Archive for March 2017


Does the Fed still matter?

I occasionally see articles suggesting that central banks no longer matter.  There are generally written by journalists who focus on financial markets.  Obviously monetary policy is always important, so what can these articles possibly mean?

In my view, what’s going on is that journalists occasionally notice that the markets have become indifferent to monetary policy decisions.  That’s likely to occur when it doesn’t make much difference whether the Fed changes its interest rate target (or QE target), or not.

A few years ago, markets reacted very strongly to rumors of a possible Fed rate increase.  That’s because NGDP was at a suboptimal level, and the Fed policy stance had been too contractionary for a number of years.  A rate increase would make the economy noticeably worse off than if the Fed refrained from increasing its fed funds target.  (Recall that the Fed uses the fed funds rate as a signal of easing and tightening of policy.)

In recent months the level of NGDP is close to the level that results in macroeconomic equilibrium (employment close to the natural rate and inflation expectations close to 2%.  Thus the market is relatively indifferent as to whether the Fed raises rates or not.  As a result, Fed related news doesn’t have much impact on asset prices.  But this doesn’t mean the Fed no longer matters, just that they are no longer the destabilizing force that they were during the 2008-15 period.

And that’s good news!

But don’t worry, they are bound to mess up again and some point, and then I’ll switch over from Trump bashing to Fed bashing.

PS.  I did a recent post on how the ECB may raise rates next year.  This article suggests that the BOJ may also pull back on its QE program, as inflation is rising in Japan.  (I think that would be a mistake, but the point is that it’s never been about being “out of ammo”, it’s always been a lack of desire to create faster NGDP growth.)

Our grandparents hold us in utter contempt

Most people are aware of the fact that present people (i.e. people alive now) hold former people in contempt (especially in Germany.)  In America we look down on our grandparents because of their unenlightened views on civil rights, women’s rights and gay rights.  It’s less well understood that our grandparents also hold us in contempt.  One of them even went to the trouble of warning us what could happen if we let go of our right to privacy.  George Orwell told us to never, never, never let the government monitor your activities while at home through TV sets with surveillance capabilities.  Serious, how hard is that to understand?

Apparent way too hard for the pathetic people of the 21st century:

FBI Director James Comey said “there is no such thing as absolute privacy in America,” during a cybersecurity conference at Boston College Wednesday.

His comments come after Wikileaks dumped a trove of CIA documents revealing various hacking tools the agency reportedly uses to gather data and intelligence, including turning smart devices, such as phones and TV’s, into surveillance devices. The data also revealed a special hacking division inside the CIA’s Center for Cyber Intelligence dedicated to developing and gathering flaws to manipulate iOS and Android devices.

Although Comey did not specifically mention Wikileaks’ recent release of alleged CIA documents, he did emphasize that absolute privacy is non-existent.

“We all value privacy. We all value security. We should never have to sacrifice one for the other,” said Comey after discussing the spike of encryption use since NSA contractor Edward Snowden revealed the agency’s spying practices in 2013.

So here’s what Comey is saying:

1.   We should never have to sacrifice privacy for security.

2.  Sometimes we should have to sacrifice privacy for security.

Orwell would be proud.

PS. On the bright side, millions of people are out in the streets right now protesting the arrival of “1984”.  Americans won’t go down without a fight!

PPS.  But heh, at least we absorbed our grandparent’s warning to never, never, never elect a populist demagogue who repeated engages in the Big Lie while demonizing minorities and foreigners.  Thank God we dodged that bullet!

About that eurozone “liquidity trap”

Just a year ago, Keynesians were telling us that the eurozone was stuck in a “liquidity trap” and that the ECB was “out of ammo”.  Instead, Europe needed fiscal stimulus.  Now markets are predicting that the ECB will raise rates within the next 12 months:

Screen Shot 2017-03-07 at 9.12.20 PMObviously if the eurozone actually were stuck in a “liquidity trap” then it would be absolutely insane to raise interest rates this year.

For years I’ve been arguing that the sluggish NGDP growth we see in many developed countries is due to contractionary monetary policies.  Central banks are perfectly capable of delivering faster NGDP growth, they simply don’t want to.

Prediction:  Even as the ECB raises rates, we’ll still hear from the usual suspects that “fiscal austerity” is the problem, even though the US has done just as much austerity over the past 5 years, if not more.

Suggestion:  Those who don’t think the supply side of the economy is important should take a look at Germany and Greece, both operating under the exact same monetary policy.


Rothwell on Autor, Dorn and Hanson

A number of people have asked me to comment on a new paper by Jonathan Rothwell, which criticizes a study by Autor, Dorn and Hanson (ADH) on the impact of Chinese imports on the US job market.

I conclude that the economic losses from trade are not as severe as the economics literature currently implies. Workers in the most import-exposed sectors face a risk of layoff and unemployment that is comparable to workers in other sectors, where competition comes almost exclusively from domestic businesses. While it is likely that less import competition would further lower the risk of displacement and boost wages for manufacturing workers, less competition would likely lead to a reduction in the ratio of product quality to price and a drop in consumer welfare. I accept the Autor et al. (2014) finding that import competition lowers wages for U.S. workers in the affected industries — but even still, I find that workers in the manufacturing sector continue to earn a sizable wage premium compared to those with similar experience and education levels in other sectors.

At the community level, these results should not be taken to mean that de-industrialization has been harmless to individuals or even communities. Rather, the results imply that deindustrialization as a result of Chinese import competition plays out no differently than deindustrialization as a result of other forces — such as domestic competition or technological change. Communities relying more heavily on industries facing import competition perform no  worse in this study on summary measures of economic development and consistently show higher growth rates in establishments. They seem to find ways to adapt, maintain wage growth and launch new enterprises.

That’s what I would have expected.  Not surprisingly, Autor, Dorn and Hanson contest Rothwell’s study.

Regardless of whether Rothwell is right or wrong, the press has done an extremely poor job in reporting the ADH study.  Trade economists already knew that specific industries, and even communities, can be hurt by import competition.  The press has suggested that the ADH study shows that China trade resulted in a net job loss to the US, a finding that really would be new.  But as Paul Krugman and I keep pointing out that’s just not so.  Their study is completely consistent with zero net job loss to the US.  That’s because the study looked at the period of 1990-2007, when monetary offset was fully engaged.  So there’s no plausible AD channel.  Of course you can make other arguments, but you can’t show aggregate effects with a cross-sectional study.

All the press coverage of ADH is much ado about nothing.  Maybe China did hurt the overall US labor market, but their study doesn’t show it.  I’m not surprised that the press ignores me, but I am a bit surprised they ignore Krugman, particularly since he has occasionally argued that China was stealing US jobs during the Great Recession.  No one can claim his critique of ADH was based on ideological bias.

PS.  Nor can Autor, Dorn and Hanson be accused of ideological bias.  For instance, they favor TPP.

PPS.  Before you try defending ADH based on non-AD channel arguments, you might consider that at various times in their paper they imply they do have an AD channel in mind.  For instance, when contrasting Germany’s trade surplus with the US trade deficit.

What caused the productivity slowdown?

Nick Rowe has a post discussing the post-2008 slowdown in trend growth, which has occurred in many countries.  (I’ll focus on the US, which I know best).  He suggests that the failure of monetary policy during the Great Recession may have increased perceptions of risk going forward, particularly relative to during the Great Moderation, when people had grown more confident in economic stability.  This increased perception of risk may have depressed investment.  Because my previous post predicted that we are in a newer and even greater moderation (and hence that increased perceptions of risk are unwarranted), I feel that I need to address his post.  I left a comment:

Nick, You said:

“And it is indeed too big a coincidence to suppose that an exogenous slowdown in long-run growth just happened to coincide with the Great Recession.”

I think that this may be exactly what happened. The growth slowdown would have occurred even if we had not had the Great Recession. (It’s partly demographics). I’d go further and argue that the slowdown in trend growth helped to cause the Great Recession. The slowdown reduced the Wicksellian natural rate, and the world’s central banks were slow to spot this change. Taylor Rule type thinking led to unintentional monetary tightening in 2008. A given interest rate setting (2% after Lehman failed) was much tighter than the Fed assumed.)

Note that this slowdown began before the Great Recession, as the equilibrium real interest rate has been gradually declining for several decades.

And Nick responded:

Scott: The slowdown in labour force growth was clearly partly due to demographics, and that part would have happened anyway. Though that would not have explained slowing productivity growth. And maybe there was a steady slowing of investment that would have happened anyway. But the apparent break in the trends just looks too big and sharp. Like in Simon Wren-Lewis’ chart of UK GDP per capita. The same trend line works pretty well, from 1955 to 2008. Then it doesn’t.

So I decided to check investment (excluding residential) as a share of GDP, and found this graph.  (Non-housing investment seemed more relevant to productivity growth, but perhaps that assumption is wrong):

Screen Shot 2017-03-04 at 10.57.28 AMThis surprised me.  I had no idea that the late 1970s and early 1980s were “peak investment”, especially given the poor performance of the economy.  Nor did I expect recent investment levels to exceed all pre-1975 business cycles, including the fast-growing 1960s.  It is similar to the late 1980s, or 2002-05, when growth was far higher. Yes, investment is slightly below the levels of the late 1990s, but I’m not seeing a big enough fall in investment to explain trend growth falling from about 3% per year for the entire 20th century to perhaps half that figure today.  (Yes, RGDP growth has recently averaged 2%, but that’s during a period of recovery and rapidly falling unemployment, which means trend growth has probably fallen below 2%.)

I think the recent growth slowdown is unrelated to the Great Recession.  What do you think?

PS.  If output was above trend in 2007, then the post-2008 slowdown may not be as sudden as Nick assumed, just by looking at the graph.

PPS:  This article in The Economist presents another problem with the argument that uncertainty is reducing investment:

There is an alternative explanation for the failure of expectations to shift. Both businesses and investors, realising that the economic outlook is uncertain, may be demanding a higher risk premium for starting new projects or buying shares. That explanation is a little hard to square, however, with the repeated new record highs being scaled by stockmarkets or with the high valuations afforded to American equities.

Since the market low in March 2009, dividends have risen by 48% in real terms and real share prices have risen by 167%, according to Robert Shiller of Yale University. The cyclically-adjusted price-earnings ratio (or CAPE), which averages profits over ten years, is 28.7, its highest level since April 2002. In the past, very high CAPEs have been associated with low future returns.

Indeed, having analysed the data, Messrs Dimson, Marsh and Staunton reckon global investors are expecting a risk premium of 3-3.5% relative to Treasury bills—a level that is lower, not higher, than the historic average. So something does not add up.