Wage and/or price stickiness?

Saturos sent me to an interesting debate between Matt Rognlie and Miles Kimball on wage and price stickiness.  I’d recommend you read their discussion if you only have time for one post (I tend to agree with Matt), but I’ll put in my 2 cents anyway.  Warning:  This is blogosphere econ, not academic econ.

I first got interested in this subject when I saw Robert Lucas cite a 1985 JPE paper by Mark Bils, which showed real wages were procyclical.  Lucas then suggested that this stylized fact was inconsistent with sticky-wage models, which predicted countercyclical real wages.  (The idea is that prices fall sharply in recessions, workers refuse nominal pay cuts, real wages rise, and workers are laid off.)

I was shocked by this claim, as I knew that real wages were highly countercyclical during the interwar years.  I also knew that the demand shocks were much larger during the interwar years, and thus these were an almost perfect laboratory test of business cycle models.  When I looked at Bils’ paper I saw that he used a 1966-80 data set, and figured his procyclical finding came from the oil shocks.  Then Steve Silver and I decided to do a test of the entire period from 1920 to 1985, and we found that wages were strongly procyclical when the economy was hit by supply shocks and somewhat countercyclical when the economy is hit by demand shocks.  This finding is completely consistent with sticky-wage models.

In those days I still believed in inflation estimates.  Later I began to doubt that economists had developed a clear idea of what inflation is supposed to measure. Let’s start with a fairly clearcut example to see the intuition of sticky-wage models: gold mining.  Gold is gold, there are no quality issues.  It’s not a newly invented product.  It doesn’t get better over time.  It’s sold in markets that are almost perfectly competitive, and hence individual mines are essentially price takers.  When gold prices rise sharply, I imagine that the ratio of hourly wages to gold prices tends to fall, and employment in gold mining increases.  So the sticky wage model would probably work pretty well for gold mining, or indeed any product where it’s easy to measure prices and where the output is sold in competitive industries.  (See my PPS for further discussion.)

But most goods are not like that.  There are quality changes and there are new products.  A huge part of the CPI is made up of “rental equivalent”–a good produced without any labor.  And our models are supposed to explain fluctuations in employment!  Then there are fake prices.  Renters are given 2 months free to move in during recessions, but that doesn’t show up in the CPI.  There are all sorts of hidden price cuts, as companies don’t like to raise and lower list prices–bad for PR.  So they set the list price for boom conditions, and then give lots of hidden price cuts to move the merchandise during recessions.

But inaccuracies in inflation data aren’t the real problem.  Rather in my view NGDP is the “real thing”, not just the sum of inflation and RGDP growth.  Over the long run you’d expect nominal wages to track NGDP/person, not inflation.  Just look at the soaring wages and low inflation in China.  RGDP/person growth drives up wages just as much as inflation.  And here’s where things get interesting.  Because NGDP fluctuations are erratic, and hourly nominal wages are very sticky, W/NGDP becomes very countercyclical, just as the sticky-wage demand-side theorists initially felt W/P should be.

Bennett McCallum once observed that there are hundreds of ways of modelling how sticky wages and prices impact the business cycle:

My own candidate for the weakest component in a macroeconomic model is the price adjustment (Phillips curve) sector. In McCallum (1999, fn. 14) the argument is stated as follows. “It is not just that the economics profession does not have a well-tested quantitative model of the quarter-to-quarter dynamics, the situation is much worse than that: we do not even have any basic agreement about the qualitative nature of the mechanism. This point can be made by mentioning some of the leading theoretical categories, which include: real business cycle models; monetary misperception models; semi-classical price adjustment models; models with overlapping nominal contracts of the Taylor variety or the Fischer variety or the Calvo-Rotemberg type; models with nominal contracts set as in the recent work of Fuhrer and Moore; NAIRU models; Lucas supply function models; MPS-style markup pricing models; and so on. Not only do we have all of these basic modeling approaches, but to be made operational each of them has to be combined with some measure of capacity output””a step that itself involves competing approaches””and with several critical assumptions regarding the nature of different types of unobservable shocks and the time series processes generating them. Thus there are dozens or perhaps hundreds of competing specifications regarding the precise nature of the connection between monetary policy actions and their real short-term consequences. And there is little empirical basis for much narrowing of the range of contenders.”

McCallum’s footnote beautifully illustrates why the modern approach to macro is hopeless.  We’ve had lots of really smart guys working on this for decades.  If we don’t have a solution it’s probably because the actual economy is both incredibly complex (lots of models are partly true) and also time-varying (a model that explains the 1920s doesn’t explain the 2000s.)

So my solution is to return to basics, apply the simplest model that is useful for policy.  Start with why we care about all this—unemployment.  If we had recessions without a change in the unemployment rate, or even hours worked, economists would have never even invented the AS/AD approach to macro–they’d investigate real shocks.  We developed modern macro to explain why employment seems to fluctuate in a suboptimal fashion.  So let’s start with the labor market; why doesn’t it clear?

And as soon as we begin to look a the labor market, a solution jumps right out at us.  NGDP is highly erratic, and nominal hourly wages are very stable.  Hence hours worked moves in the same direction as NGDP, over the cycle. (Of course in the long term nominal shocks have no real effects.)

One counterargument is that perhaps the nominal shocks (NGDP fluctuations) are actually real shocks, combined with a central bank policy of targeting inflation. In that case there might be no causal relationship running from NGDP to employment.  Rather it might go from real shocks to real GDP to employment, with NGDP merely going along for the ride—as inflation is stabilized.  But that’s why monetary history is so important.  We don’t just know that NGDP and employment are highly correlated, we know that NGDP shocks caused by insane monetary policies and employment are highly correlated.  That’s the smoking gun.  To summarize:

1.  We know that monetary policy often causes NGDP shocks.

2.  You’d normally expect hourly wages to track NGDP/person pretty closely, and long term it does.

3.  But when NGDP is shocked by monetary policy, W/NGDP becomes very countercyclical, almost certainly because nominal wages are sticky.

Occam’s razor says that’s the simplest way to explain cycles, and the approach with the most robust policy implications (stabilize the path of NGDP/person.)

Microfoundations?  I think that’s a waste of time.  A hundred different models might all be partly true.  And the price level might be badly mismeasured.  And the importance of specific factors in the transmission mechanism may be time-varying.  If so, then the search for single, timeless model of microfoundations is like the hunt for the Holy Grail.  Better to admit our ignorance and simply address the proximate cause of cycles—unstable NGDP.

When I did my research on the “causes” of the Great Depression,” I began to delve into the endlessly perplexing philosophical debate on “causation.”  Being a pragmatist, I ended up with the following conclusion:

The root cause of the Great Depression was the failure of central banks to adopt policies to prevent the Great Depression.

Why such a weird application of the term “cause”?  Because there is no baseline monetary policy, no neutral monetary policy.  Any monetary policy is a choice. Some choices will produce no recession in 1930.  Others will produce a mild recession in 1930.  And others will produce a depression in 1930.  Of course it doesn’t have to be monetary policy.  Hoover’s high wage policy of 1930 also contributed to the Great Depression, and hence (partly) “caused” it.  So did Smoot-Hawley, albeit not for the reasons assumed by supply-siders.

One might argue that claiming NGDP targeting minimizes business cycles doesn’t prove the causation goes through sticky wages, even if the “musical chairs model” is simple and intuitive.  It might be sticky prices.  But I believe there is other evidence pointing to the importance of sticky wages.  When wages are relatively flexible (and I emphasize relatively–they are never completely flexible) then recessions are less persistent for a given NGDP shock.  Compare the impact of a given NGDP shock in flexible Hong Kong and inflexible Spain.  Or compare the fall in NGDP in the flexible American labor market of 1921, with the inflexible labor market of 1930, or 2009.  That goes against the arguments of people like Eggertsson.  (BTW, Marcus Nunes directed me to a recent James Hamilton post that criticizes Eggertsson’s views on inflation.  Read the Hamilton post with “NGDP” constantly in the back of your mind.)

PS.  Note to Tyler; I snuck in “regional” in the final paragraph.

PPS.  A competitive firm looks at “market conditions” via the price of its good (such as gold.)  But most firms are monopolistically competitive (MC), and the average MC firm looks at changes in NGDP to evaluate market conditions.  If, on average, people spend 10% less (i.e. NGDP falls 10%), and wages are sticky, then a typical MC firm will get less revenue and respond by laying off lots of workers under a wide variety of modeling assumptions.  Thus the fall in NGDP plays the role in MC firm-dominated economy that P plays in a competitive economy.  Note that in the early 1930s US NGDP fell by 50%, whereas broader price indices fell by about 25%.  But the WPI, which in those days had lots of goods in flexible price, competitive industries, also fell about 50%.  So the competitive firms in the early 1930s saw a 50% fall in the price they could get for wheat, cotton, steel, oil, iron, coal, copper, etc.  And the MC firms saw a 50% decline in nominal spending on their goods (toasters, radios, cars, etc.)  Both reacted in the same way; laying off lots of workers, as wages fell by far less than 50%.

PPPS.  I don’t like the way Tyler discusses the Rognlie/Kimball post:

That is also a good post showing some differences between blogospheric economics and academic economics.

To me, the term ‘blogosphere’ sounds dumber than ‘academic,’ even if you didn’t know the meaning of either term.  Say them both out loud.  I’d prefer “the ungated, free entry, merit-driven, competitive, methodologically eclectic, wisdom of crowds-based global hive mind,” vs. “ivory tower, methodologically dogmatic, elitest, academic world where you either data mine to publish empirical papers or invent endless permutations of theoretical models.”

PPPPS.  And it’s elitest to criticize the way I choose to spell elitest.



41 Responses to “Wage and/or price stickiness?”

  1. Gravatar of Morgan Warstler Morgan Warstler
    27. June 2013 at 07:50

    “If we had recessions without a change in the unemployment rate, or even hours worked, economists would have never even invented the AS/AD approach to macro-they’d investigate real shocks. ”

    Which is exactly why the first thing we do is Guaranteed Income / Choose Your Boss….

    Then, NGDP layered on top, keeps us from having a crisis in capitalism and helps us shrink the state.

  2. Gravatar of CA CA
    27. June 2013 at 08:30

    Makes me happy to see you push back against Tyler Cowen’s sanctimonious attitude towards (some) other econ bloggers! 🙂

  3. Gravatar of AldreyM AldreyM
    27. June 2013 at 08:39

    EM countries with the highest exposure to commodities (% of total exports unless stated otherwise) —–>


  4. Gravatar of jknarr jknarr
    27. June 2013 at 08:49

    Also, please consider that (contract-driven) ” “sticky wages” could be a SYMPTOM of (insane) monetary policy.

    These wage guys may have the world entirely backwards.

    US wages really became sticky after the 1913 advent of the Fed — temporal-causation speaking, the central bank caused workers to obtain contracts because of the (central-bank-created) heightened risk premium to (real) incomes.

    The Fed’s the disease; wage stickiness is the symptom.

  5. Gravatar of Joseph Joseph
    27. June 2013 at 09:02

    On your bit about microfoundations, I entirely agree. I understand why you would want it if possible but I doubt that it is. Inflation to me is like an emergent phenomenon in physics. For example, friction is fundamentally due to electric attraction between atoms in two objects but modeling that is impossible due to the complexity but a simple linear model approximates it quite well even though the individual interactions are very complex. When you look at inflation expectations, market measures are pretty accurate whereas estimates by individuals are systemically biased upwards, usually by 2,3 fold.

  6. Gravatar of J J
    27. June 2013 at 10:25


    Why would workers want sticky nominal wages after the advent of the Fed? The less predictable the money supply and inflation is, the more workers will want set real wages, not nominal ones.

  7. Gravatar of ssumner ssumner
    27. June 2013 at 10:35

    Morgan, That’s right.

    CA, I don’t think you are being fair to Tyler–he’s never sanctimonious.

    jknarr, Insane monetary policies make wages more flexible, but the Fed didn’t have much impact on wage flexibility, at least initially. Wages were sticky during the 1890s depression.

    Joseph, Good point.

  8. Gravatar of CA CA
    27. June 2013 at 11:00

    “CA, I don’t think you are being fair to Tyler-he’s never sanctimonious.”

    Well, clearly you too have some feelings about his blogger vs academic post. I thought it was rather holier-than-thou. In all fairness, he’s certainly not the worst.

  9. Gravatar of Joseph Joseph
    27. June 2013 at 11:13

    From the end of an article at the NYtimes. A quote from Bernanke stating that implies he believes that inflation measures are not measuring exactly what he thinks they ought to measure which makes the case for something simpler and straightforward like NGDP

    “There are a number of transitory factors that may be contributing to the very low inflation rate,” Mr. Bernanke said last week. “FOR EXAMPLE, THE EFFECTS OF THE SEQUESTER ON MEDICAL PAYMENTS, THE FACT THAT NONMARKET PRICES ARE EXTRAORDINARILY LOW RIGHT NOW. So these are some things that we expect to reverse and we expect to see inflation come up a bit. If that doesn’t happen, we will obviously have to take some measures to address that.”


  10. Gravatar of Philo Philo
    27. June 2013 at 11:53

    “I began to delve into the endlessly perplexing philosophical debate on ‘causation’. Being a pragmatist, I ended up with the following conclusion: The root cause of the Great Depression was the failure of central banks to adopt policies to prevent the Great Depression.” It seems that your philosophical delving was a waste of your time””not an uncommon outcome! You should have noticed that what you were interested in was not *the cause*, or *the causes*, of the Great Depression, but *the root cause*. The philosophical literature on *root causation* is not endlessly perplexing””it is practically non-existent. Thus you would have saved yourself some trouble.

  11. Gravatar of Wage and/or price stickiness? | Fifth Estate Wage and/or price stickiness? | Fifth Estate
    27. June 2013 at 12:05

    […] See full story on themoneyillusion.com […]

  12. Gravatar of jknarr jknarr
    27. June 2013 at 12:11

    J, Scott — it’s the sticky, not the nominal flexibility.

    Removing gold from wages created real income uncertainty. Nominal wage changes are not the point — workers try to maintain stability in real return to productivity by establishing contracts — which is the root of wage stickiness. (Stickiness could be due to other exogenous market factors — population, productivity, but contracts are interesting in that they explicitly don’t allow markets to clear.)

    So contractual stickiness is the real point — the effort to stabilize real by adjusting nominal. Is this is a difficult concept?

    The Fed all but eliminated getting paid in real terms as it withdrew gold (+certificates) from the system and substituted “elastic” provision of FRNs.

    I’d say that the advent of the Fed and the withdrawal of gold de facto destabilized real incomes. The 1890-1905 period was a model of how it is supposed to work — real unskilled labor wages had the highest correlation to real GDP on record.

    I am certain that workers would have preferred sticky real wages — and gold provided this, it’s as (real-world) “real” as they come. With gold shoved out of the payment system by the Fed, monetary policy risk entered, and nominal contracts followed (with the renegotiation option “keeping it real”).

    They instituted contractual “stickiness” — renegotiating into inflation (with withdrawal-of-labor strikes always an option), and sitting tight through deflation. Clearly imperfect, but one realistic solution to the higher real wage risk premium.

    Greater monetary uncertainty (note that “elastic” = uncertain) means a greater bid for contractual protection, nominal or not. Don’t mistake flexibility for nominal. Simple.

  13. Gravatar of W. Peden W. Peden
    27. June 2013 at 12:18

    Scott Sumner,

    Yet another example of why macroeconomic policy should not be based on inflation or RGDP-


    What would you expect from a country that publishes RGDP figures before NGDP figures? No wonder the RGDP figures are so useless: they’re spat out like half-cooked chicken from a barbecue.

  14. Gravatar of David R. Henderson David R. Henderson
    27. June 2013 at 12:59

    Good post, Scott. BTW, it’s elitist.

  15. Gravatar of Saturos Saturos
    27. June 2013 at 14:40

    Scott, do you maybe like blogging better than Academia? Just a thought that occurred to me.

    P.S. thanks for the post.

  16. Gravatar of Negation of Ideology Negation of Ideology
    27. June 2013 at 15:06

    “Because there is no baseline monetary policy, no neutral monetary policy. Any monetary policy is a choice. ”

    This is the most important point, in my opinion. I wish everyone understood it. Almost any discussion of monetary policy starts with the implicit assumption that there is some neutral policy. Sometimes the assumed neutral policy is based on interest rates, sometimes the monetary base, sometimes gold prices. More often than not it’s based on a feeling. In any case, the assumption is wrong, which makes the conclusions wrong. It’s what leads people to erroneously believe low interests rates are always a loose monetary policy, for example.

    Great blogging, as usual.

  17. Gravatar of ssumner ssumner
    27. June 2013 at 15:22

    Joseph, Yes, that article is crying out for “NGDP” not inflation.

    Philo, Well, maybe I made that up.

    jknarr, You said;

    “So contractual stickiness is the real point “” the effort to stabilize real by adjusting nominal. Is this is a difficult concept?”

    It must be for me, as I don’t follow this at all. Contractual stickiness leaves the nominal fixed and the real unstable.

    W Peden, That’s worth a post.

    Thanks David, But no matter what elite I make it to, I’ll always be envious of the elite above me.

    Saturos, Where’s you get that idea? 🙂

    Negation, Excellent comment.

  18. Gravatar of J J
    27. June 2013 at 17:13

    Professor Sumner,

    David was not saying that your post is elitist. He was saying that the correct spelling for the word that you spelled ‘elitest’ is ‘elitist’.

  19. Gravatar of James in London James in London
    27. June 2013 at 17:33

    It is also elitist, in that the post was took time to read and required thought. Not everyone has the required attention span or thinks much.

    David’s comment was also a clever double entendre, which in itself is elitist. And nothing wrong with that either.

    But maybe SS’s misspelling was intentional too, like his misuse of “I” when proper grammar requires a “me”.

  20. Gravatar of jknarr jknarr
    27. June 2013 at 17:39


    The introduction of the Fed meant that workers were thereafter paid in nominal wages, not real (gold).

    Nominal wages opened the possibility for getting paid less over time in real terms due to inflation — feeding your family, for example. We can quibble over consumption baskets and measurement, but the point is that FRNs are elastic supply and gold is effectively fixed supply.

    Labor sought out contracts that would protect against real declines in wages due either to inflation or deflation — to feed their families.

    That is, consider annual built-in pay increases to “keep up” with inflation. Contracts simply limit wage downside, while preserving the future option of renegotiation/strike/quit upside — all in an effort to keep real wages stable.

    (I have to point out that I believe that labor has not been quite as stupid and unsuccessful in pursuing its interest in maintaining real incomes — to feed their families — quite the contrary, I think that union contracts are intended to maintain real incomes, and have been largely successful. Calling labor contracts simple fixed-nominal/varying-real really misses the empirical evidence.)

    It seems simple — when (fixed supply) gold is no longer the compensation, and elastically-provided currency is, then compensation has been uprooted from a automatic-real-return-on-productivity and transplanted into a higher-risk-nominal-return-on-productivity. Contracts remove some of this nominal wage risk, and produce stickiness.

    Yet we’ve been taught that nominal wages are somehow an advantage — that shifting productivity wage adjustment is smoothed through inflation. It’s not — it’s labor wastage on low-return projects, pure and simple.

    The nominal-wages-union-contract-system (socialism on a small scale) has the same results as socialism on a large scale: rationing, poor productivity, and wastage of labor as inflation ticks down the real-wage/productivity clock.

    THe entire economy, and its component individuals, would both be better off if labor was compensated in real terms exactly in line with real productivity, with no contract-produced sticky wages. That is, they could always buy 350 loaves of bread with one oz gold earned — and when they saved, they could always buy 350/oz with their surplus.

    Which world would be more productive: low wage stickiness and real wage compensation; or high wage stickiness and nominal wage compensation?

  21. Gravatar of James in London James in London
    27. June 2013 at 17:50

    W Peden
    There is some hope. The ONS announced a few months ago a big enhancement of the NGDP data, in timeliness and quality.

    That said, the decline in RGDP in 1q09 is pretty staggering, especially if annualised!

    The noisy state recaps of Lloyds/HBOS and RBS, the HSBC rights issue and Barclays capital increase really rather damaged confidence. And it wasn’t just Mervyn King’s anti-bank moral hazard policy as the banks like to argue. The worst losses at the first two banks have turned out to have been in Ireland, HSBC’s disaster was in US sub-prime, and Barclays was just very, very over-leveraged.

  22. Gravatar of Benjamin Cole Benjamin Cole
    28. June 2013 at 03:09

    Egads, this was one brilliant post.

    I especially liked the idea that measuring modern-day inflation, even with best intentions and diligence, is nigh impossible. More now than ever before—product differentiation is the norm (not the exception), as is the rapid evolution of goods and services.

    And what do sky-high real estate prices mean? And even if they are inflationary (as measured) is that a result of monetary policy, or rising disposable incomes and a culture disposed to buy property?

    More and more, it comes back to the Fed must use NGDP as a target, not inflation.

    Moreover, I think the USA economy is much, much less inflation-prone than 40 years ago. As soon as the current crop of economist die off, I expect that the profession will get over the inflation-phobia…..

  23. Gravatar of W. Peden W. Peden
    28. June 2013 at 04:17

    James in London,

    Would it be too much to hope that such changes in statistical data gathering signal the beginnings of a change in policy? After all, the first step in moving towards money supply targeting in the UK was actually getting some half-decent statistics, though our measures were almost always awful…

  24. Gravatar of ssumner ssumner
    28. June 2013 at 06:21

    Thanks J.

    James, I’m afraid that my bad grammer is not intentional, I was always a poor english student–ever since first grade.

    jknarr, You said;

    “The introduction of the Fed meant that workers were thereafter paid in nominal wages, not real (gold).

    Nominal wages opened the possibility for getting paid less over time in real terms due to inflation “” feeding your family, for example. We can quibble over consumption baskets and measurement, but the point is that FRNs are elastic supply and gold is effectively fixed supply.

    Labor sought out contracts that would protect against real declines in wages due either to inflation or deflation “” to feed their families.

    That is, consider annual built-in pay increases to “keep up” with inflation.”

    I’m afraid this is almost completely wrong. The Fed did not have any impact on the gold standard. And the gold standard did not stabilize the value of money. And long term wage contracts are rarely indexed to inflation, hence they made real wages more unstable.

  25. Gravatar of jknarr jknarr
    28. June 2013 at 08:26

    Scott, I know that the gold standard is a well-beat horse, but I do believe that it is largely misunderstood.

    First, gold was clearly withdrawn from circulation after the Fed was instituted. This was done on a bank- and Treasury- currency level as well.

    No gold in circulation, no standard (for workers, at least). Perhaps you meant international settlement.

    Pre-Fed http://research.stlouisfed.org/fred2/graph/?g=k9s

    Post-Fed http://research.stlouisfed.org/fred2/graph/?g=k9r

    And, I’ll point out that nominal prices accelerated hard after the gold standard was taken off (twice — in the 1930s and 1970s). So gold-based wages might appear to have some protection against rising nominal prices and lower real wages.

    I’d personally think that one ounce provides consistent consumption value over time, i.e. gold is a “real” phenomena — nice tailored london suit, one ox, 350 loaves of bread, whatever. I’m not certain what your “value of money” benchmark is, I suppose.

    (You know, maybe if we had union workers begging in the street for food because their foolish long run nominal wage contracts crushed their real incomes — maybe then I’d also believe that contracts make real wages more unstable. But it’s not the case, so I don’t. Instead, (not surprisingly to me) we have uncontracted non-union workers on food stamps and under real wage pressure. Curious, that.)

    Also, as an aside, consider that we actually don’t have that much history of 100% fiat USD. Sizable NGDP stimulus in a world of Treasury paper being paid purely in nominal dollars (again, not real-based gold dollars) will be a very different bond bear market than we’ve seen before.

  26. Gravatar of Greg Ransom Greg Ransom
    28. June 2013 at 09:20

    So ‘never reason from a price change’ gets thrown out the window whenever Scott by whim wants to throw it out the window,

  27. Gravatar of “Wage and/or Price Stickiness?” Illustrated | Historinhas “Wage and/or Price Stickiness?” Illustrated | Historinhas
    28. June 2013 at 16:00

    […] his post on Wage/Price  stickiness Scott Sumner […]

  28. Gravatar of J J
    29. June 2013 at 04:45


    How does the gold standard prevent nominal vs. real issues? If we used a fixed supply of gold, then the value of that gold would go up as the population and productive capacity increased. The future value of gold would not be determined just as the future value of the dollar is undetermined. If people were paid a fixed amount of gold in a long-term contract, then population increases or falls in NGDP (nominal in terms of gold) would would push up the real value of wages above optimal levels.

  29. Gravatar of ssumner ssumner
    29. June 2013 at 05:21

    Jknarr, You said;

    “I’d personally think that one ounce provides consistent consumption value over time, i.e. gold is a “real” phenomena “” nice tailored london suit, one ox, 350 loaves of bread, whatever. I’m not certain what your “value of money” benchmark is, I suppose.”

    So you think an ounce of gold today has the same purchasing power as a year ago, or 5 years ago, or 10 years ago, or 20 years ago? That seems crazy. Can you explain?

    And the question of whether gold coins circulate or not is simply a matter of public preferences, it has nothing to do with whether you are on a gold standard or not.

  30. Gravatar of ssumner ssumner
    29. June 2013 at 05:23

    jknarr, Obviously I was referring to the period up to 1933, when gold was pulled from circulation.

  31. Gravatar of jknarr jknarr
    30. June 2013 at 23:20

    J – gold is in fixed supply, while you rely on how-insane-am-I-feeling-today central banks for their elastic provision of the numeraire. The historical price record pretty well bears out the LR stability of prices under gold, while both nominal and real output has been at the whim of insane central banks. If you think that your absolute categories of determined nominal vs real is a great “gotcha” moment, it isn’t. It’s a matter of degree. Classic pre-fed gold standard prices were stable, my thesis is that post-fed unstable prices led to increased contractual wage stickiness. Population and productive output are real phenomena. Inflation is a central bank phenomena, everywhere.

    Scott, gold purchasing power over time appears stable. Quibble with sources, but this stacks up with my data: http://www.newworldeconomics.com/archives/2011/041011_files/WGC%20purchasing%20power%20of%20gold%20copy.pdf

    The data clearly shows that gold keeps its purchasing power. Better to ask if the USD has kept the same purchasing power over these time horizons.

    For every bid-preference, there is an offer-preference: after its advent, the Fed’s preference was indisputably to absorb all competing currencies other than FRNs. Gold was no different, as 1918-1923 shows. The Fed had an unusual bid for Treasury currency ( how much is circulating today, anyway — zero), so why not gold?

    Gold makes people crazy in so many ways, I wish that we could call it “Poyais dollars” and keep it rational and dispassionate.

  32. Gravatar of J J
    1. July 2013 at 00:11


    Your thesis doesn’t make sense. Why would unstable prices lead to increased contractual wage stickiness? Why would a worker respond to nominal meaning less (nominal means less when prices are less predictable because nominal becomes more separated from real) by fixing her nominal wage more? Unstable prices lead to wages indexed to inflation or short-term contracts.

  33. Gravatar of jknarr jknarr
    1. July 2013 at 00:27

    Following the cue of “the great prosperity machine” and free trade, imagine a guy invents a new and innovative currency (like you would imagine bitcoin) – workers put their savings into it, and gain real purchasing power that lasts decades.

    Workers no longer have to worry about inflation through old age, or have to negotiate new labor contracts every five years, or stick their savings into the equity markets in hope for preserving the real value of their savings over long periods of time. 401k are no longer needed, as preserving real savings no longer generates capital gains taxes.

    This new, innovative currency is accepted everywhere – globally, in fact. Long run deficits are a thing of the past. Current account balances automatically adjust. There is even a preexisting government and banking infrastructure that has operated for more than one hundred years, that can already easily clear and settle in this currency.

    Fantastic. This guy should get the Nobel Prize! Acclaim from everyone who draws a paycheck or has a dollar in savings. Thank you, sir. I now have to worry much less about my future well-being…

    Well, no, actually, better to call him crazy and attack any mention. Kill the idea, kill the new currency. I mean, really, the theory of preferences obviously shows the existing monopoly-provided currency to be preferred, and thus is clearly superior. Well, so far, at least, right? Right?

  34. Gravatar of jknarr jknarr
    1. July 2013 at 00:44

    J, the Fed increases nominal inflation volatility over the LR, – upside and downside – and so destabilizes real incomes. Can we agree on this?

    If the central bank of Zimbabwe were to take over the Fed, would you want to perhaps run out and get an inflation indexed contract from your employer? Get paid in gold perhaps?

    Would your then-FRNZIM-indexed- or gold-denominated employee contract make your wages more- or less- real?

    Then, after you’ve considered the problem, put yourself into the shoes of a guy who is getting new-fangled promissory notes for the first time from a “Federal Reserve” bank in faraway DC.

  35. Gravatar of J J
    1. July 2013 at 02:39


    Have you looked at gold prices lately? Clearly, gold does not have a stable real value.

    Also, you are confused about what matters in wage contracts. It is not unstable inflation, but unstable NGDP. For example, suppose I have a long-run contract that pays me 5 pounds of gold per year. Of course, if the real economy grows (and the amount of gold in existence stays constant), there is deflation; each pound of gold can buy more stuff. My income of 5 pounds of gold is now worth more due to deflation, but this is fine because I am more productive since the real economy grew.

    The Fed has done a reasonable job of keeping NGDP stable since the 70s. This is the most we can expect from any currency, whether it is money printed by the government or gold.

  36. Gravatar of jknarr jknarr
    1. July 2013 at 05:01

    J –

    1) Have you looked at the ZIM lately? If you want to claim insightful generalities, please consider thinking more broadly than the USD, and stop reasoning from a couple weeks of prices.

    2) again, a USD centric problem. 5lbs of gold a week in which economy again, to whom, when? And volatile PCE does not make NGDP more volatile? And greater PCE volatility leaves (NGDP-PCE) volatility unaffected?

    3) again, data cherry picking. Since 1970s, you say? Try looking at an entire data set. It exists, you know, back to the 1700s. Amazing work, very useful for developing opinions.

  37. Gravatar of c8to c8to
    2. July 2013 at 03:24

    this is my favourite, and one of your most important posts…

    especially great is your analysis of why modern macro is hopeless, but don’t throw the baby out with the bathwater, return to basics and address what we do know…

    my intelligent friends have become so skeptical of macro they want to reject everything, but this is a succinct defense of your position…and should form the basis of any more general work (a great introduction for the book i’d say)

    also i think its worth being clear on this point as there are sometimes subtle distinctions for people that haven’t been here from the beginning (eg when you dismiss macro, or inflation, then talk about macro or inflation) its worth being explicit about what you are dismissing so you don’t get wrongly criticized for inconsistency…

    once again, great post, and great to see this fresh argument being made after all these years…

  38. Gravatar of ssumner ssumner
    3. July 2013 at 07:18

    jknarr, That graph shows that gold had a very unstable purchasing power.

    Thanks C8to

  39. Gravatar of Peter Drake Peter Drake
    3. July 2013 at 11:21

    c8to mentions a book. I hope one is forthcoming. As an interested newcomer to the topic I would purchase an economics/MM equivalent of Stephen Hawking’s ‘A Brief History of Time’.

  40. Gravatar of ssumner ssumner
    3. July 2013 at 11:53

    Peter, Yes, it’s forthcoming, and will be forthcoming for quite some time (unfortunately.)

  41. Gravatar of Peter Drake Peter Drake
    4. July 2013 at 15:01

    Well then I will refrain from further commenting so as to reduce the delay.


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