Do you remember when low inflation was good news?

When I was young the US had high inflation, and reports of lower than expected inflation was treated as very good news.  During the long “Great Moderation” the Fed kept NGDP growing at a fairly stable rate of about 5%.  In that environment low inflation was usually viewed as good news because it allowed for more real growth.  But now it’s become bad news:

NEW YORK (Reuters) – Stock futures extended declines after data showed retail sales dropped for the second straight month and U.S. producer prices fell sharply in May.

It was the sharpest decline in the PPI in three years.  If it was caused by more AS, it would be good news.  But the more likely cause is less AD, which might explain the weak retail sales numbers.  Of course David Glasner has provided much more systematic evidence of the way that low inflation has suddenly become bad news during the Great Recession.

People often ask how I can be so confident that market monetarist policies would help the economy.  It’s partly based on all the macro evidence that other economists look at, such as the fact that countries began recovering from the Great Depression when they left the gold standard, even though at the time most people felt monetary stimulus would not help, because the problems were “structural.”  But it’s partly because the markets themselves seem thoroughly market monetarist.  I find it almost comical the way reporters flounder around trying to explain Wall Street’s obvious preference for monetary stimulus.  They talk disparagingly of “another monetary fix” like the stock market was some sort of drug addict.  BTW, newspapers used the same “inflation is a drug” metaphor in the 1930s.  Both then and now reporters are forced to report the obvious fact that markets very much want more of the monetary stimulus that reporters insist will be useless–pushing on a string.

Just yesterday a strong stock market rally was kicked off by Charles Evans comments in favor of further Fed easing.  Just think about that, Evans is not even on the FOMC this year.  If even the tiniest hint of easy money can cause a big stock market rally, just imagine what a bold move by the Fed on June 20th would do!

It’s fashionable for both the left and the right to disparage stock market reactions, because the market is an unforgiving judge.  It’s not liberal or conservative, it’s pro-success.  It’s like a mirror held up to each economist’s pet theory, and the reflection is often very unflattering.  Conservative views that the problem is entirely structural—Wrong!  Liberal views that the Fed is out of ammo at zero rates—Wrong!   Most people can’t deal with reality, so they call the market “irrational.”  Sometimes markets do make mistakes, but it’s far more likely that the theory that conflicts with market reactions is wrong.

More than two years ago I did a post on Greece that is actually far more relevant today.  I’ll just summarize the post below, but I encourage readers who missed it to take a look.  Back in the early 1930s the war debts crisis was obviously causing problems for the US equity markets.  But the reason was unclear.  Was it because of  the fiscal or monetary implications of the crisis?  Then the US left the gold standard in April 1933 and the debt crisis suddenly stopped affecting Wall Street, despite the fact that it continued to have troublesome fiscal implications for the US.  The reason is obvious; the real problem was the monetary implications of the crisis.

I predict that if the ECB adopted 5% NGDP targeting (level targeting) tomorrow, the Greek crisis would continue, but it would no longer have a big impact on Wall Street.  The transmission mechanism is monetary.

Lot’s of people from Bernanke on down keep telling us that a recovery is just around the corner.  I’m an optimist by nature, so I want to believe it’s true.  But then I look at this:

HT:  John Thacker


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54 Responses to “Do you remember when low inflation was good news?”

  1. Gravatar of Ryan Ryan
    13. June 2012 at 06:38

    According to Mises’ account of the Weimar hyperinflation, business was very good throughout it. Having read that account, I’m not so sure your appeal to market preference addresses that angle of criticism. Remarks on the short-run performance of the stock market are not the strongest evidence against the long-run criticisms against inflationary policy.

  2. Gravatar of StatsGuy StatsGuy
    13. June 2012 at 06:51

    “If even the tiniest hint of easy money can cause a big stock market rally, just imagine what a bold move by the Fed on June 20th would do!”

    I was hopeful, until oil prices began to rise again… The Fed wants/needs a guarantee of low inflation for months to come, before they do anything.

    They’d be better off if it wasn’t so discrete (the NGDP target gets that). Or, they could simply say on June 20th – “We’re going to buy 60 billion in assets this month – we’ll review each month and see if we need to buy or sell till we hit our target.” 60 billion is nothing compared to QE1, but it signals the Fed really means it.

    Yet they don’t… why? Who knows why.

  3. Gravatar of Scott N Scott N
    13. June 2012 at 07:02

    Scott, I don’t think you’re interpreting the market entirely correctly. I trade stocks a lot (up 10% YTD right now) and I can tell you what is going on. First, the market does not like to drop. It only drops significantly when it looks like things are really, really bad. There are really only two things that seem to make the market think things are going to be really, really bad – the monthly non-farm payroll reports and Fed actions.

    Right now, all economic indicator are bad and everything coming out of Europe is horrible … but the market is up yesterday and today (as of this writing). Why? Because there is a Fed meeting next week and the market is latching on to the hope that the Fed will do something to save it from this economic dreary wasteland. The market tries to anticipate market bottoms and it is doing that right now by anticipating that the Fed will do something significant next week. The market is rising because no one wants to be the last guy to jump on board the QE3 express train. I’ve seen this happen repeatedly in the last year.

    The problem with all this is that the market is really, really setting itself up to be disappointed come next Wednesday. If the FOMC doesn’t implement a balance sheet expansion, the market will drop significantly. Why? Because suddenly the market will realize that all the hope it put into the Fed was for naught. It will realize that it is hanging over the edge of the abyss and the Fed did nothing to keep it from falling so fall it will.

    The Greek elections have the potential to further increase the market’s already tremendously high expectations. If The election goes badly, the market will almost be demanding further Fed action.

    The sad thing to me is that I haven’t seen anything to indicate that the Fed will implement any kind of QE3. I expect the market to be disappointed and fall substantially. In fact, I plan to trade that exact scenario next Wednesday when the FOMC statement is released.

  4. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 07:24

    Stats, you lead the way to my point.

    Ben should say,

    “Reduce regulations on commodity extraction, including drilling in gulf and and the pipeline by the end of July, and we’ll set the inflation target for 3% for two years.”

    And we as MM who know the Fed has real power will run and scream at Obama and the US Senate to do EXACTLY what Ben says.

    The PROBLEM is that Ben and Fed do not have the ability to do to the US govt. what the ECB is able to do.

    Ben should EXPLAIN that Obama has a choice, and that since QE / econ recovery can leads to higher commodity prices, and more expensive gasoline, in order for the Fed to really work its magic, it PREFERS to see deflationary commodity effects.

    Ben needs more cojones.

    Greenspan HAD THOSE COJONES.

  5. Gravatar of o. nate o. nate
    13. June 2012 at 08:12

    Scott N-
    I don’t think what you’re saying contradicts Scott S’s point – in fact it supports it. You say the main thing keeping the market afloat right now is hopes that the Fed will signal QE3 next week. But why would the market cling to QE3 hopes unless Scott is right that (A) the market believes the problem is primarily monetary and (B) the market believes the Fed has ammo left? If it didn’t believe that, why would it care so much about QE3?

  6. Gravatar of ssumner ssumner
    13. June 2012 at 08:26

    Ryan, That doesn’t have much bearing on my argument, unless you can show that the German hyperinflation increased real stock prices in Germany.

    In any case, the 1960s and 70s in the US is much more relevant, and higher inflation hurt stock prices–probably by increasing the real tax rate on capital.

    This is also why we need a NGDP futures market–we could resolve these issues once and for all.

    Statsguy, Why? Read Bernanke’s essays on the strange passivity of the BOJ.

    Scott N. I’m puzzled. You said I am not interpreting the market correctly, and then you give me the exact same interpretation that I just provided. So what is my mistake?

    o. nate. Exactly.

  7. Gravatar of Adam Adam
    13. June 2012 at 08:28

    I dismiss stock market reactions as indicators not because they are irrational but because they are extremely noisy and most movements don’t mean anything at all.

  8. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 08:29

    ssumner:

    During the long “Great Moderation” the Fed kept NGDP growing at a fairly stable rate of about 5%. In that environment low inflation was usually viewed as good news because it allowed for more real growth. But now it’s become bad news:

    NEW YORK (Reuters) – Stock futures extended declines after data showed retail sales dropped for the second straight month and U.S. producer prices fell sharply in May.

    It was the sharpest decline in the PPI in three years. If it was caused by more AS, it would be good news. But the more likely cause is less AD, which might explain the weak retail sales numbers. Of course David Glasner has provided much more systematic evidence of the way that low inflation has suddenly become bad news during the Great Recession.

    You see that folks? Sumner is again conflating a fall in NGDP with a fall in consumption spending, as if one falling means the other is falling.

    We have had 4-5% NGDP growth since 2010. If consumer spending is falling, then 4-5% NGDP growth means investment spending must be rising.

    And you guys think I don’t get NGDP targeting? The ostensible intellectual figurehead of it doesn’t even get it.

    People often ask how I can be so confident that market monetarist policies would help the economy. It’s partly based on all the macro evidence that other economists look at, such as the fact that countries began recovering from the Great Depression when they left the gold standard, even though at the time most people felt monetary stimulus would not help, because the problems were “structural.”

    This is a myth that needs to die already.

    Many people unfortunately believe that there is a correlation between the order of countries that left the gold standard and the order of their respective recoveries. As of Janurary 1931, Japan, Germany, the UK, the US, and France were all on the gold (exchange) standard. The order of their leaving the gold standard (from first to last) is Germany, Britain, Japan, the United States, and then France. The size of inflation adjusted output however is ranked (from highest to lowest) Japan, Britain, Germany, US, and then France. If we looked at just the top three countries, the theory that leaving gold is bad for economic growth is confirmed.

    They “recovered” the same way someone who owes money “recovers” after defaulting on their debts. Is that a recovery for all? No. It’s a recovery for some and exploitation of others. I too could “recover” from losses and/or unemployment and/or bankruptcy by printing my own money. But the losses will fall on others. They aren’t eradicated. When France left the gold standard, their losses were transferred over to everyone with debt denominated in Francs, and within the country of France, the losses of those who received the new Francs were transferred over to those who received them last. You can’t say “France” recovered. All you can say is that the French government, and those who received the new Francs first, gained at the expense of everyone else, including other French people.

    So in this way, countries that were still on gold, were cheated by other countries that left gold. It’s like a thief making apparent gains in a world where everyone else respects property rights. If we observed a collection of people, and one by one they each start stealing, then we’ll probably see a strong correlation between “abandoning production and exchange” and “prosperity”. Would anyone conclude that because there is a correlation between abandoning production and exchange, and prosperity, that everyone should abandon production and exchange? Of course not. Those who steal depends on those who produce and exchange.

    If leaving gold and reneging on promises leads to gains, then why don’t fiat bugs call for decentralization of central banks, so that not only countries can print money, but people within countries can print as well? Instead of having pseudo-gold standards state to state, and city to city, there can be more dollar printers, so that each state and city can “recover” faster than what the central banks are willing to print! If you say no, there should be a limit to money printing, then why not the limit of the gold standard?

    But it’s partly because the markets themselves seem thoroughly market monetarist.

    Now that’s funny. 90% of businessmen don’t even know what NGDP is, and yet the market “seems” so thoroughly market monetarist. No, SUMNER is thoroughly market monetarist, and so he can only see that around him, as if the world around him agrees. How’s that for solipsism.

    I find it almost comical the way reporters flounder around trying to explain Wall Street’s obvious preference for monetary stimulus. They talk disparagingly of “another monetary fix” like the stock market was some sort of drug addict.

    Did I call that or what!?

    BTW, newspapers used the same “inflation is a drug” metaphor in the 1930s. Both then and now reporters are forced to report the obvious fact that markets very much want more of the monetary stimulus that reporters insist will be useless-pushing on a string.

    Indeed, drug addicts very much want more of the drug that doctors will say is destructive to their long term interests!

    It’s fashionable for both the left and the right to disparage stock market reactions, because the market is an unforgiving judge. It’s not liberal or conservative, it’s pro-success. It’s like a mirror held up to each economist’s pet theory, and the reflection is often very unflattering. Conservative views that the problem is entirely structural””Wrong! Liberal views that the Fed is out of ammo at zero rates””Wrong! Most people can’t deal with reality, so they call the market “irrational.” Sometimes markets do make mistakes, but it’s far more likely that the theory that conflicts with market reactions is wrong.

    Keynesian views that the problem is lack of demand-Wrong!

    Market monetarist views that the problem is lack of spending-Wrong!

    Conservative view that the problem is structural-Right!

    Market monetarists not being able to deal with their own contradictory worldview, let alone reality, so they call market participants as “irrationally” setting sticky prices-Priceless!

    Back in the early 1930s the war debts crisis was obviously causing problems for the US equity markets. But the reason was unclear. Was it because of the fiscal or monetary implications of the crisis? Then the US left the gold standard in April 1933 and the debt crisis suddenly stopped affecting Wall Street, despite the fact that it continued to have troublesome fiscal implications for the US. The reason is obvious; the real problem was the monetary implications of the crisis.

    No, the real problem was the structural problems built up during 10 years of central banking. Sure, when the government stopped promising to redeem US dollars for gold for the average citizen, and printed money for the banking system, OF COURSE the banking system would “recover.” But their recovery came at a cost to everyone else, whom you conveniently ignore because it will challenge your inflationist worldview. Just focus on certain parties, and yes, you can always show how printing money helps THEM. But you’d be ignoring the millions of others who not only lost their jobs, but had their purchasing power reduced as well.

    I predict that if the ECB adopted 5% NGDP targeting (level targeting) tomorrow, the Greek crisis would continue, but it would no longer have a big impact on Wall Street.

    You’re right. The impact would be on all those who must pay the costs as money printing merely transfers the costs to others. Typically the banks receive new money first, so they’ll gain at everyone else’s expense.

    Yippee! What an awesome solution. Reward the people who made bad loans, and take purchasing power away from those who didn’t to pay the reward. That’s market monetarism in a nutshell, folks.

    The transmission mechanism is monetary.

    And the resulting problems are crystallized into structural discoordination, which more money crack won’t solve.

    Lot’s of people from Bernanke on down keep telling us that a recovery is just around the corner. I’m an optimist by nature, so I want to believe it’s true. But then I look at this:

    Never reason from interest rates.

    Even if you subscribe to the silly positivist epistemology, you’d still have to accept that history has shown interest rates are not an accurate predictor for the future state of the economy.

  9. Gravatar of Cedric Cedric
    13. June 2012 at 08:35

    >>>Ben needs more cojones.

    I know. And guys with beards usually have them in spades.

    Maybe Ben and Anthony Kennedy can form a “Oh, I Don’t Know . . . Someone Else Do Something” political party. Shy Ronnie could perform at the convention.

  10. Gravatar of Scott N Scott N
    13. June 2012 at 09:14

    Scott, just to be clear, I think you are mostly correct. I don’t think: (a) the market went up yesterday in response to Evans (it was due to anticipation of the Fed meeting) and (b) the market drop this morning was due to lower PPI (I think it was influenced more by the weak retail sales number not to mention that the market went up shortly after it opened; in other words, a very short term market drop that happened to coincide with low PPI should not be interpreted as a causal relationship).

  11. Gravatar of Ryan Ryan
    13. June 2012 at 09:26

    Well, gee, Prof. Sumner, it has *a little* bearing on your argument, considering the totality of my reply…

  12. Gravatar of dwb dwb
    13. June 2012 at 09:55

    “Do you remember when”

    I remember when the “wealth effect” from rising stock prices was something we all looked forward to, instead of (on Bloomberg!) how “the rich gained/lost 32 Bn from rising/falling stock prices” … and when we tried to harness “incentives” and “greed” to solve problems like pollution. thems the good old days.

  13. Gravatar of Steve Steve
    13. June 2012 at 10:15

    It’s not just reporters. “Strategists” are all running around in public talking about how the Fed has spent its bullets. Of course, “Strategist” is really a euphemism for “sales guy” on much of Wall St. Meanwhile, the traders and portfolio managers who aren’t sales guys are buying every monetary stimulus announcement. It’s not really any different from, say, Goldman bankers creating mortgage CDOs while the trading desk goes short.

    The Greece comment was really interesting. The monetary transmission mechanism is, of course, policy defeatism: We’ve done all we can do, therefore Greece can shrink the money supply. I think Ben’s transparency drive has been a complete disaster as he’s now too risk averse to do any stimulus.

  14. Gravatar of Mike Sax Mike Sax
    13. June 2012 at 10:39

    Germany still doesn’t get it

    http://diaryofarepublicanhater.blogspot.com/2012/06/germany-still-doesnt-get-it.html

  15. Gravatar of Steve Steve
    13. June 2012 at 11:17

    dwb wrote: “I remember when the “wealth effect” from rising stock prices was something we all looked forward to”

    It wasn’t just the rich. The wealth effect used to fund pensions, encourage home buying, increase tax receipts, provide funds for new businesses, etc.

    Now all asset price increases are “bubbles”. Now the morphine addict market needs to be restrained, locked in a jail cell, and forced to endure shakes and cold sweats on a hard concrete floor.

  16. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 11:34

    It wasn’t just the rich. The wealth effect used to fund pensions, encourage home buying, increase tax receipts, provide funds for new businesses, etc.

    Mal- mal- mal-investment!

    Not all investment is good investment. The free market is not only a process that enables investments to take place, it is also a process that restricts bad, wasteful, uneconomic investments from taking place.

    Inflation and credit expansion encourages bad, wasteful, and uneconomic investments to take place.

    It’s just like me having my own printing press, and financing my investments. Would my investments tend to be net wealth producing, or net wealth destroying? I think the answer is obvious enough.

    Investments not “tested” by the unhampered price system, investments which are financed due to additional toilet paper money, are prone to be wealth consuming rather than wealth generating.

    But we’re all supposed to believe that when entire countries have so many wealth consuming investments, specifically in the area of credit expansion, that recovery can only take place when the credit expansion is eliminated, and thus when aggregate spending falls down towards what the free market would have produced, that more toilet paper is supposed to make us all better off, because we are not permitted to postulate that there are structural problems.

    Now all asset price increases are “bubbles”. Now the morphine addict market needs to be restrained, locked in a jail cell, and forced to endure shakes and cold sweats on a hard concrete floor.

    Why not just have less drugs? The addicts can endure shakes and cold sweats as they cede control over their assets to better managers who aren’t so prone to addiction.

  17. Gravatar of dwb dwb
    13. June 2012 at 11:42

    @Steve

    Now all asset price increases are “bubbles”. Now the morphine addict market needs to be restrained, locked in a jail cell, and forced to endure shakes and cold sweats on a hard concrete floor.

    just be sure to let me know what the next bubble is. pleeeeaaase can we have the bubble economy back? i promise never to short Goldman Sachs again.

  18. Gravatar of Alex Godofsky Alex Godofsky
    13. June 2012 at 12:45

    MF:
    It’s just like me having my own printing press, and financing my investments. Would my investments tend to be net wealth producing, or net wealth destroying? I think the answer is obvious enough.

    Why? If you printed a bunch of dollars and used them to buy e.g. an S&P500 index (since you would want to consume most of this windfall in the future) why would that be wealth destroying? Why would that cause anyone to decide to make a bad investment?

  19. Gravatar of Steve Steve
    13. June 2012 at 12:47

    “Mal- mal- mal-investment!”

    Q: What’s it called when ALL investments are mal-investments?”

    A: Bad monetary policy.

  20. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 12:48

    So why don’t we want Ben to be explicit about the trade her’ll make?

    Extra inflation, in return for employer tax cuts, extension of Bush tax cuts for two more years, and future spending cuts?

    Why don’t we want Ben to do this?

  21. Gravatar of Jim Glass Jim Glass
    13. June 2012 at 13:05

    >>>Ben needs more cojones.

    I know. And guys with beards usually have them in spades.

    We need the Evil Mr. Spock — with that thing the Evil Captain Kirk left behind that made his enemies magically disappear.

  22. Gravatar of Bill Ellis Bill Ellis
    13. June 2012 at 13:05

    From Krugman…
    “Guess Who’s Emerging From the Crisis?”

    “Iceland, of course. Kitchen-sinked and cleaned-up, the Icelandic central bank has just decided to push up rates by 25 basis points to combat signs of inflation amidst “robust” domestic demand.”

    So my question is…is the ICB doing the right thing ? Is it in line with Level targeting ?

    Is this a good experiment to watch ?

  23. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 13:08

    Steve:

    “Mal- mal- mal-investment!”

    Q: What’s it called when ALL investments are mal-investments?”

    A: Bad monetary policy.

    Q: What’s it called when MANY investments are mal-investments?

    A: Monetary policy.

  24. Gravatar of StatsGuy StatsGuy
    13. June 2012 at 13:19

    @ Morgan

    “The PROBLEM is that Ben and Fed do not have the ability to do to the US govt. what the ECB is able to do.”

    Because the ECB is doing a miraculous job? I’m skeptical. What they are doing is handing several governments, one after another, to various socialist/anti-reform parties. The essence of your argument is that _deals_ must be possible – there is always room for a coasian bargain. Instead, the ECB has contributed to impasse and an unending game of chicken that has hurt everyone.

    Also, right now, the last thing the republicans in Congress would want is a deal like that. Not for 6 more months. OTOH, nice article on Jeb Bush today. I wonder what the country would look like if he’d been on the ticket in 2000.

  25. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 13:26

    Alex Godofsky:

    “It’s just like me having my own printing press, and financing my investments. Would my investments tend to be net wealth producing, or net wealth destroying? I think the answer is obvious enough.”

    Why?

    Because my investments would not be subject to the market test of profit and loss. My wasteful, wealth consuming investments would be nominally profitable with my money printing, than they would be without my money printing.

    If you printed a bunch of dollars and used them to buy e.g. an S&P500 index (since you would want to consume most of this windfall in the future) why would that be wealth destroying?

    Suppose I printed $500 million. My printing and buying the S&P 500 would enable wealth consuming activities to take place for the exact same reason as the S&P 500 companies each printing $1 million for themselves would enable wealth consuming activities to take place.

    If you can understand that me printing money for myself would enable me to engage in wealth consuming activities, then not much more thinking is necessary to understand that this printed money being sent from me to others, would enable wealth consuming activities to take place on their end.

    Not all investments are good you know. The key is economic calculation. That is what actually facilitates sustainable investments. It has nothing to do with “money spending”, apart from its economic calculation facility. It is entirely possible, and both theory and history have shown that it takes place, that “money spending” can be harmful if money spending itself is not integrated into the system of profit and loss, of economic calculation. When you have central planners running around printing money according to models, to prices, to intuition, to “aggregate spending”, and or certain historical phenomena like employment and output, and so on, rather than the system of profit and loss according to private property exchanges, then what happens is that relative overproduction of currency is almost guaranteed. They experience no losses by producing more money, the way a car manufacturer might experience losses for producing too many cars.

    It is exactly the same as me printing money for myself, and me bringing about a relative overproduction of whatever it is I produce, and thus a relative underproduction of everything else. I would be overproducing not only particular goods, but I would be overproducing money itself, because my money printing is not subject to the profit and loss test, as I am merely exploiting the fact that the state is allowing me the monopoly to print money.

    Why would that cause anyone to decide to make a bad investment?

    The same exact reason it would almost certainly lead to me personally making bad investments if I could print my own money to ensure my investments are “profitable”. My investments would not be subject to the market test of profit and loss.

    It will be slightly less obvious when many companies receive dollars, because many companies do go bankrupt, but not all bad investments and thus not all bad companies do go bankrupt when the money printing is flowing. It encourages investments that would have otherwise not been made because the money simply isn’t there.

  26. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 13:31

    Please don’t misunderstand me to be saying that with less money printing, there are fewer investments as such. No, with less money printing, instead of more bad investments and thus fewer good investments being made, less bad investments and thus more good investments are made.

    Keynesians and market monetarist types like to believe that money printing can get idle resources and labor into motion again, but this is just prolonging the problem, because those resources and those unemployed are idle and unemployed for a reason, and it’s a reason neither Keynesians nor MMs want to accept: It’s their own damn inflation policies to blame.

  27. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 13:44

    Stats,

    I think Germany gets Romney elected, and with that a lock is on the Austerity or the Highway.

    States can go play Socialist all they want, but if they don’t pay their debts, if they don’t live on tax revenues, they eat it.

    —-

    You aren’t really getting to the heart of my point either – the Fed is either ALL POWERFUL or it isn’t.

    If we say it is, we ought to cheer for Ben to read the riot act to Obama and Congress and be specific… and accomplish what Greenspan did with Clinton.

    MAKE HIM BEND.

    If you can act last and do what you think is best, you are the anchorman, you are the clean up hitter, so you MIGHT AS WELL start telling everyone else what to do as well.

    We know what needs to be done, we shouldn’t have some weird hangup about getting the deal hammered out under a false guise of “Democracy.”

  28. Gravatar of Steve Steve
    13. June 2012 at 13:54

    “A: Monetary policy.”

    Q: What’s an economy without monetary policy called?

    A: The Flintstones.

  29. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 14:06

    Q: What’s an economy without communist institutions like central banks called?

    A: Run by intelligent people.

    Q2: What’s an economy with centrally planned money devaluation called?

    A2: Rome, circa 300 AD.

  30. Gravatar of Alex Godofsky Alex Godofsky
    13. June 2012 at 14:09

    MF:
    Because my investments would not be subject to the market test of profit and loss. My wasteful, wealth consuming investments would be nominally profitable with my money printing, than they would be without my money printing.

    Sure they would. If you print $100 and buy a lottery ticket you will still be out $100.

    Suppose I printed $500 million. My printing and buying the S&P 500 would enable wealth consuming activities to take place for the exact same reason as the S&P 500 companies each printing $1 million for themselves would enable wealth consuming activities to take place.

    If we gave each S&P 500 company $1 million, why do you think they would waste it? Why wouldn’t they treat it the same as any other revenue windfall and try to invest it as well as they can?

    The same exact reason it would almost certainly lead to me personally making bad investments if I could print my own money to ensure my investments are “profitable”. My investments would not be subject to the market test of profit and loss.

    See the lotto ticket example above. If I print $100 and lose it all on a bad investment, I’m out $100. I should have invested it in something useful and then I would still have the $100 of wealth + hopefully some kind of return.

  31. Gravatar of dwb dwb
    13. June 2012 at 14:54

    i am pleased to report that now i have proof its not Keynes-vs-Hayek, its Keynes vs Friedman, and Friedman is winning.

    http://books.google.com/ngrams/graph?content=Austrian+School%2CHayek%2CKeynes%2CFriedman&year_start=1800&year_end=2008&corpus=0&smoothing=3

  32. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 15:03

    dwb,

    they cross right about the time that Nixon decides Deficits are Liberals problem

  33. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 15:07

    “Because my investments would not be subject to the market test of profit and loss. My wasteful, wealth consuming investments would be nominally profitable with my money printing, than they would be without my money printing.”

    Sure they would. If you print $100 and buy a lottery ticket you will still be out $100.

    You’re missing the point. If I invest in a loser, and I print money to make up the loss, then I can keep investing in that production process.

    “Suppose I printed $500 million. My printing and buying the S&P 500 would enable wealth consuming activities to take place for the exact same reason as the S&P 500 companies each printing $1 million for themselves would enable wealth consuming activities to take place.”

    If we gave each S&P 500 company $1 million, why do you think they would waste it?

    Because they would be less subject to the profit and loss test. They could engage in an investment that would have otherwise lost $1 million or less than $1 million, but because I am giving them $1 million, they don’t lose.

    Imagine investors investing in your company because they have all this printed cash to burn, even though you’re engaging in bad investments. You’d have no way to know because the signal is that you’re doing the right things.

    Why wouldn’t they treat it the same as any other revenue windfall and try to invest it as well as they can?

    They would, the problem is that if they make bad decisions in terms of production, they wouldn’t know it, since nominally they’re fine.

    “The same exact reason it would almost certainly lead to me personally making bad investments if I could print my own money to ensure my investments are “profitable”. My investments would not be subject to the market test of profit and loss.”

    See the lotto ticket example above.

    See my response above.

    If I print $100 and lose it all on a bad investment, I’m out $100.

    I am talking about you printing $100 to cover your bad investments.

  34. Gravatar of dwb dwb
    13. June 2012 at 15:15

    Morgan,
    yep, looks like they cross about 1971. hmmmm.

  35. Gravatar of Lorenzo from Oz Lorenzo from Oz
    13. June 2012 at 15:31

    dwb Using Rothbard and Mises is more informative
    http://books.google.com/ngrams/graph?content=Rothbard%2CMises%2CHayek%2CKeynes%2CFriedman&year_start=1800&year_end=2008&corpus=0&smoothing=3

  36. Gravatar of Alex Godofsky Alex Godofsky
    13. June 2012 at 15:34

    You’re missing the point. If I invest in a loser, and I print money to make up the loss, then I can keep investing in that production process.

    If I have unlimited ability to print money, why would I bother investing at all? Why wouldn’t I just print money whenever I needed it? No one is giving free money to specific investors who lost money, just increasing the overall quantity in circulation. Those who invest well will still be better off than those who invest poorly.

    I mean, really, no one ever has an incentive to invest in something that will lose money. They’d always be better off just hanging on to the money.

    Because they would be less subject to the profit and loss test. They could engage in an investment that would have otherwise lost $1 million or less than $1 million, but because I am giving them $1 million, they don’t lose.

    But we aren’t giving the money to them conditional on them having made a money-losing investment; we are (per your description) giving it to them regardless. If a corporation sees a $1m windfall in profits then that also enables them to dump an extra $1m in poor investments, but why would they want to?

    I am talking about you printing $100 to cover your bad investments.

    Who is doing that?

  37. Gravatar of dwb dwb
    13. June 2012 at 15:49

    @Lorenzo from Oz
    Using Rothbard and Mises is more informative

    good point. and we can add “gold standard” as well:

    http://books.google.com/ngrams/graph?content=Rothbard%2CMises%2CHayek%2CKeynes%2CFriedman%2Cgold+standard&year_start=1800&year_end=2010&corpus=0&smoothing=3

  38. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 15:56

    “I mean, really, no one ever has an incentive to invest in something that will lose money. They’d always be better off just hanging on to the money.”

    See Obama’s Green Boondoggle.

    See the WHOLE of government.

    You can be correct if we just admit it is impossible for the government to “invest” in anything.

    Govt. is just a really really poorly run insurance company.

    And like anything if you aren’t willing to let it go bankrupt, to be ruined, then you can’t expect it to fix itself.

    Progressives and public employee have to be given a real choice:

    1. no “positive rights” government services
    2. government run as a efficiently as the private sector

    If they can’t do #2, give them #1. Repeat.

    Everything in life changes if we simply force government to run lean.

  39. Gravatar of Alex Godofsky Alex Godofsky
    13. June 2012 at 16:01

    Morgan: sorry, I’m talking about private actors, not the government. Private investors are the ones who “malinvest” in MF’s story. I certainly agree that giving the government free money will result in even more malinvestment than they engage in already.

  40. Gravatar of Paul Andrews Paul Andrews
    13. June 2012 at 17:36

    MF: “It’s just like me having my own printing press, and financing my investments. Would my investments tend to be net wealth producing, or net wealth destroying? I think the answer is obvious enough.”

    Alex: “Why? If you printed a bunch of dollars and used them to buy e.g. an S&P500 index (since you would want to consume most of this windfall in the future) why would that be wealth destroying? Why would that cause anyone to decide to make a bad investment?”

    Picture two companies that make widgets: company A and company B. I own a share in company A, you own a share in company B. We both bought at $50, at a time when they both were performing equally well. These days company B is slightly better run. Its shares are trading at $100, and you have a “sell” order at $105. Company A is trading at $99 and I have a “sell” order at $104.

    Now the Fed prints money to buy my share in company A at $104.

    You made the better investment decision, but I am $4 better off than you. That is malinvestment.

    [Why would the Fed choose company A? Perhaps it is listed in the S&P500 and company B is not. (If the Fed buys an index, that will cause the index provider to bid for stocks in the index, or take other actions that push up the index). You may counter that the Fed can purchase a broader index. In this case, those who purchased publically listed companies are unfairly favoured over those who invested in private businesses or their own businesses.]

    It would be bad enough if it ended there, but it doesn’t. There is a snowball effect. I, the poorer investor, now have more money to invest than you, the better investor… (cue scary music).

  41. Gravatar of Morgan Warstler Morgan Warstler
    13. June 2012 at 17:37

    What do you call monetizing the debt?

    Underneath the goldbug is a desire to force govt. to run on revenues and revenues alone.

    The presumption being it can’t. That it will run out of money, leaving us with the anarcho-capitalist utopia we crave.

  42. Gravatar of ssumner ssumner
    13. June 2012 at 18:24

    Adam, I think they all mean something (at least anything over 1/2%) the only limiting factor is our ability to discern what they mean.

    Scott N, I don’t follow the market that closely, but those who do follow in “real time” are generally able to explain the very short term movements that are obviously associated with some news item coming over the wire. It’s possible they’ve screwed up, I just have to go with what’s reported. And the claim was that stocks jumped right after the Evans statement.

    Ryan, Maybe that was too harsh, but consider the fact that over the years I have closely followed the way stocks in the US responded to inflation news, and then you tell me that it was Mises impression that business was good during the hyperinflation. I don’t even know if that was correct, and if it was right I don’t know how it affected real stock prices in Germany. In contrast, I have lots of evidence for the US economy in modern times, which seems far more relevant to me.

    dwb, I remember too.

    Steve, You said;

    “I think Ben’s transparency drive has been a complete disaster as he’s now too risk averse to do any stimulus.”

    That’s an interesting point.

    Bill, I’ve always agreed with Krugman on Iceland. Ireland made a big mistake not doing the same thing.

    dwb, It would be interesting to know how they’ve done since 2008.

  43. Gravatar of Alex Godofsky Alex Godofsky
    13. June 2012 at 18:41

    Paul:
    But the Fed doesn’t buy securities at non-market prices, and it doesn’t even buy stocks in the first place. All it’s buying is government debt. How is that causing a misallocation?

    Morgan:
    As you frequently observe, NGDPLT works so much better, making it abundantly clear to everyone that if the government bigger, that raises inflation and costs jobs.

  44. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 19:46

    Alex Godofsky:

    “You’re missing the point. If I invest in a loser, and I print money to make up the loss, then I can keep investing in that production process.”

    If I have unlimited ability to print money, why would I bother investing at all?

    Exactly. Money printing also leads to relative over-consumption, as it makes people feel wealthier in real terms than they really are.

    Why wouldn’t I just print money whenever I needed it?

    You’re getting closer to getting it. Now instead of considering unlimited money, consider now the situation where I am in control of the money printing press, and I initially print lots of money and spend it on your production, and I spend more and more to keep your unsustainable production going, and then, I suddenly cease printing money as fast as I did.

    What do you think are the chances that you ended up investing in bad investments, that only appeared as viable because they were nominally profitable, but then were not as I reduced the speed of money printing that would be necessary to keep your production going?

    No one is giving free money to specific investors who lost money, just increasing the overall quantity in circulation.

    All inflation goes into specific individual’s bank accounts first, before everyone else’s.

    You guys have to stop imagining inflation to be like money floating in the air, in which everyone in the country jumps up and grabs the paper bills.

    Inflation ALWAYS arises by increase some people’s bank accounts first. That’s how it works. Inflation does not operate by being dropped from helicopters.

    Those who invest well will still be better off than those who invest poorly.

    Invest well according to what standard? Being able to make money, or being economically, physically viable in the totality of all investments and consumption?

    I mean, really, no one ever has an incentive to invest in something that will lose money. They’d always be better off just hanging on to the money.

    Not if what they are investing in is making money solely because of money printing.

    “Because they would be less subject to the profit and loss test. They could engage in an investment that would have otherwise lost $1 million or less than $1 million, but because I am giving them $1 million, they don’t lose.”

    But we aren’t giving the money to them conditional on them having made a money-losing investment; we are (per your description) giving it to them regardless.

    I know. That’s precisely the point. I used the scenario of the single investor getting money for his investments regardless, as an analogy for money inflation leading to investors making returns despite their investments not being economically viable.

    If a corporation sees a $1m windfall in profits then that also enables them to dump an extra $1m in poor investments, but why would they want to?

    They don’t know the investments are poor if they are making money. That’s the point.

    “I am talking about you printing $100 to cover your bad investments.”

    Who is doing that?

    It’s a thought experiment to show you the principles involved. The “who” that is doing that in the example is me, or you. In the real world, it’s the Fed and the commercial banks who expand credit, which when respent turns into spending that covers otherwise bad investments.

    Private investors are the ones who “malinvest” in MF’s story. I certainly agree that giving the government free money will result in even more malinvestment than they engage in already.

    It’s also true for investors, because in a division of labor society, where each producer is responsible for a piece of the whole puzzle, as each depend on each other from raw material stage to final product stage, each firm and industry cannot expand too much relative to other firms and industries, lest the entire structure of production become physically unsustainable.

    The investment corrections that began around 2006 (almost as soon as the Fed raised the fed funds rate, after years of keeping it low) were a symptom of structural discoordination in the economy. The problems were so great in fact, that even as the Fed did not stop printing money, NGDP collapsed regardless. This was almost certainly due to there being too much credit expansion in the economy prior, and the market process that reduced overall spending, was part of the curing process.

    Unfortunately, the Fed didn’t let the economy fully correct post-2008, and almost right away they started printing massive quantities of money again, trying to replace the nominal reduction in money and spending. Corrections pretty much ground to a halt, and we’ve been slumping ever since.

    Paul Andrews:

    “It’s just like me having my own printing press, and financing my investments. Would my investments tend to be net wealth producing, or net wealth destroying? I think the answer is obvious enough.”

    Alex: “Why? If you printed a bunch of dollars and used them to buy e.g. an S&P500 index (since you would want to consume most of this windfall in the future) why would that be wealth destroying? Why would that cause anyone to decide to make a bad investment?”

    Picture two companies that make widgets: company A and company B. I own a share in company A, you own a share in company B. We both bought at $50, at a time when they both were performing equally well. These days company B is slightly better run. Its shares are trading at $100, and you have a “sell” order at $105. Company A is trading at $99 and I have a “sell” order at $104.

    Now the Fed prints money to buy my share in company A at $104.

    You made the better investment decision, but I am $4 better off than you. That is malinvestment.

    Paul gets it.

    [Why would the Fed choose company A? Perhaps it is listed in the S&P500 and company B is not. (If the Fed buys an index, that will cause the index provider to bid for stocks in the index, or take other actions that push up the index). You may counter that the Fed can purchase a broader index. In this case, those who purchased publically listed companies are unfairly favoured over those who invested in private businesses or their own businesses.]

    Did I say that Paul gets it?

    It would be bad enough if it ended there, but it doesn’t. There is a snowball effect. I, the poorer investor, now have more money to invest than you, the better investor… (cue scary music).

    Yeah, I think I did say it.

    Why can’t everyone else think like you? Why is it that your brain is able to function properly? You were probably breast fed as a baby. Your pre-frontal cortex was able to get the nutrients it needed that enabled you to think beyond the piss poor troglodyte level of discourse this blog seems to attract.

  45. Gravatar of Paul Andrews Paul Andrews
    13. June 2012 at 20:40

    Alex:

    “But the Fed doesn’t buy securities at non-market prices, and it doesn’t even buy stocks in the first place. All it’s buying is government debt. How is that causing a misallocation?”

    You mentioned the S&P500 so I based my example on that.

    The same principle applies to all investments.

    The key thing to understand is what “market prices” really means. If everyone bought at market prices, then market prices would never change.

    Buying and selling determines market prices. If we start with a static market (no buyers or sellers, everyone content) then introduce a new buyer, the price tends upwards.

    Usually a new buyer is a genuine investor who believes the investment will be profitable, and the market price adjusts efficiently to this newly introduced perception.

    However if the buyer is the Fed with some motive other than making a profit, the market price adjusts for reasons other than market efficiency (i.e. it is artificially increased).

    According to John Taylor, here: http://johnbtaylorsblog.blogspot.com.au/2012/06/fed-bought-77-of-federal-debt-increase.html the Fed bought 77% of the debt issued by the US federal government in 2011.

    Think about what this means. The government can finance itself at 0% on 77% of new borrowing (interest payments to the Fed are rebated back to Treasury). It competes for resources with private organizations and individuals who cannot borrow at anything close to this rate. For properly allocated investment, everyone needs to pay market rates for debt, including the government. (I concede that the government never pays market rates in a credit-based fiat central banking system, but it can pay a lot closer than it does at present, and the closer the better).

  46. Gravatar of Rodrigo Rodrigo
    13. June 2012 at 22:11

    Scott N

    “The stock market has predicted nine of the last five recessions.”

    Paul Samuelson

  47. Gravatar of Steve Steve
    13. June 2012 at 22:22

    “”The stock market has predicted nine of the last five recessions.”

    Paul Samuelson”

    I wonder if this truism has become obsolete. Perhaps we should say the Fed has prevented four of the last nine recessions.

  48. Gravatar of Major_Freedom Major_Freedom
    13. June 2012 at 22:32

    Alex Godofsky:

    But the Fed doesn’t buy securities at non-market prices, and it doesn’t even buy stocks in the first place. All it’s buying is government debt. How is that causing a misallocation?

    Actually the prices the Fed pays are prices that include the additional demand that the Fed brings to the table, and so by “market prices”, it means the prices that would exist if money production were itself driven by the market process.

    Imagine a monopolist who had the unworldly power to create cars at next to zero cost. Suppose he created more cars. That would, all else equal, make the prices of cars fall, correct? But would you say these are market prices? Remember, the car supply is not market driven. It’s driven by both the market AND the monopolist who can create cars at next to zero cost.

    The same intuition exists for the prices the Fed pays. The Fed doesn’t actually pay market prices for bonds. It pays prices that sellers set GIVEN the fact that the Fed is able to create new money from nothing.

    Or, another way of thinking about it: The non-market Fed is bringing into existence non-market created money (demand). The non-market Fed uses its newly created non-market money to buy securities. Since that newly created money represents an additional demand that would not have existed otherwise, we can infer that the demand for what they buy is higher than what it would have been in the free market without the Fed.

    A good example is the Fed buying over $1 trillion in otherwise worthless mortgage backed securities from their friends in the banks and investment companies. If they had to sell these securities in the open market instead, they would have gotten a lower price.

    The same thing is the case, to a lesser degree of course, for government debt.

  49. Gravatar of Ryan Ryan
    14. June 2012 at 05:01

    Prof. Sumner,

    On the other hand, I feel you’re removing the context from my point. You keep replying as though my point begins and ends with stock price data.

    Either you’re ignoring my real point, or I didn’t make it clear enough. Short-run stock price performance is a poor response to those who criticize your kind of monetary policy on longer-run terms while readily conceding that short-run data shows a temporary uptick with every round of “stimulus.”

    So, to sum up:

    You = “Short-run market performance seems to indicate a preference for monetary stimulus.”

    Me = “This was also reportedly true in the Weimar Republic.”

    You = “But the data says short-run market performance seems to indicate a preference for monetary stimulus.”

    What am I missing?

  50. Gravatar of ssumner ssumner
    14. June 2012 at 17:31

    Ryan, You said;

    “You = “Short-run market performance seems to indicate a preference for monetary stimulus.”

    Me = “This was also reportedly true in the Weimar Republic.””

    What’s missing is some evidence that the market preferred hyperinflation in Germany. You haven’t provided any. So your “Me” statement is unjustified. Instead you’ve made a very different claim, which is that Mises believed business was good during the hyperinflation. Business and stock markets are two very different things.

    I’m not saying you are wrong, I’m just not seeing any evidence. In contrast, I see lots of evidence (such as Glasner’s paper) supporting my interpretation for the US. I view the 1960s and 1970s as much more relevant. No one is talking about the Fed doing hyperinflation in the US.

  51. Gravatar of Benjamin Cole Benjamin Cole
    14. June 2012 at 21:37

    More excellent blogging from Sumner.

    If the Fed is worried about inflation now, when would it not be worried about inflation? Will it take an outright recession and deflation combo? Do we have to suffer?

    And even then, would the Fed do a BoJ?

    It may be time to start a long series of blogs, among all market monetarists, exploring the serious question of whether central banks have become perverted palaces, protected by hallowed institutional status. After all, when government agencies fail, they do not go out of business.

    As an aside; I believe it was Jared Bernstein who noted that European Greenlanders, 1000 years ago in a then-cooling climate, preferred to die than change their lifestyle to that of the Eskimos. Traditions are hard to change, and the Greenlanders perished trying to raise cattle and build wood houses. (BTW, you can raise cattle again in some parts of Greenland.)

    Really, is it so hard to believe that central bankers are encrusted into institutional positions—augmented by political dogma and pompous posturing—regardless of current circumstance?

  52. Gravatar of Ryan Ryan
    15. June 2012 at 06:27

    Sumner,

    Isn’t it a little unreasonable to hang my whole point on a dataset that is obviously unavailable? Can you think of any situation (in which corporations exist within an economy) where business was good, but all stock prices were low?

    To be sure, I cannot produce German historical stock price indices that far back. But suppose I managed to do so. Wouldn’t your response simply be to correlate those prices with NGDP and re-state your thesis?

    And wouldn’t that still miss my point, which is far more long-run in nature and involves specifically the impact of hyper-inflation on business-vs.-the-whole-economy (_in_the_long_run_!)?

    I feel like you’re side-stepping these questions because it’s easier to point out that German stock price data from the days of the Weimar Republic isn’t available to me.

  53. Gravatar of ssumner ssumner
    15. June 2012 at 12:26

    Ben, Very good analogy.

    Ryan, I agree there is a distinction between current business and the “long run” as you say. That’s precisely why I prefer stocks to current business–they reflect expectations of the long run.

    You haven’t given me any data to react to, so I don’t really, know what more I can say other than that the data I do have tends to support my hypothesis. I freely concede that there may be data out there that contradicts it, but I don’t have it.

  54. Gravatar of Major_Freedom Major_Freedom
    19. June 2012 at 16:17

    ssumner:

    What’s missing is some evidence that the market preferred hyperinflation in Germany.

    That holds for central banking in general too, since the market process is forcefully overruled in money, and thus we don’t even have data on what the market process is generating.

    You lack evidence that the market process wants inflation, NGDP targeting, or any of that. You’re just INFERRING based on your a priori view of the world. That’s fine, but you can’t fault him for not having empirical data.

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