Noah Smith on the “QE causes high inflation” fallacy
Noah Smith has a post that is rightly dismissive of the conservative obsession with QE’s inflationary potential. He says this view is widely held in the finance community, and labels it the Finance Macro Canon (FMC.) He attributes this belief to numerous factors, including:
2. The lingering influence of Milton Friedman and the monetarists. Friedman told us that easy monetary policy causes inflation. His insights form the core of the New Keynesian research program that has come to more-or-less dominate central bank thinking.
I do think the monetarists are partly to blame, but I would exonerate Friedman himself. Unfortunately he did not live long enough to comment on the crisis, but here’s how (in 1998) he described a similar monetary policy in Japan:
Low interest rates are generally a sign that money has been tight, as in Japan; high interest rates, that money has been easy.
. . .
After the U.S. experience during the Great Depression, and after inflation and rising interest rates in the 1970s and disinflation and falling interest rates in the 1980s, I thought the fallacy of identifying tight money with high interest rates and easy money with low interest rates was dead. Apparently, old fallacies never die.
Also note that Friedman described monetary policy during the early 1930s as highly contractionary, despite low interest rates and lots of QE. He was quite dismissive of the Austrian view in the Monetary History, and would probably be equally dismissive of those who claim that the Fed has had a easy money policy since 2008. My hunch is that he’d focus on IOR (although I’m not at all sure that rescues the old monetarist model, which has other flaws.)
At the end of the post Noah Smith offers people suffering from FMC a few suggestions:
So how does one extract an individual human mind from this hive mind? That is always a tricky undertaking. But I’ve found two things that seem to have an effect:
Method 1: Introduce them to MMT. MMT is a great halfway house for recovering Austrians.
Method 2: Introduce them to the research of Steve Williamson. Williamson is an example of a guy who changed his mind about the most likely effect of QE, after observing its real effects.
So far, these are the only things I’ve found that work. If you have any other ideas, please share. Every mind we reclaim from the hive is another blow struck for rationalism, individuality, and optimal monetary policy (whatever that is).
As is often the case with Noah’s post, I have a hard time figuring out when he is joking. The MMT explanation he links to suggests that the Great Inflation was caused by fiscal deficits, even though the deficits only became large in 1981-82, when the Great Inflation ended. But much worse is this statement:
The monetarist Quantity Theory of Money (“QTOM”) is a fallacy, in part because it assumes that a country’s economy is always producing as many goods and services as it possibly can. Advocates of this theory also assume that no worker who doesn’t want to be is *ever* unemployed.
I guess the author has never read Friedman and Schwartz’s Monetary History of the US. The rest of the long post is written at a similar level. For instance, did you know that the money multiplier (the ratio of money to the base) is an “outright myth.”
The Williamson link is far better, which isn’t surprising as it’s written by Noah Smith himself. It discusses the long debate over whether QE is inflationary or deflationary. It also mentions that Noah has a relatively low opinion of the success of modern macro. The fact that we still debate whether QE is inflationary or deflationary does tend to support Noah’s claim that modern macro has a lot to answer for. That’s because we already know the answer to the question. QE is inflationary, but far less inflationary than the FMC worries. And the reason we already know the answer is quite simple, we observe the response of markets to unexpected QE announcements. The real question is not whether QE is inflationary, or whether it is inflationary but not highly inflationary, but why is it inflationary? There are two good theories:
1. QE is a signal of expected future policy, a form of forward guidance.
2. Reserves and government securities are not perfect substitutes, even when rates are zero.
Both may be true; I actually have no idea which one is more important. Indeed it’s very possible that one is more important at one time, and the other at another time. But that’s what we should be trying to figure out.
Think about it, we are scientists trying to study the economy, and the debate of whether QE is inflationary suggests the economy (i.e. markets) actually know more than we do. It’s as if gorillas knew more about primate brain function than the scientists studying gorillas. Very sad.
PS. Good to see Noah starting to use Garett Jones’s “hive mind” metaphor.
HT: Travis V.
Tags:
15. March 2014 at 09:51
‘The monetarist Quantity Theory of Money (“QTOM”) is a fallacy, in part because it assumes that a country’s economy is always producing as many goods and services as it possibly can.’
Whoa! Now there’s a fallacy.
15. March 2014 at 09:52
Reading Noah’s many opinions is a dangerous affair for me. His assertions are disquieting, but I’m not learned enough to outright call BS. While I appreciate his intuitive, deductive approach to data synthesis, his priors (political bias?) cloud the results.
Thank you for taking the time to illuminate the path of reason!
15. March 2014 at 10:29
Does anyone know what parts of market monetarism Noah agrees with and what parts he disagrees with?
In what specific areas could he possibly favor the MMT or Stephen Williamson view over the market monetarist view?
15. March 2014 at 11:09
I think it would very healthy for discussion is Noah and DeKrugman and the rest would view Friedman And Sumner as evil hard core small government conservatives.
It might not be the “main reason” but it is the most clear one:
Monetarists willing trade the tax of inflation in order to keep the taxes of government lower.
If Noah would just wake up and repeat this mantra every morning, sure he’d have a bad opinion of Scott, BUT he’d never make the mistake of thinking monetarists care about inflation.
When firefighters in California want to stop a giant fire, they run in and start some smaller ones.
This doesn’t mean they like fire, they hate it more than anyone, they get their hands dirty.
Monetarists are libertarians who hate government MORE than Austrians, they run in and get their hands dirty, they WILLINGLY choose inflation.
The issue is why ANYONE, not just Noah doesn’t get the goal is to kill as much government as possible, and do it with the least amount of inflation possible.
The difference I think between Scott and Milton is that I think Milton could stomach 6.5% unemployment, I think Scott takes a slightly longer view.
15. March 2014 at 11:21
I think Friedman would have looked at the Fed’s QE through the lens of the growth of the money stock (M2), which has been higher than average since the crisis, and the behavior of its velocity, which has been lower than average since the crisis, and thus conclude that the Fed has neither been highly expansionary nor inflationary. Thus, he likely would have supported the Fed’s QEs but probably would have opposed ioer and the bad supply-side policies introduced before and after the Great Recession.
This was the ‘thermostat’ approach he used for Japan in the 1990s and the USA after the 2001 recession (see Nick Rowe, Friedman and The Fed’s Thermostat).
Of course, you get to the same place simply observing ngdp and inflation (Bernanke, 2003).
Monetarism lives!
15. March 2014 at 11:27
Arrgghh!
The question is not does QE create some inflation, but does it boost real aggregate demand and thus real output?
Yes, inflation is something to watch…but mostly put it on the backburner…when a nation is trying to get out if the worst recession since the Great Depression but the economics profession-central bank is jibber-jabbering monomaniacally about inflation…which is at record lows…
I liked it when Sumners suggested banning the word “inflation”….
15. March 2014 at 11:39
Great post, Morgan!
15. March 2014 at 12:02
Morgan:
“When firefighters in California want to stop a giant fire, they run in and start some smaller ones.”
“This doesn’t mean they like fire, they hate it more than anyone, they get their hands dirty.”
…
“Monetarists are libertarians who hate government MORE than Austrians, they run in and get their hands dirty, they WILLINGLY choose inflation.”
This is a flawed argument Morgan, based on a flawed analogy.
A little permanent inflation cannot eradicate central banking, because a little bit of inflation REQUIRES central banking.
Austrians hate government more than Monetarists because they refuse to accept government even on small terms.
Willing to get ones hands dirty in making small government permanent, is a hatred of government that is less than anyone who fights for zero government.
Your analogy is flawed because firefighters use smaller fires temporarily, whereas fighting for small government is permanent.
You are deluding yourself if you believe the way to eradicate government is to want small government. The founders tried it, and look where that got us. The experiment in small government with the foundation of liberty fails because government is by nature a violation of liberty. You can’t tell people you believe liberty violations are wrong out of one side of your mouth, and then on the other side of your mouth tell those same people that they should have their liberty violated.
You’re trying to square the circle, likely because you’ve been misled by flawed “pragmatism” ideology. The pragmatist approach of gradualism doesn’t actually work. Few people would barricade the forts and storm into no man’s land for the sake of 5% more candy bars or 10% more t-shirts.
A deep, RADICAL moral conviction of principle is what causes true and lasting social change. For a libertarian movement to succeed, there is required an absolute prohibition on initiations of violence.
You and Sumner and all the other gradualist reformers are really just afraid, and you have convinced yourselves that your fears are somehow signs that your resulting beliefs are derived from intellectually rigorous foundations.
To be willing to fight for government, any government, small or big, makes you an enemy of liberty, not a friend. It makes you a part of the problem, not a solution. It makes you an opportunist, not a principled fighter, which is what liberty requires.
Did the US experiment take place on the basis of gradualist reform? No, it was a social upheaval based on a principle so deeply held that they fought over taxation of tea. Think about that. They fought over a percentage of cut in tea.
The people responsible for the greatest experiment in liberty ever, would be viewed by you and Sumner as ideologues. As too radical to make any changes for the better.
You guys just don’t understand history or the human condition.
15. March 2014 at 12:06
Roger Farmer, the best living Keynesian, supports GI/CYB:
https://twitter.com/farmerrf/status/444645522557505537
Something both sides of Econ can agree on!
15. March 2014 at 12:23
Tommy, That’s possible, but then how would Friedman explain the recession of 2008-09? I think he’d blame the Fed.
15. March 2014 at 12:36
Scott, off the topic (maybe related, though), I found this paper critical of NGDPLT written by Robert Billi of Riksbank of Sweden. http://www.gla.ac.uk/media/media_305442_en.pdf. The author seems to assume that there would be no change in central bank conducting monetary policy if the central bank switches from IT to NGDPLT. I feel a little bit confused. Is it plausible to assume that the central bank would not change its instruments and policy rules when it changes the entire regime?
15. March 2014 at 12:44
Or, should we assume that an introduction of NGDPLT would be likely to lead to somewhat radical changes? Would it be the cause of hesitation of adopting such a policy because central bankers may have to abandon their practices (eg. targeting overnight interest rate) and they feel not accustomed to it?
15. March 2014 at 12:58
Major Freedom wrote:
“The founders tried it, and look where that got us.”
All things considered, I think it and we turned out pretty damned well.
15. March 2014 at 13:02
“All things considered, I think it and we turned out pretty damned well.”
Amen. Just world. Life is Beautiful. Sleep better. Ignorance is bliss.
And now
Turned out pretty damned well.
Well, all I can say is that some of us have higher standards.
15. March 2014 at 13:33
Scott:
“My hunch is that he’d focus on IOR”
Today I debated IOR with Andy Harless and richdhw on Twitter. Here are some selected tweets:
– The institution of no IOR is the wrong institution to solve the flex IT time consistency problem. Use NGDPLT, flexPLT instead.
– Bank of Japan has proved IOR critics wrong by successfuly achieving deflation in the context of QE without IOR.
– Bank of Japan has proved IOR critics wrong second time by achieving Abe boom with ability to pay IOR.
15. March 2014 at 14:00
Re: Roger Farmer,
His theory is that “The Stock Market Crash of 2008 Caused the Great Recession”
http://rogerfarmerblog.blogspot.com/2014/02/download-my-data-on-stock-market-and.html
Seems a little strange. Does anyone know Farmer’s explanation for 1987 (when a massive stock market crash didn’t lead to recession)?
15. March 2014 at 15:15
Friedman told us that easy monetary policy causes inflation.
Actually Friedman said that significant inflation was always caused by excessive money creation. Not at all the same thing.
(“Significant inflation is always and everywhere a monetary phenomenon” — _Money Mischief_)
The fact that major inflation is always caused by too large an increase in money does *not* mean that any major increase in money is always too large and will cause inflation. I mean, geeze.
If that’s really the quality of logic that dominates in the finance community, I’m going to start prepping right now for the next crash they cause.
15. March 2014 at 15:21
I always used “hive mind”, actually…to refer to echo chambers like the comments section of this blog, rather than as a racial slur against Asians…
15. March 2014 at 15:41
Scott,
Off Topic.
Stephen Williamson wrote a post four days ago comparing Canada’s labor market to the US.
http://newmonetarism.blogspot.com/2014/03/why-are-canadians-working-so-much-more.html
“If we track real GDP in the United States and Canada since the beginning of the last recession, the history looks similar.
[Graph]
I have normalized real GDP to 100 for each country in 2007Q4. You can see that the recession proceeded in similar ways, with Canada coming out a bit better. Real GDP was 1.4% higher in Canada in 2013Q4 relative to the U.S, as compared to 2007Q4. However in per capita terms, the U.S. did a bit better than Canada, as population growth 2007-2014 was more then two percentage points higher in Canada than in the U.S. (due to higher immigration).
But labor market conditions in Canada and the U.S. look very different, as David Andolfatto has pointed out…”
The Unemployment rate was 6.0% in Canada in 2007Q4 compared to 4.8% for the US:
http://research.stlouisfed.org/fred2/graph/?graph_id=165789&category_id=0
But as of 2013Q4 unemployment was 7.0% in both countries.
Towards the end of his post Williamson lists some reasons for why the labor market in Canada may have performed better than the US.
“…1. Aggregate demand is persistently low. In hardcore Keynesian thinking, real GDP is demand-determined. Thus, the path of real GDP is determined by aggregate demand. But, look at the first chart. In the hardcore Keynesian mind, aggregate demand has been roughly the same (adjusting for population growth) in Canada and the U.S. since the beginning of the last recession…”
Just because “hardcore Keynesian[s]” don’t understand their own model doesn’t mean other economists have to confuse AD with real output as well. Here’s NGDP per labor force member logged and indexed to zero in 2007Q4:
http://research.stlouisfed.org/fred2/graph/?graph_id=165787&category_id=0
Note that NGDP per labor force member has increased by 2.6% more in Canada than in the US.
Now the mystery isn’t why Canada’s labor markets performed better, but why they haven’t performed even better than they have.
P.S. Here’s the Musical Chairs Model of unemployment for the US and Canada using equivalent data. Wages are the OECD manufacturing earnings measure and the population measure is the labor force for each country:
http://research.stlouisfed.org/fred2/graph/?graph_id=165797&category_id=0
Manufacturing earnings per NGDP per labor force member fell 3.2% in the US between 2007Q4 and 2013Q4, but they fell 8.8% in Canada.
15. March 2014 at 15:58
Scott,
Off Topic.
Meanwhile in a very different part of the monetary universe, David Malpass makes the following pronouncement:
http://online.wsj.com/news/articles/SB10001424052702304250204579432931749236634
“…Rather than creating or printing money, as is often assumed, the Fed borrows heavily from banks to buy bonds, setting arbitrarily low interest rates and diverting credit away from job creators. It’s been sucking oxygen out of the economy, explaining the very weak growth and jobs performance from 2009-13…”
The Fed borrows money from commercial banks?!? It sounds to me like something has sucked the oxygen right out of David Malpass’ head.
15. March 2014 at 16:27
Lots of wrong assumptions:
1. If Friedman meant that inflation pushes interest rates higher then he is completely mistaken.
2. QE is inflationary yes. Just look at what happened with the stock- & bond-market when QE started. Higher prices. Inflationary.
3. The interest rate environment before 1981 was quite different in comparison with what happened after 1981.
After 1981 every recession was marked by falling short term rates
Before 1981 every recession was marked by rising short term interest rates. No wonder poor Friedman is confused about what the signals interest rates are telling him.
Mark,
It seems Malpass wants to bash the FED for the weak recovery. Or was he ordered to bash the FED by his employer ? Did Malpass never read the work of Steve Keen ?
15. March 2014 at 16:34
Not sure about this at the zero bound:
“Reserves and government securities are not perfect substitutes, even when rates are zero.”
Of course it’s true in a literal sense. Reserves and cash are also not perfect substitutes since cash needs to be kept secure. But with some government securities trading at zero, many shadow banking transactions now have these government securities acting in place of reserves to settle claims. After buying government securities with zero rates, replacing the government security with reserves makes no fundamental difference.
The main “concrete steppe” effect is with long-term bonds NOT trading at the zero-bound. If one assumes that private actors are completely ignorant of the Fed’s actions, the following things happen:
1. The demand curve for bonds (except for the Fed’s demand) is constant. With the Fed shifting the demand curve to the right, bond prices go up.
2. Through their bank, the people that were holding the bonds get new reserves versus reserves transferred from a seller. The reserves will sometimes be kept as reserves, but some of the reserves will be sold.
The lower rates, as said in #1, make more sense to me as a concrete steppe than the monetarist effect. Monetarist effects can be hard to argue once you assume a non-constant velocity. Lowering the risk-free rate for long-term investment horizons is a far more direct concrete step.
The odd thing is how the long-term rate actually goes up due to increasing inflation expectations. This is because the assumption that the non-Fed demand curve stays constant in response to QE is wrong. I know of at least a few real-world investors who go short Treasuries as they worry about long-term inflation from QE as an inflation hedge. This is wrong FMC thinking, but nevertheless is part of the EMH’s idealized version of crowdsourcing balancing out all errors towards the reality.
However, at the same time many stock market traders actually increase stock prices at the same time rates go up. If long-term profits are constant despite QE, then higher rates should decrease prices. Some bears argue that QE somehow “artificially” pumps up stocks prices, but this makes no sense to me. The Fed’s actions have nothing to do with the stock market. Willing people are trading stocks at these levels based, hopefully, on actual future cash flows. If the prices are in fact based on actual cash flows, then price increases from QE must be due to QE in fact increasing profits through increasing utilization of sunk costs. I personally do think, btw, that stock appreciation is not overvalued (I don’t dare say the b-word), although stocks in general are certainly fully valued at current rates (inverse P/E is only a couple of points above long-term Treasuries).
The big question this all raises is: Could there be a point where investors reach an NGDP expectation equilibrium so pessimistic that no matter how much QE the Fed does, the NGDP expectations will be deflationary? One could argue that the de facto backstop to all banks post-Lehman was a necessary ingredient for the market to believe that QE alone was effective enough for a zero multiplier. Without the backstop to shadow bank deposits and therefore significantly more Micro demand for currency, would the Fed still have been able to set these expectations and a zero fiscal multiplier through QE’s concrete effects alone? I’m somewhat skeptical, especially given that 1933’s devaluation needed the gold standard and gold had no zero bound.
15. March 2014 at 16:51
Scott,
Off Topic.
This is a followup on my earlier comment on Stephen Williamson and the “mystery” of Canadian labor market performance.
David Andolfatto’s most recent post looks again into this question and concludes with the following observation:
http://andolfatto.blogspot.com/2014/03/employment-along-canada-us-border.html
“…Once again, the border states look more like the U.S. in general, rather than Canada.
A preliminary conclusion is as follows: [1] If Canada-U.S. demographics are roughly similar; and [2] if U.S. border states are roughly similar to their Canadian counterparts in terms of sectoral composition; then the differences we observe between the two countries (in terms of labor market activity) are quite possibly driven by *policy differences*.
Exactly what sort of policy differences we are talking about here remains an open question.”
Based on the previous analysis in my discussion of Stephen Williamson’s post, I have a theory why labor market activity looks so different on one side of the US-Canadian border than on the other.
I suspect it may be due to the fact that on the northern side of the border they use these:
http://www.uyuganbatanes.com/images/Old_Canada_Dollar.jpg
And on the southern side of the border they use these:
http://www.goairforcehomes.info/images/dollar/dollar1.JPG
And if so, then it is definitely driven by a policy difference, a policy known as monetary policy.
15. March 2014 at 16:54
Chun, Before the Riksbank abandons IT they might try actually doing it.
Vaidas, Those are good points. I would just add that we already knew from the 1930s that you can get deflation without IOR and with QE.
Vaidas, Good question.
Noah, Brutal!! (but not close to being accurate–another joke?)
Willy2, I hope you are joking.
Matt, You said;
“The big question this all raises is: Could there be a point where investors reach an NGDP expectation equilibrium so pessimistic that no matter how much QE the Fed does, the NGDP expectations will be deflationary?”
Lots of people look at things this way, but I think it’s backwards. The public forms its expectations based on what the central bank does. The real question is whether there is a central bank policy so deflationary that lots of QE can be associated with deflation? And the answer is yes, as we saw in America in the 1930s and Japan more recently.
15. March 2014 at 17:07
No, I am NOT joking.
See here what happened to both short term & long term rates in the 1970s. The timeframe from 1945 up to say 1965 doesn’t count because then there was a government imposed interest rates meant to recapitalize the banks.
http://advisorperspectives.com/dshort/updates/Treasury-Yields-in-Perspective.php
Tell me, am I joking ?
15. March 2014 at 17:08
Mark, That Canadian comparison is interesting. I wonder if Nick has done any posts on this?
15. March 2014 at 17:10
Or was “SSumner” refering to something else ?
15. March 2014 at 17:14
Mark,
That evidence is consistent with the theory that real factors are the cause.
You just can’t say “it is definitely driven by a policy difference.”
It is also not how falsificationism works, given you are a falsificationist.
15. March 2014 at 17:24
Major Freedom,
This is an off-topic question, but what if millions of Americans would voluntarily choose a Government? Why do you assume it is force and that millions of Americans do not manifest their assent to the terms of the Constitution that forms the auspices of what we call “government” just like individuals manifest their assent to their own private contracts.
Seems to me hardcore anarcho-capitalists such as yourself uphold the primacy of voluntary contract and free association but presupposed that associative relationships we call “governments” necessarily are invalid contracts. Locke’s whole point was that associative relationships we call “government” would be legitimate in the sense that we freely choose it over the state of nature as agreeing to form contractual associations we call governments actually provide greater security for the blessings of liberty.
15. March 2014 at 17:32
Major Freedom,
“That evidence is consistent with the theory that real factors are the cause.”
Since when is “nominal” GDP a “real” factor?
“You just can’t say “it is definitely driven by a policy difference.””
The “definitely” was preceded by an “if so, then”.
15. March 2014 at 17:47
Scott,
“I wonder if Nick has done any posts on this?”
I don’t recall any. Nor is this surprising, as Nick doesn’t really do things of an empirical nature. But what he does do, with his highly imaginative model building, is absolutely irreplacable. In fact it strikes me that each of the major MM bloggers has a unique set of talents that totally complement the others.
15. March 2014 at 19:01
Mark:
“Since when is “nominal” GDP a “real” factor?”
It wasn’t. I am saying that the evidence you are pointing to, is also consistent with the theory that real factors are the cause.
“You just can’t say “it is definitely driven by a policy difference.””
“The “definitely” was preceded by an “if so, then”.”
You mean “if” nominal factors are the cause, “then” nominal factors are definitely the cause?
Well ya, but…
15. March 2014 at 19:04
Cory:
“This is an off-topic question, but what if millions of Americans would voluntarily choose a Government?”
Then they still can’t impose their government onto the millions of others, or just a single other individual.
“Why do you assume it is force and that millions of Americans do not manifest their assent to the terms of the Constitution that forms the auspices of what we call “government” just like individuals manifest their assent to their own private contracts.”
Because unlike private contracts, if you don’t want to pay or deal with or receive “services” from government, then you will be subjected to violence.
“Seems to me hardcore anarcho-capitalists such as yourself uphold the primacy of voluntary contract and free association but presupposed that associative relationships we call “governments” necessarily are invalid contracts.”
Yes, because in the real world, not everyone are in agreement as to who they want to protect them.
“Locke’s whole point was that associative relationships we call “government” would be legitimate in the sense that we freely choose it over the state of nature as agreeing to form contractual associations we call governments actually provide greater security for the blessings of liberty.”
Who’s “we”? If you mean anything less than 100% of the population, you are necessarily imposing it on individuals.
Anarcho-capitalism prohibits violence against the individual, not just the majority.
15. March 2014 at 19:13
Major Freedom,
“You mean “if” nominal factors are the cause, “then” nominal factors are definitely the cause?”
No. *If* nominal factors are responsible then *policy differences* are the cause.
15. March 2014 at 19:39
“Lots of people look at things this way, but I think it’s backwards. The public forms its expectations based on what the central bank does. The real question is whether there is a central bank policy so deflationary that lots of QE can be associated with deflation? And the answer is yes, as we saw in America in the 1930s and Japan more recently.”
The question could be reformulated to an equivalent one then: could a central bank policy of only using purchases of government-backed bonds with new reserves to create looser expectations be a deflationary policy in certain circumstances?
Similarly, the zero-bound is created from a policy that the government will only purchase enough bonds necessary to create zero short-term interest rates. While the Fed seems laughably slow to act now, they did lower interest rates to zero a couple of months after Lehman but job losses did not hit an inflection point until QE1. The zero interest rates signalled their preferred NGDP growth rate under the policy is far higher than the NGDP growth rate in Oct. 2008, yet the market did not believe the zero interest rates had enough concrete steppe ammunition to overcome a highly negative Nash equilibrium growth rate that market actors had settled on.
So why wouldn’t it be possible for the market, for whatever reason, to agree on a Nash equilibrium NGDP growth rate so negative to the point where the Fed buying all government securities would not sufficiently increase NGDP through concrete steppes and therefore not sufficiently moving the equilibrium NGDP growth the market has decided on?
15. March 2014 at 19:52
I think MMT is less ridiculous than Austrianism and in certain formulations it appeals to the same types. I’ll honestly say I credit MMT for getting back into the macro discussion and I still consider the post-keynsian basis atop of which it developed to be helpful (Lerner and Minsky). The biased priors of the MMT folks leads to some interesting proposals but obfuscates whatever insights it purports to give.
The money multiplier isn’t a myth considering it is defined as a maximum allowable ratio. I think the more educated MMT types would say the multiplier is usually assumed to be an equality/identity. This was generally true until 2008 so no harm done. Not sure this matters that much though.
I think MMT can appeal to finance types (the people Noah is talking about) because one of its more salient criticisms of modern macro was that it ignored the importance of finance/banking. How appealing is a theory who’s dominant criticism is that macro is flawed because they didn’t think YOU were important.
15. March 2014 at 19:56
” The MMT explanation he links to suggests that the Great Inflation was caused by fiscal deficits, even though the deficits only became large in 1981-82, when the Great Inflation ended.”
This comment here in the MMT link seems to contradict this claim that the writer thinks fiscal deficits cause inflation.
” If the rate of consumer-price inflation really was, in any way, a straight-line function of the size of the government budget deficit, the inflation rate for 2008 and 2009 should have been spectacularly higher than in 2006 or 2012 – and much lower in 1998, when the Clinton administration ran the largest of its famous surpluses. The rate was about the same in all five of these years, and has rarely either exceeded four percent or been less than two percent in any year since the Great Inflation’s high-water mark in 1982.”
15. March 2014 at 20:09
Ok I do see another quote later on in the post that suggests that the ‘initial’ cause of the GI was deficit spending in the form of Vietnam and the Great Society.
15. March 2014 at 20:10
Hey I’m all for the view that the Great Society wasn’t the main cause of inflation. Let’s have a GS 2.0.
16. March 2014 at 08:44
What does Noah’s essay have to do with Austrian thought?
That’s a bit of shameless hit the piñata. Yes Noah, you are a good progressive storm trooper. No need to confirm it by signaling.
Blaming the Austrians is nuts. The Austrian model uses interest rates as the transmission mechanism–market rate vs the natural rate.
16. March 2014 at 08:57
As per
http://blogs.wsj.com/moneybeat/2014/03/13/the-feds-age-of-inflation/
Is the Fed’s continuing inflation phobia…
“At their confirmation hearings before the Senate Banking Committee on Thursday, Fed board nominees Stanley Fischer and Lael Brainard dutifully noted the risks of high inflation, while skirting the issue of whether it is too low. This even though the Fed’s preferred measure of core inflation, at 1.1%, is well short of its 2% target…”
… explained simply by the fact that they are older than the rest of us?
“Since turning 18, Mr. Fischer, now 70 years old, has seen an average U.S. inflation rate of 3.6%…. [they] may also have been playing to their audience. The median age for a U.S. Senator is 63. As adults, 63 year old Americans have experienced an average annual rate of inflation of 3.8%.
“The voting members of the Fed’s policy-setting committee who have experienced the highest inflation: Dallas Fed President Richard Fisher and Philadelphia Fed President Charles Plosser have both seen an average rate of 3.8% as adults. Little wonder that both are considered inflation hawks.
“In contrast, the Minneapolis Fed’s dovish Narayana Kocherlakota has seen an average rate of 2.5%.
“That’s as nothing against the median-aged American, though.
“At 37, they have seen inflation average just 1.9% since turning 18. Call them Generation QE.”
16. March 2014 at 09:05
Jim Glass,
I predicted that there’d be something in the comments about “inflation actually being really high”. However, given that there was only one comment, my chances weren’t that good, BUT-
“Inflation fell lower over time largely due to the way it is calculated, not because it is actually low. Consumers still consistently report 3-4% inflation. The government and large banks need to have underreported inflation due to inflation linked liabilities and debt.”
16. March 2014 at 09:26
Scott,
Off Topic.
I noticed an effor in my comment on Stephen Williamson.
The only way to salvage the comment would be to replace:
“…Here’s NGDP per labor force member logged and indexed to zero in 2007Q4:
http://research.stlouisfed.org/fred2/graph/?graph_id=165787&category_id=0
Note that NGDP per labor force member has increased by 2.6% more in Canada than in the US.
Now the mystery isn’t why Canada’s labor markets performed better, but why they haven’t performed even better than they have…”
With:
“…Here’s NGDP logged and indexed to zero in 2007Q4:
http://research.stlouisfed.org/fred2/graph/?graph_id=165948&category_id=0
Note that NGDP has increased by 2.6% more in Canada than in the US.
Now the mystery of why Canada’s labor markets performed better is a lot less of a mystery…”
P.S. The problem arose because FRED’s lack of equivalent population measures for the two countries led to some flip flopping which escaped my attention.
16. March 2014 at 09:44
Mark:
I don’t see how that is any different, given that you believe nominal factors are controlled by policy.
16. March 2014 at 09:46
Paul Krugman takes note of Noah’s post:
http://krugman.blogs.nytimes.com/2014/03/16/charge-of-the-right-brigade/
March 16, 2014
Charge of the Right Brigade
By Paul Krugman
“Canon to right of me, canon to left of me “” actually, scratch that, it’s all canon to right of me.
Noah Smith writes about what he calls the “finance macro canon.” It’s mainly the view that money-printing and deficits lead inexorably to runaway inflation, plus assorted other arguments about why easy money is a terrible thing even in a depressed economy.
And Noah is right “” it’s still a view that is dominant on much of Wall Street. I’ve had several recent conversations with finance-industry people “” including traders “” who talk with some wonderment about the failure of high inflation and a plunging dollar to materialize, because “all the experts” told them to expect that outcome. When I found myself on CNBC with Joe Kernan, he described me as a “unicorn” “” he couldn’t believe that there was anyone out there who didn’t believe that deficits and QE were going to lead to rapid doom.
Now, it’s interesting to note that the really smart Wall Street money doesn’t buy into this canon. Jan Hatzius and the rest of the economics group at Goldman have an underlying macroeconomic framework pretty much indistinguishable from mine, and have consistently talked down the risks from easy money and deficits. But the great Armani-suited unwashed apparently don’t know that; they think that “everyone” shares their springtime-for-Weimar vision…”
The Finance Macro Cannon:
http://chestofbooks.com/reference/Wonder-Book-Of-Knowledge/images/Twenty-eight-Ton-Austrian-Siege-Howitzer-which-Fires-a-Thous.jpg
Comes complete with Owners Manual (written in Austrian German of course).
16. March 2014 at 10:21
High monetary inflation does lead to high price inflation, IF the demand to hold money is held constant, or rises to a degree not capable of preventing high price inflation.
Then there is the fiduciary credit nature of our banking system, where “money” created through bank credit expansion can literally disappear from existence due to being defaulted on or being paid back.
So if we have high or sufficiently increasing demand for money holding, and you we have high rates of money destruction, then high monetary inflation from the Fed won’t lead to high price inflation.
The “warning” that I have been speaking of for years has nothing to do with price levels, but capital malinvestment, which is significant even if the price level is muted.
Also, the warnings from others that I have been taking seriously is that IF the demand for money holding does not rise sufficiently, and IF all the reserves the Fed is creating are used by the banks to expand credit to a degree that outpaces the rate of money destruction, THEN we should expect high price inflation. But that’s a lot of IFs that we can’t know for sure a priori. For this uncertain outcome, there will of course be correct predictions and incorrect predictions.
16. March 2014 at 10:26
Major Freedom,
“I don’t see how that is any different, given that you believe nominal factors are controlled by policy.”
The subject wasn’t my beliefs but David Andolfatto’s.
16. March 2014 at 11:16
Noah Smith,
“So how does one extract an individual human mind from this hive mind? That is always a tricky undertaking. But I’ve found two things that seem to have an effect:
Method 1: Introduce them to MMT. MMT is a great halfway house for recovering Austrians.
Method 2: Introduce them to the research of Steve Williamson. Williamson is an example of a guy who changed his mind about the most likely effect of QE, after observing its real effects.
So far, these are the only things I’ve found that work. If you have any other ideas, please share.”
Look, Noah’s got it all wrong! The believers in the Macro Finance Canon don’t NEED to follow MMT or Stephen Williamson, they don’t NEED to follow ANYBODY! They’ve got to think for themselves! They’re ALL individuals!
https://www.youtube.com/watch?v=Zjz16xjeBAA
(Um, on second thought, maybe that’s hoping for too much.)
16. March 2014 at 12:24
I don’t attach much importance to the fact that Scott managed to find two errors in a very long and boring article written by an MMTer. Of more importance is the fact that there’s not a huge difference between market monetarists and MMTers. Market monetarists say that in a recession, government / central bank should print money and buy assets. MMTers say they should print money and spend on a wider variety of stuff (and/or cut taxes).
Since the former policy is inherently distortionary because the money is channeled into the pockets of a narrow section of the population, the asset rich, I favor the latter policy – the MMT one.
16. March 2014 at 12:26
Mark:
I was addressing your theory, not what Andolfatto said.
16. March 2014 at 12:36
Major Freedom,
“I was addressing your theory, not what Andolfatto said.”
If you were addressing my theory and not what Andolfatto said, then why was your comment directed at what I said relating my theory to what Andolfatto said?
16. March 2014 at 14:16
Look, let’s make some progress…
Noah and his ilk routinely forget the very basic Monetarist opinion:
“Low interest rates are generally a sign that money has been tight”
WHAT WILL HELP BREAKTHRU NOAH’S MENTAL BLOCK?
If Noah assumes the absolute worst about monetarists: THEY HATE GOVERNMENT MORE THAN ANYTHING!!!!!! EVEN MORE THAN AUSTRIANS!!!!!!
Now it might not be true, but who cares????
After 5+ years Noah STILL thinks Monetarists are worried about inflation.
But there is something Monetarists are MORE WORRIED ABOUT!!!
Big Government.
If he can just make this assumption about us, he’ll learn the real difference between two types of conservatives:
1. The ones who hate the government and love to talk about it in absolute terms even if it means they never get to run the show. (Austrians)
2. The ones who SO HATE THE GOVERNMENT they will act like bloody pirates and roll up their sleeves get in, get dirty, and come up with some compromise hacks to hold the Noah’s at bay. (Monetarists)
Yes, Noah they come from the same place.
But Noah, every time you mention Austrians in the same breathe as Monetarists, it’s a signal you can’t take the Monetarists on directly.
—–
Look it has been five years, and IF the easiest way to get Noah and DeKrugman to engage in real debate, is to HELP THEM ASSUME WE ARE THE EVIL BASTARDS THEY WANT US TO BE, then why not make it clear?
We want them to move on int he debate, and we lose nothing if they learn the difference between #1 and #2 bc we’re bad guys, instead of trying to be good ones in their eyes?
16. March 2014 at 14:22
MF,
I thought you might come after me with the “No I hate government more” thing.
That’s fine, and maybe you are right.
I mean I consider myself a anarcho-capitalist. I don’t believe in digital private property (bc it takes too much government to pretend to enforce it). I think atomic private property is on its way out, but like 100 years from now.
And I don’t “hate” government. I just want all things to have no middleman, I want p2p efficiency.
But I really do look at most of the Austrians as talkers. People I like, but I grew tired by mid 1990’s of arguing online about privatizing services and gold. I want there to be less public employees NEXT YEAR, not in 30 years when the whole thing comes crashing down.
16. March 2014 at 14:33
Willy, I guess interest rates must have been pretty high during the Great Depression. BTW, interest rates fell sharply in the 1980 recession.
Matt, I think it’s a mistake to focus on the central banks actions, which are often very misleading. Low interest rates tend to reflect contractionary policy. Instead focus on their policy target. Deflation results from deflationary policy targets. Japan is a good example. As far as the question of whether there are enough Treasuries to buy, you’d need to compare the demand for base money at the target NGDP growth rate, with the size of the national debt. In a country where the national debt is zero, then there clearly aren’t enough government bonds to buy, even if rates are 10%.
errorr, The money multiplier is an identity = M/MB
Jim Glass, Interesting observation.
Ralph, You said;
“Of more importance is the fact that there’s not a huge difference between market monetarists and MMTers.”
Both Hitler and Gandhi were vegetarians, I guess there must not have been a big difference between them.
And I can assure you there are far more than two errors in that post, as you’d discover if you bothered to read it.
16. March 2014 at 15:28
Morgan:
“But I really do look at most of the Austrians as talkers.”
You mean Sumner is arming himself with a gun, and imposing his ideal monopoly rule of money production on others by force? You mean he is doing something other than talking?
You sure?
What about you? Are you doing something other than talking?
Intellectuals talk. That’s what they do. That talk is what influenced others to realize within themselves what they are capable of and could become. Force doesn’t work. Never has. The world is only advancing because ideas are allowed to be exchanged without MUCH violence to stop them.
Force is only holding us back. Both the aggressive force that directly prevents productive ideas from being formed and exchanged, and defensive force that indirectly takes up the time of those who could be otherwise coming up with new ideas and exchanging ideas.
I think you’re mistaking talk about the government acting, with the only acting possible. You do realize people other than those in government can act, right?
At any rate, all talk, and no guns to impose the talk on others by force, is exactly what makes Austrianism light years ahead of Monetarism and Keynesianism, and all other similarly violence based primitive ideologies of our distant ancestors who had much smaller pre-frontal lobes.
With enough anarchist talk (in the minds of people), they will make the choice on their own to change how they behave, and I will get what I want. I don’t just people to be animatronically puppeted to behave certain ways. I want them to believe in the ideas so that they can control their own bodies better on their own.
You want fewer public employees NEXT year? Let me implore you that your method of gradualism will, and has always, failed. Where did you get the false assumption that gradualism and pragmatism were more successful than radicalism? I’ll tell you. Those who don’t want real change and who have convinced themselves and are trying to convince you that radicalism is inherently evil or useless or ineffective.
You won’t be able to succeed with the ideology of “Initiating violence is wrong in the abstract, but….it is right according to my own personal opinion in such and such limited context for pragmatic purposes.” You’re just being an opportunist. You won’t convince the mass bulk of people to think anything other than “Aha! Look at what Morgan said! Initiating violence is wrong in the abstract, OK, that’s easy to agree with! Anyone can say that! But he’s saying it is right to initiate violence according to one’s own personal opinion, which is very much a different one than yours?”
If everyone believed initiating violence in the abstract is wrong, but everyone also believed that their own personal convictions of limited uses of initiating violence are right, do you know what would happen? WHAT IS HAPPENING TODAY, RIGHT NOW.
“Government is the great fiction through which everybody endeavors to live at the expense of everybody else.” – Bastiat.
You’re failing everyday to turn the country more libertarian, because you’re not radical enough. You will not convince me that all talk is the wrong way to go. Radical thought is what has moved ALL great social changes. Every single one. In no case has “pragmatism” ever done what it claims to do.
You have to stop trying to convince me that your approach is better whereas my outspoken ideas are better. My ideas and approach are better. I understand you’re frustrated that your ideas during the 1990s didn’t pan out. But that doesn’t mean radicalism is a failure. You would be surprised at just how many more people are being influenced by the radicalism of Austrianism and anarcho-capitalism. If you ask the man on the street, they’ll almost certainly know Austrianism more than they’ll know NGDP targeting. And that’s because of its radicalism. Radicalism gets people’s attention. It rouses them from their slumbers, just like it did for you.
Like I said above, few people are going to be willing to man the barricades and storm the front lines for the sake of 5% more candy bars.
Your solution will at best delay corrections and add to them besides. I want to reduce the pain of the corrections by feeling it now, rather than in the future where it will be much worse. We could have had a little pain in 2001 if we abolished the Fed back then. But the Fed persisted, and the pain felt in 2008 was even greater as a result. Keynes believed we could kick the can indefinitely, but no human will ever be smart enough to do that. History does not exactly repeat, but it does rhyme. Every monopolistic fiat experiments have ended in disaster wherever they have crept up. Theory explains why. Now it’s worldwide. The illusions of the past could not go as long when there were free market money economies externally, and ties to free market money internally, exposing the errors. Now no economy has that capability. The righteous indignation and euphoria that inflationists felt with no ties to free market money, is coming to an end a la Marxism, with the rise of free market money once again (bitcoins).
What happens if more and more people choose to buy and sell Bitcoins, and aggregate spending in Bitcoins cannot be controlled by any coercive monopolist? Will you join the army and kill people? Or will you just “talk” like you say you don’t like about the Austrians?
16. March 2014 at 15:33
Mark:
“If you were addressing my theory and not what Andolfatto said, then why was your comment directed at what I said relating my theory to what Andolfatto said?”
Because what you said in relation to Andolfatto is still a theory of yours. I wanted to address that theory of yours. It is still your theory, even though it is a “relation” to what Andolfatto said.
I don’t just address theories that are not derived from or related to any prior theory. If I only did address those, I’d only be able to address a few theories ever. Most theories are derived from previous theories. Mine, no exception. Yours, no exception.
16. March 2014 at 15:49
Sumner:
“Willy, I guess interest rates must have been pretty high during the Great Depression. BTW, interest rates fell sharply in the 1980 recession.”
These facts are not inconsistent with the theory that “Fed accelerated the increase in reserves to stave off depression, which reduced interest rates through the liquidity effect, despite what was happening to NGDP.”
Sure, “Interest rates fell because of tight money defined by low NGDP growth” is also a consistent theory, but that doesn’t mean it is the only one.
16. March 2014 at 16:28
Major,
Scott doesn’t like Mundell but I do. I LOVE him!
Greece has a current account balance!
Scott is pushing NGDPLT – the new improved version of Friedman’s Monetarism… and you can poo-poo it, but Uncle Milty stepped into the breach and crafted a stopper to FDR’s New Deal.
I spend all day working to turn local government into a mobile platform. My basic theory is that government by smartphone means we don’t need to ever raise taxes again, can meet the current pension and entitlement costs and stop borrowing money to spend.
Again, I’m not saying you don’t hate the government more, I’m just saying that I judge “By Any Means Necessary” as a more radical approach to ideology.
16. March 2014 at 16:30
Morgan, I do like Mundell. I just don’t agree with him on the euro.
16. March 2014 at 20:52
“Matt, I think it’s a mistake to focus on the central banks actions, which are often very misleading. Low interest rates tend to reflect contractionary policy. Instead focus on their policy target. Deflation results from deflationary policy targets. Japan is a good example. As far as the question of whether there are enough Treasuries to buy, you’d need to compare the demand for base money at the target NGDP growth rate, with the size of the national debt. In a country where the national debt is zero, then there clearly aren’t enough government bonds to buy, even if rates are 10%.”
I still don’t feel very satisfied by the “central bank sets the NGDP” answers. The arguments run on an axiomatic assumption that the central bank always gets the monetary policy that it wants.
If I try to build up a model for NGDP with individual market participants and without the axiomatic assumption, I have a very hard time coming to the conclusion that central banks can always set the level of NGDP growth. It keeps coming back to the statutory authority that the central bank has to set policy.
Interest rates are indeed closlely coupled with the level of NGDP growth, but while the rates were high in the late-70’s, they were even higher in the early-80’s as inflation decreased. While “high/low interest rates mean tight/loose policy” is wrong, the contrasting “low/high interest rates mean tight/loose policy” would also say that inflation was much higher when rates were 18% than when rates were 10% a few years earlier.
Looking at three data series from 1980-83: the CPI, the Fed funds rate and the 10-year rate, it’s hard to see a market instantaneously taking into account new inflation expectations. Particularly interesting is the fact that the 10-year rate at the end of 1981 was 14.6%. The end of 1981 was after the Fed funds had stayed very high signalling Volker’s clear intention to do whatever it takes to keep inflation at 5%. With the CPI numbers the following years, this made the real interest rate stratospherically high: 10+%. By all appearances, an efficient market for Treasuries would have had a very inverted yield curve. The yield curve would have been high the first couple of years and then dropped significantly each year as it would be expected inflation and thus future interest rates would be far lower.
The inverted yield curve didn’t happen though. Contemporaneous writings by investors such as Warren Buffett’s letters to the shareholders in 1980-82 bear out extreme pessimism. Hell, Milton Friedman was horribly wrong, wrongly predicting that inflation would increase due to Reagan’s military deficits. For a long-term, infinite horizon efficient investor, purchasing long-term debt was a huge opportunity once Volker signalled that the pre-emptive 1980 rate decrease wouldn’t happen again and inflation would go down. But there just weren’t enough buyers who saw this to make the yield curve inverted.
In this case, the sum total of market participants were wrong, but the market participants were still trying to achieve a simple thing. Each of their actions individually needed to accord with everybody else’s ultimate action. If there’s somehow a country with a monetary base set in stone and a government who always spends and taxes the same exact amount, the optimal course for every participant is to engage in a Keynesian beauty contest with respect to future NGDP expectations. Each market participant will make money or save money through being more correct than other participants in regards to future NGDP, as well as future NGDP allocation to specific industries or companies.
This Keynesian beauty contest is what I meant concerning a “Nash equilibrium” NGDP growth rate. With the EMH purely in effect, every market participant will instantaneously change to a new equilibrium for NGDP growth expectations through some sort of chaotic process. Quite honestly, it’s fairly bizarre to try think about how NGDP changes under the constant-monetary-base scenario. The game theory model only makes sense to me if some market participants decide to act irrationally under the old equilibrium which then causes the rational participants to have to follow suit. Without irrational participants, the equilibrium rate could theoretically stay the same forever.
Now we can introduce a central bank who, statutorily, can only buy or sell short-term bonds with newly printed or destroyed currency respectively. In this case, there is enough national short-term debt to support all of the currency in circulation with zero interest rates. So through either setting consistently higher rate targets or purely monetarist intervention, any amount of theoretical inflation can be blocked for any velocity as long as all currency could be destroyed. In the inflation-fighting case, market participants have significant incentives to do the Fed’s work for them. And even if market participants don’t follow suit, from a purely MV=PY, the central bank has unlimited power to fight inflation.
The parallel is not so clearly true for fighting deflation or declining NGDP. Remember the constant-monetary-base model only makes sense through a few participants acting irrationally precipitating the rational participants to follow suit. In concrete terms, it was perhaps irrational to start a run on the banks remaining after Lehman, nearly all of which appeared even at the time to be fundamentally solvent. But people get scared, animal spirits and all that. With a constant-monetary-base, the equilibrium NGDP goes down significantly as rational participants also want to get their money out of solvent banks or sell stocks at preposterously high risk premia.
Again, from a monetarist perspective, the central bank can print money…up to the number of short-term government bonds remaining. Remember this is a STATUTORY limit and there is not unlimited ammunition like the high inflation case. I would also add a statutory limit in that the short-term bonds could not be bought for greater than par at zero rates (negative interest rates). Buying short-term Treasuries for possibly greater than par is an interesting idea now that I think about it, but it doesn’t really work for this example.
With these limits in place, the rational market participants can very easily defy the central bank no matter how much the central bank really wants to increase NGDP more. In other words, it devolves to the chaotic constant-monetary-base example since zero rate government bonds are indeed very close substitutes. QE expands the possible ammunition to making long-term bonds substitutes as well, but there is a similar limit.
It’s particularly hard, too, to credit Australia’s central bank for them not having had a recession. Nothing about the Australian central bank seems particularly noteworthy compared to the Fed, ECB, BOE and BOJ. Crediting their central bank is instead very much like crediting the 2007 Fed for preventing a recession while blaming the 2008 Fed for precipitating the recession. The same people were running the Fed at both times. The same people were also running the ECB and the BOE. Yet “central bank policy” suddenly changed when we hit the ZLB. What concrete steps are permissible for the central bank absolutely needs to have the ability to change NGDP even if the market really doesn’t want to, as what happened in 1981-82.
16. March 2014 at 21:06
To elaborate some, here’s a horribly simplified model where only two market participants decide the fate of NGDP.
Invest Don’t Invest
Invest 1, 1 -1, 0
Don’t Invest 0, -1 0, 0
Both Invest/Invest and Don’t Invest/Don’t Invest are Nash equilibria. They could be thought of as different possible NGDP with rational and efficient market participants. Or participant 1 is rational and participant 2 is Jim Cramer. Jim Cramer will do…whatever the thing is that he does, but that will also decide whether the rational participant invests.
Let’s say the Fed sets up a policy where they will make sure companies that invest will get a reward. With a reward of 0.5 to investing companies:
Invest Don’t Invest
Invest 1.5, 1.5 -0.5, 0
Don’t Invest 0, -0.5 0, 0
You still have the same Nash equilibria. A reward of 1 gets weird with equivalent payoffs, so I’ll say the reward becomes 2 for investing:
Invest Don’t Invest
Invest 3, 3 1, 0
Don’t Invest 0, 1 0, 0
So now Don’t Invest/Don’t Invest is no longer a Nash equilibrium. You’ll get at least half the investment from the smart participant. Jim Cramer may be irrational and think that the penalty for investing is really -5 for -1, but if the Fed does enough of this, investment would come back up.
17. March 2014 at 00:18
Yes, interest rates fell sharply in the 1980 recession but they rose again in 1981.
The fact remains that short term rates in the 1970, 1975, 1980 & 1981 recessions were actually (much) higher than long term rates. And that’s different from what happened after 1981 when in a recession short term rates always fell.
So, Mr Market must have had a reason for pushing short term rates higher than long term rates in 1970,1975, 1980 & 1981. I don’t have an answer.
Besides NOMINAL rates one also has to look at REAL interest rates (adjusted for inflation). In the depth of the depression nominal rates may have been low but REAL rates were actually (VERY) high.
Negative real rates are good for the issuer of a bond and detrimental for the buyer. With positive real rates the buyer benefits at the expense of the issuer. Not surprising positive real rates are a killer for the issuer of the bond.
17. March 2014 at 01:19
Interest rates didn’t really fall in the 1980 recession. The increased rates caused the recession and Volker backed off. The CPI also showed its greatest increase ever in 1980. For that calendar year, the CPI increased 15%.
The Fed funds rate in fact went on quite a roller coaster in 1980-81, to 18% back down to 9% then up to 19%.
http://research.stlouisfed.org/fred2/data/FEDFUNDS.txt
So an inverted yield curve at the very highest rates wouldn’t be strange. I don’t think many people believed that rates would be at the 17+% levels for very long, certainly not throughout the 10-year bond history. But 10-year bonds at beginning of 1982 did trade at 14.6%, which didn’t accord at all with market expectations of <10% rates in line with significantly decreased inflation. Either Volker really changed his mind about fighting inflation during 1982 or the market was inefficient in absorbing inflation expectations.
The 10-year rate was in fact lower in 1980-81. The real-world explanation is two years of Volker interest rates scared people from any interest rate risk whatsoever, even though a very astute investor could have made a killing.
17. March 2014 at 01:47
“major freedom” wants to carve up the country into private fiefdoms controlled by private armies, by privatizing everything that is currently public. He wants to do this by force, and doesn’t care whether anyone else wants it to happen. He doesn’t want to pay to use public resources because he believes they should all be privatized. “Major Freedom” confuses his imaginary world of private fiefdoms with the real world, by assuming that his plan to privatize everything by force has already been carried out. All his statements about taxation etc being “violence” are based on this confusion.
17. March 2014 at 05:05
Scott — I think Friedman would have blamed the Great Recession on the Fed, also. His framework would have said that the Fed failed because it did not offset the collapse in V with enough M, a classic nominal (or demand side) shock.
Mark S. — That Malpass piece in the WSJ was utterly incoherent. I mean, QE is deflationary. Um, has he ever heard of the Eurozone? Beam him up, Scotty.
17. March 2014 at 05:10
Willy, No, yield curves invert BEFORE recessions and normalize during recessions.
Matt, You said;
“Interest rates didn’t really fall in the 1980 recession.”
Actually the data you link to says they fell from 14% to 9% between January and July 2008, which is exactly when the recession occurred.
The yield curve inverts BEFORE recessions and normalizes during recessions.
You said;
“Interest rates are indeed closely coupled with the level of NGDP growth, but while the rates were high in the late-70″²s, they were even higher in the early-80″²s as inflation decreased.”
Yes, interest rates peaked in 1981, but NGDP growth peaked at 19.4% annual rate during 1980:4 and 1981:1. After that six moth peak, NGDP growth fell, and interest rates fell with a slight lag. So there is no mystery to be explained. Don’t look at inflation which was 3.3% during the first 6 quarters of the Reagan recovery. NGDP growth ran 11% during this period.
The market was right to be skeptical of Volcker in 1981, as he’d backed off once before in his war on inflation.
More generally, I have plenty of posts documenting all the mistaken “concrete steppes” that were taken by the Fed, BOJ, ECB, etc. And the results are quite clear. If the BOJ had a credibility problem then the yen would not have depreciated with the 2% inflation target. No central bank in all of world history has ever tried to inflate and failed. Could it happen? Sure, if you enacted laws limiting their ability to inflate. But that’s a policy decision. No real world central bank has ever been prevented from inflating by those constraints.
I have no objection to the argument that Australia was “lucky” because it’s trend rate of NGDP growth, and hence it’s trend rate of interest, was and is higher than other industrial economies.
17. March 2014 at 05:18
Euro-inflation in. O.7 percent. Sado-monetarists rule!!
17. March 2014 at 05:34
Scott,
“I do like Mundell. I just don’t agree with him on the euro.”
Can we agree Greece having a current account balance after 150 years might have far more future forward positive upside?
Meaning Greece could very well be “forced” to fundamentally alter its culture changing who amongst them are high status individuals for the better?
17. March 2014 at 06:39
Deficits as a % of GDP:
1974 -0.41%
1975 -3.25%
1976 -4.04%
1977 -2.64%
1978 -2.58%
1979 -1.59%
1980 -2.65%
1981 -2.53%
1982 -3.93%
1983 -5.88%
1984 -4.72%
So in the 70’s we had relatively large deficits as a % of GDP plus easy fed policy – result high inflation. There are other things to factor in too. In the 80’s deficits were ran, and became large as a % of GDP in 1983-84, but we also had tight money. Further you were going to have large deficits since we had two recessions in the early 80’s.
17. March 2014 at 07:18
Matt McOsker,
The cyclically adjusted budget balance remained in the relatively narrow range of (-2.7%) to (-1.3%) from fiscal year 1971 through 1982.
http://www.cbo.gov/sites/default/files/cbofiles/attachments/43977_AutomaticStablilizers3-2013.pdf
In fact despite the image of a deficit prone decade the 1970s were one of the most fiscally responsible decades on record with gross Federal debt setting a post WW II record low of 32.5% of GDP in fiscal year 1981 (President Carter’s last budget).
But NGDP growth was double digit every year from 1976 through 1979, peaking at 13.0% in 1978, and core inflation accelerated to 9.2% by 1980.
Then, under Reagan, cyclically adjusted Federal budget balance was reduced from (-1.5%) in fiscal year 1981 to (-4.6%) in fiscal year 1986 (the largest cyclically adjusted budget deficit since 1960 prior to the Great Recession). And yet from 1981 to 1986 NGDP growth averaged 7.4% and core PCEPI fell to 3.4% by 1986.
The Great Inflation and the Great Disinflation are perhaps the greatest examples of monetary offset of fiscal policy away from the zero lower bound in US history, because fiscal policy was relatively tight during the height of the Great Inflation, and became exceptionally loose during the Great Disinflation, exactly the opposite of what fiscalists predict.
For more see this:
http://www.themoneyillusion.com/?p=25932
17. March 2014 at 09:32
Looks like someone finally found some evidence of high inflation.
17. March 2014 at 09:59
Philippe,
“He wants to do this by force”
No, that can’t be! Because that would make him a sociopath, and he’s been so good at identifying the real sociopaths hidden amongst us (pssst. keep your eye on Don Geddis and … um… umnerssay). Wait, you don’t suppose that sociopaths can identify each oth… uh… No! Forget it. 😀
17. March 2014 at 11:06
Off Topic:
James Caton thinks Bernanke is our new central planner, and not a very good one:
http://moneymarketsandmisperceptions.blogspot.com/2014/03/wheres-inflation-at-review-of-and.html
17. March 2014 at 12:31
TallDave:
That made my day.
17. March 2014 at 13:00
Phillippe:
“major freedom” wants to carve up the country into private fiefdoms controlled by private armies, by privatizing everything that is currently public. He wants to do this by force, and doesn’t care whether anyone else wants it to happen. He doesn’t want to pay to use public resources because he believes they should all be privatized. “Major Freedom” confuses his imaginary world of private fiefdoms with the real world, by assuming that his plan to privatize everything by force has already been carried out. All his statements about taxation etc being “violence” are based on this confusion.
You forgot to end that rant with “derp”.
1. I don’t want to force liberty on you. It can’t be forced. What I am asking is for initiators of violence and coercion tomcease and desist, so that individual liberty can arise. Yes, I get it that the thought of other people having a different protector than you, according to their choice, not yours, makes you lose your mind.
2. If you want mommy and daddy Feinstein and Obama, be my guest. I won’t stop you or call for you to be shot by my protector simply because you chose not to hire my protector. All I ask is that you afford me the same courtesy. It’s not so hard you know. You do it with those who live in differeng countries. I mean, you’re not calling for an invasion of England or Germany simply because the people there don’t pay the US government taxes.
3. I don’t “assume” everything has been privatized already. Are you OK?
————
Tom Brown:
Is that your theory? “It takes one to know one”? Really?
17. March 2014 at 14:21
Capacity utilization:
https://twitter.com/thestalwart/status/445550269703536640
Why have we had lower and lower and lower peaks since the 1960’s?
17. March 2014 at 14:34
Friedman didn’t just say that low interest rates indicate tight policy he recommended they do exactly what they are now doing:
“Milton Friedman: Yes, indeed. As far as Japan is concerned, the situation is very clear. And it’s a good example. I’m glad you brought it up, because it shows how unreliable interest rates can be as an indicator of appropriate monetary policy.
The Japanese bank has supposedly had, until very recently, a zero interest rate policy. Yet that zero interest rate policy was evidence of an extremely tight monetary policy. Essentially, you had deflation. The real interest rate was positive; it was not negative. What you needed in Japan was more liquidity… Monetary growth has been too low. Now, the Bank of Japan’s argument is, “Oh well, we’ve got the interest rate down to zero; what more can we do?”
It’s very simple. They can buy long-term government securities, and they can keep buying them and providing high-powered money until the highpowered money starts getting the economy in an expansion. What Japan needs is a more expansive domestic monetary policy.”
this is from: http://www.bankofcanada.ca/wp-content/uploads/2010/08/keynote.pdf
17. March 2014 at 15:11
MF,
your statements about taxation etc being “violence” might make some sense if you lived in your own private fiefdom and the army of some neighboring fiefdom kept coming into your territory and violently taking your stuff. But you don’t live in your own private fiefdom, you live in the US, which is a federal republic and not a private fiefdom.
You use public resources and benefit from public services and as such you are required to pay public taxes. If you don’t want to live in the US, you can go somewhere else, or you can try to change the US. But for some reason you assume that you have an innate right to live in the US, use public resources and benefit from public services without being required to pay anything. And you make this assumption because you confuse your imaginary world of private fiefdoms with the real world. You assume that you live in your own private fiefdom and as such the US has no right to require you to pay anything. But the reality is you don’t live in your own private fiefdom – you live in the US.
17. March 2014 at 15:17
MF, just a joke… but I have seen you use “sociopath” to describe people here more than once… you’ve got to figure you might catch a little grief for that.
17. March 2014 at 16:41
Travis—
Superb question…I think it has to do with the Fed’s 30-year war on inflation…the development of a Fed culture increasingly embracing of a single mandate…people forget Volcker tolerated 4 percent inflation…now anything over 1 percent and the inflation-monomaniacs lose their ample bowels…
17. March 2014 at 16:49
Philippe:
“your statements about taxation etc being “violence” might make some sense if you lived in your own private fiefdom”
It actually just requires the simply concepts of homesteading and free trade as being the legitimate basis of property rights and just rent claims.
Call them “private fiefdoms” if you want. But to own your homesteaded and traded for property is not to impose feudalism on others.
“But you don’t live in your own private fiefdom, you live in the US, which is a federal republic and not a private fiefdom.”
Calling non-consensual sex “rape” might make some sense if you owned your own body like some fiefdom. But the rapist has made a “reality” of rape for you. So your body doesn’t actually belong to you, it belongs to the rapist. Deal with it. It’s reality. Real world. Empirical data staring at you in the face. It’s undeniably real. Right. There.
What, you aren’t going to go off on some silly make believe fantasy land of “ethics” are you? Your utopian vision where the reality is something other than the rapist raping you? Sorry, I’m a scientist, and I only deal with facts. I don’t deal with religion.
“You use public resources”
I am forced to pay for public resources whether I use them or not. Since I am forced to pay either way, it makes no sense to base my subsequent use (or non-use) as if that were the foundation and creation of an obligation I have to pay the state.
That would be like me forcing you to pay me 40% of your salary no matter what you do, and to convince the gullible that I am a legitimate provider of goods, I place water and food on your doorstep, and then I excuse my prior theft by claiming that because you took that food and water into your home, my theft was justified all along, and going forward, you owe me 40% of your paycheck forever, or else you have to move to Somalia.
You are completely ignoring the initial unjust acquisition of wealth. The crap “services” that come after me being forced to pay regardless, is irrelevant and not binding on me. It is something like “Might as well take something given I was robbed.”
I’d much prefer to not pay AND not receive shitty DMV service, shitty road service, and live in a world where individuals are free to produce anything they want, INCLUDING, gasp!, roads and security/protection.
Your arguments are so overused and have been refuted a zillion times.
Blah blah blah. Come up with something new.
———————–
Tom Brown:
I used the word sociopath to describe Don Geddis who wrote on this blog that he would support me being shot.
I should expect to catch grief for saying sociopath? And what of the grief that Geddis should get? Am I in bizarro world? Did I again wander into an insane asylum? Jeepers. If what is being typed on this blog survives posterity, future historians are likely going to agree with me that there are some sick people on this blog.
17. March 2014 at 17:02
Major_Freedom,
Let’s see whether you genuinely believe that expansionary monetary policy is dangerous.
Over the next ten years, do you think macroeconomic performance (say, RGDP) will be more or less volatile than it was over the past ten years?
What do you think is the probability that the U.S. experiences 20%+ inflation within the next ten years?
17. March 2014 at 17:27
Prof. Sumner,
Two questions about this graph:
https://twitter.com/thestalwart/status/445550269703536640
(1) Why are the peaks lower and lower and lower?
(2) If the Fed succeeded in consistently hitting 5% NGDP growth, what would primarily drive capacity utilization: supply-side factors or something else?
P.S.: Thanks, Ben Cole.
17. March 2014 at 17:33
Yglesias on capacity utilization (August 2012): http://slate.me/1fTVH3v
17. March 2014 at 17:34
TravisV:
>Let’s see whether you genuinely believe that expansionary monetary policy is dangerous.
My actual position is that monetary expansion beyond the rate of an otherwise free market in money is what I regard as dangerous.
And, as a side position, because the purpose of central banking is to enable the government to spend more that it otherwise could spend through direct taxation alone, and for banks to lend more than they otherwise could lend in a free market of money, it is reasonable to hold that monetary policy is normally “too loose”.
So I’ll assume you mean that going forward, and notice that it doesn’t seem to change what you are intending to do anyway, so the above is just for accuracy’s sake…
>Over the next ten years, do you think macroeconomic performance (say, RGDP) will be more or less volatile than it was over the past ten years?
I know that volatility post-central banking has been greater than volatility pre-central banking.
Going forward, I cannot predict scientifically what I myself will learn, and thus do, let alone what other humans beings will learn, and thus do, to know what “the economy” will look like over the next ten years.
I can only guess, and my guess would not “represent” any economic school of thought. My guess is just as good as any other, so pick one.
>What do you think is the probability that the U.S. experiences 20%+ inflation within the next ten years?
No idea. If you mean price inflation, then I will that since prices are a function of money supply, real goods supply, and, crucially, demand for money holding, all of which are going to be the effects of the knowledge and preferences of people in the future, there are variables that cannot be known in the present. If I predict correctly, it wouldn’t vindicate Austrianism. If I predict incorrectly, it wouldn’t cast doubt on Austrianism.
I simply do not accept the myth that economists have to pretend they are physicists and predict the future by reasoning from constant causal relations over time.
Never reason from a constant when it comes to economics.
I am not dodging your question. I reject the implicit premise that would have me believe I am capable of predicting my own future knowledge, and to know that now, in the present, using past observed quantified data.
I could go the deli 499 days in a row to buy a sandwich for lunch. Or 1000 days in a row. No matter how many times I observe myself doing it, I cannot know in the present that I will prefer a sandwich again for lunch tomorrow. I could plan for it, but I could always choose not to get one, by learning something new I could not have anticipated.
This is my actual philosophical worldview. It is what I really believe. I am not being evasive. I just reject what you claim can be done, that’s all.
17. March 2014 at 18:23
Major_Freedom,
I’m glad you agree with me.
The arguments of Sumner, Woodford, Romer and Evans have resonated. The Fed now (1) recognizes the crucial importance of forward guidance and (2) is far more comfortable with unconventional monetary policy than it was in 2008/9.
Therefore, Bob Murphy, Seth Klarman and David Stockman are wrong. The next 10 years will be far more stable than the past 10 years.
I am very happy that you disagree with Murphy, Klarman and Stockman.
Thank you for conceding my point.
17. March 2014 at 18:37
TravisV:
“I’m glad you agree with me.”
What? Where? All you did was ask me a question. What did I say that you agree with me about?
“The arguments of Sumner, Woodford, Romer and Evans have resonated.”
What does that mean, “resonated”? Does that mean they are true? Or that they just got adopted by some people like Marxism did in the late 19th century?
“The Fed now (1) recognizes the crucial importance of forward guidance and (2) is far more comfortable with unconventional monetary policy than it was in 2008/9.”
We’ve almost always have had “forward guidance” from the central bank. Price inflation targeting. You may disagree with the Fed targeting prices, but that doesn’t mean they weren’t “forward guiding”.
But this is neither here nor there.
“Therefore, Bob Murphy, Seth Klarman and David Stockman are wrong. The next 10 years will be far more stable than the past 10 years.”
Non sequitur. The future of the economy cannot be automatically predicted on the basis of eliciting a particular theory.
“I am very happy that you disagree with Murphy, Klarman and Stockman.”
I didn’t say nor implied that I disagreed with these people.
“Thank you for conceding my point.”
What point?
17. March 2014 at 19:27
Major_Freedom,
Peter Schiff, Bob Murphy, Seth Klarman and David Stockman are all predicting apocalypse and you refuse to do so. Which speaks VOLUMES.
You recognize that those guys are nuts.
17. March 2014 at 20:30
TravisV:
To be fair though, I also think you’re nuts. You’re making predictions, as if you’re a physicist and not an astrologer as well.
To refuse to agree with one set of nuts, does not mean I have to agree with everyone who disagrees with those nuts. For they might be nuts too.
IMO, you have to disagree with nuts for the right reasons, and I don’t think your reasons are the right reasons. To me you’re just as nutty for predicting the future as they are.
NB Not sure if Murphy is predicting “apocalypse”. I think he once bet that price inflation would go above 10% a while back. Hardly an “apocalypse.”
18. March 2014 at 00:27
MF,
“It actually just requires the simply concepts of homesteading and free trade as being the legitimate basis of property rights and just rent claims.
Call them “private fiefdoms” if you want. But to own your homesteaded and traded for property is not to impose feudalism on others”
But private property is not based on homesteading. Have you ever read a history book? Why do you feel the need to make things up to try and justify your political beliefs?
“I only deal with facts.”
Ha ha. You’re a joke, and a liar.
18. March 2014 at 00:40
Write me down for signalling being the primary mover. I don’t think QE has been big enough considering the types of assests being bought.
See: http://research.stlouisfed.org/publications/review/2014/q1/thornton.pdf
18. March 2014 at 02:52
Mark, why use cyclically adjusted when looking at nominal figures? I am not saying the 70’s was any less responsible than the 80’s but similar deficits were run in absolute returns. The rate of growth in total government expenditures (State, Local, Federal) in the 70’s moved at a pretty good clip:
http://research.stlouisfed.org/fred2/graph/?g=tkV&dbeta=1
That is a component of NGDP.
BTW – FRED updated their chart function in the past couple of days – pretty nice.
Cheers.
18. March 2014 at 05:06
Mark S quotes Krugman:
“Charge of the Right Brigade
By Paul Krugman
Canon to right of me, canon to left of me “” actually, scratch that, it’s all canon to right of me.”
IMHO, the canon on the right is that expansionary monetary policy *always* causes inflation, and the canon on the left is that we are at a point where expnansionary monetary policy *cannot* cause inflation.* Krugman’s just very vague about whether that left canon is aimed correctly.
IMHO, there are a bunch of questions.
1) If I understand Scott’s proposal correctly, he wants the Fed to credibly commit to 5% nominal inflation, so maybe even more than that in real terms if the real GDP is shrinking, when it will hurt most. Granted, now that we’re seeing 2-3% real growth, that means 3-2% real inflation, even if you assume the policy leaves real growth unaffected.
2) So some of the righties presumably believe the Fed can get pretty much the amount inflation as it wants, but don’t believe that the inflation would have the benefits that Scott predicts.
3) Other inflation hawks think that tripling the base money supply (or running large fiscal deficits, or both) is likely to lead to more inflation than even the MM crowd wants. I don’t know if that’s a stupid concern or not, because I’m not smart enough.
My naive understanding is that at some point, we expect velocity to pick up as people’s desire to hoard base money decreases. I guess the question is how quickly that happens, whether the Fed can recognize it in time, and how quickly the Fed can act to offset acceleration that exceeds its goals. Do we know the answer to that?
* Maybe the left one isn’t cannon but is some other phrase like “dominant meme” or “strong prior” – I won’t argue.
18. March 2014 at 05:20
Major_Freedom,
You don’t actually think I’m nuts.
You and I both know that it’s very reasonable to think that the next ten years will be far more stable than the last ten years.
You and I both know that hyperinflation is extremely unlikely.
18. March 2014 at 05:21
How to gauge whether the Fed is becoming more hawkish or more dovish:
http://www.businessinsider.com/fomc-interesting-2014-3
http://economistsview.typepad.com/timduy/2014/03/on-that-hawkish-wage-talk.html
18. March 2014 at 05:54
Morgan, I don’t view CA deficits as being problems.
Matt, Your figures show that even the nominal deficits got larger in the 1980s. The real deficits increased by much more than the nominal deficits. I suggest looking at the ratio of debt to GDP.
Also note that LBJ raised taxes sharply in 1968, and inflation kept rising. It wasn’t fiscal.
Travis, That capacity utilization statistic is not very informative, it’s measured poorly.
Kailer, Thanks, that’s a good quotation.
JMann, I’m afraid you don’t understand my proposal. I do not favor inflation targeting, and certainly not 5% inflation targeting. I favor NGDP targeting. Under my plan inflation would be no higher than under inflation targeting, on average. It’s true that inflation will be higher in years when RGDP falls, but of course that’s exactly what you want, as stable NGDP growth helps stabilize the labor market. Inflation will be lower than average when RGDP growth is strong.
18. March 2014 at 06:45
Matt McOsker,
Total government tax revenue also moved at a pretty good clip during the 1970s:
http://research.stlouisfed.org/fred2/graph/?graph_id=166668&category_id=
But no one claims this meant that fiscal policy was extraordinarily contractionary during the 1970s.
Both were endogenous to the rate of change in NGDP, and that had nothing to do with how stimulative or non-stimulative fiscal policy was.
The only coherent way to measure fiscal policy stance is by changes on cyclically adjusted budget balances and by that standard the 1970s was a sea of fiscal calmness bookended by the tumultuous Great Society/Vietnam War/10% Surtax and Reagan Tax Cut/Defense Buildup periods.
18. March 2014 at 07:28
Some part of my brain knew that, Scott – I apologize, I don’t know how my understanding slipped to what I wrote.
Under your plan, the fed should more or less target an inflation rate that roughly equals the difference between NGDP target (say 5% in this example), and the expected RDGP growth, right?
I don’t think that changes the rest of my paragraphs, but I apologize for the one number (1), because it’s totally boneheaded, and because the other paragraphs were the ones I really wanted to check against smarter people.
The rest I think might be right;
– some of the inflation hawks don’t like the idea of 3-5% inflation in years with 0-2% expected RDGP growth, particularly if they don’t buy that nominal policy will have real effects; and
– others might be sceptical that on the facts as we have them now – massively increased monetary base, large future deficits – the fed can actually control inflation when velocity picks up.
18. March 2014 at 09:00
Major_Freedom,
Morgan Warstler is right:
http://www.themoneyillusion.com/?p=26371#comment-323855
You’re nothing but a talker. At least Schiff, Murphy, Klarman and Stockman have the courage to make tangible predictions.
18. March 2014 at 11:49
Mark, still wrapping my head around factoring in CAB. Growth in government spending, independent of tax receipts, will effect NGDP by definition. So , I cannot conclude that fiscal policy in the 70’s was contractionary by that measure. But, it also begs the question is if fiscal was not a factor or a reaction, or a partial factor.
18. March 2014 at 13:59
Matt McOsker:
“Mark, still wrapping my head around factoring in CAB.”
Fiscal deficits are endogenous to the state of the economy. Thus measuring fiscal policy stance without correcting for business cycles would tend to exagerate the contractionary effects of fiscal policy during expansions, and the expansionary effects during contractions. Page 3:
http://www.imf.org/external/pubs/ft/tnm/2011/tnm1102.pdf
“Measuring the fiscal policy stance.
Changes in structural balances can also indicate the impact of discretionary fiscal policy on the economy (Muller and Price, 1984). For example, a widening in the structural [cyclically adjusted] deficit points to an expansionary fiscal policy stance, or in other words, to an intended positive contribution of discretionary fiscal policy to aggregate demand (the actual impact depends on other factors and could result in different effects from those originally planned)…”
Matt McOsker:
“Growth in government spending, independent of tax receipts, will effect NGDP by definition.”
By that standard discretionary tax decreases would never be expansionary, and discretionary tax increases would never be contractionary, all other things being equal.
18. March 2014 at 15:03
Mark thanks for the discussion. Tax increases and decreases can be contractionary or expansionary to NGDP to the extent these effect consumption, investment, or trade. Tax changes might affect what a government spends if a politician says I won’t increase spending unless I can also increase taxes. But again it could effect other parts of the NGDP formula.
19. March 2014 at 04:52
J Mann, Just to be clear I’m not defending current policy. But if we do NGDPLT, it is completely appropriate that inflation be above average when growth is low. Even well informed inflation hawks like George Selgin and Bennett McCallum agree on that point.
The Fed can always “control inflation” as they have 100% control of the monetary base. In all of world history there is no case of a central bank trying to control inflation with a Taylor Rule type policy and failing (unless forced to print money by fiscal authorities.)
19. March 2014 at 09:17
Thanks Scott, I appreciate your patience.
So if I can dumb it down, the response to inflation hawks might include:
1) It’s pretty much consensus that we need some more inflation during a recession. See sticky wages and prices, the babysitter collective, etc. If you don’t believe that inflation has positive real effects in a recession, then I guess we need to talk about that, and if you represent a constituency that sees itself as harmed by inflation in the short term, then we need to make the case that it helps in the medium and long term.
(Interestingly, if Obama tried to sell the stimulus as “we are going to spend a lot of money IN ORDER TO CREATE INFLATION, which we need to get the economy back on track,” I doubt he would have gotten 10% of congress to vote for it – it’s tough to sell the public on the benefits of inflation, so one of fiscal policy’s advantages is that most laypeople’s understanding of the multiplier doesn’t involve inflation.)
2) If you believe that the Fed can’t rein in inflation when the economy revs up, don’t worry about it. Even if the Fed doesn’t want to sell a bunch of bonds, it can always increase the interest rate on reserves until it gets the money supply where it wants it.
3) If you believe that the long term fiscal picture of the US is going to lead to a lot of inflation, well, that’s fiscal policy, and a more successful monetary policy would (a) reduce the demand for fiscal stimulus, and (b) hopefully increase the real growth rate, which improves the fiscal picture.
19. March 2014 at 11:30
TravisV:
No, I am certainly not the only talker. Everyone here who hasn’t taken up arms, is a talker:
http://www.themoneyillusion.com/?p=26371#comment-323864
19. March 2014 at 11:37
TravisV:
My refraining from making predictions for that which cannot be scientifically predicted makes me someone who is wise enough to know when to shut up. Sometimes silence is better.
Not everyone got that memo
19. March 2014 at 17:16
JMann, Some of your points are accurate, but I do not believe we need inflation in all recessions, just those caused by adverse supply shocks. With NGDPLT, all recessions would be supply side. But you certainly don’t need inflation in recessions caused by demand shocks (which is most recessions in American history.)
If Obama said the point of fiscal stimulus is to create inflation he would have been deeply misleading the public. The actual point is to create faster NGDP growth. I believe it’s better to tell the truth to the public.
20. March 2014 at 05:14
Thanks again – I’ll study more before trying to represent your views, and appreciate the patience. 😉
13. April 2017 at 03:04
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