Mark Sadowski on policy counterfacturals

Here’s Mark Sadowski from the comment section:

Tax change multipliers used used by private forecasting firms and by government models such as the Federal Reserve’s FRB/US suggest that about half of the ultimate level economic effect of the payroll and income tax increase should be felt by the second quarter. Similarly government purchase multipliers suggest that two thirds of the ultimate level economic effect will be felt during the first three months (in aggregate) of the sequester, which is now more than two months old. See Appendix A for example:

http://otrans.3cdn.net/45593e8ecbd339d074_l3m6bt1te.pdf

In November 2012 the CBO estimated that the maximum level employment effect would be a decrease of about 200,000 jobs, 640,000 jobs (80% 0f combined payroll and UI effect of 800,000 jobs lost) and 800,000 jobs for the high income tax increase, payroll tax increase, and sequester respectively:

http://www.cbo.gov/sites/default/files/cbofiles/attachments/11-08-12-FiscalTightening.pdf

In other words, according to these estimates, the sequester should already have decreased employment by over 500,000 jobs relative to baseline, and the tax increases should decrease employment over 400,000 relative to baseline by the next employment report at the latest.

What happened to the liquidity trap?

There is no such thing as a liquidity “trap.”

And how many jobs have actually been lost? Zero. If we get a lousy employment number next month how many jobs will have been lost?  Still roughly zero.  We are far enough above the 2012 trend in job growth that we could get a mediocre report next month (131,000 jobs), and the Keynesian multiplier model would still have been a complete failure—predicting huge job losses where there were none.

PS.  There are some people claiming that I am “pro-austerity.”  That’s a bit misleading as my position has always been more nuanced:

1.  I favor monetary stimulus combined with fiscal austerity.

2.  If the central bank continues to stubbornly target inflation, I’ve advocated cuts in employer-side payroll taxes and/or the VAT as a way of reducing inflation, and encouraging more monetary stimulus.  So if monetary policy refuses to play ball I’ve advocated effective forms of fiscal stimulus.  I don’t favor ineffective stimulus, such as bloated military spending merely to give us more “empty GDP calories.”


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35 Responses to “Mark Sadowski on policy counterfacturals”

  1. Gravatar of J J
    4. May 2013 at 10:18

    Obviously Krugman is not paying attention. This is from today (http://krugman.blogs.nytimes.com/2013/05/04/keynes-keynesians-the-long-run-and-fiscal-policy/): “And look, this isn’t hard. The overwhelming fact about our current situation is that conventional monetary policy is played out, with short-run interest rates at zero. This means that there is no easy way to offset the contractionary effects of fiscal austerity (maybe there are exotic ways to do something, but they’re tricky and unproved). And this in turn means that austerity right now is a terrible idea: any fiscal savings come at the expense of reduced output and higher unemployment.”

    I suppose Krugman is not convinced of the effectiveness of QE or even of its existence.

  2. Gravatar of Morgan Warstler Morgan Warstler
    4. May 2013 at 10:24

    TAX CUTS > MONETARY STIMULUS + FISCAL AUSTERITY

    This is what you meant? Its just that tax cuts aren’t in the cards.

    If so, can you print this on a t-shirt and sell it here. I’ll buy two.

  3. Gravatar of Ashok Rao Ashok Rao
    4. May 2013 at 10:33

    “So if monetary policy refuses to play ball I’ve advocated effective forms of fiscal stimulus. I don’t favor ineffective stimulus, such as bloated military spending merely to give us more “empty GDP calories.””

    What’s your position on direct employment?

    This recovery has been relatively much worse than any other (http://bit.ly/17C7gVG). Can tight money be the only explanation? I’m a little more open to this view than I was before because of the zero bound (i.e. low rates history of such policy). But it still seems extreme.

    “We are far enough above the 2012 trend in job growth that we could get a mediocre report next month (131,000 jobs), and the Keynesian multiplier model would still have been a complete failure””predicting huge job losses where there were none.”

    I think there are would-be jobs not being produced right now. For some reason or the other. I think basic models failed because they overestimated the output gap.

    Think this another way, they overestimated how flat AS is/was. But that doesn’t change the fact that this month IS a bad month. Because at this rate we’re not getting back to good conditions for a long time.

    Policy success should be measured by how high expected future interest rates are. And right now it’s not that high. And they’ve gotten lower post austerity.

  4. Gravatar of ssumner ssumner
    4. May 2013 at 11:28

    J, That paragraph is written by someone who’s way behind in the policy debate. What about monetary offset? Why did the Keynesians do so poorly in their 2013 forecasts?

    Ashok, Supply-side factors also contributed to the slow recovery.

  5. Gravatar of Ashok Rao Ashok Rao
    4. May 2013 at 11:41

    Scott, you said “Ashok, Supply-side factors also contributed to the slow recovery.”

    We definitely do have supply side concerns (otherwise there would be moderate deflation).

    That’s why my graph was of output gap and not growth rate. If we’ve had any supply side contraction, our distance from full employment actually shrinks. This isn’t a good thing, but it doesn’t explain the pathetic recovery vis-a-vis output gap.

  6. Gravatar of Negation of Ideology Negation of Ideology
    4. May 2013 at 11:52

    “I favor monetary stimulus combined with fiscal austerity.”

    My thoughts exactly. Monetary stimulus doesn’t add any liabilities onto future taxpayers – in fact, it reduces them. The question then becomes, why should a large nation with its own currency that can target NGDP ever borrow any money at all?

    Let’s move to an appropriate NDGPLT regime, and run budget surpluses continuously until the debt is paid off.

  7. Gravatar of marcus nunes marcus nunes
    4. May 2013 at 12:26

    The charts in this post indicate that in the present cycle the economy´s engine is running on ‘spit’. MP has been just enough to counter fiscal austerity but shows no desire to take the economy to a more ‘aggreable level’:
    http://thefaintofheart.wordpress.com/2013/05/04/a-tale-of-two-business-cycles-1981-86-2007-13/

  8. Gravatar of J J
    4. May 2013 at 12:37

    Professor Sumner,

    I remember, once upon a time, that you had Krugman on a short list of people who should ever be allowed to run the Fed. Have you changed your mind on this?

  9. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    4. May 2013 at 13:03

    Krugman’s Law;

    ‘The overwhelming fact about our current situation is that conventional monetary policy is played out, with short-run interest rates at zero. [So don’t ask me to consider thinking about policy that doesn’t use interest rates as a lodestar. Unless I’m in the mood to do that.]’

  10. Gravatar of Mark A. Sadowski Mark A. Sadowski
    4. May 2013 at 14:01

    Scott,
    Most people searching for evidence of the effect of the fiscal tightening in the first quarter’s RGDP keep bringing up real Final Sales of Domestic Product (Real FSDP), which was up only 1.5% because of the inventory accumulation. This ignores the fact that this was completely predictable because of the decline in inventories in the fourth quarter. Furthermore net exports were down, in part due to the deepening recession in the eurozone.

    A measure more closely related to “domestic” aggregate demand is of course real Final Sales to Domestic Purchasers (Real FSDPur). When you strip out real Government Consumption and Gross Investment (GCE) what you get is real private sales to domestic purchasers:

    http://research.stlouisfed.org/fred2/graph/?graph_id=119637&category_id=0

    Real private sales to domestic purchasers increased at an annual rate of 3.5% in 2012Q4 and 3.2% in 2013Q1 and that is the fastest six month increase since 2010Q4 and 2011Q1 which was of course during QE2. It’s also a near doubling of the 1.9% and 1.5% annual rate of increase during 2012Q2 and 2012Q3 respectively.

    P.S. Thanks for putting my name in a post title. That’s certainly something that’s never happened before.

  11. Gravatar of Vivian Darkbloom Vivian Darkbloom
    4. May 2013 at 14:03

    “There are some people claiming that I am “pro-austerity”. That’s a bit misleading as my position has always been more nuanced:

    1. I favor monetary stimulus combined with fiscal austerity.”

    My first reaction to this was that this is both nuanced and clear. But then, I wondered: what does Sumner mean by “austerity”? What does anyone using that term really mean? Monetary stimulus seems relatively clear to me because the baseline is clear and the usage is fairly uniform; but, without a clear definition of what “austerity” means, economic pundits are just talking past each other.

    One definition seems to be that “austerity” calls for reduced deficits as a antidote to “adverse economic conditions” (see Wikipedia); but, that does not seem very nuanced to me. Does “austerity” mean cutting back on government spending? Does it mean reducing deficits and/or debt? Or simply slowing their growth? Does it matter what the baseline as far as debt-to-GDP or deficit-to-GDP is? Am I as much an “austerian” if I believe that deficits should be reduced from 9 percent of GDP to 6 percent as much as if I believe they should be reduced from 3 percent to zero? Would I be “austerian” for favoring a reduction of the public debt level from 90 percent of GDP as much as if I advocated reducing it from 30 percent of GDP? Depending on the baseline one chooses, it seems that it could mean anything.

    Here’s Krugman in today’s blog;

    “The point, then, is not to ignore the long run; it is to recognize that the boom, not the slump, is the time for austerity, and spending cuts right now are disastrous policy.”

    Here again is the baseline and definitional problem. Cutting from what level? From which time period? The inflated spending from the last fiscal year’s level? What is a “boom” and what is a “slump”? Is the latter when you are in recession? Or when the economy is growing at a rate of 2.5 percent per annum? Krugman seems to reject the definition of “austerity” as solely relating to cutting spending when an economy is in a “slump” (is that an economic term of art?) . If “austerity” means cutting spending and/or raising taxes, why doesn’t PK object to ObamaCare tax increases and the non-payroll tax increases as part of the fiscal cliff deal?

    Part of the problem with “austerian” is that it appears to be a relatively new term. See here a discussion of the etymology of that word as reported by Barry Ritholz:

    http://www.ritholtz.com/blog/2010/06/word-origins-austerians/

    The term was brought into popular usage quite recently and was most likely intended to be pejorative. Since 2010, as far as I’m concerned, the term has moved even further away from having any commonly understood meaning.

    Until this word gets a clear definition, I would recommend dropping it’s use altogether in favor of something much more “nuanced”. It is certainly far from being a “term of art” and should not therefore be used as one.

    If economists cannot communicate with each other more clearly, how do they expect common people like me to understand them?

  12. Gravatar of Mike Sax Mike Sax
    4. May 2013 at 15:51

    Certainly it’s not possible to be more clear than you have been that you favor monetary policy! LOL.

    What for me at least was never at all clear is your position on fiscal matters. I mean I got that you aren’t a fan of fiscal stimulus. However it’s possible to not favor fiscal stimulus and still not favor a severe fiscal tightening during a deep recession and slow recovery.

    You’ve stated here that you are in favor of fiscal austerity-which is what I assumed. How about the sequester-do you see that as the optimum fiscal policy at the present?

  13. Gravatar of Mike Sax Mike Sax
    4. May 2013 at 16:09

    If you think it is optimal, Bernanke disagrees with you

    “Information received since the Federal Open Market Committee met in March suggests that economic activity has been expanding at a moderate pace. Labor market conditions have shown some improvement in recent months, on balance, but the unemployment rate remains elevated. Household spending and business fixed investment advanced, and the housing sector has strengthened further, but fiscal policy is restraining economic growth. Inflation has been running somewhat below the Committee’s longer-run objective, apart from temporary variations that largely reflect fluctuations in energy prices. Longer-term inflation expectations have remained stable.”

    http://uneasymoney.com/2013/05/02/the-vampire-theory-of-inflation/

  14. Gravatar of JJriverrun JJriverrun
    4. May 2013 at 18:20

    Mike,
    “You’ve stated here that you are in favor of fiscal austerity.”
    This is the same as saying that Paul Krugman said today that he favors fiscal austerity, because he favors it under certain circumstances.

    At no point does Prof Sumner say he favors fiscal austerity in the absence of monetary stimulus (or competent monetary policy makers, given his belief that the fed should have no trouble offsetting fiscal austerity). It should be painfully obvious by now that he favors monetary stimulus that counteracts fiscal austerity AND corrects for lost NGDP from the crash of 09. If you haven’t figured that out yet I think you are purposefully trying to mischaracterize SS’s position.

    Given what’s occurring on the fiscal and monetary side Prof Sumner does NOT say he thinks the sequester is optimal(or any other fiscal austerity) and would prefer effective fiscal stimulus, which he suggests is “employer-side payroll taxes and/or the VAT as a way of reducing inflation”.

  15. Gravatar of Rob Rob
    4. May 2013 at 18:45

    So then I take it you are not a big fan of building giant monuments or maybe more bridges(as we all know we always need more bridges)? You say you are for austerity(plus fed offset), is that because you view government as too large for non-macro reasons, or do you think it will also help the recovery? Do you think there is anything to the argument that countries should take advantage of the low interest rates during a recession and do more projects? I have always found that to be a fairly good “real” reason why government spending should increase during recession.
    I think your use of “effective fiscal stimulus” is kind of misleading. From my understanding of what you said, it is not actually fiscal stimulus that you are for (that is fiscal policy for the sake of temporarily boosting velocity), the policies you propose are both in the supply side camp targeted at a higher AS not a higher AD(hence you said reduce inflation), this is very different from the fiscal stimulus proponents typically mean.
    Personally I think if the Krugmans of the world spent their time trying to persuade the public and the profession that non conventional monetary policy is A-OK, we would have a faster recovery by now. But as we do not live in the world where the fed can do unconventional monetary policy with impunity, don’t you think fiscal policy might have some nominal effects? (that is instead of a full offset at the zero bound, the fed partially offsets, this was clearly the case in the late 2000s as the fed did not even hit their targets)

  16. Gravatar of Saturos Saturos
    4. May 2013 at 19:05

    Hasn’t the recovery basically been stronger than even Scott predicted last November, therefore also disconfirming MM a little as well as Keynesianism?

  17. Gravatar of ssumner ssumner
    5. May 2013 at 05:17

    Ashok, That’s why I focus more on unemployment, rather than the output gap.

    Marcus, I agree.

    J, Yes, in an intellectual sense he’d be great. And it would keep him far from fiscal policy as well! I’m not sure how well he’d work with others, however.

    Vivian, Good points. So I favor monetary stimulus and smaller federal budget deficits.

    Mike, I don’t see the sequester as optimal, but it’s probably better than no sequester.

    You said;

    “If you think it is optimal, Bernanke disagrees with you”

    Then you follow that comment with a Bernanke quotation that says nothing at all about whether Bernanke thinks the sequester is a good idea or not.

    Rob, Yes my proposal is supply-side, and very different from what Keynesians usually mean. That’s because I think monetary policy offsets demand-ide fiscal stimulus, but not supply-side fiscal stimulus.

    Saturos. I strongly disagree with that comment on two grounds:

    1. It’s very similar to what I predicted. We had 2.5% RGDP growht in Q1, and 1.5% is expected in Q2. Jobs have been running about 5% ahead of 2012, that’s a rounding error.

    2. MM is not a “wait and see” approach like Keynesianism and old-style monetarism. We focus on market reactions to policy initiatives. We know the actual outcome will sometimes differ from the market expectations, but those differences will be inherently unforecastable.

    Unfortunately we don’t have a good NGDP futures market. But if we did I doubt it would have changed much with austerity plus QE3. The Keynesians do take a “wait and see” approach, and claimed austerity would sharply slow growth. So I’m judging them on their predictions. Without a NGDP futures market I had only a very fuzzy idea of what markets were expecting, and my best guess was that it was more than the Keynesians expected but less than the FOMC expected. About the same as 2012.

    However even if the markets were wrong (and they often are when forecasting), I still think it’s the best forecast we have. So I would not view a single wrong market prediction as weakening MM. Perhaps if someone could show that markets are consistently wrong.

  18. Gravatar of Ashok Rao Ashok Rao
    5. May 2013 at 07:53

    “Ashok, That’s why I focus more on unemployment, rather than the output gap.”

    Okun’s Law says there’s a clear relation. And as far as NGDPLT goes, it’s the output gap that is important vis-a-vis above trend inflation. I made the same graph for cyclically-adjusted unemployment, and it’s just as pathetic. (Ok, the slope is slightly better, but nothing we’d say is successful).

    Unemployment rate is a purely social/empirical relationship, output gap is the important factor. We wouldn’t ever talk about the unemployment *rate* (where all units are somehow equal) of land or capital.

  19. Gravatar of MarketMonetarist MarketMonetarist
    5. May 2013 at 10:45

    What did you mean with “Effective forms of fiscal stimulus” did you mean tax cuts? public works?

  20. Gravatar of Ashok Rao Ashok Rao
    5. May 2013 at 10:58

    @MarketMonetarist,

    I believe he meant capital income tax cuts. Maybe basic research.

    Though the stimulative effect of either seems questionable. (And might be worthwhile for non-Keynesian reasons | i.e. the supply-side).

  21. Gravatar of rob rob
    6. May 2013 at 03:34

    Do you believe that the fed will completely offset? I agree that it certainly can, and a properly functioning fed basically means you should be able to ignore anything else that might effect AD(so we can focus on just Micro when doing analysis not having to worry about silly things like broken window fallacy having any merit).
    Something I would find very convincing evidence of full offset, what happened to the market predictions of inflation around the time prediction markets became more or less certain the sequester was going to happen?

  22. Gravatar of ssumner ssumner
    6. May 2013 at 05:42

    Ashok, I have no idea what you are trying to say.

    Market Monetarist, I mean fiscal stimulus that shifts AS to the right. Or at the very least doesn’t waste money on boondoggles like the military.

    Rob, Just to be clear, I’ve never argued that the sequester would be offset immediately.

  23. Gravatar of Ashok Rao Ashok Rao
    6. May 2013 at 05:45

    I’m saying the relationship between short-run job growth (“stimulus”) and capital gains taxes is weak.

  24. Gravatar of Ashok Rao Ashok Rao
    6. May 2013 at 05:55

    Oh and with my post above I mean I don’t think unemployment is the right measure of right measure of AD shortfall, output gap is.

    Reemployment of a doctor is more important than reemployment of an auto-mechanic. Unemployment rates don’t do anything to take this into account.

    It’s like taking a set of capital goods {airplane, tractor, screwdriver} and saying if the screwdriver is put into disemployment because of recessionary downturns, the unemployment “rate” is 33%. Output gap is how we should measure AD recovery.

  25. Gravatar of rob rob
    6. May 2013 at 06:42

    Sorry for the misunderstanding I did not mean that the Fed would instantly offset the sequester. I fully agree that as long as the Fed targets outcomes (like inflation) and does anything it has to in order to meet those targets, that the fiscal multiplier will be 0. However, I think it is likely that there is some degree to which the Fed does not like to conduct non-conventional monetary policy and thus the offset might not be full. You certainly know much more than I do on this topic, I was just wondering for my own personal curiosity if there is any specific reason that you think it is still a full offset with the current regime at the zero bound.

  26. Gravatar of Mike Sax Mike Sax
    6. May 2013 at 07:25

    Sumner and Bernanke differ on the fiscal multiplier

    “Things are so grim that the Federal Reserve’s policy-setting Open Market Committee, nobody’s idea of a left-wing shop, felt the need to put out a statement Friday after the jobs numbers came out warning bluntly that “fiscal policy is restraining economic growth” and suggesting that inflation, if anything, is too low. The Fed vowed to keep interest rates extremely low, and suggested that the executive and legislative branches should take their feet off the brake. It’s quite a situation when the Federal Reserve is the most fiscally left-wing outfit in town”

    http://diaryofarepublicanhater.blogspot.com/2013/05/the-fiscal-multiplier-sumner-vs-bernanke.html

    http://www.huffingtonpost.com/robert-kuttner/april-jobs-report_b_3220657.html

  27. Gravatar of ssumner ssumner
    7. May 2013 at 07:00

    Ashok, Output gaps are much harder to estimate than excess unemployment. In any case, demand should be estimated by looking at NGDP, not real variables. Output can also fall for supply-side reasons.

    rob, I’m not certain it is a full offset. It’s an empirical question, but right now I don’t see much evidence for a positive multiplier.

    Mike, So you are saying that the Fed didn’t anticipate the fiscal cliff when they made their 2013 forecasts in December? I don’t think they are that stupid. This is pure CYA.

    There are people at the Fed who worry the recovery is too hot, and are calling for a scale back of QE.

  28. Gravatar of Ashok Rao Ashok Rao
    7. May 2013 at 07:45

    Scott, you said “Output gaps are much harder to estimate than excess unemployment.” Very true, and I think the gap is smaller than we think.

    A contraction in AS would decrease output, but not the output gap, because LRAS determines full employment. If the OG is lower than we expect, and on which NGDPLT trend is based, I think it to be more inflationary than expected.

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  32. Gravatar of Full Employment Hawk Full Employment Hawk
    14. August 2013 at 09:59

    “There is no such thing as a liquidity “trap.”

    Keynes, writing in 1935, after the trough of the Great Depression had passed, argued that while a liquidity trap may happen some time in the future, it had not, to the best of his knowledge, happened so far.

    Therefore the current results are consistent with the Economics of Keynes, though not with orthodox Keynesian economics.

    But the statement that “There is no such thing as a liquidity “trap.” is not proven by the current evidence. All it demonstrates is that, once again, the liquidity trap has not happened. It does not demonstrate that there are no conditions under which it could not happen.

  33. Gravatar of Full Employment Hawk Full Employment Hawk
    14. August 2013 at 10:12

    “ever borrow any money at all?”

    In order to finance productive investments in things like infrastructure, human capital, and scientific and medical research, which increase potential output.

    State governments have balanced budget provisions in their constitutions. But this applies only to the current budget. They have separate capital budgets in which they are allowed to borrow to finance capital investments. The U.S. government does not have a separate captial budget, so balancing the U.S. buget requires all productive investments to be financed out of current revenue and none with borrowing. This leads to a highly inefficient underinvestment in such productive investments. Running a surpluts makes the problem even worse.

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