Karl Smith has an eminently reasonable post on the state of macroeconomics, so naturally I’ll try to poke holes in it:

My growing sense is that the core intellectual struggles surrounding the Great Recession have been practically resolved.

There were three core things that needed to be understood.

1) That the near term future of capitalism could only be secured by hurling huge sums of money at the US banking system in 2008-2009. That was done.

2) That a perhaps not cataclysmic but nonetheless horrific second global financial crisis could only be secured against by hurling huge sums of money at the European banking system in 2011. That was done.

3) That the global downturn is a phenomenon of Aggregate Demand in general and liquidity/collateral constraints in particular. As such it would be alleviated by the easing of credit and the transferring of liabilities from the liquidity constrained to the liquidity free.

.   .   .

It is time to move to other things.

Here are three that I think are important to get to next.

Hold on there; I don’t really agree with any of that.  I believe both the US and European capitalist systems could have been “saved” far more effectively with steady 5% expected NGDP growth, level targeting, rather than throwing lots of money at banks.  Indeed if we did the NGDP targeting and combined it with no bailouts at all, I think it’s quite likely the US and European recessions would have been much milder.  In fairness to Karl, it’s possible that throwing money was the right thing to do given that we didn’t do NGDP targeting; I’m not really qualified to offer an opinion on that question.

Regarding the third point, I certainly agree that the global downturn was caused by an AD shortfall, but think that the best way to fix it was monetary policy, not credit policy.  And yes, they are very different.  You can have a monetary policy in an economy with no credit, and you can have a highly sophisticated credit system in an economy with no money.  Credit is about loans.  Monetary policy is about the medium of account.  For instance, imagine gold is money.  You can boost both NGDP and RGDP sharply by changing the definition of how many ounces of gold count as one dollar, even if the banking system is flat on its back.  Come to think of it, FDR did just that.

I hate to be a killjoy, but I passionately believe that unless we figure out what went wrong, we’ll keep repeating our errors.  On a positive note, I agree with Karl here:

This is one reason why I encourage my colleagues to be gentle rather than mean. Another – so that we may be honest – is that I am, obviously, viscerally uncomfortable with meanness.

Karl also made this observation:

Indeed, given the way he talks about the issue I wonder if Scott Sumner might be happier with nominal compensation of employees as his stabilization target:

He’s exactly right.  The reason I keep talking about NGDP is that I think it’s an easier sell both politically and academically.  And it would do nearly as well, if structured in the form of “targeting the forecast.”  Interested readers might want to look at Karl’s graph of employee compensation over time.

BTW, here’s the news out of Japan:

Gross domestic product shrunk by 2.3% during the period from a year earlier, much worse than 1.4% contraction that analysts had forecast.

Analysts said while there is pressure on the Japanese central bank to take measures to boost growth, the BOJ’s options were limited.

.   .   .

“Money supply is at peak levels already,” said Fujitsu Research Institute’s Mr Schulz.

So has Japan run out of paper?  Or are they out of ink?

This post is completely off topic, but something I’ve been thinking a lot about recently.  What determines the length of novels and films?  Novels are usually around 200 to 500 pages, and films are usually around 2 hours.  I understand that the length of films is somewhat constrained by the desire of theaters to run two showings after dinner, but I don’t think that’s a complete explanation.  The same is true for “art films.”  Even art films based on novels, despite the fact that an ordinary novel would take 5 to 10 hours to show on film, especially at the pace of art films.

I don’t know if it’s just me, but I’ve generally enjoyed “mega-novels” more than novels of ordinary length.  I just finished “1Q84,” which is now my favorite Murakami book.  In recent years I also read and greatly enjoyed mega-novels like 2666, The Man Without Qualities, and Lord of the Rings.  I still haven’t read many of the longer classics (War and Peace, The Brothers Karamazov, In Search of Lost Time, etc) but am told these are also outstanding novels.  Why aren’t there more long novels?  The only disappointing long novel that I ever finished was Phillip Pullman’s Golden Compass trilogy, and even that was pretty good until the third volume.

Maybe I’m attracted to books that allow me to escape into other realities.  It took me so long to finish 1Q84 that by the end I felt like I was partly inside Murakami’s imaginary world.  So much so that for days afterward I didn’t want to start a new novel, didn’t want to “break the spell.”  Does that mean long novels are trying to do something different?  I.e. short stories are incidents, novels are stories, and mega-novels are entire worlds.  Since most people have read Lord of the Rings, the easiest way to explain that difference would be to compare LOTR to The Hobbit, which is a much less “immersive” experience.

Most of the very long films I’ve seen are also excellent.  Indeed when films are lengthened, the extended version is often better (LOTR parts 1 and 2, The Godfather, etc.)  Only occasionally is it worse (Apocalypse Now.)  I once watched a 4 hour French film called La Belle Noiseuse, which was surprisingly engrossing, despite not having much plot.  Later I saw a two hour condensed version of the film, and it was rather boring, seeming to drag on forever.  Colin Marshall expresses a similar view, even without having seen the shorter version:

I submit to you that, while some stories are indeed best told in 90- to 120-ish-minutes, most others, by pure logic of probability “” are not. I submit that some material is only cinematically realizable in 61 minutes, or in 773 minutes, or, indeed, in 237 minutes. La Belle Noiseuse “” also available in a 125-minute cut called La Belle Noiseuse: Divertimento which is by all accounts nothing more than a two-hour trailer for The Real Deal “” wouldn’t have worked if substantially shorter, nor would it have worked if substantially longer.

Next month I hope to see the highly-praised film Satantango when it shows at Harvard.  It takes place in a dreary Eastern European village full of rain and mud, with long tracking shots where almost nothing happens.  How could such a “boring” film be that good?  Simple, it’s 7 hours and 15 minutes long.  At that length I’m expecting the greatest film of all time.

And Susan Sontag, who saw it 15 times, seems to agree.  She called it:

Devastating, enthralling for every minute of its seven hours. I’d be glad to see it every year for the rest of my life.

She had much better taste, so I suspect once will be enough for me.

I hope Lars Christensen doesn’t mind me plagiarizing his recent post on NGDP targeting.  Lars provides the abstract from a new paper by Josh Hendrickson, which is published in the Journal of Macroeconomics:

The Great Moderation is often characterized by the decline in the variability of output and inflation from earlier periods. While a multitude of explanations for the Great Moderation exist, notable research has focused on the role of monetary policy. Specifically, early evidence suggested that this increased stability is the result of monetary policy that responded much more strongly to realized inflation. Recent evidence casts doubt on this change in monetary policy. An alternative hypothesis is that the change in monetary policy was the result of a change in doctrine; specifically the rejection of the view that inflation was largely a cost-push phenomenon. As a result, this alternative hypothesis suggests that the change in monetary policy beginning in 1979 is reflected in the Federal Reserve’s response to expectations of nominal income growth rather than realized inflation as previously argued. I provide evidence for this hypothesis by estimating the parameters of a monetary policy rule in which policy adjusts to forecasts of nominal GDP for the pre- and post-Volcker eras. Finally, I embed the rule in two dynamic stochastic general equilibrium models with gradual price adjustment to determine whether the overhaul of doctrine can explain the reduction in the volatility of inflation and the output gap.

You might wonder how Josh can claim the Fed was implicitly targeting NGDP, after all, don’t they claim to be targeting inflation?  Lars also provides this Greenspan quotation from 1992:

As I read it, there is no debate within this Committee to abandon our view that a non-inflationary environment is best for this country over the longer term. Everything else, once we’ve said that, becomes technical questions. I would say in that context that on the basis of the studies, we have seen that to drive nominal GDP, let’s assume at 4-1/2 percent, in our old philosophy we would have said that [requires] a 4-1/2 percent growth in M2. In today’s analysis, we would say it’s significantly less than that. I’m basically arguing that we are really in a sense using [unintelligible] a nominal GDP goal of which the money supply relationships are technical mechanisms to achieve that.

The actual growth in NGDP between 1990 and 2008 was just over 5%, only slightly above the 4.5% figure.  And NGDP never strayed very fall from that 5% trend line.

That is, until late 2008.  .  .  .

Getting the Fed to consider (return to?) NGDP targeting no longer seems quite so far-fetched.

I’m glad to see that younger market monetarists like Josh Hendrickson and David Beckworth are good at the sort of technical research that journals like these days.  Their publications are really going to help put market monetarism on the academic map.

PS.  CNBC just included this blog in it’s rankings of best alternative financial blogs.

PPS.  A new study shows that this blog has the most concise message:  “NGDP targeting.”  This just edges out Mark Perry’s three word message over at Carpe Diem (“drill baby, drill!”)  I’m worried that Mark might reduce his message to one word, to try to beat me out (Drill!)  If so, I’ll make my message one letter shorter than his; NGDP!  I won’t allow any others blogs to out-concise this blog.  If necessary, I might even have to resort to:  MV!

HT:  Tom Grey, Benjamin Cole

This post will seem more disrespectful to George Soros than it actually is.  As the following quotation shows, Soros correctly diagnoses the problem and comes very close to nailing the solution:

To be a little more specific, let me suggest the outlines of a European solution to the euro crisis. It involves a delicate two-phase maneuver, similar to the one that got us out of the crash of 2008. When a car is skidding, you first have to turn the steering wheel in the direction of the skid, and only after you have regained control can you correct your direction. In this case, you must first impose strict fiscal discipline on the deficit countries and encourage structural reforms; but then you must find some stimulus to get you out of the deflationary vicious circle””because structural reforms alone will not do it. The stimulus will have to come from the European Union and it will have to be guaranteed jointly and severally. It is likely to involve eurobonds in one guise or another. It is important, however, to spell out the solution in advance. Without a clear game plan Europe will remain mired in a larger vicious circle in which economic decline and political disintegration mutually reinforce each other.

Here’s what Soros is right about:

1.  He’s right that countries like Greece must tighten fiscal policy as they are running out of investors willing to lend them money and not be repaid.

2.  He’s right that the eurozone desperately needs stimulus.

What’s the obvious solution?  They need tighter fiscal policy in the periphery and strong monetary stimulus from the ECB to sharply raise NGDP growth in Europe.  But there is no mention of monetary policy at all.  And yet his diagnosis virtually cries out for a market monetarist solution.

Instead Soros seems to imply the deus ex machina of eurobonds saving the day.  But countries like Germany will rightly see that as a move toward fiscal union, a way to get them to pay for the economic policy mistakes of the poorer regions.  Read the following facts and tell me how likely this is to work:

1.  One of the major parties in Italy’s governing coalition is the Northern League.  Their support is largely based on resentment against the way the north of Italy has to pay taxes to subsidize the south.  Some want to secede.  Even though southerners are fellow Italians.  In contrast, the US has no major political movement to split the country along regional lines.  The US fiscal union is not a model for Europe.

2.  Southern Italy isn’t the only fiscal burden, the same is true of Greece, Andalucia, and Portugal.  Even worse, their problems are not due to something like the legacy of slavery, or the mistreatment of native Americans, which makes at least some Americans have a sense of obligation to lower income ethic groups.

3.  If there really were a fiscal union, the regions I mentioned would not be first in line, as many parts of Eastern Europe are much poorer.  They’re not all in the euro yet, but they are moving in that direction.  So add big subsidies to Eastern Europe on top of those to the southern periphery.

4.  West Germany recently spent an enormous amount of money bailing out a very small country called East Germany.  Even though East Germans are the same culture, and even though ethic ties count for a lot in Germany (as compared to say France), the West Germans were resentful of the amount of money they had to spend.

5.  West Germany is not a rich country.  Its income per capita (PPP) isn’t much different from poor American states like Alabama or Arkansas.

Given those facts, how many people believe fiscal union is a feasible long term policy response to the failures of the eurozone?  Why would Germany and Finland and the Netherlands and Austria agree to this sort of new regime?  Will Germans get to vote on boondoggle public spending projects in Sicily?

I’m under no illusion that NGDP targeting is on the immediate agenda for the ECB.  But if we keep pushing these ideas it’s possible to at least imagine a change of heart, where the Germans (correctly) realize that NGDP targeting, eurozone breakup, and fiscal union are the three alternatives, and NGDP targeting is the lesser of evils.  Fiscal union?  I just can’t see how it can work.  I don’t know why Soros doesn’t see that as well.

PS.  I’m not saying the north won’t end up providing a partial bailout this time.  I’m saying they’ll be very reluctant to make that the new fiscal regime for Europe.  Does Europe want to move to a permanent state of fiscal crisis?

Which one doesn’t belong?

Hint: Who’s not connected to any of the others?

Is that it?  A two sentence article?

PS.  As of today the Federal tax rate on Treasury securities is over 100%.  That’s for all Treasury securities—maturities from 3 month to 30 years.  Conventional and indexed.  Tax rates on many corporate bonds also exceed 100%.  Taxes on stocks are also higher than the number you see quoted by certain progressive Nobel Prize-winning bloggers.  In other words, the entire “inequality debate” is being fought using essentially meaningless tax data.  (The reason is that the tax on nominal interest income now exceeds the real interest rate.)

PPS.  Warren Buffett’s proposal for much higher taxes on the rich would not impact him, unless he dramatically changed his lifestyle and started selling stock to buy fancy mansions, yachts, etc.  How do we know this?  Because his proposal to raise taxes would only apply to 0.9% of his total income.  The other 99.1% of his income would not be affected.  Buffett seems like a great guy, but his tax proposal is aimed at other billionaires, not him.