It could have been worse

Sometimes when I read other economists I understand where they are coming from, but respectfully disagree.  Paul Krugman, for instance.  And then there are cases where I’m just totally at a loss.  Where I wouldn’t even know how to start a conversation, as we seem to be operating in different universes.  Joe Stiglitz, for instance:

The problem is analogous to that which arose at the beginning of the twentieth century, when rapid productivity growth in agriculture forced labor to move from rural areas to urban manufacturing centers. With a decline in farm income in excess of 50% from 1929 to 1932, one might have anticipated massive migration. But workers were “trapped” in the rural sector: they didn’t have the resources to move, and their declining incomes so weakened aggregate demand that urban/manufacturing unemployment soared.

Urban incomes also fell 50%, so I’m not quite sure what all that means.  And isn’t it a bit odd to say declining incomes weakened AD, after all, they are simply two sides of the same coin. 

And here’s Larry Summers as quoted in the WaPo:

Summers, who had the inside track to chair the central bank if the Obama administration decided against renominating Bernanke, echoes Kohn’s skepticism. “In the model I understand,” he says, “inflation is mostly driven by demand, and when you increase demand, you increase inflation. And if you don’t increase demand, you don’t increase inflation. But if you’ve solved demand, you’ve solved your problem.”

In the model I understand the Fed drives demand, and the SRAS curve explains how shifts in demand get partitioned between prices and output.  FDR understood that you use monetary stimulus to boost both demand and inflation.  Summers seems to have forgotten what FDR knew.

And then there is Peter Diamond, from the same WaPo article:

Nobel laureate Peter Diamond, whom the Obama administration nominated to fill a vacant seat on the Fed’s board, puts it this way: “If the Fed says we are determined to keep going till we have, say, 4 percent inflation, would that really turn around expectations in a way that would stimulate the economy and create higher inflation? I doubt it.”

Oh really?  Can Diamond name one instance in all of human history where a fiat money central bank tried to inflate and failed?  The answer is no.

I know we are all very frustrated with Bernanke, but it could have been much worse. 

HT:  Peter Laan

Update:  I should have mentioned that the WaPo article was by Ezra Klein.  The whole article is worth reading, but is depressing.



29 Responses to “It could have been worse”

  1. Gravatar of Dan Kervick Dan Kervick
    9. October 2011 at 16:45

    Urban incomes also fell 50%, so I’m not quite sure what all that means.

    Well, whether or not the hypothesis stands up to empirical analysis, I think its pretty easy to understand what it means: Stiglitz is claiming that because employment and income fell so sharply in the very large agricultural sector, the people who worked in those sectors could no longer afford to buy as many products as they once purchased from the manufacturing sector. As a result, employment and income fell sharply in that sector as well.

  2. Gravatar of david david
    9. October 2011 at 16:48

    “where a fiat money central bank tried to inflate and failed*”

    * crucial footnote: where Japan is considered to not have tried. Which you have convincingly argued, but it isn’t the standard accepted narrative of the Lost Decade so you need to reiterate it.

  3. Gravatar of Jake Jake
    9. October 2011 at 18:43

    I don’t know if it is ok or not to ask an off topic question but what do you think about a balanced budget amendment?

  4. Gravatar of Bill Woolsey Bill Woolsey
    9. October 2011 at 19:17

    Summers was right.

    We don’t need to raise inflation to raise aggregate demand. We need to raise aggregate demand, and inflation is a perhaps unfortunate side effect.

    Now, if you mean that he seemed doubtful about the ability of the central bank to raise aggregate demand, then that is a problem.

  5. Gravatar of Scott Sumner Scott Sumner
    9. October 2011 at 20:09

    Dan, Stiglitz is claiming that more productivity leads to less AD? What model explains that? Does more productivity reduce M? Or does it reduce V? And why did the economy boom in the 1920s, as agricultural productivity was rising fast?

    I should add that I really don’t understand much of anything in the essay I linked to. Maybe Stiglitz is right about everything, but I can’t even understand his reasoning well enough to engage in a discussion (in contrast to people like Krugman, DeLong, Yglesias, etc–I can almost always understand where they are coming from, even when I disagree.)

    David, I suppose you are right, but I find this very frustrating. If that’s not the standard narrative, then presumably those with some other narrative have evidence that the BOJ was trying to inflate, despite their vehement denials. And their aggressive steps to prevent even 1% inflation.

    Jakes, I think a balance budget is a pretty good idea, but I oppose a balanced budget amendment. We will either have good governance, or we won’t. Gimmicks won’t get us there.

    Bill, You said;

    “Summers was right.

    We don’t need to raise inflation to raise aggregate demand. We need to raise aggregate demand, and inflation is a perhaps unfortunate side effect.”

    If that’s what he was saying, he would be right. But that’s not what he was saying. He was saying that it’s a pity that we can’t create inflation.

  6. Gravatar of Benjamin Cole Benjamin Cole
    9. October 2011 at 20:35

    The naysayer chant goes like this: The Fed can do nothing, as bank reserves are not being lent out. So the Fed has reached zero bound, and QE is inert.

    But if the Fed really gets serious, then we get inflation, possibly hyper-inflation, but not increased real growth, despite all the unused labor and factories around.

    So, I guess we just have to call it quits for a generation or two. Maybe we can get bartending jobs in a resort city visited by mainland Chinese. There is bound to growth there. You see, they are expanding their money supply rather robustly.

  7. Gravatar of Morgan Warstler Morgan Warstler
    9. October 2011 at 21:06

    Basic no limit Texas Hold’em…

    And Scott you better learn from this!

    In order to take the next step in the right’s strategy, it was IMPERATIVE we get here (and thus helpful it came so perfectly in Obama)… of course spending all the money is a fait accompli.

    The left had to have a chance to put their noise on what we (the right) did to them, such that they WILL be blamed.

    They have credibly gone all in.

    So Nov 2012 is a death blow. Unless they pull an inside straight from their ass, they are done.


    You Scott, just got the same thing!

    You’ve got Stiglitz and Diamond, both putting their everything down.

    It looks like the fat slovenly half of DeKrugman (the master in the master blaster relationship) KNOWS you got the cards, and he’s trying to stay in a while.

    Reputations are going to be ruined here.

    Somebody is wrong. They are done.

    God I love America.

  8. Gravatar of Morgan Warstler Morgan Warstler
    9. October 2011 at 21:08

    Benji, you want to move to Thailand anyway!


    Morning in America is right around the corner.

  9. Gravatar of Dan Kervick Dan Kervick
    9. October 2011 at 21:23

    Dan, Stiglitz is claiming that more productivity leads to less AD? What model explains that?

    Why should that be surprising, Scott? Productivity has to do with the cost efficiency of producing whatever is actually being produced. It’s an average. Aggregate demand, on the other hand, is an aggregate. If you have 200 factories, and 100 of them are operating at precisely double the productivity of the other 100, and you then blow up the second hundred factories and throw all of their workers out onto the street, you have just doubled productivity.

    If creative destruction leads to massive unemployment and displacement, then even if the survivors increase productivity and even grow their aggregate output, their demand for other goods might suffer. 100 people with a billion dollars divided among them do not buy as much stuff as 100,000 people with a billion dollars divided among them, because a much higher portion of the former groups income goes into savings rather than consumption purchases.

  10. Gravatar of Claudia Sahm Claudia Sahm
    9. October 2011 at 23:59

    Wow, this is the most upbeat post I have seen from you on the Fed 🙂 I need to read the WaPo article more carefully but I bet Diamond’s point was more subtle than the quote you selected. I can’t believe any economist would dispute a real central bank’s ability to generate inflation. Seems that the sticking points are: would the “good” of inflation outweigh the “bad” and can we stop the acceleration easily once we start it. BTW: “could be worse” is an excellent life mantra.

  11. Gravatar of Bill Woolsey Bill Woolsey
    10. October 2011 at 04:13


    In the quotation here, Summers didn’t say that the Fed couldn’t increase demand. (I presume that Kohn had said that, and Summers was agreeing, but that isn’t very clear.)

    The micro of the improved productivity in markets with inelastic demand is that it raises the real incomes of everyone else and they can afford to buy more other products. If there are no other products that they demand, then scarcity is gone, except for leisure.


    Doubled productivity allows a doubling of output.

    It doubles real income.

    If money is a normal good, it increases the demand to hold money. Perhaps even doubling it as well.

    You seem to imagine that changes in the distribution of income result in an even greater increase in the demand for money. Those receiving higher real incomes demand more money than those with lower incomes.


    If the nominal quantity of money fails to rise, then the price level must fall enough to raise the real quantity of money.

    Fortunately, the improved productivity means that product prices can fall even with nominal incomes unchanged.

    With nominal GDP targeting, the nominal quantity of money must rise enough to keep money expenditures on output and aggregate nominal incomes on target. If the farm sector or manufacturing sector has inelastic demand for their products, there nominal incomes might fall in aggregate, but with nominal GDP targeting, incomes in the rest of the economy rise by more keeping the total on target.

    With the happy condition of a doubling of productivity, the price level falls roughly in half. Real incomes roughly double.

    And what could get in the way? Well, mabye saving rises so much that the real interest rate needed to coordinate it with investment turns negative.

    Why not just say that? It all comes down to the paradox of thrift. And, of course, this is all about basing the monetary order on an asset with zero nominal interest.

  12. Gravatar of StatsGuy StatsGuy
    10. October 2011 at 04:28

    The question is why these folks are saying this – it’s a good question. The answer may be they want fiscal action and/or want certain changes to policy. Much the same way Republicans want changes to the leadership in Nov 2012. So we’re trapped in a Nash equillibrium where the Right believes monetary policy works and is threatening the Fed if they use it before Nov 2012, and the Left believes monetary policy works but is trying to convince everyone it doesn’t so it can implement other policies (which it also thinks work).

    I am honestly surprised by Stigler. Yes, farmers were “trapped” on farms, but not by the total inability to move to cities – by the inability to move to cities and be confident there were jobs. Moreover, he completely ignores the fact that due to the Depression, the transition from Farm to Factory was DRIVEN – notably, by a massive increase in (already high) farm debt, and by a collapse in food prices. That he doesn’t consider the role of debt (and, therefore, monetary policy) in this equation is sad. That he doesn’t consider the role of foreclosures, deeding property to banks, and (eventually) federal farm debt adjustment is not flattering. That he doesn’t consider the fact that the farming crisis laster a decade before the Great Depression is also frustrating – in that sense, we had a true supply glut of many agricultural commodities. Maybe Stigler has a much more sophisticated argument, and simply gave us the dumb version for a sound bite, but who knows…

    I am not surprised by Summers. I doubt he believes what he is saying, and am quite confident he has no problem at all openly lying. I also have no question that the economic aspects of Obama’s inauguration speech came directly from his mouth. May he rot in peace.

    With regard to Peter Diamond, I’m guessing there’s a misinterpretation there – from Diamond’s comments withdrawing from the nomination

    “But understanding the labor market “” and the process by which workers and jobs come together and separate “” is critical to devising an effective monetary policy. The financial crisis has led to continuing high unemployment. The Fed has to properly assess the nature of that unemployment to be able to lower it as much as possible while avoiding inflation. If much of the unemployment is related to the business cycle “” caused by a lack of adequate demand “” the Fed can act to reduce it without touching off inflation. If instead the unemployment is primarily structural “” caused by mismatches between the skills that companies need and the skills that workers have “” aggressive Fed action to reduce it could be misguided.

    In my Nobel acceptance speech in December, I discussed in detail the patterns of hiring in the American economy, and concluded that structural unemployment and issues of mismatch were not important in the slow recovery we have been experiencing, and thus not a reason to stop an accommodative monetary policy “” a policy of keeping short-term interest rates exceptionally low and buying Treasury securities to keep long-term rates down. Analysis of the labor market is in fact central to monetary policy.”

    I’m not really sure how to interpret Diamond’s comments – I’m guessing his real beliefs are a bit more complicated, because we have some obvious inconsistency here. Moreover, he has historically directly stated that the Fed should try to increase the inflation rate – maybe he thinks “they should try, but it probably won’t work, but there’s a chance it would so why not?” Either that or he suffers from money illusion and thinks that the Fed’s only tool is targeting the rate.

  13. Gravatar of Morgan Warstler Morgan Warstler
    10. October 2011 at 06:06


    None of them think fiscal “works” – they do NOT care. Growth isn’t guaranteed in their minds, so they want to redo the pie as is.

    What they don’t want people to know: They care so much about disparity, they’d willingly take a smaller pie, if it gave more of the pie to labor.

    The correct answer is they do not want to be driven into a first principle that the left’s ONLY true growth card is monetary…. that’s a tacit PROOF of who they really are.

    That’s WHY Scott’s argument that the Fed neutralizes fiscal is so brutal.

    That’s why they keep up the laughable facade of a multiplier.

    1. They KNOW no one will let them argue for parity over growth.
    2. If they can’t engineer growth with fiscal, they have sacrifice disparity.


    There is something very important in DeKrugman’s response to Harless here:

    Sentences like “although the Federal Reserve did absolutely nothing, monetary policy became tight because Congress raised taxes” does not lead one down the road to Enlightenment.

    This is where DeKrugman’s brain goes.

    He doesn’t want life simplified that much.

  14. Gravatar of Dan Kervick Dan Kervick
    10. October 2011 at 06:29

    Doubled productivity allows a doubling of output.

    It doubles real income.

    The second doesn’t follow from the first, Bill. Doubling productivity might allow in some way for a doubling of real income, but it doesn’t generate a doubling of real income. Again, that is to confound an average with an aggregate. A drop in real output and income could correspond to an increase in productivity. In fact, it might even be the cause of the increase in productivity, if output falls because the least productive enterprises cease some operations.

    Suppose every industry in America fails except the chewing gum and lip balm industries, but those industries double their productivity, at arbitrary levels of output. Assume those industries were previously running at a productivity rate equal to the productivity of the entire economy. Since they are now the entire economy, productivity has doubled. The price level (which is now just the price level for gum and lip balm) will fall. But this is hardly going to restore overall output and income to its previous levels. Any attempt by the central bank to promote more real output through monetary manipulations will quickly hit a ceiling. The producers of gum and lip balm will effectively just exchange gum and lip balm with each other, and give each other double the previous gum and lip balm they were consuming before. Further increases in the money supply that put more money in the hands of the consumers of these products might continue to drive up NGDP, but only due to continuing devaluations of money, i.e rises in the money price of gum and lip balm.

    NGDP is a function of changes in both RGDP and the price level. I don’t see why it is an interesting target for the central bank to have, even on the assumption that they can successfully manipulate it – especially during a severe recession. Beyond that, even if it is a good target for the central bank, it seems clear that the overall policy needs of an economy in recession go beyond those of central bank policy, and that the latter should hardly be the focus of our concerns.

  15. Gravatar of Scott Sumner Scott Sumner
    10. October 2011 at 06:51

    Ben, Don’t worry, in a generation or two the Chinese will no longer have low wages–they’ll set up factories here just like the Japanese. Till then we can just kick back and relax.

    Morgan, You get more Machiavellian every day.

    Dan, Even if productivity improvements affect the unemployment rate (and we can see from the 1920s and 1990s they they don’t) that wouldn’t tell me why they affected AD. Productivity gains don’t reduce aggregate national income.

    Productivity growth tends to raise the equilibrium interest rate. Under either money supply or interest rate targeting that tends to raise NGDP.

    Claudia, Read the entire link if you think I misquoted him.

    Bill, I agree with your micro argument, but that’s not what Summers is trying to say.

    Statsguy; You said;

    “and the Left believes monetary policy works but is trying to convince everyone it doesn’t so it can implement other policies (which it also thinks work).”

    But does the left realize they are destroying the Obama presidency, and opening the door to a new president who will repeal Obamacare?

    You said;

    “Maybe Stigler has a much more sophisticated argument, and simply gave us the dumb version for a sound bite, but who knows…”

    Let me just say that this is consistent with all the other comments I’ve seen from Stiglitz on macro.

    A week ago I produce a quote from Diamond where he said he opposed aggressive monetary stimulus.

  16. Gravatar of bill woolsey bill woolsey
    10. October 2011 at 07:54


    I will grant if you bomb factories or imagine that 90% of the industries disappear, then real output will fall off tremendously.

    What does this have to do with the thought experiment of some industries improving productivity?

    Productivity means the same output with less resources or more output with the same resources. It is two sides of the same coin.

  17. Gravatar of Dan Kervick Dan Kervick
    10. October 2011 at 09:27

    What does this have to do with the thought experiment of some industries improving productivity?

    Bill, the extreme little example was just designed to illustrate a general point more vividly. Productivity is a ratio. So, it’s just not true that a productivity increase necessarily means the same output with less input or more output with the same input. It is possible for the levels of input and output to both fall concurrently. And yet if the level of input falls more sharply than the level of output, productivity will go up. If I’ = (.9)I, and O’ = (.95)O, then the new level of productivity, O’/I’ is equal 1.06 times the old level of productivity.

    But I’m not that interested in productivity gains that come from discarding ten percent of our workforce and the output they were once producing, not unless we have very efficient mechanisms in place for getting those discarded workers quickly into new areas of production.

  18. Gravatar of StatsGuy StatsGuy
    10. October 2011 at 13:15

    Scott, this from Peter Diamond September 28th. He endorses monetary stimulus, but I’m guessing he sees it as adjunct to fiscal. When he says monetary can’t do it, he means monetary alone. This is similar to Brad DeLong’s older position.

    “The economy needs stimulus, it needs monetary stimulus, it needs fiscal stimulus, and this was a good step. How much it will help is hard to know. If we need more down the road we’ll see.

    We need fiscal stimulus badly, but that’s not a reason for the Fed to not be adding to monetary stimulus and avoiding the tightening that would come that would result from an undoing of this [quantitative easing and ZIRP].

    Inflation is low right now and I don’t understand why people are afraid of it suddenly appearing.
    The point here is that there “” we’ve gone into an unusual recession compared to the things we’ve had since WW2. We’ve had a banking crisis, and we’ve had a great deal of overbuilding in commercial and residential real estate, and we have a lot of mortgages underwater, a lot of foreclosure that have happened, and the economy coming out of that won’t look like the economy coming out of a standard recession, so the level of construction wont bounce back quickly. There is some structural element associated with part of the economy not functioning at the same level as before even if we had adequate aggregate demand. There are a bunch of studies of how much is structural by which we mean the residual”” it’s what we would subtract by how much unemployment has gone up to get an estimate of how much we need to be using aggregate demand stimulus.

    … but what is very clear in the course of a short period when unemployment goes from 5% to 9 or 10% most of that is from inadequate aggregate demand … inadequate aggregate demand is the cause of unemployment. … Most of it is from inadequate aggregate demand and what we need now very badly is more fiscal stimulus and the continuation of the Fed of rolling out money stimulus as it fits their projections for what’s going on.”

  19. Gravatar of StatsGuy StatsGuy
    10. October 2011 at 13:17

    Morgan, I would hazard to guess that many on the left think that some amount of redistributive policies are actually growth enhancing. Listening to your ideas, it seems that you think so too, but differ much on the specifics and degree.

    I don’t doubt that the Left has misplayed the last 3 years very badly – starting, more or less, from inauguration day.

  20. Gravatar of Morgan Warstler Morgan Warstler
    10. October 2011 at 16:35

    Stats I think that if you hooked DeKrugman up to a FMRI and loaded him up with eye-of-god truth serum, etc. etc.

    You’d see that his brain has little of no positive reaction to “growth”

    And in fact, he probably has a gut check negative reaction just assuming it will lead to the rich getting richer.

    I think everything that comes out of him is a elaborate intellectual farce, he just hates his betters. And anything that diminishes them, even it also hurts the poorest and weakest is fine with him deep down.

  21. Gravatar of Sometimes (Macro) History Bites — Clearing and Settlement Sometimes (Macro) History Bites — Clearing and Settlement
    10. October 2011 at 20:56

    […] type of thinking is alien to market monetarists such as Scott Sumner. He argues that “any definition of easy money is […]

  22. Gravatar of Cahal Cahal
    11. October 2011 at 07:16


    You and people like Stiglitz/Sumners are certainly in a different universe as they have found sympathy with Minsky and other Post-Keynesians. It’s annoying because it would take half an hour for PKs and monetarists to speak the same language. This means there is little hope for positive engagement – it is far more likely that we will ridicule each other.

    This age doesn’t seem to have as a good a communicator as JMK/MF, which is a shame.

  23. Gravatar of The Strangest Thing I Read Today | The Everyday Economist The Strangest Thing I Read Today | The Everyday Economist
    11. October 2011 at 08:38

    […] Scott Sumner, I find Ezra Klein considering counterfactuals about policy and the recession. However, two […]

  24. Gravatar of ssumner ssumner
    11. October 2011 at 18:02

    Statsguy, Yes, but why is he opposed to “aggressive monetary stimulus?”

    Cahal, Friedman was a great communicator of ideas. Keynes was a very talented writer, but the GT is a bit of a mess. The ideas are not explained very well at all.

    Although I often disagree with Krugman, I think in some ways he’s superior to Keynes. He writes very well (albeit not quite as well as Keynes) but he’s a much better with pure theory–indeed they aren’t even close.

  25. Gravatar of Cahal Cahal
    12. October 2011 at 07:21

    Yes TGT is a mess which is weird because Keynes was clearly capable of excellent prose (see EiP). I agree that Krugman is a more accessible writer than Keynes or even Friedman, but he’s simply not on the same level when speaking.

    Michael Hudson communicates very well but he’s not really in the public eye. Other than that nobody springs to mind. Hopefully someone will come along.

  26. Gravatar of Scott Sumner Scott Sumner
    13. October 2011 at 05:43

    Cahal, Who is Michael Hudson?

  27. Gravatar of Cahal Cahal
    13. October 2011 at 08:26

    He is a Georgist/Post-Keynesian who emphasises the role of economic rent. He has videos like this one on youtube, where he talks a lot of sense:



    He can be slightly alarmist and I expect you will disagree with him in most areas. But he does communicate very clearly, in fact more clearly than anyone else I’ve seen recently. He’s friends with Stiglitz and they share some views on debt.

  28. Gravatar of ssumner ssumner
    15. October 2011 at 09:44

    Cahal, Our views couldn’t be more different, I oppose all taxes on income from capital.

  29. Gravatar of ssumner ssumner
    15. October 2011 at 09:45

    But he does speak well, as you say.

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