Catching up with the Krugman posts

There are so many great Krugman posts while I was away that I hardly know where to begin:

But there’s a funny point I hadn’t thought of until Matt O’Brien pointed it out. The alleged justification for chain-linking is that the conventional consumer price index overstates true inflation; it might overall, but probably not for seniors. In any case, however, as Matt points out, the very same Republicans who claim that Social Security benefits should be cut because the CPI overstates true inflation also insist that the Fed must stop quantitative easing, despite the absence of any visible inflation threat, because the real inflation rate is much higher than the official statistics indicate.

And all you commenters and emailers should keep this in mind:

Just to be clear, I’m not saying that there’s nothing there; there may well be, and maybe it’s even profound. But neither I nor most economists are going to make the effort of puzzling through difficult writings unless we’re given some sort of proof of concept “” a motivating example, a simple and effective summary, something to indicate that the effort will be worthwhile. Sorry, but I won’t commit to sitting through your two-hour movie if you can’t show me an interesting three-minute trailer.

Well, it depends on the director.  But you get the point.

And this:

So, why should you care? Well, Fatas and Mihov have it right: if the business cycle is a matter of the economy falling below capacity, rather than fluctuating around potential output, the costs of recessions are much bigger than often portrayed, and focusing on “stabilization” greatly understates the importance of good macro policy.

And this on the emerging markets crisis:

We more or less know the story here. First, advanced countries plunged into a prolonged slump, leading to very low interest rates; capital flooded into emerging markets, causing currency appreciation (or, in the case of China, real appreciation via inflation). Then markets began to realize that they had overshot, and hints of recovery in advanced countries led to a rise in long-term rates, and down we went. (I don’t think QE has much to do with it, although your mileage may vary.)

And this:

And about being a team player: this is really bad, because it’s contrary to the whole concept of the Fed. The Federal Reserve chair is not supposed to be part of the administration’s team “” he or she is supposed to be an independent force, and independence of intellect is a plus, not a minus (especially when, once again, you’ve been right, as Yellen has).

Cardiff Garcia mocks the WH position as being that they want a pushover who would be fun to have a beer with during a crisis “” and there’s enough truth there to make it sting.

All in all, this whole episode is not making anyone think better of Obama’s judgment.

For the following I’d put “bubble” in scare quotes, both otherwise agree:

Now, the thing you need to realize is that the whole era since around 1985 has been one of successive bubbles. There was a huge commercial real estate bubble (pdf) in the 80s, closely tied up with the S&L crisis; a bubble in capital flows to Asia in the mid 90s; the dotcom bubble; the housing bubble; and now, it seems, the BRIC bubble. There was nothing comparable in the 50s and 60s.

So, was monetary policy excessively easy through this whole period? If so, where’s the inflation? Maybe you can argue that loose money, for a while, shows up in asset prices rather than goods prices (although I’ve never seen that argument made well). But for a whole generation?

The following is good, but where are the NYT editors!  After four days the typo still hasn’t been corrected (it should be inside money):

Banks are just another kind of financial intermediary, and the size of the banking sector “” and hence the quantity of outside money “” is determined by the same kinds of considerations that determine the size of, say, the mutual fund industry.

I love this, but interpret it very differently from Krugman:

Simon Wren-Lewis is deeply annoyed at the IMF, and understandably so. How can you publish a paper about fiscal adjustment that explicitly takes no account of monetary policy, and claim that it has any relevance to current problems?

It would be like claiming that fiscal austerity produced the eurozone double dip recession without taking any account of the ECB’s monetary tightening in 2011. Fortunately no good Keynesian would ever do such a thing!

And this:

Finally, sheer nominal stickiness / money illusion doesn’t seem to play any role in the Hall/Farmer formulation. Yet we now have overwhelming evidence of the presence of such stickiness, in the form of a large (and increased) share of wages that exhibit precisely zero change from year to year:

And here it’s even worse than Krugman asserted:

Whoa! They apparently imagine that QE was an intuitive reaction by Bernanke, one that academic macroeconomics would never have suggested. Nothing could be further from the truth. By the time 2008 came along, the issue of how to conduct monetary policy at the zero lower bound had been extensively discussed, notably in Krugman 1998 (pdf), Eggertsson and Woodford (2003), and, yes, Bernanke-Reinhart-Sack 2004 (pdf). Indeed, the Fed’s QE policies initially followed the latter paper closely; its more recent shift to a greater emphasis on forward guidance is a move in the direction of the Krugman-Eggertsson-Woodford approach.

Herbert Hoover did QE in 1932.  FDR moved toward forward guidance in 1933, under the influence of Irving Fisher and George Warren.

And from the same post:

No, the problem lies not in the inherent unsuitability of economics for scientific thinking as in the sociology of the economics profession “” a profession that somehow, at least in macro, has ceased rewarding research that produces successful predictions and rewards research that fits preconceptions and uses hard math instead.

And this:

The first thing you want to say is that all the crisis economies “” even Indonesia, which had by far the worst time in the beginning “” eventually bounced back strongly:

Total Economy Database

This is in stark contrast to the experience of the countries that seem like the closest parallel to SE Asia this time around, the troubled euro area debtors. Here’s a comparison of Indonesia after 1997 and Greece after 2007, with the later years for Greece being the current IMF projections; the number of years after the pre-crisis peak is on the horizontal axis:

Total Economy Database, IMF

By this point in the aftermath of the Asian crisis, even Indonesia was well on the road to recovery; Greece, Spain etc. are still sinking.

What’s worth remembering is that everything people say about why Greece can’t bounce back “” structural problems, corruption, weak leadership, yada yada was also said about Indonesia. So why could Indonesia come back while Greece can’t?

Well, two obvious reasons: Indonesia had a currency that it could devalue, and did, massively. This caused a lot of short-term financial stress, but paved the way for export-led growth.

Look at how well Indonesia did during the global crisis of 2008-09.  Now explain to me how a 1.2 percentage point rise in US ten year bond yields are somehow devastating their economy.  I don’t deny there’s some link (markets show this), but surely the problems are much deeper.

So stop whining that I’m always picking on Krugman.



14 Responses to “Catching up with the Krugman posts”

  1. Gravatar of jknarr jknarr
    29. August 2013 at 09:15

    Good lord, I believe I just saw a Fed official take a look at (subsector) RGDPLT questions.

  2. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    29. August 2013 at 09:38

    Meanwhile, there’s some novel thinking on banking regulation;

    Under our plan we would first have banks replace all (non-deposit) existing unsecured debt with ‘Equity Recourse Notes’ (ERNs).

    ERNs are superficially similar to contingent convertible debt (‘CoCos’) but have important differences.

    ERNs would be long-term bonds with the feature that any interest or principal payable on a date when the stock price is lower than a pre-specified price would be paid in stock at that pre-specified price. The pre-specified price would be required to be no less than (say) 25% of the share price on the date the bond was issued For example, if the stock were selling at $100 per share on the day a bond was issued, and then fell below $25 by the time a payment of $1000 was due, the firm would be required to pay the creditor 1000 ÷ 25 = 40 shares of stock in lieu of the payment. If the stock rebounded in price, future payments could again be in cash.

    They have a great finish;

    ERNs are a counterweight against pro-cyclicality. They make capital raising – and therefore lending – easier rather than harder in recessions. Counter-cyclicality also increases the credibility of the plan, because there will be no incentive to scrap it in bad times. Jettisoning complex capital rules, and simply transferring tail risk back where it belongs (with private investors) takes taxpayers off the hook and ensures that banks with profitable opportunities can use them.

    In short, our system eliminates distortionary incentives for regulatory arbitrage and forbearance, facilitates counter-cyclical raising of unsecured capital, and clearly and credibly assigns losses to private investors where they belong.

    While we rely on markets to determine banks’ risk capital requirements, our system is robust to the market being wrong, or less accurate on average than regulators’ or banks’ internal models. By contrast, current regulatory models will often lose money, and perhaps cause a crisis, if markets are right.

  3. Gravatar of Bill Woolsey Bill Woolsey
    29. August 2013 at 10:21

    “the very same Republicans who claim that Social Security benefits should be cut because the CPI overstates true inflation also insist that the Fed must stop quantitative easing, despite the absence of any visible inflation threat, because the real inflation rate is much higher than the official statistics indicate.”

    I don’t think they are the same.

  4. Gravatar of John Thacker John Thacker
    29. August 2013 at 10:37

    Bill: In some cases they are the same, as in the link with Sen. Coburn.

    There is a more sophisticated consistent version of this argument that, like many of Krugman’s arguments, can mislead people into the simplistic obviously wrong argument. It goes like this (fully expanded, so as not to mislead so much):

    “We should switch to chained CPI because inflation has over the last twenty years or so actually been lower than the regular CPI has measured. Chained CPI is a more accurate measure. QE is adding to the money supply; we know that will show up in inflation eventually, even if it hasn’t yet. When it does, then both measures of CPI will show dramatic increases, even if chained CPI is more accurate.”

    The key point is to make the argument that inflation has been lower, but hyperinflation is just around the corner; maybe it’s low now for some mysterious reason causing velocity to collapse, but eventually all that money will cause it to explode (as velocity returns to its natural value, or something.) Combine this with comments about the inability to tighten sufficiently when the time comes, and stir.

  5. Gravatar of John Thacker John Thacker
    29. August 2013 at 10:38

    So, the Q2 GDP numbers– another victory for monetary offset, Scott? We had plenty of fiscal austerity, and things look fine.

  6. Gravatar of Brian Donohue Brian Donohue
    29. August 2013 at 12:01

    Credit where credit is due: Krugman can be pretty good sometimes.

  7. Gravatar of ssumner ssumner
    29. August 2013 at 14:43

    Jknarr, I don’t seem the puzzle he sees. The trend line has shifted–Great Stagnation. So both are well below the old trend line, which is no longer operative. And investment is recovering to the new trend line, as it always does.

    Thanks Patrick.

    Bill, I suppose you are right in many cases.

    John, Yes, you could say that. The puzzle is why is the Fed tightening now? They are where I expected them to be, but well below their own RGDP forecast for 2013.

    Brian, Yup.

  8. Gravatar of Lorenzo from Oz Lorenzo from Oz
    30. August 2013 at 01:15

    So, it’s better to be in the hands of the IMF than the ECB? This is not a distinction the ECB should be proud off. The expression “low benchmark” comes to mind …

    And if one views the ECB as The Instrument of Germany and the Mediterranean countries as the Third Word Fringe, the comparison is even worse.

  9. Gravatar of Lorenzo from Oz Lorenzo from Oz
    30. August 2013 at 01:19

    The Asian crisis versus Eurozone crisis also provides an excellent counter-example to Austrian analyses of “unsustainable booms”.

    BTW Experience with the Asian crisis is why trying to find an Australian supporter of fixed exchange rates is a bit like trying to find a virgin in a brothel. We lost any remaining exchange rate shame and the pay-off delivered.

  10. Gravatar of Jon Jon
    30. August 2013 at 05:09

    Obama was the one who offered up chain-weighting as the basis of a compromise. Sure, republicans liked its effect on social security… But why did Obama like it?

    Because automatic tax bracket indexing was also proposed to change to chained CPI as a condition. That little, presented off-hand, detail, was the real goal.

    Anyways, the real pea on SS wasn’t CPI-w vs chain-weight, it was the impact of wage indexing initial benefits or cost indexing initial benefits.

  11. Gravatar of ssumner ssumner
    30. August 2013 at 06:55

    Lorenzo and Jon, I agree.

  12. Gravatar of Mike sax Mike sax
    31. August 2013 at 04:38

    Touche. You are not always picking on Krugman. Now Bob Murphy mostly is always picking on Krugman-and often for very trivial reasons.

  13. Gravatar of Mike sax Mike sax
    31. August 2013 at 05:01

    I thoroughly enjoyed Krugman Appreciation Event-feel free to do others from time to time.

    In all seriousness I do get that you are much fairer to Krugman than most conservative opponents of his.

    I’d have to admit that if you were to take your posts about him over a 4 year period even considering the times you disagreed with him strenuously it does come through that you do have respect for him.

    The area where I guess you guys do disagree is rather subtle really-the quibbling over the liquidity trap. Really it’s even more subtle than it initially seems as while you dispute the claim that monetary policy is ineffective at the Zero Bound, you actually do agree with him that conventional policy, at least as it’s been practiced during the Taylor Rule era-is ineffective at the ZB just that unconventional policy will work.

    Yet Krugman doesn’t say that the Fed shouldn’t do nonconventional monetary policy he says we might as well try it though he’s not nearly as persuaded as you that it will work-basically he thinks it might work or maybe not so why not give it a shot. So the difference is just that you’re more optimistic than he is about non-conventional policy.

  14. Gravatar of ssumner ssumner
    31. August 2013 at 06:27

    Mike, Yes.

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