From the blogosphere

I’ve been catching up on the blogosphere, after my recent trip to Milan.  Here are some good posts.

George Selgin on why free banking isn’t enough:

It follows that, because it leaves the base regime largely unaltered, a move from regulated to free banking today would not serve to eradicate inflation or otherwise guarantee monetary stability. Such a move would have led to improved stability a century or more ago, because it would have entailed depriving central banks of their role as currency suppliers: so long as gold and silver were economies’ final settlement mediums, to deprive central banks of their paper currency monopolies was equivalent to reducing if not eliminating altogether any tendency for other banks to treat central bank paper (or other central bank liabilities) as a reserve medium, and hence as what might be termed “pseudo” base money. The strict dichotomy of bank- and base-regime that applies today did not, in other words, pertain to specie-based monetary systems. Today, however, the strict dichotomy is quite valid; and this means that freedom of banking alone will no longer suffice to make our (or any) monetary system sound.

Something else is needed, then. And that something must of course consist of a reform of the base regime itself. Broadly two alternatives exist for such reform. These are: (1) the restoration of a base medium consisting of some form of specie, or perhaps of some other commodity; and (2) reform of the existing fiat regime.

And George Selgin on the need for monetary pragmatism:

Will merely insisting on the first-best solution suffice? I don’t think so. In the present context that would mean saying something like, “The Fed should freeze the monetary base; but that isn’t all: Congress should then wind it up, while allowing other banks complete freedom to meet the public’s monetary needs, including the freedom to issue their own notes. This would also require doing away with deposit insurance and…” etc. Even supposing one could elaborate the argument in a few sound bites, or that one could go on for hours, the obvious problem remains that the steps required would take months to accomplish even if they could be instantly and universally agreed upon. The answer, therefore, begs the question, “What should the Fed do in the meantime?” We remain more or less where we began.

Nor, as some commentators (myself included) have noted elsewhere, is saying that the Fed should do “nothing” any better. So long as it exists the Fed is, of necessity, doing “something.” So “nothing” here must actually refer to some particular Fed policy. Most often (I gather) it means that the Fed should refrain from any further lending or open-market activities, or from otherwise expanding its balance sheet. It amounts, in other words, to recommending that the Fed maintain a constant monetary base. But is asking the Fed to maintain a constant base really indicating any more principled opposition to monetary central planning than one indicates by calling upon it to alter the base by some particular amount, or by whatever it takes to achieve some particular target? I don’t see why. Indeed, what some have wrongly taken to be the more principled of the two alternatives seems to me to be hardly more principled, though rather less prudent, for it calls, not for the avoidance of monetary central planning, but for the implementation of a monetary central plan that is likely, according to “our” theory, to be particularly lousy. Nor will it do to say that the “keep the base constant” alternative is superior in that it might be proposed, not just as a suggestion for the present, but as a hard-and-fast monetary rule, for the same might be said concerning the suggestion that the Fed expand the base only when doing so serves to keep spending stable.

The option of recommending that the central bank “do nothing” is, by the way, precisely the one Hayek chose to take back in the early 1930s when, despite having recognized in print the desirability of a constant “money stream,” and despite the fact that the money stream had dried up dramatically, he campaigned against expansionary monetary policy. As he explained many years later, with regrets, Hayek’s reason for departing from his own theoretical ideal had to do, not with any slippery-slope considerations, but with his belief that allowing the collapse of demand to go on could be just the thing needed to wrench the British labor market free from labor unions’ stranglehold.** Still it is difficult to see why the results would have been any different if, instead of having opposed monetary expansion because he hoped by doing so to help thaw a rigid labor market, he did so on other political-economy grounds. To say that Hayek’s strategy backfired is putting it mildly, for it was not labor unions but Hayek’s own theoretical legacy that suffered.

Great stuff.

And here’s Matt Yglesias:

Here’s a good paragraph from Brad DeLong about why we’re not getting more oomph out of monetary policy (emphasis added):

The Federal Reserve’s announcement last December that it was switching from a time- to a state-based policy rule has not REPEAT NOT raised expectations of inflation over the next five, ten, or thirty years. Perhaps this is because Federal Reserve communicators have spent a lot of time telling people that the shift does not mean that the Federal Reserve will tolerate higher inflation. Perhaps it is for other reasons.

It is followed by a much less good paragraph about what this teaches us about the possible efficacy of monetary policy:

This is a powerful empirical piece of evidence that it is much harder to summon the Inflation Expectations Imp than economists like Greg Mankiw had thought. It is a point for the expansionary fiscalists in their debate with the expansionary monetarists.

We have empirical evidence of something here, but how can you read the italicized clause and conclude that it’s evidence of the difficulty of increasing inflation expectations? The Federal Reserve is telling people, explicitly, that they should not expect a higher level of inflation over the five-, 10-, or 30-year time horizon. To know whether it’s hard to raise inflation expectations, we would want to see what happens if the Fed told people they should expect a higher level of inflation over the five-, 10-, or 30-year time horizon.

Insofar as we have evidence of anything here, it seems to me that we have evidence that the Federal Reserve thinks it would be very easy to increase long-term inflation expectations, and that’s why they really want to be clear that the long-term inflation target hasn’t changed.

The fact is that we just don’t have very good empirical evidence in this field. The theory behind monetary dominance seems strong to me; if you forced me to choose, that’s the path I would choose. As a practical policymaker, I would try to hedge and do both.

And here’s Paul Krugman:

The main thing, I think, is to recognize that while we have our differences, the important thing is to try everything that might help. The greatest intellectual sin here is to care more about protecting your turf “” my answer is the only answer! “” than about the real economy that desperately needs every form of help we can deliver.

I agree, which is why I also advocate supply-side initiatives such as Christina Romer’s suggestion that we cut employer-side payroll taxes to boost employment.

And here’s Paul Krugman on the “taper.”

I know that the latest had overwhelming support on the FOMC; I’m surprised and a bit shocked by that, and worry that we may have seen incestuous amplification at work.

I really hope that the real economy recovers at a pace that makes my fears groundless. But if it doesn’t, I fear that the Fed has just done more damage than it seems to realize.

This is another reason why we should let markets run monetary policy.  They are less incestuous, or as James Surowiecki once argued, less prone to “group think.”

And here’s Ryan Avent:

I understand that the Fed is generally uncomfortable with unconventional monetary policy and has concerns about the side-effects from large-scale QE. That’s eminently reasonable. The trouble is that the Fed seems not to have learned that aiming to overshoot on the pace of employment growth and inflation is the safer, more conservative route. Overshooting maximises the chance that monetary policy will maintain its potency the next time trouble hits. Overshooting provides the best means to safely and quickly end growth in the balance sheet. Overshooting is the sustainable route to healthy increases in interest rates. But overshooting, the Fed has made entirely clear, is the one thing the American economy should not expect.

And at Marcus Nunes’s blog Mark Sadowski has another excellent post showing why monetary policy explains much more than fiscal policy.

And finally, what do tapirs think of the taper?

There’s lots more I plan to discuss, but that’s enough for now.



10 Responses to “From the blogosphere”

  1. Gravatar of marcus nunes marcus nunes
    23. June 2013 at 08:16

    The BIS just released it´s annual report. It´s shameful!

  2. Gravatar of J J
    23. June 2013 at 08:25

    In the report, they state: “central bank actions since the start of the crisis have played a critical stabilising role, by first offsetting the forces of the financial collapse and then supporting a recovery in the real economy.”

    I believe the idea of “supporting a recovery” is much to blame for tight money. I much prefer Sumner’s phrase that the central bank “drives AD.” Money is either too tight, just right, or too loose. The central bank doesn’t support a recovery until the economy can survive on its own. The central bank is either holding AD too low (or too high) or is setting it where it needs to be so that the economy is where it should be given supply limitations. The notion of “supporting a recovery” leads to dangerous ideas such as “we will become addicted to monetary stimulus.” People think monetary stimulus is a drug like caffeine; it can provide a boost but chasing that boost only leads to negative consequences.

  3. Gravatar of flow5 flow5
    23. June 2013 at 09:12

    “because it leaves the base regime largely unaltered”

    What base regime? The Fed turned 38,000 non-banks (financial intermediaries) into 38,000 commercial banks via the DIDMCA of March 31st 1980. Then it reduced requirements to zero on nontransaction liabilities in 1990. Then it reduced requirements on transaction based accounts from 12% to 10% in 1992. At the same time reserve avoidance (retail & wholesale sweep accounts) & larger ATM networks, eliminated the binding constraint of bank credit creation.

    On June 27 “Simplified Reserve Requirement Administration” becomes effective.

    By using the wrong criteria (interest rates, rather than member bank reserves) in formulating & executing monetary policy, the Federal Reserve will continue to be an engine of inflation.

    The only tool at the disposal of the monetary authority in a free capitalistic system through which the volume of money can be controlled is legal reserves.

  4. Gravatar of ssumner ssumner
    23. June 2013 at 09:38

    Thanks Marcus and J, I mentioned that report in my next post. It’s awful.

  5. Gravatar of Edward Edward
    23. June 2013 at 10:48

    Great stuff on the monetary pragmatism angle. This is what fools like m-f/Geoff will never understand , that doing nothing is the same as doing something. I didn’t even understand the meaning of “passive tightening” before I learned market monetarism.

    On a separate note. Did Bernanke’s speech and the market reaction enrage you just as it did me Scott? How can you still defend him after he’s betrayed everything he stood for as a scholar and has been assimilated by the FedBorg and the VSP’s.

  6. Gravatar of Matt Waters Matt Waters
    23. June 2013 at 11:50

    I don’t agree with Selgin about the need for specie back in the day. Maybe with government at Articles of Confederation levels of smallness, but all modern governments for the past 200 years have done enough transactions to create an agreed upon currency through the government transactions with private operators. Fiat money, with promises to print and destroy money as needed to enforce a predictable value, does perfectly fine to establish an agreed unit of account and exchange.

    The sad, horrible issue with the BIS report is the complete lack of evidence supporting any of the assertions in this paragraph.

    “Despite having succeeded in containing the crisis, monetary policy has fallen short of original expectations for various reasons. In this regard, it may have been inappropriate to regard the previous trajectory of GDP as a benchmark. At least in the countries at the centre of the financial bust, the sustainable path of GDP has arguably been overestimated. Financial booms tend to conceal structural misallocations of resources; these imbalances are only fully revealed in the subsequent busts and the balance sheet recessions that accompany them (see Chapter III). There is also ample evidence that, in the aftermath of financial crises, the path of potential output shifts downwards. In addition, under these conditions monetary policy is likely to be less effective than usual. In balance sheet recessions, private sector retrenching and an impaired financial sector clog the transmission of monetary policy measures to the real economy. In order to lift growth in a sustainable way, appropriate repair and reform measures are necessary.”

    Balance sheets are literally a zero-sum game. Somebody’s liabilities are always somebody else’s assets. Even if the liabilities are held by foreigners (most aren’t), monetary policy always has the ability to inflate its currency. You can call this “currency wars,” or whatever, but devaluing a currency that’s not meeting inflation targets is a feature not a bug.

    FWIW, “balance sheet recessions” do tend to follow capital misallocations if a misallocation did in fact happen. With efficient markets, interest rates will go down to align total desire to save and total credit-worthy demand for loaned funds. If uncredit-worthy demand for loaned funds is somehow added in, real interest rates go up for savers and savers are happy at the time. If it’s a true misallocation, then the uncredit-worthy borrowers no longer can borrow funds and real interest rates have to go down, or monetary base has to go up, to keep MV on the same path.

    The actions in a balance sheet recession may cause a misallocation, or it may not. As far as I can tell, the argument from the monetary policy VSP’s, i.e. BIS, FT Alphaville, etc., is that we should have tight monetary policy in order to not have enough AD to misallocate. Unemployment will be extraordinarily high, but at least we won’t have investors losing their own money. I guess there’s still the option of Keynesian stimulus, which somehow many VSP’s think has a smaller chance of misallocation than an increase in the monetary base or decrease in real interest rates driving private spending. Meanwhile, some other VSP’s think neither stimulus should happen and people who are not them should just deal with unemployment.

    I agree with Saturos, the core issue is inability to see monetary policy in nominal vs. real terms. They still think the gold standard is in effect and therefore anything done to increase AD has to be some sort of real spending, such as Keynesian stimulus. But AD is nominal, not real, and it’s absolutely wrong for those with unlimited ability to make the units of AD to then say they can’t increase the size of AD. It’s true they can’t absolutely guarantee higher RGDP, but it’s absolutely false that they don’t have direct control over NGDP.

  7. Gravatar of George Selgin George Selgin
    23. June 2013 at 13:22

    Matt Waters: “I don’t agree with Selgin about the need for specie back in the day. Maybe with government at Articles of Confederation levels of smallness, but all modern governments for the past 200 years have done enough transactions to create an agreed upon currency through the government transactions with private operators. Fiat money, with promises to print and destroy money as needed to enforce a predictable value, does perfectly fine to establish an agreed unit of account and exchange.”

    The first statement suggests you have read something into my comment that isn’t there–I’m not making a plug for specie; I’m simply referring to the fact that that’s what base money was a century or more ago, whether it “might” have been something else isn’t pertinent.

    As for the rest of the paragraph, it betrays a strange view of the origins and nature of modern fiat money. Concerning the former, fiat money may be many things, but it certainly isn’t something that was “agreed upon” in any ordinary sense of that phrase. (The word “fiat” itself may be inaccurate, but it’s use is hardly so inappropriate as your imaginary history implies.) Second, the claim that fiat money “does perfectly fine” when it comes to establishing a currency with a “predictable value” is one I’d like to see you or anyone else defend statistically, even only so far as to establish that the stuff has done better than gold did. Having examined the very question, in our paper “Has the Fed Been a Failure?”) (J Macro 2012), Bill Lastrapes, Larry White and I find that, on this particular criterion at least, the pre-Fed gold standard wins hands down.

  8. Gravatar of Geoff Geoff
    23. June 2013 at 18:05

    Zero references “from the blogosphere” that actually have the balls to advocate for a free market in money, and to settle for nothing less.

    Can’t say I’m surprised. First they ignore you…


    “This is another reason why we should let markets run monetary policy.

    Orwell would be proud. In a non-market, state enforced monopoly in money, Dr. Sumner claims that markets can run money in this environment.

    If the Fed observes NGDP, if the Fed decides what NGDP it wants to observe, if the Fed prints more or less money based on NGDP, then sorry, but there is no way for “the market” to run monetary policy here.

    If the market ran monetary policy, then private property owners would invest in, produce, sell, and buy money.

  9. Gravatar of ssumner ssumner
    23. June 2013 at 18:17

    Edward, I was traveling during the speech, but it sounded pretty disappointing. I need to catch up.

    Matt, Yes, the issue is not whether RGDP growth was sustainable, but rather whether NGDP growth was sustainable–and the answer is yes. I’d add that even if RGDP growth was not sustainable (and I agree it wasn’t), the drop in employment was almost certainly unnecessarily large. That suggests that at least some of he fall in RGDP was unnecessary. (Britain’s a good example.) But again, NGDP is the real issue here.

  10. Gravatar of Benjamin Cole Benjamin Cole
    23. June 2013 at 19:15

    Lots of great blogging out there, by Scott Sumner and others.

    Now, if we could only get the FOMC on board…and the ECB…and the BoJ….

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