Here’s my long promised post that introduces my views to a wide range of issues.  I will occasionally update this post, adding links where appropriate.  Feel free to make suggestions, but understand I can’t add all suggestions without making it too cumbersome.

Let’s start with a (slightly simplistic) intro to my view of monetary economics

And an earlier attempt from 2009 (very long) to summarize my views in one blog post.

Also check out my FAQs.  (Contains suggestions about other authors.)

And why I don’t like the IS-LM approach

The best intro may be my recent magnum opus at National Affairs defending NGDP targeting:

And shorter versions at the Adam Smith Institute and National Review:

My Cato paper on how tight money caused the crash of 2008:

And a similar paper from The American

A blog post on NGDP futures targeting

And an academic paper on futures targeting

And my first paper ever, a 1989 paper on using NGDP futures (not really recommended, just to show I’ve been focused on this idea for a long time.)

Critiques of MMT here and here.

A post defending the EMH.

My views on methodology (one of my favorites.)

An early critique of the “liquidity trap.”  A longer and more recent version.

An example of the importance of rational expectations theory

Why the Keynesians are wrong about FDR’s high wage policy

Petition for Monetary Stimulus (March 2009)

The Great Danes blog post and academic paper (thoughts on culture, policy and neoliberalism.)

Conversations with Russ Roberts on monetary policy and growth and neoliberalism.  (Something to listen to on the exercise bike.)

And finally a post I’ve always liked, a odd sort of mixture of Tyler Cowen and Paul Krugman.

I’ll add lots more later, but I don’t want to overdo it.  I may substitute things as well.  I already slightly disagree with a few points in my early posts–but nothing major.

Steve Waldman has a post discussing the problems involved in making monetary stimulus effective.  He ends up by claiming that “helicopter drops” would certainly work, but the Fed isn’t authorized to do them:

To the degree that our problem is on the demand-side and stems from private-debt-overhang-induced risk aversion or a desire to hoard money, we know the solution. That problem, if it exists, will go away if we give everyone money. But giving everyone money is not conventional, authorized, monetary policy. It requires new law.

In macroeconomics the term “helicopter drop” refers to combined fiscal and monetary stimulus, essentially have the Fed print money to finance a budget deficit.  In recent years the phrase “print money” has become slightly misleading, as the Fed has turned bank reserves into interest-bearing debt.  But with or without interest on reserves, a “helicopter drop” is not a foolproof escape from a liquidity trap.  To see why, consider why conventional monetary policy is often ineffective.

In the early 2000s the BOJ printed lots of money, and the Japanese government issued lots of debt.  That should have been inflationary, if helicopter drops really worked.  But it wasn’t, because the BOJ also hinted that they’d eventually pull the money back out of circulation, to prevent prices from rising.  And in 2006 they did just that, and prices didn’t rise.

Many people assume this “expectations trap” (popularized by Krugman) applies only to conventional monetary stimulus.  Actually, it also applies to a combined fiscal and monetary stimulus, as we saw in Japan.  Temporary monetary stimulus won’t be effective.  It won’t work if rates are zero.  It won’t work if rates are positive.  It won’t work if combined with fiscal stimulus.  It simply won’t work, if temporary.

The Fed has also promised their monetary injections will be temporary, and hence they haven’t worked, just as in Japan.  You might argue “what else could they do, if they promised the tripling of the base was permanent, we could end up with hyperinflation.”  Yes, they can’t say it’s all permanent, but they could tell us how much.  But Steve Waldman says they won’t do that.  In that case there is no reason to expect any stimulus from more money, helicopter drop or not.

And yet, the market reaction to hints of QE2 suggests that open market purchases can be successful, even at the zero bound.  The most likely explanation is that the markets weren’t reacting so much to the action itself, but rather to the implied signal it sent about Fed determination to prevent deflation.  And the Fed action succeeded (so far) in preventing Japanese-style deflation.

And now for the perplexing title of this post.  When I put “helicopter drop” in quotation marks, I mean money financed deficits.  When I don’t use quotation marks, I mean real cash and real helicopters.  An elite macroeconomist would tell you it makes no difference, and in a purely technical sense that’s true.  But in terms of expectations it makes all the difference in the world.  An actual helicopter drop, Ben flying across America dumping hundred dollar bills out of a helicopter, would almost certainly raise inflation expectations sharply.  Especially if he dressed up like Peter Pan and kept announcing through a megaphone “if you believe you can inflate.”  The imagery would be powerful and evocative.  Indeed so much so that it would probably require only a tiny amount of actual $100 bills–just make sure the news cameras were there.  Better yet, do it over minority neighborhoods, to triggers subliminal concerns among Fox News viewers.

Of course all this would be crazy, and I am not advocating it.  But these thought experiments illustrate that we’d be much better off if the Fed simply told us where it wanted to go, and how it was going to get us there.  I get frustrated when Waldman says the only reasonable policy is a non-starter, because it’s not what the Fed wants to do:

The Fed is not going to target NGDP or a price level path over any relevant time frame without a change in governance structure or mandate. People on the left and right and especially the technocratic center who like to see the Fed as a loophole through a dysfunctional Congress are kidding themselves. The Fed is a political creature, not some haven for philosopher-economists in togas who will openly consider your ideas. Get over it and get your hands dirty.

Look, we’ve already established that what the Fed “wants to do” won’t work, it will fail.  It’s our job as pundits to suggest policies that actually will work.  If our society is suicidal then there’s nothing we pundits can do about it.  If we are told that every single suggestion that will work is politically unacceptable, there is nothing we can do about it.  Except keep trying to educate people.

Now I have to go iron my toga for a party tomorrow night.

Over at Kantoos there is a very interesting guest post by Arash Molavi Vassei on market monetarism:

Yet, none of defining characteristics of MM depend on disequilibrium analysis. They rather fit the “equilibrium always” views of money (that rely on money as a unit of account rather than a medium of exchange). In fact, some of the characteristics fundamentally depend on equilibrium reasoning.

1. New Keynesian models predict Rational Expectation Equilibria (REE) with AD-constrained output. Given the expectation channel, expected below-trend nominal spending (aka NGDP) relates to low current spending (if not countered by monetary policy). Given sluggish nominal values, current output falls below its optimal level. In contrast to Christensen’s description of NK models (fn. 8), all markets clear (not just the bond market), though at inefficient levels.

It follows that NK models are consistent with any view that traces the Great Recession to an exceptionally large AD slack. More precisely, since NK models assume that credibly committed monetary policy has full control over expected NGDP, they can accommodate the MM hypothesis that the crisis is due to a mismanagement of NGDP-expectations. In fact, whereas the much more common finance-based interpretation of the crisis asks for some kind of specifications by means of additional frictions, the MM interpretation can rely on pre-crisis variants of the NK model (Eggertson and Bernanke, Svensson, …). Scott Sumner heavily relies on such reasoning.

2. The major advantage of level targeting is that it implements a memory-based adjustment regime. If a central bank is credibly committed, then market expectations quasi-automatically correct deviations from target levels. I cannot imagine a more suitable framework for this kind of analysis than the class of REE models. This also applies to Svensson’s suggestion to target forecasts (and Sumner’s suggestion to target market forecasts). And I have no idea how disequilibrium analysis (or upon Nick’s comparative statics by means of an advanced IS-LM model) could ever improve upon such “equilibrium always” models.

There’s an old joke about putting 7 economists in a room and getting 8 opinions.  So I won’t speak for the other market monetarists, who seem to find more value in the disequilibrium approach to monetary policy than I do.

I think Vassei is right, at least about my views.  It is true that much of my analysis is consistent with mainstream new Keynesian thinking.  But there is one area where it seems to differ sharply, the way we analyzed the policy situation in early October 2008.  I attribute that to the greater emphasis that I place on market forecasts of NGDP.

New Keynesians use computer models to try to identify monetary policy shocks.  The models use interest rates, and various macro aggregates.  I use NGDP futures prices.  An expansionary shock is a rise in NGDP future prices, and vice versa.  If the central bank is too stupid to have created and subsidized trading in an NGDP futures market, then you infer NGDP expectations by looking at all sorts of other market data and consensus private economic forecasts.

In early October 2008 I went ballistic.  It was at that point I realized that my views were actually far outside the NK mainstream.  It was obvious to me than NGDP expectations for 2009 were collapsing, and yet the Fed wasn’t really doing anything about it.  They weren’t setting policy at a level expected to produce on target NGDP growth.  BTW, this failure was not due to the zero rate bound–nominal rates were above zero for the entire June to December collapse in NGDP (I’m using monthly NGDP estimates from Macroeconomics Advisers.)

And no one seemed to care!  I would have expected economists to be out picketing the Fed building in DC.  Yet if they said anything about Fed policy, it was generally that the Fed was doing a good job.  Most said nothing about monetary policy, and merely pontificated on banking policy.

Of course there are other important differences.  Most NKs favor inflation targeting, whereas I favor NGDP targeting.  Most favor growth rate targeting, whereas I favor level targeting.  But these differences are not decisive.  You can find NKs who favor NGDP targeting, or some analogous policy for addressing the Fed’s dual mandate–such as the Taylor Rule (although this no longer includes John Taylor!)  And Michael Woodford has pointed to the advantages of level targeting at the zero bound.  No, it’s the targeting the (market) forecast that is decisive, at least for my views on monetary policy.

For 25 years I had almost no opinion on monetary policy.  I thought the Fed was setting interest rates at a level expected to produce roughly 4% to 6% NGDP growth, which was fine by me.  Suddenly in October 2008 they weren’t doing that, and almost no one seemed to care.  Or I should say almost no one except us market monetarists, plus a few academic economists like Robert Hetzel, who pointed out in an early 2009 paper that Fed policy had been too tight in 2008.

NKs favor targeting interest rates, at which point the monetary base becomes endogenous.  I favor targeting NGDP futures prices, at which point the monetary base becomes endogenous.  Many people wrongly assume that I am a sort of “QE2-type economist,” who wants to try money supply injections to see what happens.  Actually it’s just the opposite, I want an endogenous money supply, and a policy of pegging NGDP expectations (either futures contracts, or if they don’t exist, then a weighted average of various market indicators like TIPS spreads.)

PS.  Don’t forget that new Keynesianism is itself a sort of quasi-monetarist model.

In his recent paper describing “market monetarism,” Lars Christensen suggests there is a need for more empirical research on the impact of monetary policy:

Finally, while the Market Monetarist method of “story telling” and case studies clearly has value, there is also a need for more hardcore econometric testing of some Market Monetarist views, such as Scott Sumner’s view that monetary policy works with long and variable leads.

In my view the best way to study the effects of monetary shocks is to look at market responses to monetary policy announcements.  For example, in my monetary economics class we always begin by studying the January 3, 2001, Fed announcement, which cut the fed funds target from 6.5% to 6.0%.  Here were some market reactions:

1.  The S&P fell by 5% in one day.  (Update: should have said rose 5%)

2.  T-bill yields fell slightly.

3.  Long term T-bond prices fell 2% to 3%, meaning long term bond yields soared much higher on the news.

4.  Long term TIPS yields rose modestly.

The fall in short term yields represented the liquidity effect from an expansionary surprise, whereas the rise in stock prices and TIPS yields represented the income effect, as markets expected faster RGDP growth.  And the much larger rise in long term conventional bond yields represented both the income and Fisher effects, as inflation expectations also increased sharply.

Not all monetary policy announcements generate this pattern.  The question is why.  One approach would look for correlations between market responses and economic conditions.   I believe market responses are quite different when the markets are worried about the adequacy of aggregate demand, compared to periods where there is confidence about future AD growth.

If I was young I’d try to do a sort of “Monetary History of the US” using market reactions to monetary policy news, rather than economic responses to changes in the monetary aggregates, as Friedman and Schwartz did.  I did try to do that for the Great Depression, and while it is certainly quite time-consuming, it also proved quite fruitful.

PS.  I surveyed various other bloggers about a name change, and got 5 different answers from 6 bloggers (neo-monetarism, new monetarism, post-monetarism, market monetarism, and monetarism.)  If you put 7 economists in a room . . .

Perhaps we should just let the market decide.

I know that you are already rolling your eyes over the corny Star Wars reference, but I’ve never been more serious in my life.  The Fed has a simple decision to make.  Do they want to achieve some sort of nominal target, or not.

There are two metaphors one can use for monetary policy initiatives.  One metaphor is the scientific experiment.  The Fed will try QE to see if it works.  Or they’ll try Operation Twist to see if it works.  The other metaphor is steering a ship.  They adjust their policy levers to keep the economy moving in the appropriate direction.

During normal times everyone assumes the steering a ship metaphor is the right one.  The Fed nudges interest rates higher or lower to steer the economy in the direction they want to go.  At the zero bound almost all commentators switch to the scientific experiment metaphor.  The Fed tries something, and then waits 6 to 12 months to see how it works.  But this is the wrong metaphor.  In my view the experimental approach will almost always fail.  The steering metaphor is always the right one.  The Fed must stop trying, and they must decide what they actually want to do.

Let’s consider QE2 as a nudge of the steering wheel.  Did it work?  Almost all the indicators suggest it did, indeed both Keynesians and monetarists were proclaiming it a (very limited) success in early 2010.  Relative to the non-QE2 situation, it clearly boosted AD, at least slightly.

Now let’s consider QE2 as an experiment.  Did it work?  I’d say no.  I don’t think anyone can be satisfied with NGDP growth over the past 12 months.

And the reason for the failure of QE2 as an experiment is easy to see.  Ben Bernanke is no Luke Skywalker.  In order to follow Yoda’s maxim the FOMC would have to wake up every morning and ask themselves whether they were satisfied with the path of expected NGDP growth.  At some point during the spring of 2011 the answer would have switched from yes to no.  At that point they’d need to nudge the steering wheel enough so that expected NGDP was again on target.  But they didn’t.

Given enough time, a Yoda-like commitment will always succeed, at least in terms of boosting NGDP growth.  It might fail in other respects:

1.  Higher NGDP growth may fail to boost RGDP.

2.  The Fed might have to buy up an extraordinary amount of risky assets, and they might then suffer large capital losses.

But it will boost NGDP.

As a practical matter the two risks cited above are not serious concerns.  The Fed should aim for steady 5% NGDP growth even if the monetarist/Keynesian model is completely wrong, even if NGDP has no impact on RGDP.  So it’s no loss if more NGDP fails to boost RGDP.  And as for capital losses, the Fed can always avoid having to buy up large quantities of risky assets by ending IOR (or even going negative) and buying Treasury notes.  As a practical matter the public is not going to want to hold a massive amount of non-interest bearing cash if the Fed is committed to keeping NGDP rising at trend.  Never has happened, and never will.

Many people worry about whether the Fed can boost NGDP.  The market reaction to QE2 makes it obvious that the answer is yes.  The only question is whether the Fed will decide to do whatever it takes.  If they ever make that decision, they will be stunned to learn just how little it takes.  But if they fail to make that commitment, nothing they do will ever seem to be enough.  Unfortunately it looks like they will keep trying, and hence not doing.