Danyzn on NGDP futures targeting

Quick follow-up to my previous post.  Here’s commenter Danyzn, with an excellent analogy:

Here’s an analogy which may be helpful. Think of the Fed not as a counterparty at all, but as a kind of Walrasian auctioneer whose job is to clear the market for orange futures. Unlike a normal auctioneer, it does so not by adjusting the price (that is pegged) but by planting and destroying orange trees (over which it has a monopoly).

Update:  Absolutezero gets it too:

For normal markets, entities trade for a few reasons: to profit from price changes, to hedge (to prevent losses), to set prices, and to provide dealer function for entities wishing to enter and exit the market.

Over at Econlog, one commenter said he thought with the NGDP futures market, he would profit when the Fed made a mistake, and he seemed to think that’s weird. And it is, if one thinks about it in terms of a normal market. But the NGDP futures market is not like a normal market. As you said, the “price” is already set. The goal is not to reduce price inefficiency, but inefficiency in Fed behavior.

So, in a sense, to abuse a term from topology, this is like the “dual” of a normal market, where many things are inverted. Thinking this way, it’s actually natural to conclude that lack of trading is a sign things are working.

As for risk premia, I wonder what Antti Ilmanen (author of Expected Returns, Wiley, 2011) would think of this. I agree with you, though, that the lack of such a market today is telling.



28 Responses to “Danyzn on NGDP futures targeting”

  1. Gravatar of foosion foosion
    22. July 2016 at 10:07

    I believe the objection is basically that if you bet NGDP growth will change at an off target rate, the Fed will act to move it to target, therefore you will lose the bet. Therefore no one will bet.

    Objectors: is this a fair characterization?

    Supporters: why isn’t this a fair objection?

  2. Gravatar of ssumner ssumner
    22. July 2016 at 10:16

    Foosion, Yup, that’s the objection, and it’s silly. I spent an entire hour writing a long post explaining why it’s a silly objection. The post is over at Econlog:


  3. Gravatar of H_WASSHOI (Maekawa Miku-nyan lover) H_WASSHOI (Maekawa Miku-nyan lover)
    22. July 2016 at 10:17

    We need “NGDP futures GO” to find aggregate orange trees

  4. Gravatar of Ray Lopez Ray Lopez
    22. July 2016 at 10:29

    Danyzn totally screwed up the definition of a Walrasian auction, so his analogy is bogus. See, https://en.wikipedia.org/wiki/Walrasian_auction

    In a W.A. the price is allowed to change.

    Further, a better analogy is this: suppose the demand for oranges is infinitely inelastic: demand does not change regardless of the price of the oranges. Why? Because oranges are ‘neutral’ in the economy. Whether you have one or one million does not matter. The economy will ‘make do’ regardless of the price or quantity of oranges.

    Likewise, because money is endogenous to an economy (money is neutral), what the Fed supplies in money is irrelevant in the short and long runs: prices will adjust to whatever quantity of money there is, and adjust quickly, as will volume. Cite? Ben Bernanke’s FAVAR paper.

  5. Gravatar of Carl Carl
    22. July 2016 at 11:52

    If I’ve understood the analogy, the Fed will have to pay out in oranges if they plant too many orange trees or too few. Seems easier to pay if you plant too many.

  6. Gravatar of Danyzn Danyzn
    22. July 2016 at 13:50

    Carl: in the analogy of a Walrasian auctioneer, the Fed will never pay out anything because it will adjust monetary policy to ensure that there are zero net bets. The people who think NGDP will come in below target are betting against people who think it it will come in above target. Scott is assuming that the Fed will keep net demand at roughly zero out of fear of losing money. I think it would be better to simply require the Fed to keep net demand at zero. It is not clear to me that fear of losing money is a sufficient incentive to keep the Fed on target; may it not be tempted to go off target in hopes of making money? Better to simply define its job as clearing the futures market.

  7. Gravatar of Ray Lopez Ray Lopez
    22. July 2016 at 14:36

    OT(but on point to this blog) – from “Debunking Economics” by Steve Keen: Well before Kydland and Prescott reached this statistical conclusion, the post-Keynesian economist Basil Moore pointed out the implication of the actual money creation process for macroeconomic theory. When macroeconomic models actually considered the role of money, they treated the money supply as an exogenous variable under the direct control of the government – this is an essential feature of Hicks’s IS-LM model, for instance. But since credit money is created before and causes changes in government money, the money supply must instead be endogenous. The ‘Money Multiplier’ model of money creation was therefore a fallacy:
    This traditional view of the bank money creation process relies on the bank reserves–multiplier relation. The Fed is posited to be able to affect the quantity of bank deposits, and thereby the money stock, by determining the nominal amount of the reserve base or by changing the reserve multiplier […]
    There is now mounting evidence that the traditional characterization of the money supply process, which views changes in an exogenously controlled reserve aggregate as ‘causing’ changes in some money stock aggregate, is fundamentally mistaken. Although there is a reasonably stable relationship between the high-powered base and the money stock, and between the money stock and aggregate money income, the causal relationship implied is exactly the reverse of the traditional view. (Moore 1983: 538)

    Shorter summary: Fed follows the market. In the few times Fed does not (as per Bernanke’s FAVAR paper examining Fed policy shocks), the Fed has 3.2% to 13.2 effect (out of 100%) on a range of economic variable, including GDP, that is, practically nothing. Money is neutral.

  8. Gravatar of Danyzn Danyzn
    22. July 2016 at 14:38

    I originally meant this only as a loose analogy, but Scott’s elevation of it to a post and Ray’s deliberate failure to understand it have inspired me to make it more literal. Here it goes.

    The Fed does NOT offer to act as a counterparty in the futures market. It never takes any position, not even temporarily. Instead it runs a daily auction where it invites traders to submit schedules of their demands as a function of open-market operations. A typical schedule will say “I want to: buy 10 contracts if you expand base money by $1 billion, sell 5 contracts if you do nothing, sell 20 contracts if you contract base money by $1 billion” and so on. From these schedules the Fed computes the open-market operations that result in zero net demand, carries out the operations, and records the trades. The Fed itself never has to take any position.

  9. Gravatar of Benjamin Cole Benjamin Cole
    22. July 2016 at 16:24


    If money is neutral why did Japan sidestep the Great Depresion, under the helicopter drops of Finance Minister Takahashi Korekiyo?

  10. Gravatar of Ray Lopez Ray Lopez
    23. July 2016 at 00:47

    @Benjamin Cole, Thai turkey farmer – I covered your JP question in a previous post. Go back and read it. Don’t do like Sumner and bring up red herrings. BTW, stick to something you know: one of my toms died the other day, any reason why? We gave it to some poor people and they ate it (dead meat is still valuable protein in PH)

  11. Gravatar of Rajat Rajat
    23. July 2016 at 01:12

    Scott, as this is a newer post, I thought I would seek a clarification on your EconLog response over here. You said:

    “..You are betting against the Fed in the sense that they are the other side of the contract… But if the Fed arranges its affairs (the base) such that it takes a roughly equal number of short and long positions, then I agree that in a deeper sense you are betting against the market consensus.

    In contrast, suppose private traders take only short positions (as they might have in late 2008) and the Fed takes only long positions. Then I’d say you are betting against the Fed.”

    I thought your proposal worked in such a way that the Fed announces that for each NGDP futures contract sale (purchase), it would buy (sell) a certain value of assets. Then, if the market is efficient, on average the base should be sufficient for NGDP to hit the target and the Fed doesn’t need to pay anything. If if the market gets it wrong and outturn NGDP is too low, but I had correctly sold futures, I would profit, those who had bought futures would lose and the Fed would be required to make up any shortfall between payments received from contract buyers and payments made to contract sellers. So in that sense, you are betting against the Fed. But as I understand it, you are not betting against the Fed’s view as to the appropriate size of the base – the Fed has effectively delegated that decision to the market. So you are really betting against the market’s view of the correct base (ie velocity). Am I getting closer or further away?

  12. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    23. July 2016 at 04:47

    The funny thing is that I remember old (and very good) post of Noah’s titled “In Defense of EMH” : http://noahpinionblog.blogspot.sk/2013/02/in-defense-of-emh.html

    There was this excerpt:

    “Since people in the finance industry are doing a lot of work – watching the news like a hawk, doing constant analysis of changing numbers – chances are that the price change will happen so fast that you won’t have time to get in on the action. So from the perspective of any of us who doesn’t have a supercomputer in his head, prices movements must be unpredictable and surprising. They must seem random.”

    and this one:

    “Probably the most robust findings in the field of behavioral finance is that individual investors do badly. They are overconfident. They trade too much and take losses on trading costs. They suffer from biases like disposition effect, probability mis-weighting, recency bias, etc. And as a result they lose money, relative to the wise folks who just stick their money in a low-cost diversified portfolio and watch it grow.”

    Actually I think Noah’s defense of the EMH is so good that if I were you Scott, I would just repost it verbatim.

  13. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    23. July 2016 at 04:49

    Oops. That prior post if from J.V. Dubois at Econlog;


  14. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    23. July 2016 at 04:52

    Yikes, new laptop! That prior post if from J.V. Dubois at Econlog;


  15. Gravatar of ssumner ssumner
    23. July 2016 at 04:54

    Danyzn, Don’t wrorry about Ray–he’s not worth your time.

    Rajat, You said:

    “But as I understand it, you are not betting against the Fed’s view as to the appropriate size of the base – the Fed has effectively delegated that decision to the market.”

    There are multiple versions of the proposal, in some the Fed delegates to the market (by not taking a net long or short position) and in others they do take a net position, and hence are betting on future NGDP.

    So the answer to your question is “It depends which version we are discussing.”

  16. Gravatar of ssumner ssumner
    23. July 2016 at 04:57

    Thanks Patrick, and JV DoBois.

  17. Gravatar of flow5 flow5
    23. July 2016 at 09:41

    Targeting N-gDp will exacerbate stagflation. Non-seasonally adjusted R-gDp (not mal-adjusted), increased 0.09% from 1/1/2007 – 1/1/2015. The non-seasonally adjusted PCE increased by 0.13% during the same period. That’s stagflation and income stagnation (a growing purchasing power gap).

    To hit N-gDp targets under the Fed’s current policy mix will produce higher rates of inflation relative to the roc in real-output. That is, targeting N-gDp will lead to overall declining standards of living.

  18. Gravatar of Benjamin Cole Benjamin Cole
    24. July 2016 at 00:53

    On Shiller’s trills: Well…wouldn’t trills pay out interest in good times and not in bad? Seems to me we want the reverse. What about a reverse trill? Pays heavily whenever certain weak economy-low inflation triggers are hit.

    You know, there might be a market for reverse trills. It would be a hedge against downmarkets.

    Ray Lopez: I am sorry your turkey died. I have young ones join the Great Turkey in the sky. My ex-mother in law sends the older ones there too.

  19. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    24. July 2016 at 11:15

    Benjamin, Trills are more like equity interests in NGDP.

  20. Gravatar of Ray Lopez Ray Lopez
    24. July 2016 at 11:40

    Sumner: “Danyzn, Don’t wrorry about Ray–he’s not worth your time.” – but I’m worth your time, as you seem to constantly reply to my posts with red herrings. Can’t stand that I am Kryptonite to your Superman, eh? Like MF. When do I get the coveted “Silent Treatment” from you?

  21. Gravatar of Tom Brown Tom Brown
    24. July 2016 at 15:07

    O/T: you might find this glossary helpful. I did.

  22. Gravatar of Tom Brown Tom Brown
    24. July 2016 at 17:15

    O/T: also interesting.

  23. Gravatar of Benjamin Cole Benjamin Cole
    24. July 2016 at 23:27

    “Most government officials see no alternative to these fixed-income instruments, but the more adventurous mandarins and economists are increasingly interested in the possibility of GDP-linked bonds. Greece recently experimented with these securities, which pay investors more when economic growth is strong and scale back coupons when times are tough.”

    Patrick Sullivan: the above definition is of a trill.

    Strikes me as the reverse of a fiscal automatic stabilizer.

    A reverse trill might be a good idea.

    Better yet, send in the helicopters.

    It is time for Market Monetarists to take off the little-boy shorts and put on the long pants. Go to money-financed fiscal programs and let it rip.

    Are you man enough to face critics when inflation tops 3%? Oh my, such frightening prospects!

    Let us ask the BIS for permission first. And what will Ester George say!

  24. Gravatar of Patrick Sullivan Patrick Sullivan
    25. July 2016 at 09:26

    Benjamin, here’s Robert Shiller himself;


    ‘The governments of the world should issue shares in their GDPs, securities that pay to investors as dividends a specified fraction of GDP, in perpetuity (or until the government buys them back on the open market). Governments need to end their historic reliance on debt financing: governments issuing shares in GDP is analogous to corporations issuing equity.’

    Note those last 5 words.

  25. Gravatar of Michael Byrnes Michael Byrnes
    26. July 2016 at 02:21

    It occurs to me that those who argue that no one will trade this market because they can’t win are at least conceding that the Fed can indeed target NGDP. (There are obviously still many who disagree.)

  26. Gravatar of ssumner ssumner
    27. July 2016 at 08:04

    Ray, You are worth my time as long as you are a fun person to pick on. If you get serious I’ll ignore you.

    Michael. I agree.

  27. Gravatar of DJ Campbell DJ Campbell
    27. July 2016 at 10:57

    Would love to hear your thoughts on this article that appeared in Bloomberg today and the UBS report put out Friday. I have plenty!


  28. Gravatar of ssumner ssumner
    28. July 2016 at 17:33

    DJ, That really doesn’t make any sense. I don’t even understand what they are trying to say. Trust me, economists cannot predict as well as markets.

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