Did QE worsen inequality? That’s not even a question
When people ask whether QE worsened inequality they think they are asking a coherent question. But that merely shows how poorly most people understand monetary economics.
Let’s ask a different question: Did Obama’s appointment of Ben Bernanke increase inequality? Any sensible listener would ask: “Compared to what?” After all, most models are roughly linear, at least for very small changes (I’m rusty at math, so tell me if that is wrong.) In other words, whatever impact monetary policy has on inequality, the impact of picking Bernanke over a more dovish alternative (Romer) would have been the opposite of Obama picking Bernanke over a more hawkish alternative (Summers.) I can’t imagine anyone being able to make sense of the question “did Bernanke increase inequality” without knowing the counterfactual Fed chair. And of course the same is true for Fed policies, is the counterfactual more or less contractionary than the actual policy?
Now some people will say; “the obvious implication is that the counterfactual was no QE, and that this was a more contractionary alternative.” This is very likely how people think about it, but of course that assumption is wrong. My preferred policy would have been far more expansionary, and hence would have involved far less QE. Let’s break this down into 2 questions:
Does monetary stimulus increase inequality?
Does delivering monetary stimulus via QE affect inequality more than some other method?
I’ll take the second question first. Suppose Bernanke did not do QE, but rather some equally effective stimulus method. Perhaps slightly raising the inflation target, or going to level targeting. Would that make any difference for inequality? I hope it’s obvious that it would not. The mechanics of QE are totally uninteresting. You are just swapping one Federal government interest bearing liability (reserves) for another federal government interest bearing liability (T-bonds.) Any “Cantillon effects” are trivial. I hope I don’t have to explain to people that this “money” did not “go into the stock market”:
a. The money went into bank reserves, or currency.
b. Money never goes into markets; there is no giant safe on Wall Street storing all the money invested in stocks. Money goes through markets. You buy, someone else sells.
If there were no QE, but equally fast NGDP growth produced by a higher inflation target, stocks would have done equally well. Indeed stocks responded more strongly to forward guidance than QE3 in late 2012.
So now we can rephrase the QE question: “Did Bernanke’s monetary policy since 2009 worsen inequality?” Now it’s much easier to see that we need a counterfactual. You might prefer to describe that policy as 1.5% inflation, or perhaps 4% NGDP growth (my choice.) Either way it’s a fairly contractionary policy. And it’s no longer “obvious” what the counterfactual is, would it be 3% or 5% NGDP growth? In my view 5% growth would have helped the unemployed and the rich more than the middle class with stable jobs (say teachers.) So that has mixed effects on inequality, indeed so ambiguous that it’s probably not worth even thinking about, as the effect would be trivial compared to the net gain to America from a stronger economy.
If you think the alternative to QE was a more contractionary policy, say 3% NGDP growth, then it would hurt the rich and poor more than the middle class. In order to favor that policy you’d have to hate the rich so much that you be willing to impoverish millions of poor people to screw the rich. But even someone who hates the rich as much as Paul Krugman favors QE.
Sorry, but “does QE increase inequality?” is a really, truly moronic question. I apologize for wasting your time.
PS. Here’s Buttonwood at the Economist:
This is at the heart of the matter. Even if the Fed does not increase rates next year, it will surely take a big economic shock to make it resume QE. The markets have relied on the central banks for so long, like a small child holding his dad’s hand when learning to ride the bike. It is time to let go of the hand now, but there will be a few bumps and bruises along the way.
This is truly a horrible metaphor, and helps explain how the developed world got so far off course. Taken literally, the counterfactual to “using monetary policy” is barter. Obviously that’s not what people mean when they say it’s time to stop using monetary policy. Buttonwood probably means that we are propping up the economy with an excessively expansionary monetary policy. But of course that’s confusing the tools (fed funds targets, the monetary base, etc.) with the actual policy itself (1.5% inflation, 4% NGDP growth, etc.)
By 2007 almost no serious economist in America believed that money was “easy” in the early 1930s, despite ultra-low interest rates and massive QE. And now almost all serious economists believe monetary policy has been “easy” in recent years precisely because of ultra-low rates and massive QE. This fact is appalling. The intellectual decline in mainstream macroeconomics since 2007 is stunning–nothing like this regression has happened since the early 1970s, or perhaps the late 1930s. And this time the worst mistakes are being made by those on the right.
By the way, the right metaphor is not training wheels, but rather which way do you want to steer the bicycle? No serious pundit is advocating walking.
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23. October 2014 at 07:45
Savers have had to invest in stores of value at market rates instead of having a central bank maintain an artificial paper store of value with returns above natural market rates which would have been like a small child getting rewarded for trying instead of performing.
23. October 2014 at 07:45
I’m not a huge fan of the question either. But: when you say
“In order to favor that policy you’d have to hate the rich so much that you be willing to impoverish millions of poor people to screw the rich. But even someone who hates the rich as much as Paul Krugman favors QE.”,
aren’t you just arguing over the size of alpha in a Generalized Entropy index? Let’s take the contractionary policy counterfactual, and assume that QE would have increased both the level and share of incomes in the bottom and top incomes, relative to the counterfactual. For sufficiently small alpha, a Generalized Entropy index might conclude that inequality has decreased, but for a sufficiently large alpha, we would conclude that inequality has increased according to a generalized entropy index.
This is all to say that when people say “has inequality increased because of ___”, Scott’s counterfactual argument is important, but you need to nail down what you mean by “inequality” first.
23. October 2014 at 07:56
It’s kind of like if someone asked, “Wow, the eye on this shrimp doesn’t have any apparent living antecedents. What can we learn about evolution from this?” There are an infinite number of interesting things to learn down that path.
But, if you hear someone make the same observation, but they use the phrase “irreducible complexity”, then you know they are interested in none of those interesting answers and follow up questions. The question is a product of their destination. Their destination is the same as their starting place.
It’s the same with the “inequality” meme. You missed the point if you think the question was about finding coherent answers. The question itself is the point.
23. October 2014 at 08:26
These are my assumptions but I wonder if they are correct:
1. Accelerating inflation to some point tends to help debtors and probably job seekers.
2. Decelerating inflation to some point helps creditors.
3. Falling interests rates help stock and bond holders who are selling.
4. Rising interests rate hurt stock and bond holders who are selling.
So if the rich gain from QE because they are stock and bond holders at some point they will give that back when interest rates go up again.
To my thinking higher stock prices due to lower interest rates are really not a great thing for long term stock holders. (That is if the lower interest rates do not cause an increase in earnings.)
High net worth due to owning stocks is good but if stock holders as a class try to sell to consume what happens? It is really the claim on earnings that are the wealth IMHO.
23. October 2014 at 08:35
There are a few point I’m not entirely sure about in this post.
I just read a BoE paper about how it’s not that QE has been expanding bank lending, but that it has led to portfolio rebalancing effects. So while it might be inaccurate to say that the money went into stocks or something like that, I did think that it was reasonable to say something to the effect of it has caused the public to adjust their portfolios to hold more risky assets.
You also make the point “you buy and someone else sells”, which I completely grant in the normal course of things. However, if QE is creating money to buy assets, then it’s not zero sum in the same way, even though someone has bought and someone has sold.
I don’t have any issue with anything else. The whole QE and inequality thing sounds weak.
23. October 2014 at 08:55
Hi Scott,
You said/asked:
“After all, most models are roughly linear, at least for very small changes (I’m rusty at math, so tell me if that is wrong.)”
Not necessarily near an “equilibrium” — a minimum or maximum. There changes are locally quadratic as the linear component vanishes.
Nor in many expectations-based theories where there are discontinuous changes in expectations. One example is here (that I learned from Mark Sadowski):
http://andy.egge.rs/papers/Eggers_Fouirnaies_Recessions.pdf
Also the effect in the linked article from Ben Southwood yesterday is discontinuous in expected/unexpected explanatory variable.
Nor in jumps in stochastic processes.
23. October 2014 at 09:20
“After all, most models are roughly linear, at least for very small changes (I’m rusty at math, so tell me if that is wrong.)”
I’m pretty sure Scott is talking about monotonicity here, not linearity. Linearity is about what happens you superpose functional arguments into a map. Monotonicity is about the sign of the derivative (where it exists).
23. October 2014 at 09:30
I wonder if Economist readers realize how much at odds its columnists are on macroeconomics…
23. October 2014 at 10:23
Kevin Erdmann +1
23. October 2014 at 12:20
I don’t take pleasure in saying this all the time, but we currently have not one economist of the intellectual stature or independent mind of Henry Simons, Frank Knight, Irving Fisher, or Jacob Viner. Just read Knight’s essays on economic and philosophic method, for a start. Irving Fisher’s advisors included Willard Gibbs. For Simons, Knight, and Viner, just think of the list of their students: Aaron Director, Paul Samuelson, James Buchanan, Hyman Minsky, Herb Stein, Dan Patinkin, George Stigler, and Milton Friedman. The Chicago Plan of 1933, which included a plan for reflation and economic help for the needy, basically got it right. No doubt reflation and economic stimulus can be improved upon, but the basic groundwork has been done, and it worked, when it was allowed to do so, in the 1930s. And, yes, I also follow their basic political economy views in general, but vote Democratic. However, I don’t really see any reason to consider these views as being associated strictly with any current party. Weird.
23. October 2014 at 12:37
Another salient counterfactual, rarely asked, is whether the change in inequality made people better or worse off. If the founders of Google or Amazon never started their respective businesses, there might be less inequality, since they created several billionaires, but it’s hard to argue the consumer surplus doesn’t leave us all much better off. And of course several countries experimented with legally enforced income equality in the 20th century, with horrific consequences.
23. October 2014 at 13:04
John Hall, I say QE money has not “gone into stocks”. Look at the biggest holders of excess reserves (foreign banks account for about 50% of excess reserves):
1) Deutsche Bank
2) UBS
3) Bank of China
4) Bank of Tokyo
Many of these banks already had lots of dollar savings via our trade deficit, which they probably held in bonds that have been since purchased via QE.
They simply prefer to hold reserves versus bonds. Probably to earn a tiny spread, bolster their balance sheet (Deutsche Bank), and possibly as liquidity if they still have a lot of bad stuff on their books that might become a problem.
As to inequality, the Fed is not taking money out of anyone’s pocket and sending it there, thus it has nothing to do with inequality.
23. October 2014 at 13:20
The US middle class is finally seeing a recovery: Goldman Sachs
http://www.aei-ideas.org/2014/10/goldman-sachs-the-us-middle-class-is-finally-seeing-a-recovery
23. October 2014 at 13:56
This blog post highlights the deep and fundamental problems with the socialist mindset. Counterfactual analysis becomes sloppy and obnoxious because of the difficulty in thinking outside the socialist box. There is so little effort in really understanding the alternative position that it isn’t clear whether this post is just trolling, or satire.
“Now some people will say; “the obvious implication is that the counterfactual was no QE, and that this was a more contractionary alternative.” This is very likely how people think about it, but of course that assumption is wrong. My preferred policy would have been far more expansionary, and hence would have involved far less QE.”
When you deposit half your paycheck into your personal account, and the other half into your joint account, did anything about the paycheck itself change as compared to depositing the full amount into your joint account?
The concept of QE is itself a confusion. QE is what the Fed has been doing since at least the 1930s, and for intents and purposes has not stopped engaging in QE since.
QE is the act of the Fed buying securities held by member banks (and/or primary dealers).
The Fed has been doing this for many decades. We call this “monetary policy.”
It is absurd to speak of less QE but a more expansionary policy at the same time. A more expansionary policy REQUIRES more QE. It requirs inflation of the money supply. The Fed merely announcing or promising there will be more spending cannot result in increasing spending forever without a higher money supply.
When people say QE increases inequality, what they mean is that the specific transition mechanism inherent in the government caused inflation of the money supply, THAT increases inequality.
Compared to what? That is obvious! Compared to, at least, the exact same overall socialist system except with a lower inflation rate, a lower rate of QE, a lower quantity of OMOs.
Going further, compared to (GASP!) a free market in money, QE significantly increases inequality.
“Does monetary stimulus increase inequality?”
Yes.
“Does delivering monetary stimulus via QE affect inequality more than some other method?”
That question is absurd, because there is always “a” method of inflation that is less inequality inducing than anything other than equal sized helicopter drops to every human being alive.
“I’ll take the second question first. Suppose Bernanke did not do QE, but rather some equally effective stimulus method.”
Other than bond buying? Heli drops? Your suppositions are not clear.
“Perhaps slightly raising the inflation target, or going to level targeting.”
Both of these require QE. Both require inflation of the money supply. Both increase inequality. It isn’t the target that matters, it is the inflation itself.
“Would that make any difference for inequality? I hope it’s obvious that it would not. The mechanics of QE are totally uninteresting.”
False false false. It is PRECISELY the “mechanics” that generatea the inequality.
Compared to equal sized helicopter drops, any and all monetary policies towards any and all targets increases inequality.
Cantillon effects are more significant than you are willing to understand or admit.
“You are just swapping one Federal government interest bearing liability (reserves) for another federal government interest bearing liability (T-bonds.) Any “Cantillon effects” are trivial.”
On the contrary, calling a gain a “swap” misleadingly implies equal value for equal value. Clearly banks value the money more than the bonds, or else they would not sell the bonds. Banks “swapping” bonds for money increases bank wealth but it does not increase everyone’s wealth. That “swap” is what generates inequality.
“I hope I don’t have to explain to people that this “money” did not “go into the stock market”:”
“a. The money went into bank reserves, or currency.”
This is confusion. There was no “money” prior to the increase in reserves or currency. The OMOs, the inflation, IS the increase in bank reserves or currency out of thin air.
“b. Money never goes into markets; there is no giant safe on Wall Street storing all the money invested in stocks. Money goes through markets. You buy, someone else sells.”
When people say “money goes into the stock market” what they mean is that the ratio between prices and spending in stocks on the one side, and all other prices and spending on the other, increases. Money that goes into stocks just means money is spent and respent buying and selling stocks more so than say consumer goods.
“If there were no QE, but equally fast NGDP growth produced by a higher inflation target, stocks would have done equally well. Indeed stocks responded more strongly to forward guidance than QE3 in late 2012.”
More NGDP requires more inflation over the mid to long run. A higher turnover of money is limited.
“In my view 5% growth would have helped the unemployed and the rich more than the middle class with stable jobs (say teachers.) So that has mixed effects on inequality, indeed so ambiguous that it’s probably not worth even thinking about, as the effect would be trivial compared to the net gain to America from a stronger economy.”
See? This is where the socialist mindset prevents any serious counterfactual analysis. Compared to a free market in money, a government caused 5% NGDPLT increases inequality.
“If you think the alternative to QE was a more contractionary policy, say 3% NGDP growth, then it would hurt the rich and poor more than the middle class.”
No it wouldn’t. It would reduce inequality caused by inflation. Any other factors may play a role in affecting inequality, but from a monetary standpoint, inequality generated from central banking is reduced.
“In order to favor that policy you’d have to hate the rich so much that you be willing to impoverish millions of poor people to screw the rich. But even someone who hates the rich as much as Paul Krugman favors QE.”
See? The only other alternative to socialists is other socialist rules.
Millions ARE being impoverished as you get closer to your ideal of more inflation. Inflation, malinvestment, employment in the wrong lines, THAT is what is impoverishing, not the subsequent realization and learning of it through correction/recession.
Recessions are CURES for previous impoverishment.
You suffer from an irrational philosophical worldview that conflates feeling good, with having good health.
“Sorry, but “does QE increase inequality?” is a really, truly moronic question. I apologize for wasting your time.”
Sorry, but the only truly moronic thought on this post is MM.
“PS. Here’s Buttonwood at the Economist:
“This is at the heart of the matter. Even if the Fed does not increase rates next year, it will surely take a big economic shock to make it resume QE. The markets have relied on the central banks for so long, like a small child holding his dad’s hand when learning to ride the bike. It is time to let go of the hand now, but there will be a few bumps and bruises along the way.”
“This is truly a horrible metaphor, and helps explain how the developed world got so far off course.”
Why? Because it makes you feel immature and dependent doesn’t it? It is an excellent metaphor because it captures the psychological element that accurately represents the socialist mindset. Government is mommy and daddy who must take care of us socialist brother and sister children.
“Taken literally, the counterfactual to “using monetary policy” is barter.”
Nonsense. Taken literally, there is more than one counterfactual. The counter factual to using monetary policy is NO monetary policy. Did you know that money arises in free markets? That it is wrong to believe that if the government doesn’t monopolize money, that we would have no money? Geez Louise, what are we going to be told next? That if the government doesn’t build roads, we’ll all be dragging our horse carriages over mud paths? Private roads….private money. OMG!
“Obviously that’s not what people mean when they say it’s time to stop using monetary policy. Buttonwood probably means that we are propping up the economy with an excessively expansionary monetary policy. But of course that’s confusing the tools (fed funds targets, the monetary base, etc.) with the actual policy itself (1.5% inflation, 4% NGDP growth, etc.)”
Assume the worst. It works doesn’t it.
“By 2007 almost no serious economist in America believed that money was “easy” in the early 1930s, despite ultra-low interest rates and massive QE. And now almost all serious economists believe monetary policy has been “easy” in recent years precisely because of ultra-low rates and massive QE. This fact is appalling. The intellectual decline in mainstream macroeconomics since 2007 is stunning-nothing like this regression has happened since the early 1970s, or perhaps the late 1930s. And this time the worst mistakes are being made by those on the right.”
The mirror is your friend.
“By the way, the right metaphor is not training wheels, but rather which way do you want to steer the bicycle? No serious pundit is advocating walking.”
The better metaphor is training wheels and you want mommy and daddy to make sure you don’t fall over, because exactly like you implied above, the only alternative to socialist money is no money at all. How utterly bankrupt.
24. October 2014 at 00:21
In MV = PY, does P include stock prices? Thank you
24. October 2014 at 04:42
Benoit, Good analogy.
John, Yes, I agree that there is ambiguity surrounding the meaning of “inequality.”
Kevin, Nice analogy.
Floccina, Good points, but also remember it’s not a zero sum game–so it’s possible both debtors and creditors lose, because creditors might also own other assets that lose value, like stocks. I’m a creditor, but higher inflation helps me via stock price increases.
Jason and Saturos, That’s what happens when it’s been 35 years since I took math–yes I meant monotonic, not linear. I should just never mention math again.
Donal, But in fairness it’s easier to become a “great” in the early years of any new art or science. In science, new technology allowed for a second wave of greats in the first half of the 20th century. But do our current physicists compare to Einstein and the other greats of his generation? In poetry it’s probably been all downhill since Dante and Shakespeare.
Talldave, Good point.
Maurizio, Generally it does not, although it’s up to the person who uses it. Recall that stocks are a “stock” variable and income is a flow. So it’s like adding apples and oranges.
24. October 2014 at 05:45
I think the equity valuations are based on two things: projected future discounted cash flows and other alternatives. The discount rate in the first is affected by current and future interest rates, so monetary policy has some indirect affect here. The expected future cash flows are also heavily influenced by expected future NGPD growth, so here too monetary policy has some affect. So does QE, aka monetary policy cause inequality? I think this question is akin to asking “Did gravity cause the plane to crash?” Monetary policy affects rates and growth. What’s interesting to me though is that the implicit admission of the people critical of QE is that QE increases growth and THAT causes inequality. They seem to be arguing that we need low growth to cure inequality. This will, as Scott points out, hurt everybody and the poor much more. But as the saying goes “socialism is the equal distribution of misery.”
24. October 2014 at 08:09
Matt McOsker:
There is a technical reason excess reserves are ending up at foreign banks:
GSE’s/FHLBs are not eligible for interest on excess reserves, and therefor must lend in the funds market…
…meaning some bank which is eligible for IOER must intermediate that trade by borrowing from a FHLB and “lending” to the Fed at IOER, at some spread…
…since foreign banks, unlike US banks, are not subject to FDIC fees, they can accept a narrower spread to intermediate this flow. Ergo, they do, borrowing from a FHLB at 5-8bps and lending to the Fed at the 25bp IOER rate.
I’m not sure if anyone’s added up the accumulated sum total of this government subsidy to foreign banks yet…
24. October 2014 at 12:06
Mostly off topic, but amusing — Krugman as underestimating the true depth of conservative villainy:
http://thefederalist.com/2013/12/17/paul-krugman-doesnt-get-true-depth-conservative-villainy/
24. October 2014 at 13:58
Lorenzo,
“Remember: you only care about someone if you’re dedicated to compelling someone else to give money to an effort. The only purpose of giving of your own free will is self-aggrandizement. The only kind of spending which demonstrates actual care for the poor and unfortunate is government spending.”
????????????????
WTH?
Is this a stealth passage written by Major Freedom as parody?
24. October 2014 at 20:01
“In order to favor that policy you’d have to hate the rich so much that you be willing to impoverish millions of poor people to screw the rich. But even someone who hates the rich as much as Paul Krugman favors QE.”
Virtually every opinion poll supports the view that the vast majority of Americans were willing to make precisely such a tradeoff with regard to the bailouts, of which QE is arguably the latest installment. (Although it would be more accurate to say “screw Wall St.,” as opposed to “the rich” per se). So what we have is an extremely unpopular central bank policy whose first order effect (and perhaps only tangible effect) has been to preserve a financial system that most people find odious. I don’t think they want you looking out for them, I think they want what they want.
25. October 2014 at 00:38
Earlier this month, I estimated the excess expected return from real estate, which I suppose actually addresses the question, even though I mocked the question in an earlier comment:
http://idiosyncraticwhisk.blogspot.com/2014/10/framing-is-everything-housing-and.html
QE ended too soon, so homes are still underpriced and real estate credit is still dead. So, there is exceptional excess return available and home prices are low. This helps institutional investors and hurts homeowners.
More QE would increase home prices and reduce the excess returns available to institutions with non-mortgage financing.
25. October 2014 at 04:26
Briangobosox, Very interesting comment.
Maynard, I support QE but oppose bailouts, so I don’t see a contradiction there.
25. October 2014 at 04:28
@Scott
“but higher inflation helps me via stock price increases.”
I’m not sure how that helps you. Doesn’t the higher inflation reduce your wealth (i.e. what you are able to ultimately consume from your stock portfolio) as much as the increase in stock prices enhances it? That is, isn’t this a wash? Or is there something else to the equation you have not explicitly mentioned, e.g., “relative to something else I might have invested in”?
@Kevin Erdmann
“QE ended too soon, so homes are still underpriced …”
I’m not sure what you mean by “homes are still underpriced”. I’m struggling with three possibilities (there may be others):
1. You don’t accept the efficient market hypothesis;
2. You do accept it, but do not think the market in homes is efficient;
3. Homes could trade for higher prices if monetary policy were different (but does that mean they are “underpriced”?). Compared with what? Are you concerned with nominal or real prices? Are you saying that QE is distorting the market?
25. October 2014 at 04:39
Vivian, When the economy has slack, monetary stimulus increases both real and nominal stock prices, as its not a zero sum game. Monetary stimulus makes the pie bigger, so multiple groups in our society can benefit, not just one group. Labor and capital, borrowers and lenders, etc.
25. October 2014 at 04:44
Scott,
Then, if that is your explanation, your focus on “inflation” and its effect on “stock prices” is, in and of itself, meaningless.
25. October 2014 at 05:51
Prof Sumner: I think the problem people see is that just one group has clearly benefited so far, the you-know-who. I’m sure (or think) this concerns you, too, but I’m not aware of how you would plan to address this problem. I could be wrong, but NGDP doesn’t seem to address it either. My guess is that your answer would be that the best way to reduce inequality is to create more jobs for people via NGDP targeting, but I don’t think you (or other monetarists) have been persuasive that the results would differ from what we are seeing now. Thanks//
25. October 2014 at 06:10
Maynard, You said:
“I think the problem people see”
The problem is that “people” don’t have a clue as to what is going on. People don’t understand that money is tight, not easy. They don’t understand that unemployment in the US has plunged and unemployment in the eurozone has soared solely because of differences in monetary policy. They don’t understand that QE has not increased inequality.
So yes, there are problems with the fact that what people see is not true, and the whole purpose of my blog is to try to educate people. That’s my goal, and all I can do is keep trying in every way I know how.
You said:
“My guess is that your answer would be that the best way to reduce inequality is to create more jobs for people via NGDP targeting,”
That guess is wrong. I don’t favor reducing income inequality, but I do favor reducing consumption inequality. But not through NGDP targeting, I favor wage subsidies, high MTRs are very high level consumption, etc.
You are complete right that NGDP doesn’t address inequality. Nor did the last root canal I got. But it was still worth getting that last root canal, wouldn’t you say? I hope there is no one out there who is so clueless that they think income inequality in America is one of our top 5 problems. It’s nothing like the problem of mass unemployment.
Vivian. Sorry, that comment went right over my head. Could you explain.
25. October 2014 at 07:17
It is meaningless because an increase in the nominal price of the stock market says nothing about any real rise in the value of stocks (or any real increase in the output of the economy as a whole).
I guess this is a recurring issue for me with respect to your argumentation, or should I better say, in this context, commentary. Perhaps I’ve witnessed too many carnival games and thus am trying to focus on where the ball is and not where your hands are trying to direct my attention (whether or not any deception is intended). Stated differently, I care very much less about the alleged means than I do about the result and whether the purported means actually lead to that result. NGDP targeting or, for that matter, whatever monetary policy one chooses to advocate, is only interesting (and valid) for me to the extent that it increases overall welfare in the real sense. The comment about inflation being “good” for stock prices and, hence for you, is a prime case in point. It assumes, without more, that a nominal increase in stock prices caused by inflation is good. Even if you add, as you have here, that, well, of course, the monetary policy also increased “real stock prices” that makes a (too) big assumption regarding causation. I’m interested in the causation part of it; not a bald conclusion, much less an implied one. I suppose the magician’s reply, much like the carnival trick, would be “well, that’s not necessary, because I’ve written about it hundreds of times elsewhere in my blog”.
My perception is that the value of NGDP targeting is too often assumed here (the assumption being that it is the preferable means to increase overall real GDP) and that nominal variables are too often conflated with real variables. (Or, if one wants to be less bourgeois and materialistic about it, that it is the preferable means to achieve advances in everyone’s overall “welfare”, but that’s another story). Perhaps it’s just my perception, but I have no such doubts about where my focus should be.
25. October 2014 at 08:31
Briangobosox, I agree. My point is that excess reserves will just end up where they end up, because of technical reasons that mandate where the reserves go. For example, if a bond mutual funds sells some bonds, then it is mandated to buy more to meet the fund mandate. Same jist in your example. Or with balance of trade payments where the country with a surplus will hold dollars regradless, either as reserves or bonds. It is not “flowing” to stocks.
I will find the link but someone has added up the interest to foreign banks.
25. October 2014 at 08:37
Vivian, You said:
It is meaningless because an increase in the nominal price of the stock market says nothing about any real rise in the value of stocks (or any real increase in the output of the economy as a whole).”
Of course that’s true by itself, but surely I don’t have to remind you that if stocks go from 666 to 1950 in 5 years and the CPI rises less than 10%, that real stock prices have risen. A lot. Now there is also of course the issue of whether the increase was caused by monetary policy. I’d guess some of it was, but less than half. Depends on the counterfactual. Is it zero inflation for 5 years?
We have very good models and lots of data linking stock prices, both real and nominal, with inflation. Here are some conclusions that I have frequently discussed:
1. Theory strongly suggests that money is roughly neutral in the long run. Thus inflation by itself probably has no long run effect on real stock prices. Obviously nominal stock prices are affected by inflation.
2. When there is slack, inflation created by monetary stimulus can boost real output. The stock market responds to this sort of inflation differently from the way it responds to inflation when there is no slack. Thus higher inflation helps RGDP and real stock prices a lot in the 1930s, but not the late 1960s (when there was little or no slack.)
3. Market reactions to policy surprises in recent years suggest that markets believe there is slack, and hence they respond to policy initiatives in a way more similar to the 1930s than the 1960s. That was my assumption.
Of course I’ve said many times that inflation doesn’t matter, and should never be discussed. Then I break my promise. Obviously this discussion would have been clearer in NGDP terms, rather than inflation.
25. October 2014 at 09:21
Scott,
Thanks. But, in reading through your latest, the following struck me as the only real substantive point in response to mine:
“When there is slack, inflation created by monetary stimulus can boost real output”.
Of course, that is still only a conclusion and one you now seem to be disavowing. I think you need to focus a lot more on whether that is true and why (assuming that it is the inflation component of NGDP that you think is indirectly driving the real gains—if not, your reasoning is circular). It’s your blog and you can write about whatever you want; but, make no mistake, I’ve got my eyes firmly on that ball.
25. October 2014 at 12:25
Vivian, if we bought homes like we bought equities, your point would be valid. But cultural and regulatory legacies mean that we buy homes buy taking a full equity position in a piece of real estate and take on mortgage debt to cover the difference. So, in this context banks serve as gatekeepers for housing demand. Part of my thesis is that higher home prices are perfectly justifiable in the current interest rate environment. But homeowners are still overleveraged because of the housing bust that came from tight monetary policy and mortgages are further dampened by pro-cyclical regulatory over reach. We needed home prices to appreciate by at least 10% more through monetary policy just to get back to an efficient home market.
25. October 2014 at 12:53
Kevin,
Honestly, your response doesn’t make sense to me. What “we need”, etc., says nothing about whether houses are undervalued or overvalued. You may think it would be better to have higher housing prices, but that doesn’t mean that the current prices are not the “correct” ones. The price of housing may be more sensitive to interest rates than the price of equities (although some people do buy equities on margin and equity prices are certainly affected by rates by virtue of discounting future earnings). If “correct” market prices were nothing more than a reflection of my wishes for different monetary policy, that would make a mockery, I think, out of the very idea of what market price is. Either markets are efficient and the prices therefore are “correct” or they are not efficient and perhaps current prices don’t reflect intrinsic value.
I assume by “bankers”, you also mean central bankers, or perhaps, primarily central bankers. But, central bankers can influence equity market prices, too (certainly, on this point, Scott seems to agree, even if we may have some disagreement over the effect nominal prices versus real values). The idea of “bankers being gatekeepers” does not say anything one way or the other as to whether the current price of housing (or any other asset) is “over- or undervalued”.
Central banking (and private banking) policy is part and parcel of market conditions. Prices respond to those conditions, certainly. But to say that prices would be different if a different policy were to prevail, says nothing about whether current prices are “incorrect” one way or the other.
I thought you might argue that the housing market is less efficient than equity and bond markets because it is less liquid and information is therefore more slowly incorporated into prices, but that’s apparently not what you are saying.
If you are comfortable in your analysis that houses are undervalued, perhaps you can make a ton of money investing in some REIT’s, preferably on margin. I wish you luck, but I seriously doubt you’ve discovered something that “the market” doesn’t know.
25. October 2014 at 12:53
Vivian,
I’m confused about what the ball is … you only care about real apreciation in stock prices or real gdp growth?
Now on to home prices!
Talking about efficiency in the real estate market is hard. This stuff is not liquid and all kinds of weird laws and fees apply and to make it worse they are different from place to place and changing all the time. Which I know you know.
Anyway Kevin made an argument about the future evolution of both monetary and regulatory policy. It was quite a good post–you should read it! So the answer to your question is sort of number 3. One thing he argues (which I will attempt to paraphrase) is that one of the more plausible routes to higher interest rates (which would seem to be a downside for private investment in housing) is actually a loosening of credit standards / borrowing limits on housing finance for current renters. So if you lose you win. And, of course, if that doesn’t happen it would appear the demand for rentals will remain robust.
He doesn’t mention the downside risk of a dramatic loosening in construction regulation … Hahahahahahahahaha…..
😉
25. October 2014 at 13:37
Vivian, I will be making exactly that investment, and I have outlined the position on my blog. But, tight money is keeping home prices from their efficient levels, so I don’t have the position now. I might take the position if recent regulatory changes announced by FHFA remove enough of the frictions in the housing market to allow it to proceed to intrinsic values.
I have a very specific point of view on housing. I have dozens of posts on it at my blog, including the link from my earlier comment. You are under no obligation to read them. But, your comment here doesn’t really address my position. That’s fine. But, there just isn’t anything for me to respond to in your last comment.
25. October 2014 at 17:45
“The problem is that “people” don’t have a clue as to what is going on. People don’t understand that money is tight, not easy. They don’t understand that unemployment in the US has plunged and unemployment in the eurozone has soared solely because of differences in monetary policy. They don’t understand that QE has not increased inequality.”
The problem is that Sumner doesn’t have a clue as to what is going on. He doesn’t understand that money is easy, not tight. He doesn’t understand that unemployment in the US has plunged and unemployment in the eurozone has soared because of many factors that he purposefully blinds himself to. He doesn’t understand that QE has drastically increased inequality.
25. October 2014 at 18:04
Never reason from a spending change, a price change, or an employment change.
Money is not tight or loose according to these criteria, and most people who believe money is loose, are correct. Sumner is incorrect, and he is incorrect because he is reasoning from spending and employment changes.
The Fed is not omnipotent. Sorry monetary socialists.
26. October 2014 at 04:40
Vivian, You said:
“Of course, that is still only a conclusion and one you now seem to be disavowing. I think you need to focus a lot more on whether that is true and why (assuming that it is the inflation component of NGDP that you think is indirectly driving the real gains””if not, your reasoning is circular). It’s your blog and you can write about whatever you want; but, make no mistake, I’ve got my eyes firmly on that ball.”
You need to write that idea in a clearer way, I have no idea what you are even trying to say in this paragraph. For 6 years I’ve been blogging thousands of pages providing lots of evidence that monetary shocks have real effects. Is that what you are questioning? If not, what is your point? What is this “circular reasoning” that you refer to? I may have lots of flaws, but I think I’m smart enough to avoid circular reasoning.
Nick, I’m glad I’m not the only one confused by Vivian’s comment. Normally she is very easy to understand.
26. October 2014 at 07:26
Sumner,
“For 6 years I’ve been blogging thousands of pages providing lots of evidence that monetary shocks have real effects.”
Yet nowhere do you write how pre-2007 monetary factors had post-2007 real effects. There is only the belief that post-2007 monetary factors had post-2007 real effects.
Every single blog page that you believe shows evidence that monetary shocks have real effects, do not prove the theory that the causation order during 2008-2009 was NGDP factor caused real production changes.
We can believe that monetary changes cause real changes in principle, but we can also believe without contradiction that monetary factors have real effects and that those real effects then become causes in their own right, which then cause monetary changes.
Kevin:
“But, tight money is keeping home prices from their efficient levels, so I don’t have the position now.”
Kevin, the only way anyone can know what the “efficient” price is for anything is through the market process. You cannot know home prices are efficient or inefficient by way of the stance of inflation from a non-market counterfeiter.
Vivian,
I get what you are looking at. Recent years have empirically cast doubt on the “inflation can help when there is slack” belief hasn’t it? I await explanations as well. That ball will become more and more focused on as present relevent trends continue.
26. October 2014 at 07:57
Scott,
You wrote:
“”When there is slack, inflation created by monetary stimulus can boost real output”.
So, *clearly*, you’ve stated that *inflation* can boost real output. That is, inflation was stated as the causal factor. And, the above-referenced sentence is the statement of a conclusion, nothing more. Are you in doubt about that?
But, here, you later you write:
“Of course I’ve said many times that inflation doesn’t matter, and should never be discussed. Then I break my promise. Obviously this discussion would have been clearer in NGDP terms, rather than inflation.”
So, *I’m* the one who is not clear? If “inflation doesn’t matter”, that comment was not just “unclear”; it was wrong.
So, let me try again.
OK, so the rectified explanation appears to be that it is not inflation, after all, that causes the increase in RGDP, but an increase in NGDP caused by monetary stimulus.
If we split NGDP into it’s components, we get RGDP plus inflation.
So, either it is the inflation that is causing the increase in RGDP (which you’ve disavowed), or it is RGDP that is causing the increase in RGDP (circular), or it is a combination of both, which is not only circular but imprecise.
Scott, if you want to be clear about what it is you are trying to say, there is no need to spend “thousands of pages” in doing it. I’m trying hard to follow your injunction to just read what you’ve written at face value and nothing more, but in doing just that, what you’ve written above isn’t making a lot of sense to me for the simple reason that is hard to follow someone’s argument that ends with “Obviously this discussion would have been clearer in NGDP terms, rather than inflation”. First, never begin a sentence with “Obviously”. Second, never expect me to accept your explanation based solely on a discussion that “would have been” but (obviously) never occurred.
Clear enough?
26. October 2014 at 09:06
More inflation transfers real capital away from wealth generating activity, to wealth consumption activity.
Never reason from an employment change.
27. October 2014 at 04:51
Vivian, I think most readers by now understand that when I say inflation causes higher RGDP whe the economy has slack I mean “demand side inflation causes higher output.” But yes, it would be better if I never mentioned inflation, as it is ambiguous. Long time readers of my blog understand the context here, but I should be clearer.
BTW, The fact that my post was unclear on that point in no way shows that your initial comment was clear. 🙂