I think so, but I’d like to be fair to the other side of the debate.  Commenter Sean recently pointed me toward this interesting article:

It addressed the question of why, while the budget deficit in the coalition’s first two years came down in line with its June 2010 forecast, growth has fallen well short. Compared with a prediction that GDP would rise by 5.7% between mid-2010 and mid-2012, it only increased by 0.9%.

Where did the growth go? The biggest reason identified by the OBR is one frequently noted here. High inflation has eaten into real, or inflation-adjusted, consumer spending. Interestingly, consumers have been spending; the OBR’s forecast of a cash spending rise of 9.3% over two years was spot on. But it was eaten up by higher prices, leaving no room for “real” growth.

The other weak components of GDP were business investment, which the OBR attributes mainly to eurozone uncertainty and lack of credit, and exports, or net trade, similarly affected by eurozone woes.

Did it not allow enough for the impact of the fiscal tightening? Possibly, though any such effect is balanced by the fact that government spending so far has been significantly stronger than it expected.

The other useful report was from the ONS. To coincide with a seminar it held in Westminster on the great productivity conundrum – why has employment been so strong when GDP has been so weak? – it published a paper by Peter Patterson, its deputy chief economist.

Productivity is not the same as growth, though it is a key driver of it. It measures output per worker or output per hour. According to the latter, productivity was growing 2.4% a year in the decade or so before the crisis but has barely grown – a mere 0.2% a year – since mid-2009. An economy that does not generate productivity growth is in trouble.

Though most sectors of the economy are suffering from weaker productivity growth, two stand out. One is North Sea oil and gas, where output per hour has dropped more than 40% in five years.

The other is financial services, where productivity was growing by more than 4% a year, but in the past three years has been falling nearly 3% annually, as its output has plunged. Just these two sectors provide much of the explanation for the very weak productivity numbers.

If oil and finance explain “much” of the productivity shortfall, then ipso facto they explain “much” of the RGDP shortfall.  And RGDP is the statistic that Keynesians point to in order to show that expansionary austerity has failed in Britain.  In the US they like to point to the employment to population ratio, but that variable is doing very well in Britain, especially compared to the US.

Where am I in this debate?  Somewhere in the middle:

1.  Expansionary austerity would have worked if the BOE had kept NGDP growing at a brisk rate.  I blame the BOE for the slow recovery, and I blame Cameron and Osborne for not asking the BOE to adopt a more robust NGDP target, as their Business Minister Vince Cable recommended (partly due to the influence of us market monetarists.)

2.  However I don’t think expansionary austerity failed anywhere near as badly as the Keynesians assume.  Keynesian stimulus is aimed at fixing output shortfalls caused by mass (involuntary) unemployment, not those caused by declining oil and gas output in the North Sea, or declining (measured) real output generated by a handful of financiers dressed in Savile Row suits.  (Whether this measured “output” was real is an interesting question, but has no bearing on this post.  It was measured.)

3.  I believe Britain’s labor market is doing better than the RGDP numbers show, and worse than the employment to population numbers show.  I think the unemployment rate gets it about right.  Up from 5.5% at the peak of the boom, to the high sevens today.  That’s actually not as big an increase as in the US, but it still suggests there’s some slack, and that stronger NGDP growth would have been helpful.

4.  Due to the huge increase in the UK government sector during the first 10 years of this millennium, it’s possible the natural rate of unemployment in Britain has risen.  I still think they have slack, but I have less confidence in my views on Britain than the US.  I’d recommend that people look at Britmouse’s excellent blog; he recently did a wonderful post using Maradona as a metaphor for what Nick Rowe calls the Chuck Norris effect.

Update:  That Maradona metaphor was actually from Mervyn King.

PS.  One can regard both North Sea oil and super high incomes in the City as a sort of manna from heaven.  I sucks when the manna stops falling.

Here’s Alex Tabarrok:

I just returned from a trip to South Korea. Today, to prepare for the next trip, I took my jacket to the dry cleaners. Turning the pockets out, I discovered a substantial number of South Korean won. The transaction costs of exchanging the won for dollars are now very high. I will keep the won as souvenirs.

Question: What are the consequences of my decision for the South Korean economy? Answer in the style of a well-known economist. What would Scott Sumner say? (almost too easy!) What about Keynes? Krugman? Cowen? Prescott?

I presume the South Korean central bank is targeting some set of macro variables, probably including interest rates, inflation and exchange rates.  If so, Alex’s currency hoarding will have no impact on Korea’s NGDP, as the central bank will simply accommodate the extra demand for currency, just as the Fed accommodated the surge in foreign demand for US currency during recent decades.

If the currency is held for 10 or 20 years, then returned to Korea, it will represent an interest free loan to the Korean people.  If it is handed down though generations, and eventually lost or made obsolete by new currency, then Alex’s hoarding would be a gift to the Korean people.

I’d like to think that the other 4 economists would answer this the same way, as I can’t imagine any other plausible answer.  But perhaps I’m missing something.

PS.  In the preceding post Tyler Cowen discusses a study of the British labor market:

2008 and after: -8.5%

That measure of wage decline is from John van Reenen (pdf, useful powerpoints on UK productivity), citing Martin and Rowthorn (2012).

Now I am all for the UK trying ngdp targeting, or for that matter well-targeted fiscal policy, or both.  I never favored their *tax increases*, often misleadingly labeled “austerity” for political reasons.

I would, however, like to get a handle on Keynesian thinking here and thus the questionnaire aspect of this post.  In the traditional Keynesian story, stimulus lowers real wages through nominal reflation.  Is that the Keynesian view here?  If so, why do Keynesians believe that British real wages need to fall more than 8.5%  Why did they need to fall 8.5% to begin with?

The data provided in the study are weekly wages including bonuses (remember the City of London has highly volatile bonuses.)  But the Keynesian sticky-wage model (a model I don’t accept) predicts that hourly real wages will rise in a demand-side recession.  Because hours worked per week might fall in a recession, there is no prediction for weekly real wages.  I don’t have the hours worked data in front of me, but I’ve read that part time work has recently soared in the UK.  Perhaps someone can find the data.  Certainly the 8.5% figure is fishy, as inflation is little more than 8.5% since 2008, and I’m sure British hourly wages have risen substantially since 2008.

One other point.  A few days ago Tyler pointed to data showing a huge drop in the US employment to population ratio.  I suggested that this data was unreliable.  But let’s suppose that Tyler is right, and the ratio does tell us something about labor market health.  It’s worth noting that this ratio has been pretty stable in Britain, falling only one percentage point since early 2007.  And the paper Tyler cites here refers to the surprising health of the British labor market (which presumably relates to the same ratio.)  So although I wouldn’t make this argument, I suppose it could be argued that (if British real hourly wages did fall) it helped keep the British employment to population ratio at a relatively lofty level.

I’d argue something slightly different.  The increase in British part time work helps explain both mysteries; why real weekly wages did poorly, and why the employment to population ratio did well.  And I’d add that the study also shows an absolutely abysmal productivity decline in Britain, which is much different from the US.  Is that real or simply an artifact of measurement techniques?  I have no idea.  But either way it helps explain the GDP numbers.  Either GDP is higher than measured, or the productivity has fallen enough to explain the decline in hourly real wages (assuming they did decline.)  Hence there’s no mystery there.

PPS.  Has British oil production declined in recent years?  This might also play a tiny role in the mystery, as oil production is not very labor intensive, especially at the margin.  Ditto for high finance.

PPPS.  This is not to say that Tyler is wrong about Britain having structural issues.  I’ve often made the argument that supply-side problems are part of the British RGDP mystery.

When I was young the upper Midwest was full of idealistic Democratic senators; Gene McCarthy, Hubert Humphrey, George McGovern, and from my own state, Nelson and Proxmire.  Today that seems like a completely different world.

And let’s not even talk about how the GOP has changed.

McGovern had an interesting post-politics career:

In 1988, I invested most of the earnings from this lecture circuit acquiring the leasehold on Connecticut’s Stratford Inn. Hotels, inns and restaurants have always held a special fascination for me. The Stratford Inn promised the realization of a longtime dream to own a combination hotel, restaurant and public conference facility — complete with an experienced manager and staff.

In retrospect, I wish I had known more about the hazards and difficulties of such a business, especially during a recession of the kind that hit New England just as I was acquiring the inn’s 43-year leasehold. I also wish that during the years I was in public office, I had had this firsthand experience about the difficulties business people face every day. That knowledge would have made me a better U.S. senator and a more understanding presidential contender.

Today we are much closer to a general acknowledgment that government must encourage business to expand and grow. Bill Clinton, Paul Tsongas, Bob Kerrey and others have, I believe, changed the debate of our party. We intuitively know that to create job opportunities we need entrepreneurs who will risk their capital against an expected payoff. Too often, however, public policy does not consider whether we are choking off those opportunities.

My own business perspective has been limited to that small hotel and restaurant in Stratford, Conn., with an especially difficult lease and a severe recession. But my business associates and I also lived with federal, state and local rules that were all passed with the objective of helping employees, protecting the environment, raising tax dollars for schools, protecting our customers from fire hazards, etc. While I never have doubted the worthiness of any of these goals, the concept that most often eludes legislators is: “Can we make consumers pay the higher prices for the increased operating costs that accompany public regulation and government reporting requirements with reams of red tape.” It is a simple concern that is nonetheless often ignored by legislators.

For example, the papers today are filled with stories about businesses dropping health coverage for employees. We provided a substantial package for our staff at the Stratford Inn. However, were we operating today, those costs would exceed $150,000 a year for health care on top of salaries and other benefits. There would have been no reasonable way for us to absorb or pass on these costs.

Some of the escalation in the cost of health care is attributed to patients suing doctors. While one cannot assess the merit of all these claims, I’ve also witnessed firsthand the explosion in blame-shifting and scapegoating for every negative experience in life.

Today, despite bankruptcy, we are still dealing with litigation from individuals who fell in or near our restaurant. Despite these injuries, not every misstep is the fault of someone else. Not every such incident should be viewed as a lawsuit instead of an unfortunate accident. And while the business owner may prevail in the end, the endless exposure to frivolous claims and high legal fees is frightening.

.   .   .

In short, “one-size-fits-all” rules for business ignore the reality of the marketplace. And setting thresholds for regulatory guidelines at artificial levels — e.g., 50 employees or more, $500,000 in sales — takes no account of other realities, such as profit margins, labor intensive vs. capital intensive businesses, and local market economics.

The problem we face as legislators is: Where do we set the bar so that it is not too high to clear? I don’t have the answer. I do know that we need to start raising these questions more often.

Mr. McGovern, the 1972 Democratic presidential candidate, died Sunday at age 90.

In 1972 one of the most decent men to ever run for president of the US ran against one of the least decent.  The fact that I had a rather low opinion of McGovern at the time tells you much more about my flaws than his.

The central bank has three options if the economy is at the zero bound, and is also likely to stay there if the central bank maintains its current inflation target:

1.  The Chuck Norris approach; buy up as many assets as it takes to hit the expected inflation target.  They can also reduce IOR if they don’t want to buy so many assets.

2.  Set a higher inflation target, or switch to price level targeting, or switch to NGDP level targeting.  All of these options effectively raise the short term inflation target, but they don’t necessarily affect the long run rate of inflation.  This will allow the central bank to boost NGDP and simultaneously reduce the base.

Most modern central banks say options one and two are out of the question.  One is too risky and two would lead to a loss of policy credibility.  That leaves option three:

3.  Abject failure.

Note that option 3 is actually far more costly and risky than option one, and entails an even greater loss of credibility than option two.

I’ve recently read dozens of articles attached to student essays, written by both economists and journalists.  The vast majority can be boiled down to the claim that if the Fed follows policy option three, abject failure, it is unlikely to succeed.  You don’t say!

BTW,  Readers may have assumed that this post applies to the current situation in the US.  That’s not at all clear to me.  It might apply, but I’m not certain.  The Fed has a dual mandate; it’s not a pure inflation targeter.  Thus it’s not obvious that the zero bound is actually what’s inhibiting Fed policy, one could argue that it is a reluctance to take the employment half of the mandate seriously.  After all, on several occasions they backed off of QE because inflation was too high.  Thus it’s not clear that the Fed would have to buy more assets to hit its Congressionally-given mandate.  It might merely need to announce that it intends to do so.

On the other hand it’s certainly possible that it would have to buy more assets.

This isn’t a rhetorical question, I’d really like to know.  Here’s what we do know:

1.  Standard macro theory say that the fiscal multiplier (from the demand-side) is zero whenever a central bank targets inflation.  Even Paul Krugman is careful to point out that the argument for fiscal stimulus only makes sense when at the zero bound.

2.  Most textbooks tell students that modern central banks target inflation.

3.  Most textbooks tell their students that fiscal stimulus is effective, and don’t put in any qualifiers about whether the central bank is targeting inflation.

4.  Most economists who talk about fiscal stimulus in the press seem to assume that economic theory predicts it’s effective whether you are at the zero bound or not.  So that’s my question; where do economists get this idea?  I know where I got the idea, I was taught the crude Keynesian fiscal stimulus model in college. But I later unlearned it.  Is it possible that most economists learned the model just as I did, and never unlearned it?

Here’s an article that Saturos sent me, but there are 1000 others just like it, so I’m not trying to single out Laura Tyson and Owen Zidar—they are clearly in the majority.

BTW, notice that if you eyeball the graph showing demand-side tax cuts work, the downward sloping line seems to almost completely disappear if you remove a single observation (2008)?