Bernanke agrees with “Sumnerianism” and endorses the policy recommendations (alas, only for Japan)

More and more my commenters are doing the work for me.  When commenting on a recent post, Joe Calhoun linked to this 2003 paper by Bernanke, and singled out these excerpts:

“What I have in mind is that the Bank of Japan would announce its intention to restore the price level (as measured by some standard index of prices, such as the consumer price index excluding fresh food) to the value it would have reached if, instead of the deflation of the past five years, a moderate inflation of, say, 1 percent per year had occurred. (I choose 1 percent to allow for the measurement bias issue noted above, and because a slightly positive average rate of inflation reduces the risk of future episodes of sustained deflation.) Note that the proposed price-level target is a moving target, equal in the year 2003 to a value approximately 5 percent above the actual price level in 1998 and rising 1 percent per year thereafter. Because deflation implies falling prices while the target price-level rises, the failure to end deflation in a given year has the effect of increasing what I have called the price-level gap (Bernanke, 2000). The price-level gap is the difference between the actual price level and the price level that would have obtained if deflation had been avoided and the price stability objective achieved in the first place.”


“A concern that one might have about price-level targeting, as opposed to more conventional inflation targeting, is that it requires a short-term inflation rate that is higher than the long-term inflation objective. Is there not some danger of inflation overshooting, so that a deflation problem is replaced with an inflation problem? No doubt this concern has some basis, and ultimately one has to make a judgment. However, on the other side of the scale, I would put the following points: first, the benefits to the real economy of a more rapid restoration of the pre-deflation price level and second, the fact that the publicly announced price-level targets would help the Bank of Japan manage public expectations and to draw the distinction between a one-time price-level correction and the BOJ’s longer-run inflation objective. If this distinction can be made, the effect of the reflation program on inflation expectations and long-term nominal interest rates should be smaller than if all reflation is interpreted as a permanent increase in inflation.”

This is exactly what people like Woodford (and I) have been advocating.  During deflation a price level target is essential, much superior to an inflation target.  And notice that Bernanke is advocating that the BOJ exceed their normal (zero percent inflation) price level target.  In contrast, I am merely asking the Fed to adhere to its traditional 2% implicit inflation target, with a price level target that rises 2% each year.  If they had adopted that policy at the meeting immediately after Lehman failed, then the past 15 months would have been very different.  Instead of short term deflation leading investors to expect slower inflation going forward (which is what happened), the deflation would have led investors to expect increased inflation going forward, in order for the price level to return to its 2% growth trajectory.  And those inflation expectations were exactly what was needed during the recent deflation.

Yes, I favor NGDP targeting rather than a pure inflation target, consistent with the Fed’s dual mandate.  But even a price level target would have prevented most of the damage.  Why?  Consider the Tabarrok/Cowen AS/AD model.  If inflation falls below 2% as it did in late 2008, then to get it back up to 2% you need to boost AD.  But because the SRAS is fairly flat, the higher AD will not just raise inflation, it will also raise RGDP.  The only problem with the price level target is that (as George Selgin forcefully points out) it gives off false signals during productivity shocks.  So money is too easy when productivity is strong (say 1998-2000, or 2004-06) or it is too tight when there is an adverse supply shock, like the high energy prices in mid-2008.  But it would at least prevent the most egregious errors from AD shocks.

BTW, I put “Sumnerianism” into quotation markets, because of course most of these ideas are not my own.  I have added a few wrinkles, and perhaps put the pieces together in novel ways, but Kling is right that I am mostly trying to defend the standard model.  Indeed as Joe’s quotations show, my views on setting explicit aggregate targets, level targeting, could just as well be called “Bernankeism.”

I would also like to add one additional quotation to those cited by Joe.  I have recently received a lot of criticism for my “odd” views that a weak yuan actually helped the US economy last spring.  Of course Bernanke knew that the policy he was calling for in Japan, a more expansionary monetary policy, would have tended to depreciate the yen.  So why would a patriotic American call for a policy that would cheapen the yen and steal jobs from American labor?  Doesn’t Bernanke want to defend our national interests first?  After all, he was already working for the Fed in 2003.  Here is the final portion of his essay:

Banking and structural reform are crucial and need to be carried out as soon and as aggressively as possible. Although the importance of reforms cannot be disputed, however, I do not agree with those who have argued that deflation is only a minor part of the overall problem in Japan. Addressing the deflation problem would bring substantial real and psychological benefits to the Japanese economy, and ending deflation would make solving the other problems that Japan faces only that much easier. For the sake of the world’s economy as well as Japan’s, I hope that progress will soon be made on all of these fronts.  (Italics added.)

Who does that sound like?  Perhaps someone at the Congressional hearings could ask Bernanke why if these policies would have been good for Japan in 2003, they would not have been equally good for America in 2008-09.



11 Responses to “Bernanke agrees with “Sumnerianism” and endorses the policy recommendations (alas, only for Japan)”

  1. Gravatar of JimP JimP
    6. December 2009 at 12:49

    Yes – why didn’t congress ask about this – rather than about banking regulation – or at least in addition to it?

    And why is Bernanke not doing this? Why Why Why

    And why is the econonet not just absolutely up in arms about this?

    Bernanke absolutely refuses to do what he perfectly well knows he should do. Woodford tells him to do this – and he knows Woodford real well. Yet he refuses – and does not even so much as mention the possibility.

    And the crazed deflationists are pushing for higher rates and tightening – starting right now.

    See this from the WSJ – the voice of deflation:

    What in the dickens is going on?

    Why is Bernanke acting like this. He knows better. Why?

    Because he does not have political support from the Obama administration – thats why – at least that is what I think.

    It is just horrible. Why is the econonet not just up in arms about this?

  2. Gravatar of JimP JimP
    6. December 2009 at 12:54

    Why doesn’t Krugman write about this in the Times? At least then it would be out there – and Bernanke could not hide from the criticism.

    The Obama people would have to comment. And we would not need a jobs summit and debt up to the sky. Good lord. What is going on?

  3. Gravatar of rob rob
    6. December 2009 at 13:42

    and it seems like it would have been politically easier for Bernanke to have taken the appropriate course last Sept than it is now. add to that that change his strategy now would mean admitting to yet another mistake. right when he is in face-saving mode. (what would be the most politically savy way to change policy now without admitting his previous mistake? is this what he thinks about before going t bed every night?)

    the hypercountersumnerianism meme is disheartening. even on Yglesius’ blog most of the comments are angry about the fed printing too much money. even liberals tend to soak up the monetary policy positions of cnbc and the wsj, it seems. either that or they are too disconnected to have an opinion on it.

    i think the contras are winning the meme warfare because they are able to use scare tactics. the dollar collapsing is a very scary idea to educated white people, whereas the unemployment rate is not.

  4. Gravatar of JimP JimP
    6. December 2009 at 13:58



    I read somewhere – maybe even on this blog – that if 17% of the friends of Bernanke and members of congress were underemployed – with hungry kids living on food stamps – the debate would be somewhat different.

    If 17% of congress were underemployed Bernanke would get his marching orders very clearly – either fix this or get out of our way.

  5. Gravatar of ssumner ssumner
    6. December 2009 at 18:26

    JimP, Yes, that WSJ article is pretty pathetic. You simply wonder what these guys are thinking. Bernanke was slashing rates in January 2008 when unemployment was 5%. 125 basis points in 10 days! And now that unemployment is 10% they are itching to raise them. I don’t get it.

    rob, Yes, his job would have been far easier in all sorts of ways if we had just nipped the problem in the bud with an explicit NGDP target last year. Even the banking crisis would have been much easier to deal with.

  6. Gravatar of Joe Joe
    7. December 2009 at 07:00

    I think Bernanke and others fear that the Austro Populism of people like Ron Paul would go ballistic over a money financed tax break. Our puritanism runs deep, and we all must suffer for our years of overindulgence. A little boost in the money supply in this way would act like debt relief, and would not punish people enough. Maybe it would create Moral Hazard among the population? We always expect the fed to increase the money supply so we are not overly concerned about our debt contracts?

  7. Gravatar of Winton Bates Winton Bates
    7. December 2009 at 12:05

    It seems to me that there are three possible explanations of the Fed’s failure to adopt price level targeting:
    1. Joe’s explanation above i.e “Ron Paul would go ballistic”.
    2. Possible opposition within the Fed (a variant of Joe’s expanation)
    3. Bernanke’s concern about “danger of inflation overshooting”. He might be worried that inflation overshooting would cause a lot of people to “go ballistic”.

  8. Gravatar of ssumner ssumner
    7. December 2009 at 12:36

    Joe, Wow, I never thought Ron Paul had that much influence. But his supporters are very voval. (Actually I am a supporter on many non-monetary issues.)

    One of my first posts in February was on Puritanism.

    Winton, Those all make sense as possible explanations. I have an open mind.

  9. Gravatar of JimP JimP
    7. December 2009 at 12:51


    Yes – its all political. Bernanke simply does not have the political support he (thinks he) needs to do what he knows he should do. It all really comes down to Obama and Summers.

    And why are Obama and Summers acting like this?

    I actually do think it comes down to the fact that 17% of the friends of Obama and Summers are not underemployed and living on food stamps. If they were we would be hearing something quite different.

    Roosevelt knew the plutocrats – the deflationists. He was raised in that world and he knew it – and came to detest it – and was quite willing to and quite confident in his moral and political power to fight them.

    Obama and Summers and Bernanke were not raised in that world. They were educated as servants to the plutocrats – as butlers – maids – and lawyers. They do not want to fight them – they want to help them – and so they are.

    And the underemployed? Well – apparently they can just read the junk from the U of Chicago and be happy. No more unemployment insurance for you. Let their incomes fall. After they starve to death unemployment will fall and all will be just dandy.

    Its as if Milton Friedman had never lived. Friedman said that inflation (and therefore also deflation) is always caused by the central bank. But the U of C has just entirely forgotten him.

    This inflation v deflation issue is not one of economic theory. It is a matter of muscle. And Obama has forgotten – or never knew – the side the Democratic party is supposed to take.

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