Influencing the zeitgeist with a long and variable lag

Jay Powell was asked about long and variable lags in monetary policy, and his answer caught my eye:

You know, the question of long and variable lags is an interesting one. That’s Milton Friedman’s famous statement. And I do think that in this world where everything is — or the global financial connect
— markets are connected together, financial conditions can change very quickly. And my own sense is that they get into — financial conditions affect the economy fairly rapidly, longer than the traditional thought of, you know, a year or 18 months. Shorter than that, rather. But in addition, when we communicate about what we’re going to do, the markets move immediately to that. So, financial conditions are changing to reflect, you know, the forecasts that we made and — basically, which was, I think, fairly in line with what markets were expecting. But financial conditions don’t wait to change until things actually happen. They change on the expectation of things happening. So, I don’t think it’s a question of having to wait.

Matt Yglesias made the following comments, just five days prior to the Powell press conference:

But one problem with this view is that empirically when the Fed cuts its target interest raise or announces some new QE, bond yields sometimes go up rather than down.

One way to deal with this is to invoke Milton Friedman’s idea that monetary policy operates with “long and variable lags,” so you shouldn’t expect any immediate operation of the hydraulic mechanism. The long part could make sense, but long and variable suggests a flight away from inquiry and toward a kind of superstition. “Long and variable” means there is no empirical test of whether or not the mechanism is working. It takes time to operate, and there’s no way of knowing in advance how much time.

And I think it ultimately makes more sense to think of the whole thing as mostly a conjuring trick. A QE announcement can make rates go up because it is creating expectations of faster nominal growth in the future.

The really important thing, though, is that the bond market is not the only financial market. If traders all raise their expectations of nominal growth, the price of commodities and of stock shares will also rise. This generates wealth effects that can fuel spending. It also directly encourages investment in producing commodities and indirectly encourages investment in startups and tangible business equipment.

Now there are lags here, but they are lags in the sense that financial investments (the price of copper going up) happen faster than physical investments (because copper is more expensive now, the copper mines increase production). But the proximate mechanism is essentially instantaneous. If your goal in an inflationary environment is to reduce expectations of future nominal growth, then you can tell more or less immediately whether or not that happened by looking at financial markets. And critically, while doing things can and does influence expectations, so does talking about doing things.

I like that “superstition” remark. The final paragraph echoes the “no wait and see” point I used to make about policy initiatives.

PS. I hope Yglesias will forgive me if this unusually long quotation violates copyright rules, but I’m actually trying to send business his way. Powell already seems to be a subscriber.

PPS. When Abe took office at the beginning of 2013, Japan switched to easier money and tighter fiscal policy. A similar shift took place in the US at about the same time. NGDP growth sped up in both countries, clearly signaling that monetary policy is more powerful than fiscal policy. But The Economist has a new article out claiming that the lesson of the 2010s is that fiscal policy is more powerful than monetary policy.

Sometimes I feel like I’m just beating my head against the wall.


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74 Responses to “Influencing the zeitgeist with a long and variable lag”

  1. Gravatar of Alex S. Alex S.
    18. December 2021 at 18:03

    Congratulations, Scott! I have to believe you’ve played a critical role in bringing an answer from the Fed like that to the table.

  2. Gravatar of Ray Lopez Ray Lopez
    18. December 2021 at 18:38

    Excellent post, though Scott is behind the times by about 36 years as there’s no ‘hard and fast’ limit on how many words you can copy without copyright infringement, the Gerald Ford litigation, (Harper & Row v. Nation Enterprises, 1985), proved that. What copyright looks at is the overall extent of copying in a four-factor test. That said on YouTube they have their own rules that seem to be less expansive.

    As for the original post, it’s worth copying to my hard drive as Matt Yg* is quite right, the ‘variable lags’ model is metaphysics. As is the ‘expectations’ model, which btw a recent paper found doesn’t hold empirically. People do not bake in inflation estimates based on expectations, instead, they wait until there’s actual inflation. Proof: today’s bond yields for the long-term break even inflation rate are at something like 2.5%, whereas actual inflation is well over that and will (say I) rise. Which means the bond markets expectations will be wrong about inflation when inflation continues to increase next year. It’s a fancy way of saying the ‘bond vigilantes’ are often wrong, as another academic paper found. Expectations are meaningless.

    The sooner people move away from a smooth continuous Copernican model of how economics works, with rigid mechanical rules such as taught by our host, the better. Economics is non-linear, unpredictable, and there’s no Phillips curve nor even Cobb-Douglas production function in the real world. It’s all discontinuities.

  3. Gravatar of Rajat Rajat
    18. December 2021 at 20:37

    It’s always hard to tell in text whether people are being ironic. But I know you like Yglesias too much and so you aren’t. A neutral observer might say that Yglesias is pinching from this 11-year old or this 6-year old blog post of yours and making squillions for serving it up to an economically middlebrow audience. Which is not to gainsay what a valuable function that is. I guess as a 66 year old living the retirement dream in southern California with an OLED TV to watch his beloved films and enough savings to enjoy travel and his other hobbies, you bear no grudge. That’s a good way to be, but perhaps Yglesias could throw you the odd acknowledgement sometimes? But maybe that would turn off some of his moderately-progressive readers and detract from his ability to do good in the world. 😉

  4. Gravatar of Rajat Rajat
    18. December 2021 at 20:38

    Ah, bugger, the hyperlinks didn’t work. Here they are:
    https://www.themoneyillusion.com/long-and-variable-leads/
    https://www.themoneyillusion.com/long-and-variable-leads-a-reply-to-tony-yates/

  5. Gravatar of ssumner ssumner
    18. December 2021 at 22:33

    Rajat, Information wants to be free. I don’t worry at all about who got what idea from whom. It’s all good.

    My career is basically over—I just want to see the Fed get better.

  6. Gravatar of Matthias Matthias
    19. December 2021 at 01:20

    Scott, also remember the other part: information wants to be wrong.

  7. Gravatar of David S David S
    19. December 2021 at 01:53

    Will I get in trouble by posting this link?

    https://www.slowboring.com/subscribe

    I haven’t subscribed yet, but for the price of two bottles of decent whiskey (or four bottles of rotgut)–it’s a good deal. Probably better value than the Wall Street Journal.

  8. Gravatar of Todd Ramsey Todd Ramsey
    19. December 2021 at 07:31

    +1, Alex S. and Rajat. Thank you Scott.

    And Scott, your career is not over. With great readership comes great responsibility. Your entire life has been preparation for the next 10 years, when you will open the eyes of Central Banks across the world to better understand monetary policy. The Norman Borlaug of central banking, from the comfort of Southern California.

  9. Gravatar of ssumner ssumner
    19. December 2021 at 08:20

    David, Yes, it’s a bargain.

    Todd, Someone else will have to do that—maybe David Beckworth.

  10. Gravatar of rayward rayward
    19. December 2021 at 09:06

    Conceding to the signaling school of economics is an acknowledgment that the path to prosperity is rising asset prices, for signaling works with investors but not so well with an economy that is dependent on many variables for prosperity (employment, wages, productivity, etc.). Economists are signaling they aren’t needed any more.

  11. Gravatar of Jeff Jeff
    19. December 2021 at 11:39

    Can you help clarify the claim?

    Say the Fed announces a policy action at t_1. There is a market reaction, but it is small because half of market participants believe the central bank is bluffing, i.e., attempting to influence expectations without the will or ability to follow through later on.

    Then, at t_2, the Fed announces a second policy action, consistent with the “not bluffing” hypothesis. This time, there is a supercharged market reaction as participants coalesce around the view that the Fed is not bluffing and, furthermore, was not bluffing at t_1 either.

    Would that imply there is a lag to the policy effects, because the response at t_2 was partly conditioned on the earlier action at t_1? Or, alternatively, there is no lag, because there was at least some instantaneous market response at both t_1 and t_2?

  12. Gravatar of ssumner ssumner
    19. December 2021 at 15:22

    Rayward, High asset prices are one indication of prosperity. But don’t make the “umbrellas cause rain” fallacy.

    Jeff, I’d say no lag, as I regard the degree of credibility as being part of the policy. A 50% credible action is different from a 100% credible action.

  13. Gravatar of Ray Lopez Ray Lopez
    19. December 2021 at 16:57

    @Rajat – the Matt Yg* article is gated, but from the first paragraph it seems Yg* is saying nobody knows why QE or changes in the interest rate affects an economy, whereas the links that you post to for SS say, among other things, monetarism works but not with lags. Completely different concepts. I’m not sure Matt Yg*, despite SS’s shilling of his newsletter, would agree with everything SS has to say on this topic.

    @rayward – right on, macroeconomics is bust, as a recent book “The Economist’s Hour” wrote. Their heyday was in the 1960s to 1980s. Nowadays microeconomics using statistics is vogue, but, like trying to use stats in a non-linear system, that too will fail.

  14. Gravatar of vince vince
    19. December 2021 at 17:09

    ssumner wrote: But The Economist has a new article out claiming that the lesson of the 2010s is that fiscal policy is more powerful than monetary policy.

    The article says fiscal policy has created the inflation that monetary policy couldn’t. It gave no credit to supply chain issues or the Great Resignation.

  15. Gravatar of ssumner ssumner
    19. December 2021 at 19:54

    Vince, Good point, although they’d probably argue that even NGDP growth was much faster this time around, which is not affected by supply chains.

    The bigger problem is that they don’t put enough weight on the adoption of FAIT.

  16. Gravatar of Trying to learn Trying to learn
    19. December 2021 at 20:39

    Thoughts on Goldman lowering GDP growth forecasts on the failure of BBB? Is it a decrease in real or just nominal growth in their models? Are they correct or in error?

    https://thehill.com/homenews/administration/586514-goldman-revises-down-gdp-forecast-after-manchin-says-no-to-bbb

  17. Gravatar of vince vince
    19. December 2021 at 22:23

    Yes, FAIT, too. Fiscal policy can’t create general inflation without Federal Reserve support, right? Oversimplifying, let’s say the Treasury decides to add $1 trillion to the deficit. The federal reserve considers it inflationary, refuses to monetize the debt, and pulls $1 trillion out of the money supply.

  18. Gravatar of rinat rinat
    19. December 2021 at 22:46

    The economist is correct.

    Artificially creating demand for dollars via supranationals is like Snape treating Dumbledore’s wound. Monetary policy gives you the opportunity to steal wealth from posterity, and delay your demise. But you cannot stop inevitability. The debt will not magically disappear.Your thirty trillion in lavish spending must be paid by those who come after you.

    They will live hardup lives, while they pay for your boring and tasteless suburban communities – towns bereft of any culture: with no downtown, no interesting events, and no fresh produce market. Walmart, Target and a handful of other chains equals one big boring yawn….

    So congratulations. Because your selfish 1960’s hippies thought thug culture was better than virtue, there is now nothing left accept a few monilithic mega companies that have monopolized and oligopolized your industry, and centralized power worldwide.

    History will not look kindly on S. Sumner.
    History will look kindly on T. Sowell.

  19. Gravatar of Kester Pembroke Kester Pembroke
    20. December 2021 at 03:55

    Inflation academically is defined as the continuous increase in prices that is faced by agents today looking to purchase things for delivery in the future, whether it’s next week, next month, next year or five years forward. But they want to purchase it now for those dates. And they’re facing what I like to call a term structure of prices. The continuous increase of that term structure of prices is academically the rate of inflation. And, with floating exchange rates, it’s also a direct function of the central bank policy rate.

    So, if you have a permanent zero-rate policy, something like Japan has now, where [the Central Bank] controls up to ten years at zero, the term structure of prices is flat. And so the inflation rate under the academic definition — the way I read it — is zero, because agents are looking at flat prices relative to spot prices. So, if I’m a gold manufacturer, I can buy gold today for jewellery manufacturing at $1,800 an oz. But I have other choices: I could buy it a year from now for $ 1,800 or ten years from now for $ 1,800 plus some storage, insurance and other sundry charges. But effectively it’s the same thing.

    Now, if the central bank raised rates, say to 1% from zero, the term structure of rates would now be locked at 1% instead of zero. Then the price of gold for every year forward I want to buy would go up. Prices would continuously go up at a 1% compounded rate, so the rate of inflation would be 1%. By the academic definition of inflation — as I read it — the central bank sets the policy rate, which is the rate of inflation, the structure of the policy rate.

    The Fed only sets overnight rates, as in the European Union, and allows the term structure to adjust to what market participants anticipate that the Fed is going to do. That’s their policy choice. So today, with a one and a half per cent ten-year note, you could say the forward structure of prices is increasing linearly at an average of one and a half per cent a year for ten years. For people looking today to purchase things for delivery next year or the year after —and this could be somebody who wants to buy a house which is going to take a year to build, or who wants to build a factory which is going to take three years to build — they have to look at the forward prices of those things. The term structure of prices, which is set by the policy rate, is the rate of inflation.

    According to that definition, you would not see a headline today saying inflation is at 4%, right? Because that’s what the CPI did versus a year ago, which is a very different thing. What we have today is what’s called a price level. And if the rate of inflation is zero, as it is in Japanese yen, that’s not to say that the price level won’t change, go up, go down, go sideways for the next ten years. It is to say that, right now, if I want to buy something for one-year delivery, the forward price is the same as the spot price.

    The next question is, what does determine the structure of prices? And one of the questions it brings up is why the central banks won’t even consider this, or put any time or effort into trying to see what the relationship is between the term structure of prices and their policy rate. Because central banks think they’re in control by using the reference rate.

    Well, they’re looking at changing the price level, not realizing that when they raise rates, which presumably causes the price level to go down, they’re establishing a higher inflation rate. They haven’t looked at it from this point of view, nor done the research on it. So, it’s not that they’re right or wrong, it’s just that it doesn’t even occur to them to look at this.

    Let’s look at the price level. Why are prices where they are? Why does this thing cost $10 or €9? Where does this price come from? The mainstream [economists] do not have a theory of the price level or a way of determining it independently from what it was yesterday. So they just say it’s historic, because they don’t have anything better and their math doesn’t work to determine the price level as they claim.

  20. Gravatar of Kester Pembroke Kester Pembroke
    20. December 2021 at 04:03

    They don’t understand the source of the price level. What I recognized with MMT, since inception, is that the currency is a simple public monopoly. The economy needs the government’s funds to pay taxes and the government is dictating the terms of exchange when it spends, — whether it knows it or not. So, what markets can do, and that is what the mainstream recognizes, is set relative value. And all their models do is try to determine relative value. They can tell you why peaches cost twice as much as apples or 1 hour of labour earns enough for three pizzas or one pizza per hour of labour. Markets can determine relative value, but markets can’t determine absolute value. They can’t determine whether the hour of labour should be $10 or eleven and a half euros per hour. It’s like saying I can tell that this distance is twice this other distance, but somebody has to define a measuring rod.That’s what I call absolute value. The only information the marhe government is not only influencing the absolute price level. It could also be influencing the relative price level. If they decide they want apples for everybody in the army, then the price of apples goes up. If they want everybody in the Army to wear a Rolex watch, the price of Rolex watches goes up.

    The government creates a notional demand but there isn’t any aggregate demand until the government spends first. It is the source of aggregate demand. I call it the ‘demand filter’. How do the dollars get from the government to the taxpayer? If they just hired everybody —let’s say they tax everybody’s house — then everybody would work for the government and it would give you a job. In this case, the demand filter just has one layer. But if they took the whole $5 trillion [budget], or whatever it is, and gave it to one contractor and said: “here you go; run the economy”, then you would get very different results. He might keep a bunch for himself and you get a whole different distribution.kets get on absolute value comes from the government through its institutional structure.

  21. Gravatar of Kester Pembroke Kester Pembroke
    20. December 2021 at 04:04

    They’ve got the interest rate thing backwards. So the answer to that question is, if they believe that inflation, the way they define or report — the CPI, the core, all these things — is somehow ahead of their targets, whatever that means, then their response will be to raise rates because they believe that the cause-and-effect sequence is “we raise rates; inflation comes down”. They don’t have any hard evidence nor supporting theory for that anymore, but they believe it. That’s their story and they’re sticking to it.

    We can give them all the theory and evidence to the opposite. [However] they fear that if they’ve got their money and interest rate stories backwards, then the logical conclusion is that central banks really cannot do that much about inflation in the first place. They never have, indeed. That’s why they will never believe this story because they know they will be out of work.

    In the meantime, MMT has pointed out several things that the economics profession totally got backwards to the detriment of the economy and the standard of living for a long time. One of them is the sequence of spending. They think that they have to take money in at the federal level to be able to spend. We pointed out that’s backwards. It’s the economy that needs the government’s money. Every mainstream economics model gets that backwards. And that’s a lot of models for many years that have won a lot of Nobel Prizes for having it backwards.

  22. Gravatar of Kester Pembroke Kester Pembroke
    20. December 2021 at 04:04

    Now they’re coming around on the realization that there unlimited overdrafts government at least prints the money or creates the money when it spends. They haven’t taken the next step: which means accepting that all their models are wrong, but they do know that all their models are broken. And that includes their interest rate models because, when you look at all their forecasts which are based on their models, they’ve all been wrong. So, they recognize their models are broken. So that’s a good start.

  23. Gravatar of Michael D Sandifer Michael D Sandifer
    20. December 2021 at 05:30

    Scott and other market monetarists have been very successful at helping move the developed world toward much better monetary policy. They deserve congratulations and deep respect.

    However, they still, ultimately fall well short of presenting a complete, self-consistent macroeconomic model. This would not be such a problem, if it did not mean that even most market monetarists unwittingly advocate tight money policies.

    For Scott’s part, his sin is far from unique. Most macroeconomists believe wages were fully-adjusted by the mid-2010s. There’s no solid metric they point to, to my knowledge, to support this view, and unemployment continued to fall until 2020.

    Scott has argued that EPOP metrics are nearly meaningless for determining the health of the US employment market, citing a rising EPOP in the very unhealthy labor markets during the Great Inflation. But, he ignores that women were entering the workforce in a permanent shift, as the epop numbers broken down by gender clearly indicate. EPOP for men fell during the Great Inflation, but rose for women, more than making up for the relatively slow decline in male employment.

    And, it doesn’t seem to bother Scott that the stock and bond markets did not see such a severe “Great Stagnation” coming after the Great Recession, despite the fact that he cites long-term trends, such as an aging population and shifts to service sector work as causes. Why should there have been a huge shock, coincident with the Great Recession? Yet, he deems himself a “market monetarist”.

    And finally, Scott and other market monetarists, have cited nominal wage/NGDP as a metric, at least in the abstract, that gets to the heart of the macro problem, and reflects equilibrium. In practice, that ratio has been in steady decline for the decades, so what does that really mean? Does it mean we must return to the original trend path of the decline to determine macroeconomic equilibrium? The answers I get are usually that there are no clear metrics to signal equilibrium. So, why cite nominal wage/NGDP, even conceptually?

    And this ignores the issue as to why the nominal wage/NGDP ratio has been falling for decades, at about the rate of inflation. I argue that this reflects slack labor demand, which is consistent with changes in EPOP and the unemployment rate. Money has either been too loose or too tight at practically every moment over the data period. Should this be surprising?

    Let’s recall, that throughout the mid-to-late 2010s I and others were here saying that money was still tight and unemployment would surprise on the downside.

    I was clearly right, even if for the wrong reasons, though I increasingly believe my reasoning was correct. Even most market monetarists fell into the old trap of assuming a Great Stagnation when the economy doesn’t recover as fast as their flawed macro models say they should. “This time is different!”

    Yes, inflation needed to fall after the Great Inflation, but the Fed caused it to fall too quickly, needlessly dragging out economic recoveries, and never reaching full employment between recessions they mostly caused(1990 seems to be an exception, though mkney was too tight).

    I suspect a good metric for determining whether the labor market is in equilibrium is when nominal wage growth meets NGDP growth, in a growing economy. Even if you don’t buy this metric as indicating equilibrium, ot can be an indication that money is loose enough.

  24. Gravatar of Michael D Sandifer Michael D Sandifer
    20. December 2021 at 06:03

    Here’s the data:

    EPOP: https://fred.stlouisfed.org/graph/?g=JJLL

    EPOP Women: https://fred.stlouisfed.org/graph/?g=K4kz

    EPOP Men: https://fred.stlouisfed.org/graph/fredgraph.png?g=K4kD

    nominal wage/NGDP: https://fred.stlouisfed.org/graph/?g=K4kK

    Labor Productivity + Employment Level = RGDP: https://fred.stlouisfed.org/graph/?g=K4ly

    mean change in RGDP = mean change in nominal wage, though wages are sticky: https://fred.stlouisfed.org/graph/?g=K4lG

  25. Gravatar of Michael Rulle Michael Rulle
    20. December 2021 at 06:25

    A reminder. Efficient markets means today’s prices are the best guess as to the right prices——under the empirical recognition that outperforming non-randomly consistently is almost impossible. I assume this holds true for monetary policy as well. The Fed plays a special role in efficient markets——it impacts the inputs that go into the pricing of securities. And we know, the Fed can be wrong in many ways. This Fed at least tries to track the markets—therefore trying to be efficient.

    But as Covid proved—-many unanticipated events can and do create havoc.

  26. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 06:39

    re: “Long and variable” means there is no empirical test of whether or not the mechanism is working

    If you don’t know how to measure M*Vt, then you can’t form an opinion. That’s the case with all present-day economists. Like I’ve repeatedly said, inflation peaks in Jan.

  27. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 06:41

    If you ignore expectations, you ignore velocity.

  28. Gravatar of Michael D Sandifer Michael D Sandifer
    20. December 2021 at 06:43

    Forgot to include the bond market’s pre-Great Recession real interest rate forecast:

    https://fred.stlouisfed.org/graph/?g=K4pF

    My links to other data are held up in moderation.

  29. Gravatar of bill bill
    20. December 2021 at 07:04

    Good article by Kocherlakota
    https://www.bloomberg.com/opinion/articles/2021-12-20/the-fed-s-pivot-is-the-opposite-of-hawkish

  30. Gravatar of Philo Philo
    20. December 2021 at 08:33

    As I commented to Yglesias, I do not need to read his take on monetary policy: I have already read Scott Sumner!

  31. Gravatar of Michael D Sandifer Michael D Sandifer
    20. December 2021 at 08:48

    Philo,

    Yes, Yglesias has good takes, but they’re derivative. I can’t figure out why people rave about him.

  32. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 08:59

    An injection of new money by the Reserve authorities may be robust, neutral, or harmful. It is all based upon the distributed lag effect of monetary flows, volume times transactions’ velocity.

    There is a “sweet spot” where the injection of new money is robust, then net neutral (affects real variables more than nominal variables). But in the longer-term FAIT is harmful (affecting principally nominal variables).

    “The theory of distributed lags is that any cause produces a supposed effect only after some lag in time, and that this effect is not felt all at once – but is distributed over a number of points in time. Irving Fisher initiated this theory and provided an empirical methodology in the 1920’s.”

    What we know is that the “sweet spot” has passed. Now every injection of new money will accelerate inflation relative to the real output of goods and services. I.e., now we’ve got stagflation.
    Jul 5, 2021. 01:03 PMLink

  33. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 09:12

    “More on the History of Distributed Lag Models”

    https://davegiles.blogspot.com/2016/12/more-on-history-of-distributed-lag.html

  34. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 09:37

    Contrary to Friedmanites, there is no “fool in the shower”.

    “Fool in the shower is the notion that changes or policies designed to alter the course of the economy should be done slowly, rather than all at once. This phrase describes a scenario where a central bank, such as the Federal Reserve acts to stimulate or slow down an economy. The phrase is attributed to Nobel laureate Milton Friedman, who likened a central bank that acted too forcefully to a fool in the shower. When the fool realizes that the water is too cold, he turns on the hot water. However, the hot water takes a while to arrive, so the fool simply turns the hot water up all the way, eventually scalding himself.” – Investopedia

  35. Gravatar of ssumner ssumner
    20. December 2021 at 10:27

    Trying to learn, I don’t know. If that were true, why didn’t 10-year bond yields fall on the news?

    Kester, MMT is extreme example of reasoning from a price change.

    Michael, You said:

    “But, he ignores that women were entering the workforce in a permanent shift,”

    This is ridiculous. Not only do I not “ignore” this fact, it’s precisely why the epop ratio is misleading. Lots of things affect epop

    “And, it doesn’t seem to bother Scott that the stock and bond markets did not see such a severe “Great Stagnation” coming after the Great Recession,”

    Just the opposite was true. Bond yields were very low, indicating very low NGDP growth expectations.

    wage/NGDP falls for many reasons, including population growth and a shift toward fringe benefits.

  36. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    20. December 2021 at 10:46

    O/N RRP uptake has accelerated:

    2021-12-17: 1,704.586
    2021-12-16: 1,657.626
    2021-12-15: 1,621.097
    2021-12-14: 1,584.488
    2021-12-13: 1,599.768

  37. Gravatar of Michael D Sandifer Michael D Sandifer
    20. December 2021 at 11:50

    Scott,

    You replied:

    Michael, You said:

    ‘“But, he ignores that women were entering the workforce in a permanent shift,”

    This is ridiculous. Not only do I not “ignore” this fact, it’s precisely why the epop ratio is misleading. Lots of things affect epop.’

    Well, perhaps you didn’t ignore women entering the workforce in your own mind at times, but you failed to mention it in two posts on the very topic of the relevance of EPOP data:

    https://www.themoneyillusion.com/the-employment-to-population-ratio-is-nearly-meaningless/

    https://www.themoneyillusion.com/about-those-employment-to-population-ratios/

    To quote you, from the first one:

    “Was the labor market healthier in the 1970s than the 1960s? Of course not, the opposite was clearly true. You probably couldn’t find a single macroeconomist in America who thinks our labor market was healthier in the 1970s than the 1960s. The whole idea is preposterous. And yet the employment ratio was far higher in 1978 than 1972, and higher in 1972 than 1965 (which was a boom year.)”

    I think you’re predisposed to finding what I offer to be “ridiculous”. And, it is true, that I make mistakes, even very dumb ones. But, ocassionally I get something right, and I think I’m failing forward, on average.

    Also, if you look at the EPOP data and compare it to NGDP, the correlation is greater than .79 for the whole mutual data sets, and over.84 since the Great Moderation began in 1983.

    https://fred.stlouisfed.org/graph/?g=K4Nz

    So, there are other factors, for sure, but NGDP growth seems to dominate, without question.

    You also replied:

    ‘“And, it doesn’t seem to bother Scott that the stock and bond markets did not see such a severe “Great Stagnation” coming after the Great Recession,”’

    This is partially my fault, as I meant to type that the markets didn’t see such severe secular stagnation coming before the Great Recession. But, it’s also true that markets didn’t see it coming in the immediate aftermath of the recession.

    https://fred.stlouisfed.org/graph/?g=K4pF

    Finally, you replied:

    “wage/NGDP falls for many reasons, including population growth and a shift toward fringe benefits.”

    That sounds plausible, but doesn’t fit the data. For one, population growth hasn’t averaged anywhere near nearly 2%, which is roughly the average difference between nominal wage growth and NGDP growth in the data. This is especially true in more recent years, yet the gap is pretty constant.

    https://fred.stlouisfed.org/graph/?g=K4OW

    And ECI tries to capture more non-wage compensation, but shows a similar pattern:

    https://fred.stlouisfed.org/graph/?g=K4Pn

    Unfortunately, there’s not nearly so much ECI data available.

    To further support my claim that I think you’ve become habitually dismissive of me, the last time we had an exchange about the relationship between stock prices and expected NGDP growth, you mentioned that stock prices change for all kinds of reasons. When I asked for an example of a common one, you cited interest rate changes. This revealed you’d ignored everything I’d written about how I model the relationship between stock prices and economic growth in previous exchanges. I model how changes in economic growth expectations change both interest rates and the discount rate for the S&P 500, and have been too explicit about that fact, if anything, in prior comments.

  38. Gravatar of Trying to Learn Trying to Learn
    20. December 2021 at 15:39

    Scott, you said: “If that were true, why didn’t 10-year bond yields fall on the news?”

    Good question. I would’ve thought some of the BBB was inflationary as government increases GDP (unless it’s offset by less private spending/investment?). On the other hand, there’s some work disincentives in there, which should lower GDP. I wouldn’t expect the effects on either side to be as drastic as in the Goldman projections (they were lowering growth by 0.5%. I would expect most of the growth to show up as inflation (so only nominal), since it’s not expected to be spent super productively.

    I don’t know how the bill would impact monetary policy either? Fed would want to offset inflation by further tightening policy maybe?

    All of this post is in reference to Goldman saying they’ve lowered GDP growth expectations after Manchin killed BBB.

  39. Gravatar of Henry Henry
    20. December 2021 at 22:37

    Why I am not suprised to hear that Sumner doesn’t care about fiscal policy.

    After all, it’s his radical left party that wants to spend another two trillion on a bill that oddly spends 500 billion subsidizing Tesla and Honda, which, by the way, is the same company he screams at in his blog for being “too rich”. He says he wants to “control their consumption”. Tax until hit hurts is the new leftward religious mantra.

    Tesla is also not unionized, so if you truly care about showing your compassion, empathy and tears for them, you may not want to support a bill that lowers the salaries of said workers.

    The left is the real virus the world faces. The party is like a teenage girl that gets her first credit card. The solution to every problem is to spend your way out. Don’t have enough credit. No problem. Just “give me more of your money”, and then everything will be okay. I know how to spend it better than you.

    Thank god for Joe Manchin.

  40. Gravatar of ankh ankh
    21. December 2021 at 11:51

    “Sometimes I feel like I’m just beating my head against the wall.”

    This is the type of statement that is so horrifying for so many people.

    It is this type of statement that we often hear from the Marxist left.

    The true meaning of that statement something like this:

    “I’m so smart; I know the best way; why doesn’t anyone listen to me; I don’t understand!”

    And that, ladies and gentlemen, is the startling degree of arrogance that epitomizes the degradation of academies in the west. You are no longer the guardian of knowledge, but rather propogation centers of arrogant thought.

    This is the type of arrogance that destroyed the old Soviet Union.

  41. Gravatar of ssumner ssumner
    21. December 2021 at 14:48

    Michael, You said:

    “So, there are other factors, for sure, but NGDP growth seems to dominate, without question.”

    Of course they are strongly correlated, but that has no bearing on anything I said. My claim is that they are not 100% correlated.

    As far as population growth and fringe benefits not explaining 100% of the discrepancy, I agree. Other factors also come into play, such as depreciation rising as a share of GDP. I’m sure there are many others as well.

  42. Gravatar of Michael D Sandifer Michael D Sandifer
    21. December 2021 at 20:33

    Scott,

    You replied:

    “Of course they are strongly correlated, but that has no bearing on anything I said. My claim is that they are not 100% correlated.”

    The correlation between changes in EPOP and NGDP has rounds up to .91 since the beginning of 2007. I think it’s fair to argue, albeit crudely, that it doesn’t leave much room for other factors. It’s pretty strong evidence that EPOP has been a good indication of the cyclical state of the labor market in the US for decades, but especially since the Great Recession.

    And I was looking at this data, among other things, when predicting unemployment would fall further than most forecasts were allowing. I’ve noticed that Beckworth does seem to respect this metric.

    The broad point is, I think you’re undervaluing the evidence that economic recoveries take longer than most economists think, even within what I understand as your own framework.

  43. Gravatar of Michael D Sandifer Michael D Sandifer
    21. December 2021 at 21:20

    I’ll summarize some evidence and other reasons to think the US economy never returned to equilibrium after the Great Depression:

    1. There was below target inflation, on average, and at almost every point between the last two recessions. That is, 1.6% versus the 2% target, which can make a large difference( > 1% even) in terms of real GDP growth.

    2. EPOP is 91% correlated with NGDP growth, and recovered far more than predicted, with unemployment falling for a much longer period of time than predicted.

    3. Treasury and stock markets did not predict anything like the severe secular stagnation that most economists claimed took hold. Predicted real yields fell off a cliff. Evidence seems far more consistent with a nominal shock, especially considering that most causes cited for secular stagnation were seen for decades in long-term trends.

    4. Stocks prices were far more volatile than would be predicted in macro equilibrium after the period during which wages are assumed to have fully adjusted.

    5. You said more than once that there is no sure way to tell whether an economy is in macro equilibrium, so how with much certainty can you claim the economy ever returned to equilibrium? Do you have evidence you haven’t presented? Has the economy been in equilibrium at any point during the data period?

    5.

  44. Gravatar of Michael D Sandifer Michael D Sandifer
    21. December 2021 at 21:21

    Make that, “Great Recession”, instead of Great Depression in that opening line.

  45. Gravatar of David S David S
    22. December 2021 at 01:34

    Since Scott used the word zeitgeist in the title of this post I feel no shame in going off on some tangents completely unrelated to Fed policy.

    1. What’s up with the Metaverse and why has this blog not moved there yet? I just fast-forwarded through Zuckerberg’s underwhelming advertorial video on Youtube (which he does not own). I confess feeling both underwhelmed and nostalgic–as if I had been transported back to the optimistic era of ’90’s internet.

    2. Tyler Cowen kicked up a little dust with his posts on crypto which makes me believe that digital currencies are drifting further and further from something that could even be called money. Scott criticized crypto for not being a unit of account, but it also seems to be detaching itself from broad utility as a medium of exchange; i.e. crypto enthusiasts are building and trading air castles for each other instead of using their currencies to buy real things. And by “real things” I mean the stuff that we’re tracking in the CPI, like the resale value of Joe Manchin’s Maserati.

    3. I recently saw an article at Business Insider about how digital currency trading in Turkey is increasing as Erdogan continues to destroy the lira. How long can bad central bank policy persist? My sense is that it will destroy the politicians implementing the policy before it destroys the nation. It’s just money after all.

  46. Gravatar of David David
    22. December 2021 at 03:27

    Not related to this topic. No need to reply.

    Thank you for advancing the cause of logic.

    Merry stuff.

    Love what you do.

  47. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    22. December 2021 at 07:20

    R-gDp (which is a subset of money flows, volume times transaction’s velocity):
    01/1/2021 ,,,,, 0.645
    02/1/2021 ,,,,, 0.659
    03/1/2021 ,,,,, 0.697 6.3%
    04/1/2021 ,,,,, 0.701
    05/1/2021 ,,,,, 0.773
    06/1/2021 ,,,,, 0.799 6.6%
    07/1/2021 ,,,,, 0.824
    08/1/2021 ,,,,, 0.635
    09/1/2021 ,,,,, 0.347 2.3%
    10/1/2021 ,,,,, 0.381
    11/1/2021 ,,,,, 0.370
    12/1/2021 ,,,,, 0.302
    01/1/2022 ,,,,, 0.300

    There’s no “long and variable” in the #s.

  48. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    22. December 2021 at 08:04

    Sumner: “Rates fell during 2007-08 and money was getting tighter.”

    Interest rate manipulation began in 1965. The Federal Reserve (BOG), under Chairman William McChesney Martin Jr., re-established WWII stair-step case functioning (and cascading), interest rate pegs thereby using a price mechanism (like President Gerald Ford’s: “Whip Inflation Now”), and abandoning the FOMC’s net free, or net borrowed, reserve targeting position approach (quasi-monetarism), in favor of the Federal Funds “bracket racket” in 1965 (presumably acting in accordance with the last directive of the FOMC, which set a range of rates as guides for open market policy actions).

    The effect of tying open market policy to a repurchase agreement/remuneration bracket (or some policy peg, e.g., today’s remuneration rate on IBDDs) was to supply additional (and excessive) complicit reserves to the banking system whenever loan/investment demand (i.e., bank deposits), are increased.

    Interest is the price of loan funds, the price of credit. The price of money is the reciprocal of the price level. There is no r* (neutral interest rate). Investment hurdle rates are idiosyncratic. Business expenditures depend largely on profit-expectations, and favorable profit-expectations depend primarily on cost/price relationship of the recent past and of the present. Cost/price relationships are crucial, and they are particular; they cannot be adequately treated in terms of broad-aggregates or statistical weighted “averages”.

  49. Gravatar of ssumner ssumner
    22. December 2021 at 11:17

    Michael, I guess I just don’t understand your argument. You seem to suggest that if two variables are correlated at 91%, that proves that one variable is an indicator of whether the other is out of equilibrium. That argument makes no sense to me—or perhaps I’m misinterpreting what you are saying.

    EPOP changes for many reasons. NGDP is very important, but there are other factors as well.

    David, I wouldn’t say I “criticized” crypto. If I pointed out that copper is not a medium of account, that would not really be criticizing copper. It would just be making an observation.

  50. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. December 2021 at 06:00

    “Inflation in the US, as measured by the Personal Consumption Expenditures (PCE) Price Index, rose to 4.7% YoY in November, the US Bureau of Economic Analysis reported on Thursday. That was above the consensus forecast for an inflation rate of 4.5% and marked a substantial acceleration from October’s inflation rate of 4.2%, which was upwardly revised from 4.1%”

    But Powell deemphasized the injection of new money by the FED. As “Inflation is not higher prices, it’s an increase in the money supply.”

    FAIT, the over-shoot, the make-up policy, has been over-done.

    And there is a disconnect. Powell intentionally blurred the distinction between means-of-payment money and savings/investment type bank accounts. to wit: ” Over this time period and going forward, the release items “Savings deposits” and “Other checkable deposits” are no longer applicable and have therefore been deleted from the H.6 statistical release as a matter of housekeeping” H.6 release

    Powell did this without seeking public comments in the FEDERAL REGISTER.

    The prospect is that, with the un-gating of bank-held savings, we will know less and less about money and the economy.

  51. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. December 2021 at 06:21

    Regulation D, the more than six withdrawals or transfers per month out of your savings account, was eliminated.

    Eventually, the only correct measure of the money stock will be the tabulation of the currency component.

  52. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. December 2021 at 07:18

    Make no mistake. We are under attack. The current administration’s propagandizing, the de emphasis of the money stock, the citations of any correlation between M2 and the economy, is criminal, is treasonous. It’s stock vs. flow.

    Money has no impact unless it is turning over. The most important determinates of AD were discontinued in Sept. 1996 (the G.6 release). But they still convey the long-standing importance of the different money supply classifications.
    https://www.federalreserve.gov/pubs/feds/2010/201041/

    “For better or worse, most economists think of M2 as the measure of money.”

    My half-baked calculations (they can be fine-tuned), still track R-gDp and inflation.

  53. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. December 2021 at 07:41

    William Barnett, a former “rocket scientist”, developed “Divisia Monetary Aggregates” in 1980. But his predictions since then have been less than accurate. They are largely conterminous. And they are fundamentally fallacious, but the most widely cited (see Steve Hanke: “It’s the money supply stupid”.
    https://centerforfinancialstability.org/amfm_augmented.php

    The “time bomb’ of 1981 propelled N-gNp to 19.2% in the 1st qtr 1981, the FFR to 22%, and AAA Corporates to 15.49%. My prediction for AAA corporate yields for 1981 was 15.48%. You can ask James Sinclair of “Mindset”:

    https://www.nytimes.com/1982/05/06/business/business-people-gold-loses-its-glitter-for-investment-adviser.html#:~:text=In%20the%20late%201970%27s%2C%20Mr.%20Sinclair%20had%20a,egotistical%20-%20in%20precious%20metals%20and%20currency%20trading.

    “On the demand side, there is no reason to differentiate among inside money, outside money, regulated services, or shadow banking services.”

  54. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. December 2021 at 07:49

    “On the demand side, there is no reason to differentiate among inside money, outside money, regulated services, or shadow banking services.”

    That’s double counting.

  55. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    24. December 2021 at 04:30

    See also author, Richard G. Anderson: “former St. Louis Fed’s technical staff:

    “Although the evidence is mixed, the MSI (monetary services index), overall suggest that monetary policy WAS ACCOMMODATIVE before the financial crisis when judged in terms of liquidity.”

    See also: “Money and Velocity During Financial Crises: From the Great Depression to the Great Recession”

    “The experimental measures are designed to resolve some of the confusion by isolating money intended for spending, the money held as savings.”
    http://hvr.co/2h80OSS

    Economists can’t define it, nor understand how fast it travels. Most of this has to do with the FRB-NY Fedpoints:
    http://nyfed.org/2f3vlOy

    “Chairman Greenspan added, “The historical relationships between money and income, and between money and the price level have largely broken down, depriving the aggregates of much of their usefulness as guides to policy. At least for the time being, M2 has been downgraded as a reliable indicator of financial conditions in the economy, and no single variable has yet been identified to take its place.”

  56. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    24. December 2021 at 05:27

    All the demand drafts drawn on DFIs and NBFIs, cleared through DDs – except those drawn on MSBs, interbank & the U.S. government.

  57. Gravatar of nick nick
    24. December 2021 at 17:21

    They don’t want to take vaccines, you fuckin totalitarian terd.

    https://www.newswars.com/christmas-eve-travel-chaos-hundreds-of-flights-canceled-due-to-staffing-shortages/

    You and your gulag thugs should be forced to pay for each one of their tickets.

    The world will be safer if Sumner, Fauci and Schwab choke on their Christmas dinner.

  58. Gravatar of Michael D Sandifer Michael D Sandifer
    27. December 2021 at 14:58

    Scott,

    You replied:

    “Michael, I guess I just don’t understand your argument. You seem to suggest that if two variables are correlated at 91%, that proves that one variable is an indicator of whether the other is out of equilibrium. That argument makes no sense to me—or perhaps I’m misinterpreting what you are saying.

    EPOP changes for many reasons. NGDP is very important, but there are other factors as well.

    My thinking, mistaken as it may be, is that the unemployment rate falling consistently is an indication of decreasing slack in the labor market, which in turn, is an indication that the economy was out of macro-equilibrium during that whole period. I see the rising EPOP ratio as being further evidence of this, as workers continued to come off the sidelines to take jobs. I think that typically, AD-side factors should be among the first considered for such changes, and that the 91% correlation between EPOP and NGDP growth since 2007 supports the view that this was due to slack AD. To be very explicit, higher NGDP growth, including higher temporary inflation, would have increased the employment level more quickly.

  59. Gravatar of johannes johannes
    27. December 2021 at 16:32

    Every social media app is spyware. When a company knows where you are, what you eat, what your face looks like, what your voice sounds like, your age, your job, your education, your likes and dislikes, who you talk to, what you talk about, then how is that not spyware? Closing the app doesn’t stop the data collection. The app has the right to turn on your camera, listen to your conservations, and track your location anytime.

    And Scott, when you are in a cold war with another country, and that countries way of life (totalitarian) is very disimilar to yours, you should probably not praise that country unless you support their style of government. It’s unpratriotic, especially when the two sides are incompatible. One of these governments will fail. And if it’s the U.S, the world will be in a very dark place. Three hundred years of progress will be destroyed, and men everywhere will be in chains again.

    And your vaccine views ignore data. The top Indian epidemiologist says the data shows that vaccines are harmful to children, and should not be given to children.

    Also, I’m curious how a libertarian can support mandates, lockdowns, and higher taxes? You sound more like Bentham than locke. None of your posts are libertarian in view. They are more or less in line with Duncan and Rawls views, not Machans, Nozick and Rands. In other words, you are a liberal not a libertarian. I know it’s fashionable, amongst some academics to claim they are libertarian, but if you don’t understand what it means to be a libertarian – and I don’t think you do – then you shouldn’t dishonestly present yourself as such.

  60. Gravatar of ssumner ssumner
    27. December 2021 at 19:57

    Michael, You said:

    “My thinking, mistaken as it may be, is that the unemployment rate falling consistently is an indication of decreasing slack in the labor market, which in turn, is an indication that the economy was out of macro-equilibrium during that whole period.”

    Then we disagree. Was there slack in the late 1960s?

    Johannes, You said:

    “I’m curious how a libertarian can support mandates, lockdowns, and higher taxes?”

    Me too. That doesn’t sound very libertarian to me. You are probably confusing me with another Scott, as I don’t hold those views.

    And this comment has nothing to do with my post, which makes me think that you are a bit confused.

    “The top Indian epidemiologist says the data shows that vaccines are harmful to children, and should not be given to children.”

    Actually, unvaccinated children are at higher risk. What makes you think a particular Indian epidemiologist has more credibility than dozens of other top epidemiologists?

    As far as being “unpatriotic” because I’m skeptical of the wisdom of a new cold war, the real patriots are those who throughout history stood against the foreign policy establishment trying to whip up war hysteria. Remember Iraq’s WMD? Remember the Tonkin Gulf Resolution? Remember the Maine?

  61. Gravatar of Michael D Sandifer Michael D Sandifer
    28. December 2021 at 01:55

    Scott,

    You replied:

    “Then we disagree. Was there slack in the late 1960s?”

    Your answer completely ignores the total context I provided in numbered points above. Recall that in my argument, the unemployment rate fell and EPOP rose with consistently below-target inflation and NGDP growth that was below the pre-recession trend. The 10 year implied real interest rate market forecast fell rapidly in the immediate post-recession years.

    Obviously, comparisons to the Great Inflation are completely inapplicable.

  62. Gravatar of Michael D Sandifer Michael D Sandifer
    28. December 2021 at 02:05

    To flesh my perspective out a bit further, had the average inflation rate been 2% between the last two recessions, rather than 1.6%, it could have easily meant sustainable RDGP growth could have been 1% higher, and perhaps a bit higher still. This woumd have still been below the relatively brisk RGDP growth rate during the tech boom reflecting, in part, actual secular stagnation that would not have represented such a shock to markets in 2007.

    Not only do I see this counterfactual as plausible, but more likely true than the more popular, more extreme secular stagnation narrative.

  63. Gravatar of ssumner ssumner
    28. December 2021 at 06:07

    Michael. I didn’t say you were wrong in assuming money was too tight in the 2010s, my point is that a falling unemployment rate is not an indication of anything. Money was too tight based on NGDP, inflation, etc.

  64. Gravatar of Effem Effem
    28. December 2021 at 06:18

    I agree with what you wrote, but i think it misses part of the picture. The world is not so simple as to be able to draw a direct impact from policy to growth or inflation, even with a lag.

    Consider the amount of outstanding “wealth” relative to GDP – it’s enormous. Any increased willingness by such wealth to consume and/or move into inflation hedges would change economic outcomes without any specific policy shift necessarily causing it. There’s little doubt in my mind that this stock of wealth has essentially created a class of price-insensitive consumers which added to recent inflationary pressures.

  65. Gravatar of Michael D Sandifer Michael D Sandifer
    28. December 2021 at 07:55

    Scott,

    The point I’m making is that I’ve long argued that money was tight right through 2019, whereas you’ve expressed the very common opinion that money wasn’t particularly tight in the late 2010s. You were okay with some of the Fed rate hikes, whereas I opposed them all.

    I add to what I said above, that even when inflation briefly spiked in 2018, 5 and 10 year breakevens were still below 2% in PCE terms. Real interest rates were rising. I think the Fed took away the punch bowl before many guests even arrived at the party. The typical pattern with the Fed since the Great Moderation began is to leave recoveries unfinished.

  66. Gravatar of ssumner ssumner
    30. December 2021 at 08:51

    Michael, I would distinguish between the early and mid-2010s and the late 2010s. I have no problem with monetary policy in 2017-19. The outcome was very good!

  67. Gravatar of Michael D Sandifer Michael D Sandifer
    30. December 2021 at 14:28

    Scott,

    Yes, my impression is that you’re very confident that monetary policy was pretty good in 2017-2019, but what underlies your certainty?

    It doesn’t seem to bother you that 10 year real interest rate market expectations began a precipitous decline in 2018 admist rate hikes, as NGDP growth began declining, after which the Fed reversed course and started lowering rates again. Even if you think NGDP growth at just over 6%, with a spike in inflation that was above target meant the economy was running hot, you don’t think the Fed rate hikes were overdone? Also, I point out again that long-run PCE inflation expecations were running well-below 2% during that inflation spike. Also, we had the inverted yield curve in August of 2019. The roughly 1% drop in 10 year real interest rate expectations was very consistent with the 18% decline in the S&P 500… I can go on.

    My point here though, in addition to the obvious, is how much of a factor is your assumption about RGDP growth potential influencing your judgement?

  68. Gravatar of Michael D Sandifer Michael D Sandifer
    30. December 2021 at 14:34

    By the way, thank you for setting up the Hypermind NGDP forecasting contests. I recently won another bit of money, by using implicit market forecasts that are based on changes in stock prices and bond yields.

  69. Gravatar of Scott Sumner Scott Sumner
    31. December 2021 at 18:07

    Michael, I don’t put much weight on RGDP potential estimates, as they are unreliable.

    Longest expansion in US history, inflation close to 2%, unemployment falling below 4%, stable NGDP growth. What’s not to like?

  70. Gravatar of Michael D Sandifer Michael D Sandifer
    1. January 2022 at 15:11

    To break your points apart and address them one-at-a-time:

    1. “Longest expansion in US history,…”

    How can the relative length of an expansion be a good indicator, if no one really knows how long it takes an economy to heal under the circumstances at the time?

    2. “Inflation close to 2%”

    Inflation targeting is pro-cyclical, but even judging by this criterion within the Fed’s framework, the 5 and 10 year breakevens were well-below 2%, with the 5 year being closer to 1% in PCE terms.

    https://fred.stlouisfed.org/graph/?g=KqIK

    https://fred.stlouisfed.org/graph/?g=KqIW

    I thought it was expected variables that mattered most, and also, you aren’t crazy about inflation as an indicator of the stance of monetary policy. You’ve even written you’d love for inflation to go away as a metric anyway, because it’s artificial, impossible to get right, and often misinterpreted, if I recall correctly.

    3. “unemployment falling below 4%”

    So, what’s the natural unemployment rate? My guess is that you place no more stock in such estimates than you do in RGDP growth potential.

    If the natural rate was 1.5%, or 2%, then obviously 3.5% is nothing to celebrate.

    And, I have seen developed countries record sub-2% unemployment rates, and I’ve also lived in cities that had such low rates.

    Merely pointing out that unemployment was low relative to baselines in prior eras says very little about how low the rate was in absolute terms, obviously.

    4. “stable NGDP growth”

    NGDP growth fell as the Fed hiked rates, as did NGDP growth expectations, as revealed in the falling inflation breakevens and the falling implicit real interest rate expectations.

    https://fred.stlouisfed.org/graph/?g=K4pF

    Also, the growth path of the S&P 500 fell and did not recover.

    https://fred.stlouisfed.org/graph/?g=KqLa

    Yes, there were trade wars going on also, but the Fed caused nominal shocks that greatly added to the effects.

    I’m far more interested in how the economy is doing in absolute terms, as opposed to relative terms.

  71. Gravatar of ssumner ssumner
    2. January 2022 at 15:00

    Michael, Your point is unclear. Things might not have been 100% perfect? I agree.

    But policy was better than any other time I can recall.

  72. Gravatar of Michael D Sandifer Michael D Sandifer
    2. January 2022 at 20:22

    Scott,

    My point is that we can do better, and that’s a critical point, not only for the potentially millions who might like to work, but for the sake of a country that you correctly point out is now well down the road of banana republican politics.

    I think it more likely than not that monetary policy’s been worse than most have thought for decades. I don’t think this is the only factor, or even necessarily the most critical factor in the deterioration of our politics, but I do think it raises the temperature and frustration.

    While the monetary policy during the pandemic recession is the best of which I’m aware in US history, it is still lacking. I think it’s reasonable to conclude that there is still much growth to occur due to nominal factors, in addition to the supply-side issues that still need to improve.

    Toward that end, I hope you will have a more serious look at using the S&P 500 index to target NGDP. It wouldn’t be as precise as your preferred approach, using a subsidized NGDP futures market, but it would be better than the current approach. The key advantage is that observers and eventually, policymakers, can begin using the stock market for this purpose right now.

    To put it in the simplest terms, you can take the change in the S&P 500 index over a given period of time, say even a day, and translate that into the change in the long-run expected mean NGDP growth path with simple multiplication. Just multiply the change in the S&P 500 by the most recent previous expected future mean economic growth rate. That will be the same as the discount rate, if current earnings aren’t depressed due to a downturn, or temporarily high due to a temporary inflation spike, for example. The mean discount rate equals the mean NGDP growth rate in the longer run.

    If you want to go a bit deeper, you can include what I might call the equilibrium mean nominal GDP growth path rate in a ratio over the current expected mean NGDP growth path rate.

    expected change in mean NGDP growth = [(EQ mean NGDP growth rate)^2 / (current expected mean NGDP growth rate)] x (change in S&P 500)

    So, for example, for the US economy in equilibrium, change in mean NGDP growth rate path = .04 x -.10 = -.004, or -0.40%.

    Or, if the NGDP growth was below EQ:

    change in mean NGDP growth rate path = (.05/.04) x .05 x -.10 = -.00625, or 0.625%.

    Instead of comparing the discount rate of the S&P 500 to real interest rates, directly consider the factors that affect both variables.

    Couple this with reference inflation breakevens, and you can start to get a pretty good idea of the stance of monetary policy and whether it’s appropriate, even quantitatively.

    Of course, it would help if Treasury markets weren’t sometimes undermined during times of stress by the shortcomings of the design of the market, which is the fault of the government.

  73. Gravatar of ssumner ssumner
    3. January 2022 at 09:13

    Michael, I believe that monetary policy is currently too expansionary. The Fed set a 2% AIT target. They should take that commitment seriously.

  74. Gravatar of Michael D Sandifer Michael D Sandifer
    3. January 2022 at 10:09

    Scott,

    I agree the Fed is about as close to meeting their mandate under the current FAIT regime as possible, but you are still pushing NGDP level targeting, right?

    Anyway, I don’t need to outline all this again in the future here. I think you can see the implications if you choose to think about it. Lot’s can be done with this approach, and when it comes to applications to individual stocks, I’m planning to try to start selling the technology to advisory-level firms in the near future.

    Of course, software is like music, in that the vast majority of it doesn’t sell well, but I do think that demonstrating the utility of a model via software that people are willing to pay for represents much of the future of economic model-building. Papers will still need to get published, but nothing demonstrates utility like utilization in applications.

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