Archive for June 2012


Anna Schwartz and Andrew Sarris, RIP

Two people just passed away who had a big impact on my worldview.

Anna Schwartz co-authored with Milton Friedman The Monetary History of the US:  1867-1960.   I bought the book when I was a teenager, and have read it many times (although I don’t recall ever finishing it.)  It’s almost certainly the most influential book on macro history ever written, and I view it as a model of how to do research in economic history.  The footnotes alone are better than most books.  That’s not to say there aren’t any flaws—I studied the role of gold in the Great Depression partly because I felt they paid too little attention to that issue.

You’d think that younger researchers would try to emulate Friedman and Schwartz, but I don’t see many doing that.  Instead, much more technically sophisticated studies get done, but for some odd reason people don’t find them anywhere near as persuasive as the Monetary History.  I recall Robert Lucas telling our class that the Monetary History was what convinced him that monetary shocks were the primary cause of business cycles.  I’m pretty sure Bernanke feels the same way.

Co-incidently, Anna Schwartz was the referee when I sent my Depression manuscript to Cambridge University Press many years ago.

When I was at the University of Chicago I saw a lot of films—particularly in my second and third years, when my studying slacked off.  I recall that a film pass for 80 films cost $8 from Doc films—Law school films were more expensive, maybe a dollar a film.  I had almost no money and no social life (and no TV) back then, so it was cheap entertainment.  The 80 would be shown in a single quarter–three months.  Sometimes I saw a film almost every night of the week, mostly old American films, but some foreign films as well.

I recall once when they showed “Strangers on a Train” they had Andrew Sarris speak to the audience after the film was over.  He asked what happened right after the shoes of the two characters touched while sitting on the train.  I looked around the big auditorium, wondering why no one was raising their hand.  Normally I don’t speak out in those situations, but I finally raised my hand and pointed out that the next scene was the train switching onto a sidetrack, viewed from the front of the train.  Then there was a bit of discussion of the symbolism.

At some point I realized that I watch films and other people listen to them, or more accurately listen to the dialogue and watch the acting.  For me, film is a series of visual images.  As I got older I began to enjoy those “boring” European and Asian art films, the ones with almost no dialogue or plot.

Sarris popularized the “auteur” theory in America.  I suppose that appeals more to people like me, who see the art of film in terms of a series of visual images.  Those who like good acting and dialogue would naturally see film as more of a collaborative venture, not something produced by a single author.  And even I sometimes wonder whether the auteur approach overlooks great cinematographers like Christopher Doyle.

Of course there’s no right or wrong answer here, it all depends on how your brain is wired.

Update:  Lars Christensen has a nice obituary for Anna Schwartz.

A German economist endorses NGDP targeting

This is from Daniel Pfaendler:

Personally, I would favour a combination of the above: much more measures to increase trend growth across the Eurozone (also in Germany), a substantially easier monetary policy stance (rate cut, buying of government bonds via the ECB without rendering them senior to outstanding govies) coupled with a move to nominal GDP targeting. Furthermore, this policy mix should be accompanied by a mild form of financial repression to secure demand for government debt and a move towards an ERF.

As a second best solution, the northern European countries (Germany, Netherlands, Luxembourg, France, Austria, Finland, Slovakia) could together leave the Eurozone and form a Northern Eurozone, essentially splitting the currency area into two.

HT:  123

The China Boomlet: A fable

I’m not very good at writing fiction, so I just sketch this out and let a modern-day Bastiat produce the finished product:

Imagine the 1.4 billion Chinese suddenly develop an insatiable desire to buy American products.  It doesn’t matter why.  Perhaps the CIA develops a technique of mass-hypnosis over the internet.  Or maybe James Cameron produces an insanely popular film that portrays American culture in a flattering light.

The Chinese totally lose interest in German cars, and start snapping up Chevys and Fords.  They all want to take vacations in our national parks, Disney World and big cities like New York, Washington and  San Francisco.  The buy up condos in Florida and Vegas.  They replace their tile floors with carpets from Georgia, and their Haier white goods with washers and dryers from the Midwest.  They start wearing American Apparel made in LA.  RVs become trendy.  They drop Chinese cigarette brands and start smoking Marlboros.  No more Airbus planes—it’s all Boeing from now on.

Before continuing the fable let’s think about whether this surge in Chinese demand would help the US economy right now, in 2012.  I’m particularly interested in what the following groups would think.  Would it be seen as “good news” for the economy?

1.  What would average Americans think?

2.  What would Democratic politicians think?

3.  What would Republican politicians think?

4.  What would economists think?

5.  What would journalists think?

6.  What would labor unions think?

7.  What would corporations think?

Here’s my claim:  They’d all be thrilled by this China boomlet.  But it turns out that it is surprisingly difficult to explain why they be thrilled.  Or perhaps I should say it’s easy to explain why, but the explanation conflicts with their views in other areas.

Economists like to differentiate between supply shocks and demand shocks.  A demand shock does not actually increase the economy’s ability to produce output.  It doesn’t create more capital or land, or more workers.  It doesn’t make our workers more skilled or our technology better.  Our ability to produce is not directly affected.  Rather, it creates more nominal demand for our given productive capacity.  Whether that actually leads to more output depends on the slope of the SRAS and LRAS curves.

And here’s what’s so interesting about my imaginary Chinese boomlet—it’s a 100% demand side shock to the economy!  So let’s assume that most people think it would help the economy.  That means they should feel the same way about monetary stimulus, which would have the same first-order effect.  Monetary stimulus would also boost AD.  Monetary stimulus would also fail to boost SRAS.  (Both the China boomlet and monetary stimulus might have an indirect effect on LRAS, depending on your assumptions.)

Now let’s go a step further.  After six months of flat out boom, the US unemployment rate has plunged from 8.2% to 6.4%, and it’s still falling.  Congress has repealed the extended UI insurance scheme.  The budget deficit is falling fast, without tax increases.  State and local governments are rehiring laid of teachers and policemen.  Housing begins recovering.  But some researchers at the Fed suddenly realize that this boom is all AD-driven, and hence is undercutting Fed policy.  The Fed had preferred a recovery where NGDP grew at 4.3% a year, to prevent overheating and inflation.  But NGDP has been rising at 9.4% for the last 6 months.  The Fed decides to raise interest rates enough so that year over year NGDP growth between 2012 and 2013 is expected to be 4.3%.  It turns out that requires a fed funds target of 11.75%.  The Fed does it anyway, and the boomlet collapses.

How would the public feel about the Fed’s action?  How would you feel about the Fed’s action?

Long time readers know where I am going with this.  The hypothetical Fed action I describe, which kills the recovery, is actually current Fed policy.  The Fed is very, very, very, very lucky that almost nobody realizes this.  The market monetarists realize what the Fed is doing.  So do Krugman/DeLong/Duy/Avent/Yglesias and a few others.  Unfortunately, a pretty small percentage of the 310,000,000 people in this country realize that the Fed could almost exactly  replicate the effects of this China boomlet with the mere flip of the switch.  But like that character in the old Melville tale, Bartleby the Scrivener, for some obscure reason they “would prefer not to.”

PS.  I do admit that the Fed would probably decide against killing this boom, and that this conflicts with the “Sumner Critique.”  I’ve always agreed that massive fiscal stimulus (such as WWII) would boost NGDP.  My argument has been that fiscal tweaking in the range where the Fed does more or less unconventional stimulus is likely to be relatively ineffective.  If it gets to the point where the Fed would have to raise rates, and those 310,000,000 Americans clearly see what is going on, then yes, the Sumner critique might break down.

PPS.  OK, maybe GOP politicians wouldn’t be thrilled by the boomlet, but they would be if the held the Presidency.

What the press should ask Bernanke

Tim Duy has a new post showing the shocking deterioration in the Fed’s forecast for 2012 and 2013, and asks why this wasn’t enough for QE3.  Evan Soltas points out that market inflation forecasts have fallen even faster.  And Paul Krugman expresses the appropriate moral outrage:

The intimidated Fed: The minimal action “” extending Operation Twist “” wasn’t just inadequate, it was shameful. The Fed has a dual mandate, employment and price stability. Its own projections show high unemployment persisting for years and years, inflation running below its target “” and realistically its inflation projections are too high while its unemployment projections are too low. There is no rational argument I can see for not going all out with monetary stimulus.

But what we actually got was action that was pretty obviously calculated to be the absolute least the Fed could do without generating headlines saying “Fed ignores weak economy”.

I’m sorry, but this looks like pure concession to political intimidation “” a Fed refusing to do anything that would let Republicans accuse it of helping Obama. And for the sake of its own political comfort, the Fed is essentially betraying the unemployed.

All in all, the degree of elite failure in this crisis is just stunning.

I’m not sure it’s all attributable to corruption or cowardice; there also seems to be a lot of cluelessness going around.  A reader sent me an email he received from a former Fed official:

Well, my view is that we don’t need more easing. I don’t think that is the problem at the moment. The role of the Fed (and any central bank) is to promote conditions that can lead to growth. They are there to be a lender of last resort, which they have done admirably. I think the easing talk is a disservice. I think it is important to calm the markets for sure. I mean…

[Then he provides some graphs showing near zero rates and a big monetary base—the sort of data that is consistent with ultra-tight monetary policy in 2008 driving NGDP sharply lower and thus leading to low nominal rates and a big demand for ERs.]

That quotation could have come almost word for word from a Fed official during the Great Depression, when lender of last resort really was their role.  In that case we were still under gold standard, and the Fed had limited ability to steer the nominal economy.  A fiat money regime doesn’t “take care of itself”.  The Fed has to steer some sort of nominal aggregate all the time.  Yes, the Fed can’t magically produce RGDP growth.  We have to hope that other policymakers adopt a regime that’s closer to that of South Korea than North Korea.  But as we saw in 1929-33, it can come close to destroying an otherwise relatively free market regime (and no, Hoover’s foolish interventionist policies don’t even come close to explaining the Great Depression, they were trivial compared to the intervention in a modern economy (such as the booming 1960s.)

Bernanke likes to say monetary policy is “not a panacea.”  In one sense that’s true, but it most certainly is a panacea for inadequate NGDP growth, and all the associated problems that flow from inadequate NGDP, such as above natural rate unemployment and that part of financial/banking distress that flows from falling nominal incomes.

Bernanke has become skilled at evading the question of why the Fed doesn’t do more, when their projections clearly call for additional stimulus.  So here’s what I’d ask him at the next press conference:

Mr. Bernanke:  In 2003 you said that neither the money supply nor interest rates were reliable indicators of the stance of monetary policy, and that only nominal GDP and inflation were good indicators of whether policy is easy or tight.  Given that both of these variables have grown at unusually low rates since 2008, would you say that monetary policy has actually been relatively contractionary over the past four years?  If not, what indicators would tell you that it has been highly accommodative?

[Predicted answer:  “Again, no one can deny the Fed has taken many extraordinary steps . . . ]

I’d also like to hear from researchers at the Fed (anonymously if you prefer) as to whether working there makes one gradually begin to see vague “costs and risks” of unconventional policy like QE as being more worrisome than the very real suffering of millions of unemployed.

PS.  God knows when I’ll get to the comments.

When they can spell my name, I’ll know I’ve arrived

Ramesh Ponnuru sent me this article from Time:

Indeed, Ponnuru and Beckworth aren’t the only conservative proponents of this policy. The most vocal supporter of NGDP targeting, Scot Sumner, is also a conservative, and Mitt Romney economic advisor Greg Mankiw wrote a paper in the 1990s extolling the virtues of targeting nominal GDP.

Not everybody in on the right would be keen on this kind of regime, however. In the past couple of years some factions within the Republican Party, led by Ron Paul, have veered increasingly towards the Austrian school of economics, which is highly skeptical of central bank meddling in the economy and of governmental stimulus of any kind. This cycle’s Republican presidential primary was rife with tough words for Ben Bernanke’s unconventional policies, and Mitt Romney himself has opposed further quantitative easing from the Fed.

Of course, if Ben Bernanke and the rest of the Fed aren’t on board, it doesn’t matter what politicians think. And up to this point, Bernanke has resisted expanding the Fed’s balance sheet further – which would be the whole point, in the short run, to switching to NGDP targeting.

A couple quibbles. 

1.  I don’t really consider myself a conservative, as I’m more libertarian on non-economic issues.  But if I was a reporter I might use the term anyway, as it’s more recognizable to most readers. 

2.  The whole point of NGDP targeting, level targeting, is to reduce the demand for base money so that the Fed doesn’t have to increase the base (or at least as much as otherwise.)  But that’s also a minor quibble, as readers of Time aren’t going to understand all the bizarre counter-intuitive aspects of monetary theory at the zero bound. 

3.  It would be more accurate to say “Romney supports QE, but says he opposes it so that he can win the Ron Paul supporters in the general election.”  Market monetarist policies would help tens of millions of Americans (including me), but unlike the Austrians, market monetarist can’t deliver any votes in November.
The article also quotes Ezra Klein:

A scary interpretation of Bernanke’s position is that he doesn’t believe the Fed could do much more to help the economy, but he doesn’t want the market to know that, and so he keeps not doing more but telling the markets he could do more if he wanted to.

I get frustrated with this view although I understand it’s widespread.  I’ve followed Bernanke’s research for decades, and I know exactly how he thinks about this issue.  And I’m telling you there is ZERO chance that Bernanke believes the Fed is out of ammo.  I don’t even think he believes they are out of “semi-conventional” ammo, like QE.  And he certainly believes less conventional options like a higher inflation target would work, albeit too well in his view.
Steve Chapman of the Chicago Tribune has an excellent article.

Inflation hawks have been predicting a severe outbreak for years. But David Henderson, an economist at Stanford University’s Hoover Institution and the Naval Postgraduate School, has been skeptical enough to put his money where his mouth is.

In December 2009, he publicly bet economist Robert Murphy of the Pacific Research Institute $500 that by January 2013, there would not be a single point at which the CPI would be up 10 percent or more from a year before. So far, it hasn’t been, and it shows no sign it will.

Another economist who thinks inflation is the least of our worries is Scott Sumner of Bentley University in Massachusetts. He says the increase in the money supply has not unleashed inflation because the demand for dollars has risen as well.

When banks or individuals hold on to cash, he notes, the effect is the same as if the Fed were shrinking the money supply. By refusing to spend or invest, they stifle economic activity.

That effect is apparent in the slowing of the economy, which was not exactly galloping to start with. Job growth is on a glacial pace. Three years after the recession officially ended, we have 5 million fewer jobs than we had before it began.

The Fed’s past quantitative easing programs have helped, but they haven’t been big enough or lasted long enough. Sumner argues that the central bank should commit to sticking with the tactic as long as it takes to get growth back to a healthy pace “” backing off only if there are signs that inflation is likely to rise significantly.

Of course I’d prefer my argument be stated in terms of NGDP, but in this case I won’t quibble at all, for two reasons:

1.  Chapman was nice enough to send me the quote for comment, and I realized it would be more understandable to the general newspaper reader if I stayed away from NGDP.

2.  He titled his article:  “Strangled by tight money: Inflation is the least of our worries”

Tight money!!!  That’s a breakthrough.  I had completely given up on the idea of ever convincing my fellow economists that money has been tight over the last 4 years, although it is even using Ben Bernanke’s own criteria.  I had even less hope for convincing the press.  I can just see some conservative Austrian-type who works in the financial industry spitting out his coffee when he reads that headline in the morning.  Thank you Steve Chapman.

And here’s Catherine Hollander writing in National Journal:

The Federal Reserve has a two-pronged mandate to promote price stability and maximum employment. “Part of having a dual mandate is, you can be criticized on both sides for losing the inflation goal or falling short of the employment objective,” said Vincent Reinhart, Morgan Stanley’s chief U.S. economist and a former head of the Fed’s monetary division. “We’re hearing it on the one side even though we don’t have a lot of evidence of inflation taking off. But we’re not hearing on the other side, even though the unemployment is well above the Fed’s estimate of the natural rate.”

So, why are the inflation hawks the loudest? There are a few theories.

One is a difference in economic thought. Scott Sumner, an economist at Bentley University who has urged the Fed to be more aggressive, says if you consider monetary policy through the lens of interest rates, as he believes Democrats tend to do, then you probably don’t think the central bank can do much more; interest rates are already at rock-bottom levels.

If you focus on the money supply side of monetary policy, however, as Republicans do, you will be concerned that future easing will cause inflation to soar. The reality, of course, is between the two: The Federal Reserve’s actions affect interest rates as well as the money supply.

Reinhart’s right that the Dems have been silent on the need for monetary stimulus.  In early 2009 I wrote an open letter to Paul Krugman practically begging the left to get on board the crusade for monetary stimulus, but he brushed me away.  Now I fear it’s too late. 

The National Journal article is behind the paywall.  It’s entitled “Silence From the Left as Fed Mulls Choices.”