Draghi doesn’t understand what caused the eurozone double-dip

The ECB tightened monetary policy sharply in 2011.  This caused NGDP growth to plunge, and the eurozone fell into a double-dip recession.

Whenever you have a demand-side recession, some people will look at specific industries, and/or specific regions, to see what caused it.  This is mistake.  The US housing industry was hit hard in the recent recession, but didn’t cause it.  The PIIGs were hit especially hard after 2011, but did not cause the eurozone recession.  In any recession, there will be regional and industry variation in intensity, due to supply-side factors.  But those specific factors cannot explain a generalized decline in NGDP growth for an entire currency zone. Only monetary policy can explain that.

Here’s something from a Mario Draghi speech that Vaidas Urba sent me:

From 2011 onwards, however, developments in the two regions diverge. Unemployment in the US continues to fall at more or less the same rate.  In the euro area, on the other hand, it begins a second rise that does not peak until April 2013. This divergence reflects a second, euro area-specific shock emanating from the sovereign debt crisis, which resulted in a six quarter recession for the euro area economy. Unlike the post-Lehman shock, however, which affected all euro area economies, virtually all of the job losses observed in this second period were concentrated in countries that were adversely affected by government bond market tensions (Figure 2).

Is this true?  Consider these graphs, showing that it wasn’t just the PIIGS that experienced a double dip:

Screen Shot 2014-08-24 at 1.20.03 PM

Screen Shot 2014-08-24 at 1.21.52 PM


Screen Shot 2014-08-24 at 1.22.59 PM

Screen Shot 2014-08-24 at 1.24.02 PMSo the Netherlands, France, Belgium and Austria also had double-dips. The Dutch double-dip was worse than the first dip.  The ECB caused the double-dip recession—even new Keynesian models will tell you that.  (After all, the ECB raised rates twice in 2011, so this wasn’t one of those zero bound issues.)  Odd that Draghi doesn’t understand that the ECB caused the NGDP growth collapse, and that debt crises are the result of NGDP growth crashes.  That doesn’t make me very hopeful that the eurozone’s long nightmare will end anytime soon.

Better late than never, but early is better still

Soon after I started blogging, I suggested that the importance of monetary policy would be clearly exposed by the way the recovery from the Great Recession played out.  That was true in the Great Depression, where the role of money was not noticed during the first couple years of the 1930s, but became clearer as each country started to recover after they left gold.  I don’t think anyone can deny that this prediction has been confirmed in this recovery.  Just look at the varying paths of the US, Japan, Britain and the eurozone.  One side effect is that we are now seeing much more interest on Fed policy from the left:

JACKSON HOLE Wyo. (Reuters) – Reginald Rounds was among those present at the Federal Reserve’s high-flying monetary conference here, enjoying the chance to button hole two top officials of the U.S. central bank.

The St. Louis resident is neither an economist nor a central banker. He’s a 57-year-old unemployed worker, who said he is trained in the green technology field and can’t find a job.

He was among a group of activists who gathered on the sidelines of the Fed’s annual symposium wearing green t-shirts with “What Recovery?” on the front and a chart depicting sluggish U.S. wage growth on the back.

“From the world where I reside, there is no recovery. We need a boost. We need a jump start,” said Rounds. “The key is jobs creation.”

The ten activists, most of whom were unemployed and seeking jobs, were sent as emissaries for a coalition of advocacy groups that has launched an unusual campaign from the left to press the U.S. central bank to keep monetary policy easy.

Of course these advocacy groups ignored the Fed back in 2009, when monetary stimulus really could have done a lot of good.  (Now it can do just a little good.)  A few years ago Matt Yglesias said overlooking the importance of monetary policy was “a major intellectual weakness of the progressive movement.”  Brad DeLong expressed similar a frustration with the Obama administration.

Why did MMs get there first?  Because we have the best model—NGDP growth expectations falling below the implied target is excessively tight money.  Even if it looks like money is “extraordinarily accommodative.”  And we understand that fiat money central banks rarely run out of paper and green ink.

Here’s Peter Diamond back in 2011, pouring cold water on the recommendations of people like Blanchard and Krugman

Nobel laureate Peter Diamond, whom the Obama administration nominated to fill a vacant seat on the Fed’s board, puts it this way: “If the Fed says we are determined to keep going till we have, say, 4 percent inflation, would that really turn around expectations in a way that would stimulate the economy and create higher inflation? I doubt it.”

And here’s Peter Diamond a few days ago:

“Historians are going to tar and feather Europe’s central bankers,” Peter Diamond, the world’s leading expert on unemployment told UK newspaper the Telegraph at the sidelines of the meeting. “Young people in Spain and Italy who hit the job market in this recession are going to be affected for decades. It is a terrible outcome, and it is surprising how little uproar there has been over policies that are so stunningly destructive,” he claimed.”

It seems awfully cruel to tar and feather people who can’t do anything at the zero interest rate bound. Even MMs merely recommend tar, no feathers.

Seriously, I’m glad the left is coming around to the view that monetary policy is of great importance. I hope they’ll take a look at the school of thought that reached this conclusion in late 2008.

PS.  I also have a post on money at Econlog.

The Fed can fix high unemployment, it can’t fix low employment

Tyler Cowen links to Binyamin Appelbaum:

These results,” wrote the economists Stephen J. Davis, of the University of Chicago, and John Haltiwanger, of the University of Maryland, “suggest the U.S. economy faced serious impediments to high employment rates well before the Great Recession, and that sustained high employment is unlikely to return without restoring labor market fluidity.”

Their findings contribute to the growing genre of papers that purport to show that the weakness of the American economy is caused largely by problems that predate the recession — and that the Federal Reserve can’t remedy them with low interest rates.

My response?  I said it all in the post title.

The daughter test

Here’s Adam Ozimek:

Guest-posting at The Dish, Elizabeth Nolan Brown has an interesting piece up discussing prostitution and pornography that is worth ruminating on. She writes:

Last night, a close friend told me he had been reading my posts about decriminalizing sex work. “I’m sympathetic,” he said, “and I want to agree with you. But I just keep thinking, ‘what if it were my daughter?’ That’s, like, every father’s worst nightmare.”

Brown goes on to rebut her friend by pointing out that if your daughter did become a prostitute, you’d want it to be legal because that makes it safer. While she is right about that, I think it gives her friend’s argument too much credence. The more important thing her friend is missing is this: this is a country of free people, not your children.

Whether you’d want your kid to do something is a terrible, selfish, and self-centered way to think about policy.

Ozimek also links to Damon Linker:

There’s just one complication to this happy story: no one, or almost no one, actually believes it. People may say they see nothing wrong with or even admire Weeks’ decision to become a porn actress, but it isn’t unambiguously true. And our ease of self-deception on the matter tells us something important about the superficiality of the moral libertarianism sweeping the nation.

How do I know that nearly everyone who claims moral indifference or admiration for Weeks is engaging in self-deception? Because I conducted a little thought experiment. I urge you to try it. Ask yourself how you would feel if Weeks — porn star Belle Knox — was your daughter.

I submit that virtually every honest person — those with children of their own, as well as those who merely possess a functional moral imagination — will admit to being appalled at the thought.

Linker also has this to say:

None of this should be taken to mean that I favor banning porn or making it illegal to work in the industry that produces it. In the end, I’m a libertarian, too.

I can think of four ways of looking at the daughter test.  It will help to first consider a couple hypotheticals.  Say you and your family go back in a time machine to the late 1800s, but still have your modern 21st century attitudes toward behavior.  How would you feel about your daughter walking along the beach in a bikini? During the Victorian era that sort of behavior would be viewed as a disgrace, and your daughter would no longer be accepted in respectable society.

Also consider how you’d feel if your daughter dropped out of high school and spent her adult life cleaning toilets at Penn Station.

Now let’s form some categories:

1.  One might regard certain behavior as immoral, and favor making it illegal.  You wouldn’t want your daughter doing that.  Ms. Brown’s friend has that view of prostitution.

2.  You might believe certain behavior is immoral, but also believe it should not be illegal.  You wouldn’t want your daughter doing that.  Mr. Linker has that view of porn.

3.  You might believe certain behavior is not immoral, but wouldn’t want your daughter doing it because she would be shunned by polite society.  Others view it as immoral.  That’s my hypothetical of the 21st century father transferred into the Victorian era.

4.  You might regard certain behavior as perfectly moral and even necessary, but wouldn’t want your daughter doing that because society views the job as rather dirty, degrading and low class. That’s my example of cleaning toilets.

So I can think of at least 4 cases where someone might feel really upset to find out their daughter ended up in a certain career, each having very different implications.  In other words, I’m not a fan of the daughter test.  That’s not to say the test doesn’t occasionally reveal hypocrisy on the part of people, especially men, and especially about sex.  It does.  But it’s very hard to draw any implications from these intuitions, especially if you are a moral realist (which I am not.)  Indeed the Victorian era raises some uncomfortable issues for moral realists.

PS.  If you insist on asking parents what they would think of their children doing something, then FOR GOD SAKE DON’T ASK AMERICAN PARENTS.  Reason just ran this story:

A whopping 68 percent of Americans think there should be a law that prohibits kids 9 and under from playing at the park unsupervised, despite the fact that most of them no doubt grew up doing just that.

What’s more: 43 percent feel the same way about 12-year-olds. They would like to criminalize all pre-teenagers playing outside on their own (and, I guess, arrest their no-good parents).

Those are the results of a Reason/Rupe poll confirming that we have not only lost all confidence in our kids and our communities—we have lost all touch with reality.

“I doubt there has ever been a human culture, anywhere, anytime, that underestimates children’s abilities more than we North Americans do today,” says Boston College psychology professor emeritus Peter Gray, author of Free to Learn, a book that advocates for more unsupervised play, not less.

I’ve talked to both European and Asian parents about this, and both seem to think American parents are utterly insane in their attitudes toward leaving children unattended.  Do we really want to rely on the moral intuitions of crazy people?

DeLong on the mother of all black swans

Brad DeLong has a post that is mildly critical of Shiller’s stock market model in almost precisely the same way that I am critical of Shiller’s stock market model.  The only difference is that DeLong knows more finance than I do, and makes the case far more effectively than I can.  I was intrigued by his conclusion:

That is a perspective very different from mine, which regards the failure of the CAPE to spend most of its time north of 25 as a mystery.

But given that it does not, it would be very rash for anybody who is not certain that they can wait out the market to invest more than they can afford to lose. And past performance is not only not a guarantee it may not be an indicator of future results. We have had one real Black Swan–World War I–in the past 130 years.

The first part refers to what DeLong and I think is the real mystery—not so much why stocks were so high in 1929, 2000, and now, but rather why they were so low 90% of the time.

I think WWI is a great black swan example, but without really disagreeing with DeLong I’d like to throw out another possible black swan—1968.  And no, I’m not thinking of all the assassinations and political turmoil in the US (as well as many other countries.)  It’s not clear that the political events of 1968 had much permanent effect; 1979 was the real turning point (see the PPS of this post.)  Instead I’m going to argue the shift from gold to fiat money was a black swan.

First let me digress with a bit of history.  It became illegal for Americans to redeem dollars for gold in 1933.  I seem to recall that in 1968 the gold window was closed to foreign individuals, and in 1971 the window was closed to foreign central banks.  (Someone correct me if I am wrong.)  So the gold standard sort of faded away over a 40-year period.  Then why pick 1968?

Even though Americans could not redeem dollars for gold in the 1960s, they could buy foreign currencies, and/or goods in foreign countries.  And there was a free market in gold in some foreign countries.  So up until 1968 gold continued to provide at least a weak anchor to the monetary system, at an international price of $35/oz.

My second point is that switching to a permanent fiat system was much more inconceivable to people in the old days than you might imagine.  Yes there were brief experiments like the greenbacks of the Civil War and the German paper money of 1920-23.  But even Keynes opposed a pure fiat regime, and viewed these historical examples as sort of pathological cases.  If you had told someone in 1968 that by 1980 the price of gold would be over $800/oz. they would have thought you were a lunatic.  It was $20.67/oz. in 1879.  It was still $20.67 an ounce in 1932.  It was $35/oz. in 1934.  It was still $35/oz. in early 1968. I recall that when gold was around $150/oz. in the 1970s, one of my economic professors at Wisconsin predicted the price would soon fall back into the $40s, as it was far overvalued.

DeLong identifies three periods when stock investors did poorly over the following 10 years—right before WWI, the late 1960s and early 1970s, and the late 1990s.  Even today I’m not sure exactly how much of the poor stock market performance of 1968-81 was due to the Great Inflation. Inflation did punish savers given that the IRS taxes nominal capital income.  But does that explain the entire underperformance?  Was there money illusion (confusing real and nominal interest rates) when discounting future profits?  I’m not sure.  I am confident, however, that moving to a fiat money regime was a black swan for the US 30-year Treasury bond market, and pretty much every other bond market as well.

PS.  And take a look at this excellent post over at MarginalRevolution.