Hawtrey discovers monetary offset and the zero multiplier back in 1925
David Glasner has a typically excellent piece on Ralph Hawtrey and the “Treasury View.” It seems the Keynesians have been unfairly maligning Hawtrey for all these years. (Why am I not surprised, they don’t just adopt Keynes’s ideas, but also his smear tactics.)
Here’s Hawtrey:
What has been shown is that expenditure on public works, if accompanied by a creation of credit, will give employment. But then the same reasoning shows that a creation of credit unaccompanied by any expenditure on public works would be equally effective in giving employment.
The public works are merely a piece of ritual, convenient to people who want to be able to say that they are doing something, but otherwise irrelevant. To stimulate an expansion of credit is usually only too easy. To resort for the purpose to the construction of expensive public works is to burn down the house for the sake of the roast pig.
That applies to the case where the works are financed by credit creation. In the practical application of the policy, however, this part of the programme is omitted. The works are started by the Government at the very moment when the central bank is doing all it can to prevent credit from expanding. The Chinaman burns down his house in emulation of his neighbour’s meal of roast pork, but omits the pig.
I’m sure my wife wouldn’t appreciate the Chinaman reference, but otherwise a great analysis. I’ve always liked Hawtrey, but now I appreciate him more than ever. And here’s David:
Keynesians are no doubt offended by the dismissive reference to public-works spending as “a piece of ritual.” But it is worth recalling the context in which Hawtrey published his paper in 1925 (read to the Economics Club on February 10). Britain was then in the final stages of restoring the prewar dollar-sterling parity in anticipation of formally reestablishing gold convertibility and the gold standard. In order to accomplish this goal, the Bank of England raised its bank rate to 5%, even though unemployment was still over 10%. Indeed, Hawtrey did favor going back on the gold standard, but not at any cost. His view was that the central position of London in international trade meant that the Bank of England had leeway to set its bank rate, and other central banks would adjust their rates to the bank rate in London. Hawtrey may or may not have been correct in assessing the extent of the discretionary power of the Bank of England to set its bank rate. But given his expansive view of the power of the Bank of England, it made no sense to Hawtrey that the Bank of England was setting its bank rate at 5% (historically a rate characterizing periods of “dear money” as Hawtrey demonstrated subsequently in his Century of Bank Rate) in order to reduce total spending, thereby inducing an inflow of gold, while the Government simultaneously initiated public-works spending to reduce unemployment. The unemployment was attributable to the restriction of spending caused by the high bank rate, so the obvious, and most effective, remedy for unemployment was a reduced bank rate, thereby inducing an automatic increase in spending. Given his view of the powers of the Bank of England, Hawtrey felt that the gold standard would take care of itself. But even if he was wrong, he did not feel that restoring the gold standard was worth the required contraction of spending and employment.
From the standpoint of pure monetary analysis, notwithstanding all the bad press that the “Treasury View” has received, there is very little on which to fault the paper that gave birth to the “Treasury View.”
PS. To give you an idea of how far things have regressed since 1925, uber-Keynesian Ed Balls is proposing that Britain burn down the house without the pig inside. He wants fiscal stimulus, but also wants the BoE to keeps its 2% inflation target. And Ed Balls is the guy that people like Paul Krugman cite with approval.
PPS. Off topic, but I really respect people who keep an open mind. Here’s David Andolfatto:
Apart from all this, it will be interesting to see how the experiment in Japan plays out. Most of the massive purchases announced by the BOJ are for JGBs — I’m really skeptical what sort of effect this should have (since the operation constitutes swaps of two assets that are close to perfect substitutes–although some purchases will take the form of higher risk assets–seeNoah Smith on this). But what I think really does not matter–it is what market participants think–and the program does appear to be having some effect in financial markets.
Tags:
11. April 2013 at 18:54
“But what I think really does not matter-it is what market participants think-and the program does appear to be having some effect in financial markets.”
But at the same time this process is lowering the spread between long term and short term rates making banks less inclined to lend. Don’t you worry that this is a big test for MM theory, and yet BOJ worries it STILL won’t hit its 2% inflation target. What if this push isn’t push enough?
I mean, in the end, the banks still have to get that credit out into the economy. I know creating the right expectations will help, but is it REALLY happening?
If QE Japan falters due to lack of credit creation people won’t regard it as an incomplete experiment — although it largely would be — they will regard MM as a failed theory.
11. April 2013 at 19:05
I think central banks should be transparent, accountable and provide clarity as to intentions. The mumbo-jumbo and obscurantism that was considered clever policy in the past is simply inexcusable in a democracy.
The latest problem—leaks of minutes—further bolsters my view that FOMC meetings should be open to the public, perhaps by CSPAN-type unobtrusive coverage, followed a moderated questions submitted by e-mail.
That said, my take on market players is that they do not listen to or believe the Fed. I recently interviewed a score of large institutional real estate investors, and to a man they said they do not anticipate or trust central bank policies. To them, guidance means nothing.
This suggests to me the Fed has to sustain robust QE for along time, really ram the money into the system. It is not a time to be subtle.
11. April 2013 at 19:38
Great post. Very interesting to see a visionary perspective laid out like it was just common sense.
I do worry that Keynesians will interpret the Sumner Critique as “government should *not* invest in …” rather than “government *should* invest where it is justified by public need and ROI, but not for economic/demand stimulus”. Most people cannot hear the real meaning of a statement, when the words conflict with their worldview.
11. April 2013 at 23:22
I really like mr. Glasners posts on Hawtrey-Keynes debates, its something that isnt mentioned everywhere, but it is very interesting, even for us today.
12. April 2013 at 04:53
Scott, Yes, that’s all true, but all I can do is keep telling the truth, and hope it eventually sinks in.
12. April 2013 at 05:11
Credit growth is not capital goods growth.
Sustainable growth is founded on more capital, not more credit growth.
More credit growth will only change interest rates and prices, and the directions of capital. It won’t increase overall sustainable investment. Any overall “aggregate” growth that more credit growth brings about, will be a “eating the seed corn” type of growth. Yes, there might be more “output”, but it comes at the cost of capital consumption.
Scott H., there is no “need to get more credit out there”, if your goal is for economies to grow sustainably. If however your goal is for economies to grow unsustainably, then your recommendation is warranted.
12. April 2013 at 08:08
Geoff: Are you saying that if our modern economies use any credit the resulting growth will be unsustainable? Or, are you saying that whatever credit level we happen to have right now is the perfect sustainable-growth-maximizing level, and any addition to it will result in unsustainble growth?
12. April 2013 at 08:14
Okay, I don’t see where the Keynsians would disagree per se about what Hawtrey said because he isn’t talking about ZLB. I don’t know what he wrote later but what was his solution to expanding credit when there was a gold standard and the interest rate hit zero? I think the most efficacious argument against Keynes was that he was talking about an economy with the gold standard and therefore with convertibility the money supply wasn’t endogenous. Fractional reserve banking DID describe the world in 1925, but it isn’t how the world works now and that is important.
To a certain extent I wonder if central bank independence is over-rated. Monetary policy is a political question that everybody likes to pretend it isn’t. There is a certain free lunch aspect to fiscal policy right now and it is ridiculous to talk about government insolvency or future inflation as if there is any way to really know ex ante what the future holds.
I’ve aid this before but I think that the only use of fiscal policy is as political cover for Bernanke. Say the gov’t writes a $1,000 check to every person in America and the Treasury auctions off an extra $300B tomorrow. If the Fed soaks up the debt, expands its money supply, and Bernanke doesn’t have to convince the hawks that they need more QE then hasn’t the money supply expanded? Isn’t that just an extra boost of monetary policy by proxy? Of course it ignores expectations, but I think most people agree that Bernanke probably would want to do more. The separation of Fiscal and Monetary Policy is a political construct to reach political goals so that politicians don’t have to be accountable for their choices.
This nicely dovetails back into Hawtreys point. OF course Fiscal stimulus is dumb when you could lower interest rates. I don’t know any modern Keynesian who would disagree. But, if there is a political demand to return to convertibility and they need to raise the interest rate, then wouldn’t fiscal policy in that case just be a stealth way of not actually contracting while signaling that they want to?
This is just the reverse implication of the Sumner critique. If the Central Bank can negate any Fiscal expansion through action, what does it mean if they refuse to intervene, and what situation could arise where that would be a desirable outcome?
12. April 2013 at 08:26
Scott H:
“Geoff: Are you saying that if our modern economies use any credit the resulting growth will be unsustainable?”
That’s a good first approximation. It’s how I usually say it to those who call for more credit expansion without understanding the full implications of it.
A more accurate way of putting it is that credit expansion prevents investors from avoiding unsustainable investment decisions that market interest rates without credit expansion would have otherwise prevented through profit and loss regulation.
“Or, are you saying that whatever credit level we happen to have right now is the perfect sustainable-growth-maximizing level, and any addition to it will result in unsustainble growth?”
In principle, any quantity of money is fully capable of facilitating any sized real economy and population, by the process of falling nominal prices, costs, wages, profits, everything, as real output and the population expands.
With regards to “sticky wages”, my position is that wages are relatively sticky downwards in the real world because of inflation. Wage earners are by nature risk averse, and in a world where prices keep rising every year, there is a greater resistance for wages to fall, as compared to a world where there is no inflation, and there are falling prices, costs, profits, from the time people are born to the time they die. When risk averse people are living in that world, they would be far more open to nominal wage cuts, because they have already become accustomed to earning a lower salary than their parents and grandparents, but they nevertheless have higher real standards of living due to real output expansion on the basis of falling prices.
The notion that inflation is a justified means to eliminating or reducing unemployment, because of sticky wages, is, IMO, akin to a dog chasing his own tail.
12. April 2013 at 09:36
Hawtrey’s quote does not seem to recognize that in a circumstance in which the central bank has engineered or permitted a zero interest rate that many public investments should pass cost benefit tests that would not do so at other times so what looks like Keynesian stimulus is neoclassical fiscal policy. And can a central bank in a closed economy “create credit” if interest rates are already zero.
12. April 2013 at 09:49
‘Off topic, but I really respect people who keep an open mind.’
In which case you should like this (which I just happened on this morning) from the co-founder of the Union for Radical Political Economists, Herb Gintis;
http://www.bostonreview.net/BR37.3/ndf_herbert_gintis_markets_morals.php
‘My colleagues and I found dramatic evidence of this positive relationship between markets and morality in our study of fairness in simple societies””hunter-gatherers, horticulturalists, nomadic herders, and small-scale sedentary farmers””in Africa, Latin America, and Asia. Twelve professional anthropologists and economists visited these societies and played standard ultimatum, public goods, and trust games with the locals. As in advanced industrial societies, members of all of these societies exhibited a considerable degree of moral motivation and a willingness to sacriï¬ce monetary gain to achieve fairness and reciprocity, even in anonymous one-shot situations. More interesting for our purposes, we measured the degree of market exposure and cooperation in production for each society, and we found that the ones that regularly engage in market exchange with larger surrounding groups have more pronounced fairness motivations. The notion that the market economy makes people greedy, selï¬sh, and amoral is simply fallacious.’
Iow, capitalism is nice.
12. April 2013 at 09:53
Scott, Thanks for this post. Silly me that I didn’t see the deep connection between Hawtrey and the Sumner Critique. But the two are not identical because Hawtrey believed that the Bank of England could still have maintained the dollar/sterling parity and the gold standard at a reduced rate of interest while you argue (I think) that the inflation target is unambiguously inconsistent with a monetary policy goal of increasing employment.
12. April 2013 at 10:04
Off topic:
I think Cowen missed something on his recent post about Japanese monetary policy. Maybe he deserves an answer.
http://marginalrevolution.com/marginalrevolution/2013/04/some-thoughts-on-recent-japanese-monetary-policy.html
He says that real wages should have adjusted in a decade of stable monetary policy. So we should not expect big effects.
But the point is that if nominal wages are somewhat sticky a place with 0 or negative NGDP growth will be permanently in a painfull adjustment process. Its not at all like a one time shock followed by a return to the normal rate of growth, where after the adjustment everything is back to normal.
His point about the unemployment is stronger. But maybe as the adjustment is permanent the main effect could show on Labor force participation rate. But i’m not sure, I’m afraid I might be cherry picking to prove a point.
12. April 2013 at 10:25
Geoff: I hope this isn’t overly presumtive on my part, but I believe you could develop a more sophisticated understanding of this subject matter by starting to read this blog.
12. April 2013 at 11:00
errorr, You said;
“Okay, I don’t see where the Keynsians would disagree per se about what Hawtrey said because he isn’t talking about ZLB. I don’t know what he wrote later but what was his solution to expanding credit when there was a gold standard and the interest rate hit zero?”
You need to read David’s post, he covers all that. The short answer is that the Keynesians distorted Hawtrey, he does believe monetary policy can be effective at the zero bound.
I’d add that when I claim the General Theory is all about the zero rate bound, Keynesians vigorously object.
You said;
“This nicely dovetails back into Hawtreys point. OF course Fiscal stimulus is dumb when you could lower interest rates. I don’t know any modern Keynesian who would disagree.”
I do.
ThomasH, Read David’s post.
Patrick, Thanks, that’s very interesting.
David. No, those are completely unrelated issues. The question of whether Britain could maintain the gold peg and hit its inflation target is really a question about how much control the BoE had over the purchasing power of gold, via changes in demand for gold. That’s an open question. But even if they could, they affect inflation and employment via only one mechanism; AD. Thus they cannot independently target the price level and employment even if they can independently target the price level and gold prices.
Arthur, I’ve discussed that issue quite often. Tyler might be right, but as you say if there is money illusion at the zero wage increase point it’s also quite possible he is wrong.
12. April 2013 at 11:37
Scott, In your reply to errorr, I think you said:
“The short answer is that the Keynesians distorted Hawtrey, he does believe monetary policy can be effective at the zero bound.”
Didn’t you mean to say “fiscal policy” instead of “monetary policy?”
On the monetary policy of the Bank of England under the gold standard, we agree, as usual, on the theory; I just meant to provide a bit of self-exculpation about why I missed the parallel between Hawtrey and the Sumner critique. But you don’t seem very willing to cut me any slack. Oh well.
12. April 2013 at 12:23
David, Yes, my reply to errorr was in error. I meant fiscal policy at the zero bound.
And sorry if my reply came across as impolite. I really did like your post a lot, and I wouldn’t have expected you to get diverted onto the so-called “Sumner critique.” If you had, I would have had nothing to post on. 🙂
12. April 2013 at 13:08
Scott H:
“Geoff: I hope this isn’t overly presumtive on my part, but I believe you could develop a more sophisticated understanding of this subject matter by starting to read this blog.”
Honestly, it’s OK. I like debating with people who have spirit. You don’t have to try to fool me; obviously you want to be presumptive, so that you can get a psychological fix from putting me in the place you think I should be.
I have been reading this blog, BTW. It’s not really helpful to give vague recommendations like “Go read a book and get back to me.”
It’s OK to say you would rather not engage the arguments I have presented. I won’t mind that, you know.
12. April 2013 at 17:46
Scott S.
“Why am I not surprised, they [contemporary Keynesians] don’t just adopt Keynes’s ideas, but also his smear tactics.”
Really? Keynes’s “smear tactics.” It’s one thing to say Keynes misunderstood or misinterpreted some works, but quite another to claim he engaged in “smear tactics.” I believe he remained on good terms with Hawtrey and I think David would agree. Keynes went out of his way to help Hayek, and Lionel Robbins, who was an early critic of Keynes and who brought Hayek to LSE, later described Keynes as one of the most magnificent men who ever lived. This doesn’t sound like the kind of person who engages in “smear tactics” does it?
12. April 2013 at 18:57
Greg Hill, I take it you’ve never read the General Theory.
12. April 2013 at 20:11
@Geoff: “My position is that wages are relatively sticky downwards in the real world because of inflation.”
I enjoy how your whole theory of macroeconomics, is critically dependent upon this assumption you make, which is just a wild-ass guess. Unfortunately, the rest of us don’t accept your unsupported intuition, as though it were a real-world fact.
12. April 2013 at 20:36
Scott S
“Greg Hill, I take it you’ve never read the General Theory.”
This isn’t much of an argument in defense of your claim that Keynes engaged in “smear tactics.” I assume your cryptic comment is intended to claim that, in the GT, Keynes misconstrued the views of the economists he was criticizing. But even if this were true, and it’s not clear that it is, this doesn’t mean Keynes intentionally distorted these arguments. Such a conclusion can’t be justified without attending to the character of the person you’re accusing, which suggests that you may be unfamiliar with the whole of Keynes’s life and works.
13. April 2013 at 04:39
Greg, I’ve read many of his works, and his style is similar to that of a certain famous blogger.
13. April 2013 at 05:47
Greg Hill,
Taking the least charitable interpretation of your opponent and showing how it’s ridiculous is a very common debating tactic in Oxbridge. It wouldn’t be a bad reflection on Keynes’s character if he did it sometimes.
13. April 2013 at 21:25
Don Geddis:
“I enjoy how your whole theory of macroeconomics, is critically dependent upon this assumption you make”
It’s not critically dependent on it. It is a side issue, only dealt with because of a penchant on the part of those wanting more inflation because of sticky wages to overlook.
“which is just a wild-ass guess.”
It isn’t a wild-ass guess, but I can fully understand how you want it to be, and how you have an interest in making yourself and others believe it is the case.
“Unfortunately, the rest of us don’t accept your unsupported intuition, as though it were a real-world fact.”
It’s not unsupported, and it is irrelevant whether you accept it or deny it. Wage flexibility has varied substantially throughout history, and both theory and empirical studies suggest that wages are indeed sticky downwards in large part because of inflation.
15. April 2013 at 03:22
OK, so inflation expectations are embedded in nominal wages, making them stickier than they would otherwise be.
However
1) that does not mean there would be no resistance to nominal wage cuts (even in the absence of said expectations)
2) suppose you engineer a wage cut – then the real value of debts would rise.
Face it, troll-boy. Wage cuts are difficult to achieve – and not that desirable in practice.
15. April 2013 at 08:56
Daniel:
“OK, so inflation expectations are embedded in nominal wages, making them stickier than they would otherwise be.”
“However”
“1) that does not mean there would be no resistance to nominal wage cuts (even in the absence of said expectations)”
“2) suppose you engineer a wage cut – then the real value of debts would rise.”
And? You’re ignoring the fact that resistence to cut does not mean they won’t be cut, and you’re ignoring the fact that with gradually falling wage rates, wage earning borrowers and money lending lenders would add a negative inflation premium without inflation, the same way they add a positive inflation premium with inflation. You are holding everything else fixed when a change to the inflation would have effects on bond rates as well.
“Face it, troll-boy. Wage cuts are difficult to achieve – and not that desirable in practice.”
I know you’re upset about being shown the counter-productiveness and weakness of your own flawed policy prescriptions, but that doesn’t make me a “troll.”
Wage cuts will be far more efficient and likely if people live from birth to death in a world with gradual price deflation instead of price inflation. Your last claim of it being “undesirable” is begging the question, and just your opinion.
I thought you would be able to provide a stronger reply, but it seems your position is even weaker than I thought. You were lead by inflationists into a position you yourself are not even intellectually capable of defending. You must feel betrayed.
15. April 2013 at 08:58
Daniel:
Since you admit that inflation makes wages more sticky downwards, but you refuse to cease advcating for that which makes prices more sticky downwards, you’re really not concerned about sticky wages at all. You’re only using it as an excuse, the way demagogues use the poor as an excuse to loot the rich.
15. April 2013 at 09:16
you’re really not concerned about sticky wages at all
No, I am not 🙂
What I am concerned about is overall welfare.
Get your head out of your ass, troll-boy. Workers are very unhappy (to put it mildly) when their nominal wages decline – and if you think that can be a lasting state of affairs – let me know when you come back to Earth, for I have many interesting things to show you.
15. April 2013 at 10:35
Daniel:
“What I am concerned about is overall welfare.”
Well, considering your arguments, you’re not concerned with overall welfare either. You’re concern is class warfare, with a dose of contradictory inflation that primarily benefits the wealthy.
“Get your head out of your ass, troll-boy.”
Well this just shows your emotional immaturity.
“Workers are very unhappy (to put it mildly) when their nominal wages decline – and if you think that can be a lasting state of affairs – let me know when you come back to Earth, for I have many interesting things to show you.”
You’re again begging the question. You’re ignoring the fact that workers are more unhappy about wage declines because they have been conditioned to expect rising prices all the time. But if prices are falling over time, and wage cuts become historically related to non-falling standards of living, then this conditioning of expectating higher prices would no longer be present.
Those who sell goods are also “unhappy” when they sell goods at lower prices, but that isn’t stopping you from rabble rousing for class warfare for goods sellers. Why? Because it isn’t already consistent with your pre-existing class warfare ideology.
15. April 2013 at 11:07
Coming from a man who fails to see the connection between monetary contraction and political gains made by extremists (such as … oh I don’t know … someone like Adolf Schicklgruber), I have to say I am not particularly impressed.
I take inflation expectations were solidified in the 19th century, too.
http://en.wikipedia.org/wiki/Cross_of_Gold_speech
Face it, troll-boy – the money illusion is very real. You can deny it all you want, but that only makes you an irrelevant distraction.
17. April 2013 at 08:41
Daniel:
“Coming from a man who…”
is still waiting for something other than “I disagree.”
“fails to see the connection between monetary contraction and political gains made by extremists (such as … oh I don’t know … someone like Adolf Schicklgruber), I have to say I am not particularly impressed.”
Again with this ridiculously false historical revisionism. What is it with you inflationists? Is fear mongering fascist takeovers really the only thing you got?
If deflation begets fascism, then we should have had a fascist takeover in the US, and everywhere else in the world in the early 1930s that experienced deflation. The fact that fascism arose in the 1930s in Germany, should have been suggestive evidence that your theory is bogus. But alas, it is not to be. We have to ignore all the factors that made fascism a possibility. We’re supposed to ignore the copious amounts of pro-fascist philosophy circulating throughout the country throughout the century prior. We’re supposed to ignore the oppressive war reparations imposed on the German population by foreign powers. We’re supposed to ignore the hyperinflation during the 1920s, the time during which Schicklgruber gained national fame and notoriety. We’re supposed to ignore the prevailing nationalist furvor that was particularly acute in Germany for many years prior.
We’re supposed to ignore all of this, and make the stupendously dumb self-fulfilling argument that inflation is justified because deflation creates fascist dictatorships.
“I take inflation expectations were solidified in the 19th century, too.
http://en.wikipedia.org/wiki/Cross_of_Gold_speech
“Face it, troll-boy – the money illusion is very real.”
Who’s denying money illusion? The whole reason inflation seems to “work” is precisely because people don’t, indeed they can’t, separate the pricing signals resulting from real marginal utility changes, from pricing signals resulting from manipulation of the money supply using political, non-market means.
“You can deny it all you want, but that only makes you an irrelevant distraction.”
This is only something you wish were true, not something that is true. Free market advocates are not going away any time soon. You might as well deal with it, socialist-boy. We know you just want to be taken care of, and we know that you believe that central planning is the way to go. But both theory and history trumps your beliefs. Yes, it’s difficult to accept, because you really, really, *really* want to be taken care of, even if it means others being coerced.
18. April 2013 at 01:59
^ I bet your computer display was covered with spittle by the time you finished writing that nonsense.
we should have had a fascist takeover in the US, and everywhere else in the world in the early 1930s that experienced deflation.
You don’t really know what happened in the 1930s, do you ? But hey, I guess historical facts are irrelevant when you’re a priori right (moron).
inflation is justified because deflation creates fascist dictatorships.
Yes, when one thinks through the implications of sticky wages, one sees that low & predictable NGDP/capita growth is indeed desirable.
But that does require a bit of brainpower, which you’re obviously lacking.
I have to admit I’m amazed at your obstinacy – when confronted with the undeniable facts that people REALLY REALLY REALLY hate it when nominal wages fall, morons like you double down and say “well, tough luck – they’re gonna have to learn to like it”.