My previous post was rushed, and perhaps a bit tautological.  So let’s take a deeper look, and try to answer the comment left by Tyler:

One shift increases national wealth, however, and the other lowers it, so why is that not a strong presumption in the direction of my answer…?

Tyler probably wanted to make the dollar appreciation occur for no particular reason.  But of course he knew that there must be a reason, so he offered this:

For the relevant thought experiment, assume an exogenous shift in noise trading boosts the value of the dollar.

In simple supply and demand terms, that means the value of the dollar rises because noise traders suddenly increase their demand for dollars.  That’s what is commonly referred to as a “monetary shock”.  In this case, a contractionary shock. Recall that a contractionary monetary shock occurs when there is either a reduction in the monetary base (less supply), or an increase in base demand. Contractionary shocks also cause the dollar to appreciate.

Now here’s where things get complicated.  Tyler is clearly interested in real wealth, not nominal wealth.  But it’s not clear that a monetary shock will affect any real variable, either the real exchange rate or the level of real wealth.  Thus if money is neutral, then a contractionary monetary shock that appreciates the dollar by 4.3% will also cause all wages and goods prices and even stock prices to fall by 4.3%. This leaves the real wealth of Americans unchanged, they don’t even notice anything when they travel overseas.

Tyler would quite rightly respond that money is not neutral in the short run, and that a 4.3% nominal appreciation of the dollar would also imply a 4.3% real appreciation in the dollar, at least in the very short run before the price level had adjusted.  OK, so let’s go with that non-neutrality assumption, assuming sticky wages and prices.

But the problem with this assumption is that it really complicates the “ceteris paribus” problem.  If it’s really true that a contractionary monetary shock makes the real exchange rate appreciate, helping our tourists when they visit France, or buy French wine, it also, ipso facto, leads to higher real wages, which reduces employment and real GDP.  How does all this net out in terms of our welfare?  I don’t know.  To answer that question there is no shortcut to a plausible macro model that generates an optimal monetary policy for our domestic welfare.  In my view the “best” position for the US dollar in forex markets is the value it would hold if monetary policy was appropriate (say NGDPLT).  If NGDP is rising less than the target rate, then policy is too tight and the dollar is too strong, and vice versa

Tyler can change his assumption so that it’s no longer a monetary shock appreciating the dollar.  It could be a real shock (to S&I), which means the real value of the dollar appreciates even after sticky wages and prices have fully adjusted.  That might better fit the recent example of the US.  (But this is also confusing, because by this criterion the Swiss franc is very weak.  It would have to be much stronger to eliminate Switzerland’s huge current account surplus.)

I’m not as good at analyzing real shocks as nominal shocks, but my instincts tell me the answer will be “it depends.”

PS.  Ironically, Tom Powers just sent me this article:

Donald Trump is unsure if strong or weak US dollar is best for the economy

Here’s Tyler Cowen:

Is a strong dollar better than a weak dollar?

Yes, for Americans though not for the world as a whole.  For the relevant thought experiment, assume an exogenous shift in noise trading boosts the value of the dollar.  That increases the wealth of individuals and institutions that are long dollars, and presumably this is the case for this country overall.  If you owned lots of ponies, would you not want the price of ponies to go up?

A weak desire to substitute into imports could blunt this result somewhat.  Or in other words, American tourists will benefit to a disproportionate degree.

I can imagine three scenarios:

A.  The dollar is currently below its optimal value for maximizing the welfare of Americans.

B.  The dollar is equal to its optimal value for maximizing the welfare of Americans.

C.  The dollar is above its optimal value for maximizing the welfare of Americans.

In case A, dollar appreciation makes Americans better off.

In case B and C, dollar appreciation makes Americans worse off.

The probability of case B is roughly 0%. So without knowing anything more I’d say there is a 50-50 chance of Tyler being right. His chance of being right is more than 50% if we can clearly establish the case for some sort of market or policy failure that results in the dollar usually being too weak for optimal welfare.  That’s possible, but it’s not obvious to me exactly what that distortion is.  And if true, it would suggest that “reverse beggar-thy-neighbor” policies might be optimal.

PS.  His noise trading assumption can be viewed as an exogenous increase in dollar demand, not motivated by fundamentals.  One can imagine other ways of getting a stronger dollar, such as a random drop in national saving.  His assumption seems aimed at getting a move in the dollar with the smallest deviation from the “other things equal” assumption.  I think his approach is plausible, and hence I do not object to the thought experiment on “reason from a price change” grounds.

Update:  It just occurred to me that my analysis only applies to tiny changes in the value of the dollar.  For large changes, random moves will push it in the wrong direction more than 50% of the time.

Here’s Benjamin Cole:

As David Glasner recently noted, no plank of orthodox macroeconomics is more sacred today than that international free trade is good, and that even large and chronic trade deficits don´t matter.

But an overlooked 2012 paper from the New York Federal Reserve, entitled House Price Booms, Current Account Deficits, and Low Interest Rates, raises serious concerns about chronic trade deficits, particular given the deeply entrenched ubiquity of property zoning.

This is not true.  The claim that large trade deficits do not matter is certainly not “sacred”, indeed many economists disagree.  But even if it were true, this makes no sense.  Trade deficits are one thing, and free trade is another.  Both the US and Germany have relatively free trade, but we have a large deficit (although much of that is measurement error) and Germany has a large surplus.  The cause of our current account deficit is saving/investment imbalances.  If you want a smaller deficit you do not install tariffs, you install pro-saving (or anti-investment) fiscal policies.  You encourage saving by lowering the tax rate on capital income, and you reduce government dissaving by making the budget deficit smaller.  Yes, tariffs could reduce the budget deficit by a tiny amount, but it’s an extremely inefficient way of doing so.

If you are worried about trade deficits, the last thing you should be doing is protectionist trade policies.

The paper posits, “One of the most striking features of the period before the Great Recession is the strong positive correlation between house price appreciation and current account deficits, not only in the United States but also in other countries that have subsequently experienced the highest degree of financial turmoil.”

The short story is this: When a nation consumes more than it produces, and imports the difference, it must sell assets to finance the shortfall. Foreigners are especially keen on the perceived security of real estate, and, of course, can leverage up with the ready assistance of domestic banks.  The term “commercial bank” has become a misnomer, as more than 75% of U.S. bank lending in is on property. Thus, huge trade deficits equal huge capital inflows into domestic real estate.

Property Zoning

The universal culprit in this trade-deficits-results-in-house-price-booms scenario is property zoning, a feature of modern economies deeply embraced by both the propertied and financial classes, but (consequently?) rarely a topic in macroeconomic discussions.

To mix metaphors, property zoning is the Achilles Heel of macroeconomic blind spots.

Without property zoning, nations such as Australia, Canada and the United States could produce more housing to soak up the foreign capital inflows, even after those flows are leveraged five-to-one by domestic banks. The U.S. runs about $500 billion a year in trade deficits.

But with ubiquitous zoning, house prices soar to equate supply and  demand, generating inflation and reducing living standards of the domestic population.

Ben is right that lots of people complain about foreigners snapping up real estate (more so in places like Sydney, Vancouver and London, than in the US.)  But he’s wrong about the economics.  Housing construction during periods of house price booms like 2005 is far higher than during house prices busts like 2009-12.  The irony here is that the very same protectionists who complain that foreigners don’t buy enough of our cars, thus depriving Detroit auto workers of jobs, also complain that foreigners buy too many of our houses, thus providing jobs to our construction workers.

Den ganzen Beitrag lesen…

A commenter named dwb left this comment:

The “technological change” that killed coal jobs is the 1-2-3 punch of cheap natural gas, low electricity demand, and Obama’s war on fossil fuels.

At least he doesn’t blame trade.  Even so, this is basically false—except for very recently, coal jobs have been lost to automation. Here’s employment in the coal industry:

It’s even worse than it looks, as office jobs were added in 1973, creating an artificial surge in the data.  If you just count actual miners, the job losses have been far worse.  But even this graph shows a loss from 870,000 jobs to about 110,000, slightly worse than in steel.

So you might assume that our coal industry is being overwhelmed by imports, right?  No, over the past 5 years we’ve been net exporters of coal, in the range of 7% to 12% of total production.

If it’s not imports, then production must be being hammered by competition from oil and gas, right?  Not really, as the following graph shows, the coal industry has been increasing production in recent decades, until the past few years when competition from oil and gas really did eat into production:

So why have so many coal jobs disappeared?  The answer is simple, automation. We are producing nearly twice as much coal as when I was young, and we are doing so with far fewer workers.

Some commenters think that job loss due to automation is less painful than job loss due to trade.  In fact, they are equally painful.  Jobs lost to automation don’t occur gradually over time, through attrition, they occur in waves, often during recessions. Thus in steel, 1000s of jobs are lost when US Steel or Bethlehem shut down old mills, and Nucor and Chaparral open new more efficient mills in other parts of the country. Lots of steel jobs lost in Pittsburgh are replaced with a smaller number gained in Texas.

Something similar happens in coal.  Big new strip mines in Wyoming use huge shovels that replace 100 workers in a West Virginia mine that shuts down.  Here’s the production of coal by state:

If Wyoming were another country, the West Virginia miners would be screaming at their representatives that they need “protection” from cheap Wyoming imports. But because Wyoming is as American as apple pie, nobody advocates tariffs, even though the economic issues are exactly the same as when Ohio steel is impacted by Chinese imports.

I see an orgy of sanctimonious commentary in the media about how we have to pay more attention to the suffering of Ohio steel workers and West Virginia coal miners.  OK, but how many of those pundits realize that the interests of those two groups are diametrically opposed?  If Trump pursues a protectionist policy to help steel, it will hurt American coal exports.  TPP would be a boom to West Virginia, while threatening Ohio manufacturers.

But at a deeper level, the problems facing coal and steel are exactly the same.  In the US, and indeed almost everywhere in the world, automation is rapidly reducing employment in mining and manufacturing.  That problem is not going to go away, indeed with advances in robotics it will get even worse.  Trump can make a few symbolic moves (Carrier, weaker environmental laws, etc.) which will save a handful of jobs, and cost other jobs that are invisible to the public, but it won’t change anything fundamental. It will just give us a dirtier, hotter planet.  And rust belt workers will still be angry.

It’s always comforting to demagogue the issue by blaming foreigners for our woes; but they are doing the same—blaming other foreigners, including us.

Here’s Paul Krugman:

Donald Trump won the electoral college at least in part by promising to bring coal jobs back to Appalachia and manufacturing jobs back to the Rust Belt. Neither promise can be honored – for the most part we’re talking about jobs lost, not to unfair foreign competition, but to technological change. But a funny thing happens when people like me try to point that out: we get enraged responses from economists who feel an affinity for the working people of the afflicted regions – responses that assume that trying to do the numbers must reflect contempt for regional cultures, or something.

I’ve made this same argument in a half dozen recent posts over at Econlog. And I also get people complaining that I have no empathy for the adversely affected workers.

I promote neoliberal policies precisely because they are good for the working class.

PS.  I believe that readers will find my new Econlog post to be of interest.