them. NGDP targets provide better macro stability that other potential monetary targets. The value of money can only be meaningfully defined in terms of its purchasing power, so aggregation is unavoidable.

    Ryan, You said;

    “Market corrections almost always come with price deflation. The reason is pretty obvious: when times are tough people save more and spend less. Wouldn’t you expect prices to decrease? Why in heaven’s name is this a problem?”

    Actually no, saving almost always falls in recessions. For simplicity, assume a global recession. Investment falls more than other types of spending in recessions. Since global saving equals investment, saving also falls.

    David Pearson, You said;

    “All else equal, the gold price in U.S. dollars is sensitive to U.S. dollar inflation expectations regardless of the location of the buyer (“global” or not).”

    Yes, but you could say the same about any currency. Gold prices in yen terms and Swiss franc terms have also soared. Do you see anyone predicting high inflation in those two countries? Then why predict high inflation in the US?

    doug, The post isn’t aimed at politicians–I assume they don’t read my blog.

    Tom of the Missouri, You don’t link to an argument by Taylor, but just a long string of his posts. I criticized his post on Friedman, who I think would have supported QE2.

    I didn’t say Taylor’s argument was incoherent, I said many conservatives argued more NGDP would be nice, when discussing fiscal stimulus, and just the reverse when discussing monetary stimulus.

    Mike Sandifer, Does Corker then think we need QE2 to raise inflation up to the Fed’s 2% target? If not, what’s his point?

    Doc Merlin, Sorry, but you are wrong about the right, I have heard many of them argue that swapping dollars for bonds does nothing.

    You said;

    “Anyway, it is not just gold; commodity markets are inflating hugely, which signals large future cost-push inflation.”

    We’ve seen many commodity price cycles over the last 20 years. Precisely how many of them have created high inflation in Japan? How many have created any inflation in Japan? Commodities are relative prices, inflation is something completely different. Please be prepared to be wrong just like the Austrian economists who told me we’d have high inflation in 2010 were wrong. We will have low single digit inflation for years to come.

    Bonnie, Yes, that’s a point I frequently make. When I was younger no one paid any attention to bubbles, and we had high inflation. Only when we went to 2% inflation do we get the dot com and housing bubbles. So how does high inflation cause bubbles?

    Morgan, Home prices have fallen since 2006, and the Fed’s responded with tight money–do you seriously think they are focused on falling house prices?

    Mike Sandifer, Yes, I mentioned Stiglitz in several posts.

    Doc Merlin, Countries like China who don’t need more AD have a simple solution. We both know what it is.

    Steve Roth, I recall in March 2009 what the liberals were saying, and it was very different from what they are saying now. DeLong had articles pointing out that the Fed could do nothing at zero rates, now he is bashing the Fed for not doing more. And you don’t seem to understand that money isn’t given to the elites, the Fed buys bonds–swapping one asset for another asset of equal value. It makes no difference whether the Fed buys that bond from Goldman Sachs or a little old lady.

    A helicopter drop solves nothing–it just balloons the national debt.

    Krugman’s never studied economic history, so he doesn’t know that the fastest growth in industrial production in American history occurred between March and July 1933 (57%), when interest rates were zero but easy money still had a powerful stimulative effect. So much for the Volcker argument.

    I’ve addressed all of Krugman’s arguments in dozens of posts, feel free to criticize them. You might want to read his academic articles from the late 1990s, where he shows how monetary stimulus can be very powerful at zero rates.

    Christopher, Yes, UI is an important issue.

  50. Gravatar of scott sumner scott sumner
    16. November 2010 at 18:00

    Liberal Roman, Yes the euro debt crisis was a bad break for Bernanke. Hopefully it will be milder.

  51. Gravatar of Mike Sandifer Mike Sandifer
    16. November 2010 at 18:38

    Scott,

    In response to “Does Corker then think we need QE2 to raise inflation up to the Fed’s 2% target? If not, what’s his point?”, he merely mentions providing clarity to markets. He expressed concerns about inflation caused by QE2 down the line. It’s evident in that video he has no idea what he’s talking about.

    Krugman smells a rat, not surprisingly.

    http://krugman.blogs.nytimes.com/2010/11/16/merchants-of-misery/

  52. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 19:19

    It is clear that the Republicans and some conservative economists are opposed to quantitative easing because they want unemployment to be high in 2012 so that Obama loses.

    For them defeating Obama is simply more important than showing that expansionary monetary policy works.

    Conservative economists must decide which is more important, showing that expansionary monetary policy works, even when short-term interest rates have reached the zero bound, or defeating Obama. As you point out, Krugman has replaced arguing that we are in a liquidity trap with supporting monetary policy even when short-term interest rates have reached the zero bound. Every conservative economist needs to decide whether he/she is a serious scholar or a political hack.

  53. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 19:29

    “99 week unemployment is creating a new class of long-term unemployed who, after two years, may be unemployable.”

    Not so:

    Inadequate NGDP growth is creating a new class of long-term unemployed who, after two years, may be unemployable.

    We have 5 unemployed looking for each available job. Ending long-term unemployment compensation does not change that situation. It will not increase the jobs availablable and therefore will not reduce the unemployment. If unemployment compensation causes 1 or 2 of the 5 people looking for the one job to not take it, the job will simply be taken by one of the other 3 or 4 who are looking for it. Somebody should develop a queing model to rigorusly demonstrate this intuitively obvious concept.

    Faster NGDP growth will get these long-term unemployed back to work.

  54. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 19:36

    “What did you make of Michelle Obama’s statement that she’d never been proud of this country…until her husband got a Presidential nomination?”

    In the present context this is obviously a red herring introduced by someone interested in scoring political points instead of discussing the merits, or demerits, of quantitative easing. It is this kind of nonesense that interferes with rational discussions of serious economic issues.

  55. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 19:42

    Advocates of quantitative easing need a new simplistic slogan to push their message beyond people in the economics profession and related fields:

    RECESSIONS ARE CAUSED BY TOO LITTLE MONEY CHASING TOO MANY GOODS.

  56. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 19:48

    ” Printing money causes inflation except when people can see through the ruse,”

    Printing money cause inflation except when the economy is below potental output. In that case it causes jobs.

    People who believe that printing money always causes inflation are implicitly using the naive version of the quantity theory MV = Py with V and y (real GDP) held constant. When the economy is below potential output most of the change in Py is in y. Also, V is positivey related to interest rates, and as interest rates fall V decreases.

  57. Gravatar of Mark A. Sadowski Mark A. Sadowski
    16. November 2010 at 19:52

    Full Employment Hawk,
    “RECESSIONS ARE CAUSED BY TOO LITTLE MONEY CHASING TOO MANY GOODS.”

    I’m sorry but it runs all the way around my T shirt (three times). Couldn’t we have a shorter slogan?

    Just kidding. I totally agree.

  58. Gravatar of Lee Kelly Lee Kelly
    16. November 2010 at 19:58

    So the recession can be cured with taller money, right?

  59. Gravatar of Mark A. Sadowski Mark A. Sadowski
    16. November 2010 at 20:04

    Lee Kelly,
    Or a shorter recession.

  60. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 20:09

    I consider myself a 2/3 Keynesian, but have been arguing all along that we are not in a liquidity trap, and that expansionary monetary policy can bring the unemployment rate down even with short-term interest rate having reached a zero bound: That decisions to spend by households and firms depend on long-term interest rates, which are far from zero and can be brought down. And I have advocated for ending interest payments on excess reserves and imposing a penalty on excess reserves on Brad DeLong’s site. I am serious about being a full employment hawk and am prepared to support any reasonable policy that I believe will bring the unemployment rate down. While I support Krugman’s argument that the problem with the stimulus was that it was too small, I will be very pleased if the agressive use of expansionary monetary policy does the job even in the face of the fiscal contraction that will be taking place as a result of the recent election.

  61. Gravatar of Joe Joe
    16. November 2010 at 20:19

    Scott,

    What level of QE would have a similair impact as the Roosevelt devaluation of the dollar vs. Gold?

    If NGDP was the target, what would the FED do now? More QE?

    Just asking.

    Joe

  62. Gravatar of Mark A. Sadowski Mark A. Sadowski
    16. November 2010 at 20:29

    Joe,
    Beautiful question. It’s a question that by odd coincidence I will be posing to my class on monetary policy tomorrow (and I will be referring to Roosevelt as we have already reviewed Eichengreen). I honestly don’t know the answer (one trillion, ten trillion?).

  63. Gravatar of Full Employment Hawk Full Employment Hawk
    16. November 2010 at 20:56

    “Nov. 15 (Bloomberg) — Martin Feldstein, an economics professor at Harvard University, says he agrees with the sentiment of the letter to Federal Reserve Chairman Ben S. Bernanke that urges him to halt his expansion of monetary stimulus. Feldstein talks with Margaret Brennan on Bloomberg Television’s “InBusiness.” (Source: Bloomberg)”

    It looks like a lot of the conservative economists are lining up with the anti-recovery faction (what Krugman calls the pain caucus).

    These people have the same kind of mindset as the people who were horrified by Roosevelt abandoning the gold standard and devaluing the dollar. Apparently some influential people on Wall street even considered a military coup against Roosevelt.

  64. Gravatar of Bill Woolsey Bill Woolsey
    17. November 2010 at 03:34

    Recession is _not_ too little money chasing too many goods.

    It is too little money chasing too few goods.

    Inflation is too much money chasing too few goods.

    Too few goods. Scarcity is the _core_ concept in economics.

    The trick to good monetary institutions is keeping total spending in balance with the productive capacity of the economy.

    For the most part, because people earn income to spend it and income and output match, the balance between spending and productive capacity is automatic.

    However, an imbalance between the quantity of money and the demand to hold it causes the balance to break down. Avoiding such a breakdown is the role of monetary policy/monetary institutions.

    Still, “too many goods” is not the problem.

  65. Gravatar of RHD RHD
    17. November 2010 at 05:23

    The main argument you frequently make, that I have yet to hear a good counter argument to, is that we can see inflation expectations in real-time with the TIPS spread. Is it that ‘conservatives’ don’t think the spread is a good indicator of inflation expectations? Or that the FED won’t act on those expectations because of political pressure?

  66. Gravatar of Steve Roth Steve Roth
    17. November 2010 at 06:05

    “you don’t seem to understand that money isn’t given to the elites, the Fed buys bonds–swapping one asset for another asset of equal value. It makes no difference whether the Fed buys that bond from Goldman Sachs or a little old lady.”

    I wasn’t clear; I was suggesting that the bump to financial markets (increased bond prices and a stock market rise because of declining bond yields) is an injection into the top of the market, at the government’s cost (paying a premium on bonds because they’re pushing up prices). I’d rather see it injected via, say, the Earned Income Tax Credit.

    “A helicopter drop solves nothing–it just balloons the national debt.”

    Similar for QE2, when the bonds are re-sold into a market that’s declining because they’re being sold. And short-term, a shortage of available financial capital is *not* what’s keeping businesses from expanding. All the surveys say the demand for capital isn’t there — because 1. the amount of financial capital available is truly oceanic, and 2. there’s not enough demand to spur businesses to expand.

    “Krugman’s never studied economic history, so he doesn’t know that the fastest growth in industrial production in American history occurred between March and July 1933 (57%), when interest rates were zero but easy money still had a powerful stimulative effect.”

    This doesn’t look like easy money to me:

    http://www.asymptosis.com/wp-content/uploads/2009/03/bank-loans1-480×314.png

    Or at least if there was easy money, businesses weren’t tapping it. Sounds familiar.

    You’re probably also aware that the period you refer to had the highest productivity growth in history — but *not* because businesses were pouring money into productivity-increasing investments.

  67. Gravatar of Tom P Tom P
    17. November 2010 at 06:36

    Looks like e21 (the conservative group that wrote the open letter to Bernanke) linked to this response in their daily email…

  68. Gravatar of Jon Jon
    17. November 2010 at 08:42

    Jon, I also favor better fiscal and regulatory policies, but the Fed controls inflation.

    Am I in the twilight zone? In Europe for sure, here?

    1) If the Fed targets NGDP they do not control inflation in that the real growth component is influenced by real factors such as the legal climate.

    2) If the Fed’s mandate of inflation and employment is treated as some indifference curve so that you have a continuum of tuples, then again real policy elements influence the inflation-rate because they influence employment and cause the Fed to pick a different target inflation rate.

  69. Gravatar of Morgan Warstler Morgan Warstler
    17. November 2010 at 09:02

    “Morgan, Home prices have fallen since 2006, and the Fed’s responded with tight money–do you seriously think they are focused on falling house prices?”

    Scott you BOGGLE the mind. Are you really that daft?

    Greenspan, who Ben’s better, cannot speak without mentioning home prices. Try to find him saying anything without talking about home prices.

    Recant Scott Sumner! Admit the Fed is terrified of bank insolvency driven by an increase in non-performing home loans.

    The problem here is you have attracted a number of liberals who desperately hope QE will save Obama – it won’t. The only thing that will save Obama is his capitulation to austerity – deep abiding cuts to Public Employee Compensation solves all of our problems.

    This is a problem here because you do not chase out the money beggars from the temple of Sumner and they do not know that when push comes to shove, to get your BEATIFIC QE accomplished you are prepared to stomach the complete politicization of the Fed on Austerity. You and I both know, deep down, that when Ben turns and says, “Cut Spending Now!” that you will say it was worth keeping his hand on the wheel.

    Tell the world Scott.

    Also, more discussion about pissing on booms.

  70. Gravatar of Andrew C. Andrew C.
    17. November 2010 at 09:31

    I only have one quibble with this post:

    You said,
    “Many conservatives were opposed to fiscal stimulus, arguing (correctly in my view) that it would fail. And they made it quite clear that “failure” meant deficit spending would fail to boost nominal spending.”

    My recollection was that conservative arguments against fiscal stimulus were quite varied, and not necessarily consistent.

    A lot of conservative economists appealed to the “swimming pool” analogy, where fiscal stimulus is compared to taking a bucket full of water from the deep end and then dumping it in the shallow end hoping to increase the total level of water. I could be wrong, but I don’t think this is your view of fiscal stimulus.

    And then there were the Greg Mankiw types who said fiscal stimulus might work, but it should be done with tax cuts, not spending, because a) people know how to spend their money better and b) logistical problems would prevent stimulus spending from getting out quickly.

    And finally there was you. If I’m assessing your views correctly, your opinion is neither the “swimming pool” view, nor the “tax cuts are better” view, but rather that whatever fiscal policy is implemented, the Fed can and will exactly counter it so as to meet its own targets for nominal spending.

    So I guess my point is, from my perspective, there doesn’t seem to be a broad consensus from the right on fiscal policy.

  71. Gravatar of GduLac GduLac
    17. November 2010 at 10:02

    The consumer price index (CPI) for last month was rose .2 percent. Overall inflation is at 0.6 percent.

    The folks screaming and hollering inflation need to look at what they’re screaming about. Go ahead, look it up. The “experts” know the worry over inflation is now overblown. The politicians scream inflation anyway.

    Pompous windbags.

  72. Gravatar of Peter Principle Peter Principle
    17. November 2010 at 10:44

    Well, the “we win and Krugman loses” argument is certainly innovative — and, who knows, may be successful, given that so many conservatives seem to live for the prospect (admittedly dim right now) of seeing Krugman “lose” a policy argument.

    But this is utter nonsense:

    “many of those same liberals are now insisting that the Fed is responsible for fixing the AD shortfall. They’ve come over to our side.”

    What we are “insisting” is that since conservatives (know-nothing teabagger division, in particular) have effectively taken fiscal stimulus off the table, the Fed is the only game in town.

    And while we (or at least I) have serious doubts about the efficacy of QE2, at a time of 9% unemployment and the looming threat of both price and asset deflation, it’s at least better than the preferred conservative remedy of waiting (like Mr. Micawber) for something to “turn up”. That something primarily being the defeat of Barak Obama in 2012.

    That’s not changing sides: That’s admitting that the enemy has won a battle, but that another one has begun.

  73. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 11:45

    “The only thing that will save Obama is his capitulation to austerity – deep abiding cuts to Public Employee Compensation solves all of our problems.”

    Austerity, unless the Fed can and will completely offset it with a very agressive expansionary monetary policy (very doubtful), will cause NGDP and therefore the economy to grow more slowly, and if strong enough cause a second dip recession. Unemployment if such a policy is followed will still be high and Obama will be defeated. But that is what you want, so I am not surprised that your are prescribing a blueprint for failure for him.

  74. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 11:57

    “A lot of conservative economists appealed to the “swimming pool” analogy, where fiscal stimulus is compared to taking a bucket full of water from the deep end and then dumping it in the shallow end hoping to increase the total level of water. I could be wrong, but I don’t think this is your view of fiscal stimulus.”

    One basis for this position is the discredited “Treasury View.”

    What it assumes is that the supply of loanble funds remains fixed so that the borrowing to finance the government expenditures soaks up loanable funds which would otherwise finance private expenditures, crowding out an equal amount of private expenditures. This is the basis of Cochran’s argument.

    This ignores the fact that at times when there is excess capacity in the economy, when the government increases its spending so that income increases, part of the increased income is saved, so that the supply of loanable fund increases, providing the loanable funds to finance the government borrowing. Therefore the amount of loanable funds available to the private sector is not reduced.

  75. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 12:02

    “And then there were the Greg Mankiw types who said fiscal stimulus might work, but it should be done with tax cuts, not spending, because a) people know how to spend their money better”

    But people would save part of their tax cuts instead of spending them. A dollar saved is not an addition to NGDP. A dollar spent by the government DIRECTLY adds a dollar to NGDP. This is true regardless of the size of the multipliers.

  76. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 12:06

    “but rather that whatever fiscal policy is implemented, the Fed can and will exactly counter it so as to meet its own targets for nominal spending”

    At a time when federal funds pegging no longer works and the Fed is reluctant to agressively use unconventional monetary policy, that will not happen.

    Certainly, the Fed should have followed a more expansionary monetary policy and should be doing so now. But look at the hostile response even a mild effort at quantitative easing is getting from conservative circles.

  77. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 12:09

    “Recession is _not_ too little money chasing too many goods.
    It is too little money chasing too few goods.”

    When an economy goes into recession firms find that they no longer can sell all they have been producing and this inability to sell causes them to decrease production until production is reduced to the lower amount the too little money can support.

  78. Gravatar of Doc Merlin Doc Merlin
    17. November 2010 at 12:47

    @Full Employment Hawk:

    1. Since the middle of 2008 (where Scott pins the Nominal part of the recession beginning) inventory to sales ratio has been falling.

    2. Do you actually think that cutting production across the board during a recession help?

  79. Gravatar of Doc Merlin Doc Merlin
    17. November 2010 at 12:53

    @Andrew C.

    Yes the economic right is very ideologically diverse. You have folks like Mankiw who is a New-Keynesian. You have folks like Scott who are “more or less” Chicago style monetarists at heart. You have RBC folks, Austrians, and policy ineffectiveness folks like Thomas J. Sargent and Neil Wallace.

  80. Gravatar of Morgan Warstler Morgan Warstler
    17. November 2010 at 13:30

    “Austerity, unless the Fed can and will completely offset it with a very agressive expansionary monetary policy (very doubtful), will cause NGDP and therefore the economy to grow more slowly, and if strong enough cause a second dip recession. Unemployment if such a policy is followed will still be high and Obama will be defeated. But that is what you want, so I am not surprised that your are prescribing a blueprint for failure for him.”

    Dear Inflation Hawk,

    The FIRM commitment is to 1.75-2%…. you have heard it ONE THOUSAND TIMES.

    That is a gold plated invite to to go gut Public Employees without ANY FEAR of unemployment.

    Somehow your brain turns off, when the babble doesn’t serve you agenda.

  81. Gravatar of Lee Kelly Lee Kelly
    17. November 2010 at 14:52

    Full Employment Hawk,

    Austerity would not reduce nominal income. If the government reduces borrowing, then people who would have otherwise bought government bonds will instead buy something else. If the government cuts taxes, then people will spend the money instead of the government. There is little reason to expect money demand to increase because the government reduces spending, borrowing, and taxing, and it is an excess demand for money that we should be worried about.

    The only danger I can think of is that as the supply of government bonds contracts, unless the supply of similarly safe and liquid alternatives increases, there may be some spillover into money demand. If the Fed does not accommodate, then we could have a minor problem, but I doubt it would be a big problem.

  82. Gravatar of Monetary Policy isn’t a Radical Left-Wing Idea « Renaissance Roundtable Monetary Policy isn’t a Radical Left-Wing Idea « Renaissance Roundtable
    17. November 2010 at 15:43

    [...] Scott Sumner: When I started my blog in early 2009, fiscal stimulus was the hot issue.  Many conservatives were opposed to fiscal stimulus, arguing (correctly in my view) that it would fail.  And they made it quite clear that “failure” meant deficit spending would fail to boost nominal spending.  The implicit assumption was (almost everyone agreed) that more nominal output would be desirable, and the argument was that fiscal stimulus could not deliver it.  With monetary stimulus, the right is making exactly the opposite argument—they are opposed to QE because it might succeed in boosting NGDP.  Both fiscal and monetary stimulus boost NGDP (if they work at all) by shifting AD to the right.  Whether that extra spending shows up as inflation or real growth is of course an important issue.  But it makes no sense to argue fiscal stimulus would fail because it would not boost NGDP, and simultaneously argue that monetary stimulus would fail because it would increase NGDP.  I’m sure the right doesn’t think of its views in those terms, but that is essentially the message they are sending out, and it is an extremely incoherent message. [...]

  83. Gravatar of Wags Wags
    17. November 2010 at 16:28

    I love this letter, but with all due respect, Dr. Sumner, I have to part ways with you on a matter of argumentation.

    “If monetary stimulus is tried, and succeeds in boosting NGDP then it would drive a stake through the heart of the Krugmanite fiscal stimulus argument”

    The Kroogster’s unwavering confidence in the efficacy of fiscal stimulus is not refuted by the mere failure of the stimulus bill to live up to its expectations. Even if you’re uncomfortable with fiscal stimulus as a matter of policy, it is disingenuous to not acknowledge that ARRA was doomed to fail because it was entirely too small and incompetently assembled. Any serious observer can admit this.

    If your premise is satisfied ["if monetary stimulus...succeeds"], then I can accept the view that Krugman might need to simmer his incendiary rhetoric with respect to monetarism, even if rates are at the zero bound. But it seems that you are implying that monetarism will forever prevail over Keynesianism, or, more specifically, that the fiscal guys will never again be invited back to the party; and we both know that’s not true. QE2 can modestly succeed and the argument for fiscal stimulus should go unscathed. Yes, your “unprincipled conservatives” will make the same blithe assertions – stimulus didn’t lower UE as the ivory towers promised, therefore, we should abandon those crude Keynesian models – but I hope that, despite your philosophical aversions, you continue to demand circumspection and plain honesty from your like-minded brethren.

  84. Gravatar of Wags Wags
    17. November 2010 at 16:54

    Edit: Yes, [the] “unprincipled conservatives” will make the same blithe assertions

    “Your” suggests ownership, which is just insulting. My apologies.

  85. Gravatar of Pietro Poggi-Corradini Pietro Poggi-Corradini
    17. November 2010 at 17:04

    “Pietro, I don’t fear equations, I’d prefer that people don’t misuse them. NGDP targets provide better macro stability that other potential monetary targets. The value of money can only be meaningfully defined in terms of its purchasing power, so aggregation is unavoidable.”

    Scott,

    Let me grant that aggregation is unavoidable. Shouldn’t a macroeconomist’s job be to explain in plain terms (logical terms, not just by pointing at historical time series) why aggregation is not a problem in a given equation; and how, and in what circumstances problems related to aggregation might actually become so important that certain identities start misrepresenting reality? Are there any equations that you are willing to question due to problems with aggregating highly heterogeneous quantities?

    On a practical level, can you explain how the Fed might go about targeting NGDP? What I worry about is the distribution of the impact: would Fed tinkering be uniformly distributed or will it tend to be concentrated in some sectors and not others? Does that matter? Why exactly do economies care about NGDP? Is it something that we can feel as individuals as we look around? Can someone think back to the 90s, say, and determine whether NGDP was out of whack then or not? I’m not asking this because I favor targeting inflation (people have some sense of the inflation level, at least they think so), but because you claimed that NGDP being out of whack can be a “cause” of economic disruption, not just a signal, and I wonder if the mechanism can be explained: how exactly does NGDP variation affect behavior out there in the economy?

    Sorry for the many questions.

  86. Gravatar of I Would Sign My Name To This Open Letter : Invest My Money I Would Sign My Name To This Open Letter : Invest My Money
    17. November 2010 at 18:31

    [...] Name To This Open Letter November 18th, 2010 | Posted in Macro & Other Market Scott Sumner has written an open letter to conservatives.  It is a response to the other letter written by [...]

  87. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 18:33

    “2. Do you actually think that cutting production across the board during a recession help?”

    No I don’t and I don’t know what you are referring to. What actually does happen is that as NDGP growth slows down and firms find that they cannot sell what they have previously been producing they cut production. This causes a cumulative downward spiral which aggrevates the situation, but it does happen.

  88. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 18:49

    Both people on the right and on the left have ideological and political reasons for opposing an agressive policy of quantitative easing.

    For many condervatives, keeping the unemployment high trough 2012, so that Obama is defeated is simply more important than demonstrating that expansionary monetary policy is effective when short-term interest rates have hit the zero bound.

    Many progressives, on the other hand, have a strong ideological committment to the use of fiscal policy in this kind of economic environment and to the dogma that monetary policy is “like pushing on a string.”

    So pragmatic people on both sides who are committed to bringing the umemployment rate down as fast as possible need to work together to support quantitative easing, ending interest payments on excess reserves, and imposing a penalty on excess reserves and similar non-conventional monetary policy.

  89. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 18:54

    Makiw in his recent comment on QE2 at

    http://gregmankiw.blogspot.com/2010/11/qe2.html

    states that “I do see some potential downsides. In particular, the Fed is making its portfolio riskier. By borrowing short and investing long, the Fed is in some ways becoming the hedge fund of last resort.”

    That is why the Fed should also stop paying interest on excess reserves. This move provides a monetary stimulus without making its portfolio riskier. The same goes for imposing a penalty on excess reserves.

  90. Gravatar of Full Employment Hawk Full Employment Hawk
    17. November 2010 at 18:58

    “Why exactly do economies care about NGDP? Is it something that we can feel as individuals as we look around?”

    If NGDP growth declines,among other things, firms note that the demand for their product is declining and respond by reducing production and laying off workers.

  91. Gravatar of Morgan Warstler Morgan Warstler
    18. November 2010 at 06:00

    Scott, WATCH this:

    http://www.youtube.com/watch?v=EjTZOekaQlE

    This is yesterday. No QE3 for you!

    It is ALL about propping up home prices to save the banks. Nothing you talk about is real.

  92. Gravatar of W. Peden W. Peden
    18. November 2010 at 06:04

    Full Employment Hawk,

    Although the Treasury View does not apply in the money markets when there is excess capacity, it can apply to other resources like labour. Unless one is going to assume perfect and symmetrical information on the part of the state, it will be competing for resources like skilled labour with the private sector.

    Still, it’s interesting how the arguments against the Treasury View are all a priori. Has there been any empirical case that suggests that the Treasury View is wrong?

    Compare that with the cases of fiscal stimulus not working when monetary policy is tightening and fiscal tightening coinciding with economic recovery when monetary policy is loosening. There are empirical and a priori argument for (a) fiscal stimulus being totally ineffective without monetary stimulus and (b) monetary stimulus being sufficient.

    If monetary stimulus can do all the work, without adding a cent to the national debt, then there isn’t any economic case for fiscal stimulus. Ever. The only case one can put forward for fiscal stimulus is political i.e. it’s an easy and relatively uncontroversial way of handing out goodies.

  93. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 06:39

    ” it can apply to other resources like labour. Unless one is going to assume perfect and symmetrical information on the part of the state, it will be competing for resources like skilled labour with the private sector.”

    When an economy is depressed there are idle resources in the labor market, even, except perhaps in very specialized fields, of skilled labor. Therefore increased government purchases put idle labor back to work instead of competing with the private sector for labor. The same is true for productive capacity.

    “Has there been any empirical case that suggests that the Treasury View is wrong?”

    Has there been any empirical case that suggests that the Treasury View is right? There is a good deal of empirical evidence that when there is excess capacity expansionary fiscal policy does have stimulative effects. No, I am not going to post a review of the literature here.

  94. Gravatar of Morgan Warstler Morgan Warstler
    18. November 2010 at 06:44

    Inflation Hawk, I’m going to LOVE watching your side gutted.

  95. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 06:48

    “There are empirical and a priori argument for (a) fiscal stimulus being totally ineffective without monetary stimulus and (b) monetary stimulus being sufficient.”

    When short-term interest rates have reached the zero bound, conventional monetary policy ceases to work. That does not mean that we are in a liquidity trap. Nonconvential monetary policy can still provide the economy with a strong stimulus and make NGDP grow and bring down the unemployment rate. But we are in uncharted waters here. We do not know how much any particular nonconventional policy will affect NGDP and it has not been shown that it would be effective ENOUGH get the economy ALL THE WAY back to full employment. The jury is still out on that and I have my doubts about that. Even more important, there is no reason to believe that the Fed, or any other central bank, would be willing to engage in the very agressive non-conventional monetary policy needed to get the economy back to full employment by itself. At the time the fiscal stimulus was passed, the Fed clearly was not willing to do this. Therefore a strong fiscal stimulus was needed.

  96. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 06:53

    “Inflation Hawk, I’m going to LOVE watching your side gutted.”

    As I have said before, the most serious problem that macroeconomics has is the inordinate role that ideology based dogma plays in it. It turns what should be rational discussions about theory and evidence into something like an athletic competition.

  97. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 07:03

    “This is yesterday. No QE3 for you! It is ALL about propping up home prices to save the banks. Nothing you talk about is real.”

    This video demonstrates that finacial institutions need to be more strictly regulated. It certainly does not make a case against using stimulative monetary policy to make national income grow and getting the unemployment rate down. A lot of foreclotures now are the result of people losing their jobs and not being able to make the mortgage payments. That almost happened to my parents in the 1960s. A stronger economy would greatly improve the situation.

  98. Gravatar of Tom Grey Tom Grey
    18. November 2010 at 09:09

    Scott, both a fine post and an extremely excellent set of comment comments.
    Tho I disagree:
    Actually no, saving almost always falls in recessions. For simplicity, assume a global recession. Investment falls more than other types of spending in recessions. Since global saving equals investment, saving also falls.
    I recall my Econ 101 too, I=S, but that doesn’t mean it’s true.
    Companies go from $500 bln investment to $300 bln; they save another $100 bln Y on Y, but have lost $100 bln in revenue.
    Individuals who lose their jobs eliminate savings, and even have negative savings, -$50 bln ($1 tril income, 50% saved)
    Individuals who don’t lose their jobs, go from $1 trl spending, $0 saving, to $800 bln spending and $200 bln saving (reducing debt).
    Looks like company save more +$100 bln, not invest; employed people save more, +$200 bln – $50 bln, AND companies invest less. (Not a complete economy, obviously.)
    I think this is really more like what is happening, and the macro theory built on I=S is being disproven by reality.

    On the MV=PQ equation, the extra saving that is not being invested is reducing the V (that usually derived value, almost the Quantum Mechanics – Uncertainty part of monetarism).

    Also, when house prices were increasing, the speculative/ investment part of the mortgage was “saving”, but with house prices falling, the entire mortgage is consumption, none is really investment/ speculation/ saving. But I don’t know what macro theories account for this reality.

  99. Gravatar of Tom Grey Tom Grey
    18. November 2010 at 09:12

    I see I changed by examples on the fly, with inconsistent spending & saving. Sorry, but not sure it’s worth creating a more consistent model to discuss the weakness of I=S.

  100. Gravatar of wtlf555 wtlf555
    18. November 2010 at 12:00

    I think you miss two points in this article

    1) it may be great that socialist countries have a high standard of living and public welfare but if it is not sustainable it shouldn’t be aspired to. If you look at a heat map of countries public debt to gdp it is highest and very well correlated to countries percieved as benefitting from “major neoliberal reforms”. Most of the European countries that liberals aspire to be like are probably just better at squezzing the life out of fiat currencies and debt offerings. Once that gravy train ends it may be clear that all the nice perks were paid for with borrowed funds. This is not to say that there are not model sustainable social welfare states – I believe Sweden is one – it’s just to say that MOST (Portugal, Italy, Spain, etc) are not. MOST CONSERVATIVES DON’T HAVE A PROBLEM WITH SOCIAL WELFARE THEY HAVE A PROBLEM WITH SOCIAL WELFARE PAID WITH BORROWED FUNDS. And they have an even bigger problem if that borrowing is inter-generational.

    2) Nothing is going to matter regarding central planning of monetary policy until the expansionary credit cycle contracts. Your arguments can never be resolved because you believe that the contraction never has to take place or that it can be pushed far enough down the road until it is irrelevent. Conservatives believe that debt (public to GDP and private to GDP) will revert to the mean. Since there can be no agreement on this reversion to the mean there can be no resolving arguments on monetary policy

  101. Gravatar of W. Peden W. Peden
    18. November 2010 at 12:33

    Full Employment Hawk,

    You are not in uncharted waters at all. The UK in early 2009 had bank rates at 0.5%, used unconventional monetary policy, and CPI inflation is currently above target at 3.2%.

    By either the accelerationist hypothesis or the standard Philipps Curve, this apparent ability of monetary policy to raise inflation under all circumstances suggests that reducing unemployment through stimulus is as possible when interest rates are near zero as when they are at 20%.

    Now, one might point to the fiscal stimulus that occured in the UK around that time. However, it was piddling, and certainly piddling in proportion to the scale that contemporary advocates of fiscal stimulus, like Krugman, suggest is necessary to have a noticeable effect. The nominal turn-around in the UK can only be attributed to monetary stimulus.

    As for the psychological argument about central bankers, any central bank that is going to be unwilling to pursue monetary stimulus is going to be willing to counteract any and all effects of fiscal stimulus.

    You basically agreed with me on the crowding out effect of fiscal stimulus, i.e. you were able to argue that it wouldn’t exist, but only using an assumption of perfect and symmetrical information on the part of government and private employers, not just concerning their current utilisation of labour, but of FUTURE utilisation of labour as well.

    If we look empirically, projects like Green Jobs employ exactly the kind of skilled labour that the private sector demands. Furthermore, even projects at the extremes of public works, like Keynes’s filling in bottles example, involve employing management staff and general administrative staff. In the absence of perfect and symmetrical information, the government is going to have tremendous problems (a) identifying labour that is both idle and will remain idle AND (b) putting that labour to use without crowding out other labour markets in management and administration.

    So I agree that your view follows if one assumes perfect and symmetrical information on the part of government and private enterprise, as they will be able to locate and demarcate idle labour and other resources, distributing the labour that isn’t demanded to the government. However, given Joseph Stiglitz’s work on information assymetry and the questionable assumption of perfect information on the part of the government and private enterprise, I’m not sure that such an assumption is warranted a priori. Empirically, I struggle to think of a case of large fiscal stimulus that has considered the issue.

    As for the Treasury View, I am extremely unfamiliar with the literature, so I wouldn’t really know the answer to either question. All I know is that it has been shown empirically that one can have monetary stimulus that works without any fiscal stimulus (or even the opposite) while the evidence for fiscal stimulus being effective in itself and as something other than a bad form of monetary policy is apparently totally non-existent.

  102. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 15:26

    “So I agree that your view follows if one assumes perfect and symmetrical information on the part of government and private enterprise,”

    I am not making any assuptonal about information. All I am assuming is idle resources. Idle labor and idle productive facilities. If the firms can locate the idle resources as well or even better than the government that is irrelevant because the firms will not hire them if there is a lack of demand for their products, even though they know where they are. What the expansionary fiscal (or monetary) policy does is to create the needed demand so that the firms will hire the idle resources.

    Unfortunately I am not sufficiently familiar with the British situation, to comment intelligently about what the Bank of England did. In any case I strongly favor agressive use of unconventional monetary policy by the Fed. But even if it can restore the economy to full employment by itself, which is fine with me, there is no reason to believe that the Fed would have been willing to use the unconvetional policies to the necessary degree when the economy went into the recession or would be willing to do so now.

    “As for the psychological argument about central bankers, any central bank that is going to be unwilling to pursue monetary stimulus is going to be willing to counteract any and all effects of fiscal stimulus.”

    There is no reason to believe that if the Fed would like to lower its federal funds rate target to provide the economy with additional stimulus, but cannot do so because it has hit the zero boundary, but is not willing to resort to nonconventional monetary policy, that it will raise the federal funds target if fiscal policy becomes more expansionary.

    There are rumors that Bernanke feels the stimulus helped and another stimulus would be helpful, but is unwilling to say so publicly because he thinks it is inappropriate as Chair of the Fed to do so.

  103. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 15:32

    ” it may be great that socialist countries have a high standard of living and public welfare but if it is not sustainable it shouldn’t be aspired to.”

    China is far more socialist than any of the welfare states that have gotten deeply in debt and their growth looks very sustainable if they solve the pollution problem that their growth is creating, which they appear to be doing.

  104. Gravatar of ssumner ssumner
    18. November 2010 at 15:46

    Mike and Full employment hawk, I agree. I may need to do another post, as there are so many holes in the conservative argument that I hardly know where to begin.

    FEH, One minor quibble. It is true that boosting AD is the key, but extended UI does boost unemployment even in recessions. The labor market is very complex, and there are sectors where UI does reduce labor supply, even at 10% unemployment. That reduces wage flexiblity slightly and raises unemployment. But even so it is only a small part of the problem, and more AD is the key factor, and in any case would allow the extended benefits to end sooner (if we got back to low unemployment.)

    I’m glad to hear your views on negative IOR. I published a couple papers in early 2009 that mentioned that idea–so we think alike.

    Joe, I can’t give you a number because the most important thing isn’t the number, but the other signals the Fed sends. If they send signals that they are serious about getting back on track (the old trend line) very little is needed; the less strong their signals, the more QE is needed. Even the current annoucement (better than nothing), isn’t really enough. But if a robust recovery got going, they quickly have to pull some out, or raise IOR.

    Mark, But definitely not 10 trillion.

    FEH, Et tu, Marty Feldstein?

    Bill, I agree, it’s about monetary disequilibrium.

    RHD, They ignore TIPS spreads–too inconvenient. Ditto for Japanese history.

    Steve Roth, OK, but it’s still going to make stocks go up if it’s expected to boost recovery. The EITC may be a good idea, but that’s a separate issue. That’s actual government spending. Monetary policy is not.

    QE does not balloon the national debt. I predict that when this is all over the Fed will have made money. Any losses (if I’m wrong) will be relatively small.

    Tom P, Did they respond?

    Jon, I don’t follow your point. So they target NGDP, how does that change things?

    Andrew, You said;

    “A lot of conservative economists appealed to the “swimming pool” analogy, where fiscal stimulus is compared to taking a bucket full of water from the deep end and then dumping it in the shallow end hoping to increase the total level of water. I could be wrong, but I don’t think this is your view of fiscal stimulus.”

    Good point, I took a short cut here, and gave them more credit than they deserve. I think they were right for (partially) the wrong reasons.

    Peter Principle, If you read people like DeLong in early 2009, and again today, you see a completely different take on monetary policy, and it’s not only because it is suddenly the only game in town, he’s also much more positive about what it can accomplish. In early 2009 he seemed to think I was wasting my time pushing QE, after all, we were at the zero bound and everyone knows that means monetary policy is ineffective.

    More to come . . .

  105. Gravatar of Bret Swanson – Maximum Entropy » Blog Archive » Finally, A Real Debate Over Monetary Policy Bret Swanson – Maximum Entropy » Blog Archive » Finally, A Real Debate Over Monetary Policy
    18. November 2010 at 16:31

    [...] economic thinker and a particular expert in monetary affairs. So I sat upright when I saw his skeptical reply to the QE2 [...]

  106. Gravatar of W. Peden W. Peden
    18. November 2010 at 16:34

    Full Employment Hawk,

    I suppose my concern is more with public works, rather than fiscal stimulus per se. Deficit spending can be seen as a kind of monetary stimulus, just one which unnecessarily adds to the national debt. If it was possible for the government to locate idle labour and create public works that only employed that labour, then there would be no crowding-out effect in the labour market as a result of public works. But such a conditional proposition’s truth is dependent on a government that possesses the necessary information to locate that idle labour.

    For example, if I have a specialist skill in electronics and I am attracted to a job in a Green Jobs programme, I will take it even if I am employed or would become employed. My existing job may require some technical skill that is not held by idle labour, so all the Green Jobs programme has accomplished in this case is taking a labourer out of the private electronics sector. Hence the phenomenon of numerous vacancies even during periods of high unemployment.

    Obviously, if labour was homogenous, then the above argument wouldn’t work. But obviously that’s no more likely than a government with perfect information. Clearly, a job is not a job and neither are a job, for that matter.

    I think that, if the Fed had a good mandate and closely followed M3, they would have not only pursued unconventional monetary policy with vigour but also done so back in mid-2008 when broad money growth in the US plummeted. A proper intellectual history of this period is still unwritten, but I think the term “creditism” and the end of tracking M3 will be a part of any decent book on what happened.

    The Fed will only allow fiscal stimulus to the degree that it acts as a substitute for unconventional monetary policy. In the absence of fiscal stimulus, the pressure is on the Federal Reserve to provide monetary stimulus. That wasn’t the case in 2008-2009, because the Fed knew that the US government would engage in fiscal stimuluses. Of course, fiscal stimulus is preferable to monetary stimulus from the point of view of the Fed, because it relieves pressure on them.

    If the Fed wanted, they could have easily and uncontroversially increased IOR, scaled back QE plans etc. back at the time of the fiscal stimulus. No-one really important (e.g. almost all of the Democratic party and the Republican party) would have understood.

    In the age of IOR, the Fed doesn’t have to play the bank rate game or even do less QE than they otherwise would do. They can just bump up IOR and knock that multiplier down. So, insofar as fiscal stimulus can work even at an a priori level, at the level of theory it is totally and uncontroverisally negatable by the Federal Reserve.

    So, EVEN at the zero bound and EVEN in a recession, fiscal stimulus is still a dead-end. I appreciate its sentimental value and its considerable political attractiveness (to both left and right) but it is, at best, a bad form of monetary stimulus that can only work insofar as the central bank permits.

  107. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 18:57

    “I think that, if the Fed had a good mandate”

    The Fed has a mandate to seek maximum employment. It is currently in gross violation of this mandate and at least some of the members of the FOMC do not have the slightest intention of complying with it.

    At the Fall meeting of the Kentucky Economic Association Jeffrey Lacker, President of the Richmond Fed was guest speaker. During a question period I asked him whether he thought the Fed was complying with its mandate to seek maximum employment. His blunt answer of YES! really startled me.

  108. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 19:20

    “there are sectors where UI does reduce labor supply, even at 10% unemployment.”

    But as long as the markets remain in excess supply, that does not make a difference. When transactions take place under excess supply, the realized transactions are determined by the short side of the market. In other words, the employment is determined by the demand for labor. A decrease in the supply of labor, as long as there is still excess supply will not alter the amount of realized employment as long as the demand for labor does not change. Only in the exceptional cases where the unemployment compensation reduces the supply of labor below the demand will it have a negative effect on employmnent.

    A small reduction in wage flexibiltiy should not have a signicant effect on increasing the demand for labor when firms cannot sell all they would like to produce. And since the economy is already below the optimal inflation target, downward flexibility in wages is counterproductive and not something we should want.

    So eliminating long-term unemployment compensation leaves a lot of workers who are unemployed due to no fault of their own, but rather because NGDP growth has been inadequate destitute.

    The reason I have strong feelings about this is because I grew up in a blue collar household that actually experienced involuntary unemployment, and I know from first hand experience what being in this situation is like. My father when he was cyclically unemployed, did not choose leisure, but deperately tried to find another job, even if it involved lower wages and lower skill. Because of this I have never taken the New Classical Economics, with its continuously clearing markets, serious and consider it an elitist conceit of priviledged people who do not have any real understanding of what involutarily unemployed worker go through.

  109. Gravatar of Full Employment Hawk Full Employment Hawk
    18. November 2010 at 19:25

    ” if I have a specialist skill in electronics and I am attracted to a job in a Green Jobs programme, I will take it even if I am employed or would become employed.”

    Then the job you will be vacating will be filled by some other unemployed person and in the aggegate the unemployment rate goes down.

    Markets in which there is high unemployment are easy to identify, even when the particular positions are not.

  110. Gravatar of scott sumner scott sumner
    18. November 2010 at 19:49

    Full Employment hawk, You said;

    “But people would save part of their tax cuts instead of spending them. A dollar saved is not an addition to NGDP. A dollar spent by the government DIRECTLY adds a dollar to NGDP. This is true regardless of the size of the multipliers.”

    You are only considering the issue from the perspective of the Keynesian multiplier model. There are plenty of plausible scenarios where taxes have a stronger effect. That’s what Romer and Romer found, and they are hardly right wingers.

    You said;

    “At a time when federal funds pegging no longer works and the Fed is reluctant to agressively use unconventional monetary policy, that will not happen.”

    Just the opposite. They did QE1 in March 2009. It’s very likely that with a bigger fiscal stimulus they don’t do QE1, and with no fiscal stimulus they do a much bigger QE1.

    Wags, You said;

    “The Kroogster’s unwavering confidence in the efficacy of fiscal stimulus is not refuted by the mere failure of the stimulus bill to live up to its expectations. Even if you’re uncomfortable with fiscal stimulus as a matter of policy, it is disingenuous to not acknowledge that ARRA was doomed to fail because it was entirely too small and incompetently assembled. Any serious observer can admit this.”

    You misunderstood my argument, it had nothing to do with whether fiscal stimulus can or cannot work. Even if it works perfectly there is no use for it in a world where monetary stimulus works.

    Pietro, You can’t beat something with nothing. Tell me what alternative monetary policy you favor, and I’ll tell you why I think NGDP targeting is better. Of course there are flaws with any aggregate, but so what?

    Tom Grey, Savings equal investment is not a theory, it’s an identity. Savings is DEFINED as the money spent on investment.

    wtlf555 , What does socialism have to do with monetary policy?

    Full Employment Hawk, You said;

    “But as long as the markets remain in excess supply, that does not make a difference. When transactions take place under excess supply, the realized transactions are determined by the short side of the market. In other words, the employment is determined by the demand for labor. A decrease in the supply of labor, as long as there is still excess supply will not alter the amount of realized employment as long as the demand for labor does not change. Only in the exceptional cases where the unemployment compensation reduces the supply of labor below the demand will it have a negative effect on employmnent.”

    This is a classic case of confusing models with reality. I personally know of people who are unemployed because of UI. The economy is far more complex than you assume. There are labor markets that are currently close to equilibrium. There is the impact of UI on wage levels, which your “short side” model ignores. There are empirical studies that show a spike in people finding jobs after benefits run out even when unemployment is 10%. UI shifts the SRAS curve to the left. That raises unemployment EVEN WHEN THERE IS ENORMOUS EXCESS SUPPLY OF LABOR.

    You said;

    “And since the economy is already below the optimal inflation target, downward flexibility in wages is counterproductive and not something we should want.”

    No, it is something we want. When wages were flexible downward (1921) the recession was much milder than when they weren’t (1930). For any given NGDP target, the lower the wage level the higher the employment level.

    You said:

    “The reason I have strong feelings about this is because I grew up in a blue collar household that actually experienced involuntary unemployment, and I know from first hand experience what being in this situation is like. My father when he was cyclically unemployed, did not choose leisure, but deperately tried to find another job, even if it involved lower wages and lower skill. Because of this I have never taken the New Classical Economics, with its continuously clearing markets, serious and consider it an elitist conceit of priviledged people who do not have any real understanding of what involutarily unemployed worker go through.”

    In case you haven’t noticed I am not a new classical economist. I am using the AS/AD model, that’s new Keynesian last time I looked. And higher wages mean higher unemployment in that model. No one questions the reality of involuntary unemployment, and nothing I said implies your dad wasn’t involuntarily unemployment. If you thought it did, then you didn’t understand my argument.

  111. Gravatar of Mark A. Sadowski Mark A. Sadowski
    18. November 2010 at 20:39

    Might I quote Hayek? (The foreward to the “Road to Serfdom”)

    “It is true, of course, that in the struggle against believers in the all-powerful state the true liberal must sometimes make common cause with the conservative, and in some circumstances, as in contemporary Britain, he has hardly any other way of actively working with his ideals. But true liberalism is distinct from conservatism, and there is danger in the two being confused. Conservatism, though being a necessary element in any stable society, is not a social program; in its paternalistic, nationalistic, and ever power adoring tendencies it is often closer to socialism than true liberalism; and in its traditionalistic, anti-intellectual, and often mystical propensities it will never, except in short periods of disillusionment, appeal to the young and all those others who believe that some changes are desirable if the world is to become a better place.”

    No one will ever count me as a conservative. Liberal maybe, libertarian maybe (once with a big “L”), but never, ever, a conservative.

  112. Gravatar of Pietro Poggi-Corradini Pietro Poggi-Corradini
    19. November 2010 at 07:29

    “Pietro, You can’t beat something with nothing. Tell me what alternative monetary policy you favor, and I’ll tell you why I think NGDP targeting is better. Of course there are flaws with any aggregate, but so what?”

    I favor some form of free banking, but I don’t want to get it through the political process. So I try to beat something with indifference. Just because a certain policy at a given point in time might happen to coincide or move in the direction of my favorite outcome it doesn’t mean I should endorse it. It’s probably just a fluke and imagining that politicians can be tied to strict rules of behavior is completely unrealistic. I’ve seen enough “privatizations” through the political process go awry, and I’ve seen enough govt monopolies vanish (see post office) without the help of any “policies” (see e-mail). Analogously, I should think that we already have some forms of free-banking or at least some of its mechanisms might already be in existence, in ways we might not fully understand. Just because the Fed seems to be doing the right thing according to your model of reality, by giving it cover now you inherently give sway to the proposition that meaningful changes can be obtained through intentional policy changes.

  113. Gravatar of Jon Jon
    19. November 2010 at 08:54

    Jon, I don’t follow your point. So they target NGDP, how does that change things?

    For any apriori choice of an NGDP growth rate target there are infinitely many pairs of real growth and inflation. Now there is a secular real growth rate so that would seem to set the level of inflation, but the legal framework of country is one component of real-growth. For instance, congress could begin instituting all manner of state-driven industrial controls, price-controls, etc. These would impinge the real growth rate, and ceteris paribus accelerate inflation.

    If congress is upset about inflation under a NGDP target, they should strive to release as much real growth potential as possible.

  114. Gravatar of Doc Merlin Doc Merlin
    19. November 2010 at 10:03

    @Jon: good point. Excessive inflation under an NGDP target is more likely to be the fault of the government than the central bank.

  115. Gravatar of W. Peden W. Peden
    19. November 2010 at 10:43

    Full Employment Hawk,

    Not everyone (in fact, very few people) will be able to do the job. Even if they’re willing to do it for less than the minimum wage, they may still not be hired because they lack the skills. It might be better to leave it vacant than fill it.

    As I said, not all employees are equal.

    If identifying sectors with high unemployment was so easy, why do public works projects so often involve skilled workers? Why aren’t there more “filling holes” cases? I suppose one could explain it in terms of political motivation, i.e. politicians don’t handle public works properly because their incentives are to hand money out to powerful interest groups rather than employ idle workers.

    Also, a sector is not a sector. I might be working in electronics, but I might choose to fill a job in construction if it’s better than my current option. Very few people, in the modern era, work in the same sector all their lives. This is true for skilled workers like electricians as well as unskilled labour: working on an oil rig, for a company and working in a self-employed manner can all be done in half a decade.

    This is by no means the main objection to fiscal stimulus, but it’s a case of problems with public works even if one assumes hyper-rationality and benevolence on the part of those running the public works. Does one set up a Green Jobs programme, which pleases the Green lobby and increases demand for unionised skilled labour, or a filling-in-holes scheme that trains and employs a fairly irrelevant (in political terms) group, the long-term able-bodied unemployed? How many campaign contributions come from the long-term unemployed?

  116. Gravatar of Morgan Warstler Morgan Warstler
    19. November 2010 at 12:31

    Inflation Hawk,

    “All I am assuming is idle resources. Idle labor and idle productive facilities.”

    I know you want the calculus to be, “hey those 10M are idle! if we employ them, the money they have to spend, will create new demand for the new things they are making.”

    Doesn’t happen. They are unemployed for a reason. The skills they have are the least likely to produce anything in demand.

    Now, yes if we cut off UI at 26 weeks and tie future UI to being registered in a database where they MUST attend training whenever they are requested. And the employers don’t have to pay during training, and they only have to hire 25% of those they train, and they get FULL TAX CREDIT for all costs of training…

    Now we’re getting somewhere.

    But even then, we’re talking about a system that doesn’t concern itself with “excess capacity” – but this system LOVES cheap labor, and thats something else we can do with the unemployed.

  117. Gravatar of Scott Sumner Scott Sumner
    19. November 2010 at 15:43

    mark, That’s a good Hayek quotation.

    Pietro, I have no objection to free banking, as long as we keep the Fed. I predict they would lose out in free competition. I’d rather hold dollar bills than some alternative form of money dreamed up by the bankers who brought us the subprime fiasco. If you want to use Citi-dollars, be my guest. But try to find a store that will take them.

    In the future we’ll go to all electronic money. Then we will have a free banking regime and the Fed will stop producing cash.

    Jon, Congress has little effect on trend growth (which has been 3% a year forever, in all kinds of Congresses.)

    Doc and Jon, Inflation doesn matter, NGDP growth does. The problems usually associated with inflation are actually due to NGDP growth. Inflation is a number government bureaucrats pluck out of thin air. At least NGDP can be defined. Try to define inflation. What is a “good?”

  118. Gravatar of D. Watson D. Watson
    19. November 2010 at 16:36

    Ryan, Actually when we ask people if they would prefer a 2% raise and 0% inflation or 5% raise and 3% inflation, nearly all people prefer the 5% raise. It looks better, it feels better. Moneyillusion, baby.

    Scott, I find it not at all ironic that there are gold ads on the blog and in my google reader for this post. Could you remind the good folks at the FCC or whoever it is policing blogs that you have no conflict of interest?

  119. Gravatar of Lew Lew
    19. November 2010 at 17:07

    Scott,

    Interesting post although I disagree with your contention that stimulus spending didn’t work. From what I’ve read it did help minimize the downside of the recession. Also it seems that those screaming the loudest for a stimulus were asking for far more than the government provided. And even what was provided was comprised of 40% tax cuts which the stimulus backers felt was an inferior way to jump start the economy.

  120. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 18:08

    “They are unemployed for a reason. The skills they have are the least likely to produce anything in demand.”

    The reason that their skills are the least likely to produce anything in demand is because there is not enough demand. NGDP is too low. If NGDP were higher so that firms could sell more and therefore would produce more, their skills would produce things that are in demand.

    When NGDP decreases, so that the amount firms can sell decreases and firms respond by cutting production, the demand for labor decreases, so that workers who would be employed if NGDP were higher are involuntarily unemployed.

    It is not the fault of these workers that the central bank or the government has not followed policies that would make N
    GDP higher. They are victims of bad economic policyl. Therefore denying them unemployment conpensation is being unjust to the victims.

  121. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 18:12

    “and increases demand for unionised skilled labour”

    Even unionized skille labor currently suffers from high unemployment. And a good deal of the infrastructure money has gone to filling potholes type projects.

  122. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 18:30

    “In case you haven’t noticed I am not a new classical economist.”

    I am well aware of the fact that you are not a new classical economist and the criticism of new classical economics was not intended to be directed at you. I realize I gave that impression, and I apologize.

  123. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 18:42

    “No, it is something we want. When wages were flexible downward (1921) the recession was much milder than when they weren’t (1930). For any given NGDP target, the lower the wage level the higher the employment level.”

    The problem I see with that line of reasoning is the assumption that a given NGDP target will be maintained during a deflation. If it is, you are correct.

    This requires that Fisher’s debt defaltion effect does not reduce NGDP growth and causes the central bank to fall short of meeting its NGDP target. And there is the problem that a falling price level will raise the expected real interest rate and cause the economy to fall short of its NGDP target.

    There is no evidence that either the central bank or the government has eversucessfully offset these downward drags on NGDP when they occurred.

    More generally, I feel that keeping the economy on an NGDP target during a serious recession is much more difficult than you are assuming and that falling wages make achieving the target much more difficult.

  124. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 18:45

    I need to add that my argument is based on the assumption, whichappers realistic to me, that in the face of falling wages and prices the NGDP target will not be retained.

  125. Gravatar of Full Employment Hawk Full Employment Hawk
    19. November 2010 at 19:32

    “I personally know of people who are unemployed because of UI.”

    I don’t doubt that there are labor markets that are clearing. I think we disagree on the percentage of the cyclical unemployment arises from markets that are not clearing as opposed to markets that are.

    Even then I find it implausible that unemployment compensation causes a lot of people to pass up halfway decent jobs because of the experience I observed as a minor living my parent’s household. Unemployment compensation only replaces a small fraction of a worker’s income. Making ends meet on it is very difficult. And if you also have to make mortgage payments, you can’t make it. If my father had not, after determined efforts, found another job, we would have lost our home.

    I strongly suspect that people who think that unemployment compensation significantly increases cyclical unemployment have never actually experienced having to live on it.

  126. Gravatar of Mark A. Sadowski Mark A. Sadowski
    20. November 2010 at 15:34

    Scott,
    If you think that’s a good Hayek quote check out this Patton quote:

    “I don’t want to get any messages saying that we are holding our position. We’re not holding anything, we’ll let the Hun do that. We are advancing constantly, and we’re not interested in holding onto anything except the enemy. We’re going to hold onto him by the nose, and we’re going to kick him in the ass. We’re going to kick the hell out of him all the time, and we’re going to go through him like crap through a goose.”

    It’s my intention to hold on to nothing.

  127. Gravatar of Mark A. Sadowski Mark A. Sadowski
    21. November 2010 at 14:50

    I gather George Patton quotes are unacceptable.

  128. Gravatar of Morgan Warstler Morgan Warstler
    22. November 2010 at 08:29

    “Even then I find it implausible that unemployment compensation causes a lot of people to pass up halfway decent jobs because of the experience I observed as a minor living my parent’s household.”

    Inflation Hawk,

    This is the problem. UI benefits are nothing like they were then. I’m pulling this fact from my butt, but I know I read it somewhere. UI is basically two years vacation making $25K a year. For many two income families, and idle 25 year old hipsters… the rational answer was/is wait to find work.

    We juts hit the wall with 99s – go get the data and show us they aren’t finding work in greater numbers.

  129. Gravatar of Full Employment Hawk Full Employment Hawk
    22. November 2010 at 12:45

    I can safely conclude that you have never had to live on unemployment compensation while having to pay mortgage payments to keep from losing your home. And you have never tried to live on $25K per year. If you had, your attitude would likely be different. Everybody who advocates eliminating long-term unemployment compensation should first have to live on it for 6 months before their arguments are taken serious.

    “I’m pulling this fact from my butt, but I know I read it somewhere.” One can read a lot of unreliable information somewhere, especially now that we have the Internet.

    “show us they aren’t finding work in greater numbers”

    The reason people are not finding work is that NGDP growth is too low. Under present economic conditions, who would want to hire a 59 year old bricklayer?

  130. Gravatar of scott sumner scott sumner
    23. November 2010 at 13:07

    D. Watson, I make almost no money from ads. If the FCC is paying attention to me they are idiots.

    Lew, You said;

    “Interesting post although I disagree with your contention that stimulus spending didn’t work. From what I’ve read it did help minimize the downside of the recession.”

    I’ve never seen anyone provide a shred of evidence that stimulus helped. Where is the evidence?

    Full Employment Hawk,

    No need to apologize for the new classical comment. I often sound more grouchy than I really am, as I answer so many comments each day.

    You said:

    “There is no evidence that either the central bank or the government has ever sucessfully offset these downward drags on NGDP when they occurred.
    More generally, I feel that keeping the economy on an NGDP target during a serious recession is much more difficult than you are assuming and that falling wages make achieving the target much more difficult.”

    Well I think I did just provide some evidence. Wages were more flexible in 1921 than 1930, and the outcome was better despite the fact that prices actually fell more sharply in 1921. I’d also point to the spectacular failure of FDR’s NIRA program, which was an attempt to make nominal wage less flexible.

    Just to be clear, I don’t see nominal wage cuts as a good thing, they are symptoms of an excessively tight monetary policy. But if you have a big fall in NGDP (say due to some external factors–such as Ireland or Latvia), and your price level is pegged by the euro, you sure as hell better slash wages if you want to avoid a huge unemployment problem. Of course the much superior option is to not cut wages, and devalue your currency–I think we both agree on that.

    I agree that in the vast majority of cases that wages and prices are falling, NGDP is also falling. But for any given fall in NGDP, I’d rather have wages and prices fall much more, and output much less. As a practical matter there is not a whole lot the government can do about wage and price flexibility, so the best option is to avoid falls in NGDP. The debate about price stickiness is mostly a moot point, as it will always be with us.

    You said;

    “I strongly suspect that people who think that unemployment compensation significantly increases cyclical unemployment have never actually experienced having to live on it.”

    I’m certainly an exception to your rule (I’ve been unemployed), although I’m not sure about the term “significantly”. I think the effect of UI on the unemployment rate is small, less than one percentage point. Your comment about making ends meet ignores the second earner issue. One commenter mentioned he knew someone with a hotel who laid off all his maids. When he tried to hire them back they said no thanks–they could get by with their husbands income plus UI. These things do happen, but I agree it is only a small share of the total. Most of the problem is simply inadequate AD.

    Mark, Thanks for the Patton quotation.

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