The great unwashed masses (there’s weakness in numbers)

Over at Econlog I have a new post pointing out that back in 2006 New Keynesians like Brad DeLong believed in monetary offset.  I should clarify one point, however. I am basically talking about the New Keynesian elite, the people who follow the latest developments in macroeconomics.

A paper by Daniel Klein and Charlotta Stern (2006) points to a 2003 survey done by the AEA that showed that most economists favored using fiscal stimulus for purposes of fine-tuning the economy.  Read that again, I didn’t say “most Keynesians,” I said most economists.  Fiscal skeptics like Krugman and DeLong were right-of-center economists back in those days.

The problem here is that most economists get their ideas on macroeconomics from studying the Keynesian cross model in EC101, and also using common sense (obviously if G goes up, then C+I+G must go up.)  But by 2006 the Keynesian cross model was horribly outdated, and common sense is almost useless in economics.  Indeed you could argue that it is a lack of common sense that separates the elite economists like Krugman from their mediocre colleagues.

In a 1997 article Paul Krugman called those holding this consensus view “Vulgar Keynesians.” Here Krugman makes the same mistake I made (when discussing the paradox of thrift and the widow’s cruse.):

Such paradoxes are still fun to contemplate; they still appear in some freshman textbooks. Nonetheless, few economists take them seriously these days. There are a number of reasons, but the most important can be stated in two words: Alan Greenspan.

After all, the simple Keynesian story is one in which interest rates are independent of the level of employment and output. But in reality the Federal Reserve Board actively manages interest rates, pushing them down when it thinks employment is too low and raising them when it thinks the economy is overheating. You may quarrel with the Fed chairman’s judgment–you may think that he should keep the economy on a looser rein–but you can hardly dispute his power. Indeed, if you want a simple model for predicting the unemployment rate in the United States over the next few years, here it is: It will be what Greenspan wants it to be, plus or minus a random error reflecting the fact that he is not quite God.

Krugman and I both believed that there were “few economists” who stilled believed that nonsense back in the late 1990s, when in fact most economists believed that nonsense as late as 2003.  Krugman had the Pauline Kael problem, he didn’t know most economists; he knew Bernanke, Svensson, Woodford and other Princeton economists. My problem was that I didn’t know most economists, I read Bernanke, Svensson, Woodford and Krugman, and assumed they were representative.

Of course Krugman has now joined the vulgar Keynesians, citing the new circumstances of near-zero interest rates.  I suppose he finds strength in numbers, such as the 350 economists who warned that fiscal austerity in 2013 would produce a recession.  Indeed I’ve seen Krugman cite a poll of 50 economists, almost all of which thought fiscal stimulus had a positive effect.

Unfortunately, most economists are far behind the times in macro theory.  By joining up with most economists, Krugman has allied himself with the least informed segment of the profession.  It would be like suddenly becoming a protectionist, and citing the fact that 90% of Americans think Chinese imports cause unemployment.  Come to think of it, isn’t Krugman also making that argument?

Economics is the queen of the counterintuitive sciences.  And no parts of economics are more counterintuitive than stabilization policy and trade.  Krugman was wrong in thinking the majority agreed with him in 1997.  But Krugman’s right that he’s now in with the overwhelming majority of economists.  I’m in the tiny, tiny minority of economists who think the economy has needed demand stimulus but that fiscal stimulus is ineffective.  But this is one case where there is weakness in numbers. I’m perfectly happy being in a tiny minority, if it’s the same minority that Krugman and DeLong and the other elite NKs belonged to a decade ago.

PS.  To be fair, the 350 warned about fiscal austerity slightly worse than the $500 billion reduction in the deficit in calendar 2013 that actually occurred, but still . . .

 


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32 Responses to “The great unwashed masses (there’s weakness in numbers)”

  1. Gravatar of SG SG
    3. March 2015 at 11:36

    Scott,

    Totally off-topic, but you should know that Evan Soltas is back to blogging! Four posts in four days, I think i’m in heaven… http://esoltas.blogspot.com/

  2. Gravatar of Matt McOsker Matt McOsker
    3. March 2015 at 12:16

    Count me as someone that believes both the Fed and Fiscal policy effects the economy. My issue with people, such as Krugman, that predicted this an that with “fiscal” tightening, is that a reduction in deficit does not necessarily mean fiscal tightening any more than low interest rates equals loose policy – there are other factors at play. A reduced deficit might be enough to support the credit structure of the economy given other circumstances, and be large enough to contribute to growth.

    I just feel that political beliefs drove that criticism more than careful analysis.

  3. Gravatar of Doug M Doug M
    3. March 2015 at 12:49

    I had thought that Keynesianism was dead in the late 90’s Then Bush passed a stimulus plan in 2001. I read it as using the economy as cover to do accomplish is political goals. But, many economists seemed to think that it would actually accomplish something.

    Anyway, do you have the confidence to tell your intro to Macro students to say Keynesianism is BS? Or, even better, not even cover it?

  4. Gravatar of ssumner ssumner
    3. March 2015 at 13:37

    SG, That’s great news.

    Matt, I also believe that fiscal policy affects the economy.

    Doug, I think students need to learn about Keynesianism. They need to learn how most people think, the way news stories are written, the model used by policymakers, etc.

  5. Gravatar of ThomasH ThomasH
    3. March 2015 at 13:50

    I suppose he finds strength in numbers, such as the 350 economists who warned that fiscal austerity in 2013 would produce a recession.

    You have made this mis-statement before. I believe the consensus you refer to was that the sequester would reduce growth relative to what it would have been without the sequester. I have not seen an analysis of whether that was true or not, but there was no prediction of recession,

  6. Gravatar of ThomasH ThomasH
    3. March 2015 at 14:02

    “I’m in the tiny, tiny minority of economists who think the economy has needed demand stimulus but that fiscal stimulus is ineffective.”

    I thought your position was that “fiscal stimulus” would be ineffective (no effect on GDP in the short run, even if the additional spending was on activities with positive (negative) NPVs and so increase (decrease) GDP in the long run) IF offset by monetary policy. If it is not offset, say, because the monetary authority is politically constrained from taking the actions necessary to restore the (below target) price level or NGDP level, it CAN be effective.

    Have I misunderstood you on this point?

  7. Gravatar of ChargerCarl ChargerCarl
    3. March 2015 at 14:06

    Does fiscal stimulus not work in Krugman’s 1998 model? I was under the impression that it did, but it was second best option.

  8. Gravatar of ssumner ssumner
    3. March 2015 at 14:07

    Thomas, You said:

    “You have made this mis-statement before. I believe the consensus you refer to was that the sequester would reduce growth relative to what it would have been without the sequester. I have not seen an analysis of whether that was true or not, but there was no prediction of recession,”

    Here’s what the 350 said:

    “At the end of the year, we face a congressionally-created “fiscal cliff,” with automatic “sequestration” spending cuts everyone agrees should be stopped to prevent a double-dip recession.”

    http://jobsnotausterity.org/

    Yes, I believe fiscal stimulus can be effective under certain circumstances, but those circumstances don’t currently apply.

  9. Gravatar of ssumner ssumner
    3. March 2015 at 14:08

    Chargercarl, Yes, but a year later (in 1999) he was still very skeptical of fiscal stimulus for Japan, and thought monetary stimulus was the way to go. But yes, he did understand the theory of how fiscal stimulus might be justified at the zero bound.

  10. Gravatar of ThomasH ThomasH
    3. March 2015 at 14:12

    @ Doug M
    “But, many economists seemed to think that it [the GWB stimulus in 2001] would actually accomplish something.”

    I think the consensus view (or at least mine) was that the tax cuts that increased the deficit were harmless during the recession, but that making them semi-permanent was a mistake, as was the failure to raise taxes to pay for the Iraq War, as was failing to raise medicare taxes to pay for the prescription drug benefit.

  11. Gravatar of ThomasH ThomasH
    3. March 2015 at 14:40

    @scott,

    You are correct about the “350.” I was misled because I had not heard that from the people I read like Krugman, Noah Smith, Simon Wren-Lewis, and DeLong who were not among the 350. Of course, fortunately, the “fiscal cliff” they were warning would produce the “double dip” did not happen. I take it you agree with the larger point of the “350,” however, that deficits during a recession are NOT a good reason to cut expenditures even if they may be offset by monetary policy.

  12. Gravatar of ThomasH ThomasH
    3. March 2015 at 14:48

    “Doug, I think students need to learn about Keynesianism. They need to learn how most people think, the way news stories are written, the model used by policymakers, etc.”

    Or in the case of the US, UK and Eurzone, NOT used. 🙂

    Also I note the Krugman quote you cite was explicitly about a regime in which the Fed was not constrained in meeting it’s inflation-employment target. That does not translate well into the push-back the Fed has gotten (is still getting) on trying to offset slack demand.

  13. Gravatar of ThomasH ThomasH
    3. March 2015 at 16:15

    Almost all economists belong to a tiny minority in their views on macroeconomics. Market monetarists, Regular Monetarists, Vulgar, Cultured, New and Old Keynesians agree that governments during recessions should NOT act like credit constrained consumers or frightened investors. Most folks, led by Very Serious People, believe that recession driven deficits are SCARY; ditto large central bank balance sheets.

    I think almost all (non-core Euro-zone) economists would agree that governments during recessions should continue to implement (or start to implement, if they were not doing so in the past) the rule of undertaking activities with present costs and future benefits that have positive NPV’s (which will probably have increased because of unemployed resources and lower interest rates). Differences arise in their views about how central bank will behave and, to a lesser extent, how the economy reacts to central bank actions.

  14. Gravatar of rob rob
    3. March 2015 at 16:39

    The problem is most intro textbooks even now discuss monetary policy as doing a certain amount of stimulus instead of doing enough stimulus to reach a target. Same thing with the questions students tend to be presented in tests and homework.

  15. Gravatar of benjamin cole benjamin cole
    3. March 2015 at 19:10

    Excellent blogging. But…maybe you should frequently quote new Bank of Japan board member Yutaka Harada: “We need to print more money.”
    Let it rip.

  16. Gravatar of Ray Lopez Ray Lopez
    3. March 2015 at 19:25

    Sumner, quoting Krugman: “You may quarrel with the Fed chairman’s judgment-you may think that he should keep the economy on a looser rein-but you can hardly dispute his power.”

    Hardly? I was taught in the law school that I flunked out of that when you use “hardly”, “indisputable” and the like, you are camouflaging a weak argument. So cite for the above please? In fact, money is neutral and even super-neutral. A careful perusal of history shows this true. If you doubt it, please show evidence to the contrary. If it’s so obvious, it should be easy for you to do.

  17. Gravatar of Ray Lopez Ray Lopez
    3. March 2015 at 19:27

    @benjamin cole – I like you mono-thematic style brother. Nice parody. Let it rip!

  18. Gravatar of Mike Sax Mike Sax
    3. March 2015 at 20:48

    “Economics is the queen of the counterintuitive sciences. And no parts of economics are more counterintuitive than stabilization policy and trade. Krugman was wrong in thinking the majority agreed with him in 1997. But Krugman’s right that he’s now in with the overwhelming majority of economists. I’m in the tiny, tiny minority of economists who think the economy has needed demand stimulus but that fiscal stimulus is ineffective. But this is one case where there is weakness in numbers. I’m perfectly happy being in a tiny minority, if it’s the same minority that Krugman and DeLong and the other elite NKs belonged to a decade ago.”

    So what science is more intuitive? Physics?

    I don’t get why you worry so much about fiscal stimulus. We had some in 2009 but then the GOP came in and we had 4 years of fiscal contraction. So on a net basis we’ve had austerity. The GOP is made up of these same small number of economists that know that fiscal stimulus is harmful.

    I don’t know that you’ve shown there’s weakness in numbers-you’re arguing that there’s ignorance.In reality numbers can sometimes be ‘strong’ in the sense of forcing their will on an intelligent minority that knows better. But even there, I think you’re being too modest. The GOP was unfortunately elected by majorities, so the majority of the American people who voted in the 2010 and 2014 elections agrees with you on fiscal stimulus.

    I’ve spoken to people with no background in economics at all-and couldn’t spell David Ricardo much less Ricardian Equivalence-and yet they worried about their taxes going up if we have fiscal stimulus

  19. Gravatar of Derivs Derivs
    4. March 2015 at 04:28

    “Economics is the queen of the counterintuitive sciences”

    Ah.. Wren Lewis is back on his, PK, and De Longs argument of what I now refer to as the “my kids allowance drives daddy’s earnings argument”…

    Time to go to the beach.. the sun beating on my head is less painful.

  20. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    4. March 2015 at 07:08

    I think Krugman has gone beyond Vulgar Keynesianism into Vulgar Marxism, with his post about Wal-Mart raising some wages;

    http://www.nytimes.com/2015/03/02/opinion/paul-krugman-walmarts-visible-hand.html

    ——–quote——-
    The retailer’s wage hike seems to reflect the same forces that led to the Great Compression, albeit in a much weaker form. Walmart is under political pressure over wages so low that a substantial number of employees are on food stamps and Medicaid. Meanwhile, workers are gaining clout thanks to an improving labor market, reflected in increasing willingness to quit bad jobs.

    What’s interesting, however, is that these pressures don’t seem all that severe, at least so far “” yet Walmart is ready to raise wages anyway. And its justification for the move echoes what critics of its low-wage policy have been saying for years: Paying workers better will lead to reduced turnover, better morale and higher productivity.

    What this means, in turn, is that engineering a significant pay raise for tens of millions of Americans would almost surely be much easier than conventional wisdom suggests. Raise minimum wages by a substantial amount; make it easier for workers to organize, increasing their bargaining power; direct monetary and fiscal policy toward full employment, as opposed to keeping the economy depressed out of fear that we’ll suddenly turn into Weimar Germany. It’s not a hard list to implement “” and if we did these things we could make major strides back toward the kind of society most of us want to live in.
    ——-endquote——

    The problem with the above ‘analysis’ is that even the NYT story he links to makes it clear that Wal-Mart is responding to competitive pressure in the labor market. The invisible hand of the market is taking workers away from Wal-Mart. The supposed monopsonist can’t set wages, it has to respond to the numerous competitors it has for low skilled workers.

    As Landsburg said, it’s amazing how much economics Krugman had to learn to win a Nobel prize, and equally amazing how much economics (and syllogism building) he has to forget to write his NYT pieces.

  21. Gravatar of ssumner ssumner
    4. March 2015 at 07:39

    Thomas, True, but that has no bearing on anything I said in this post.

    Regarding deficits, yes you don’t necessarily want to cut spending because of deficits, on the other hand I approve of the actual US and eurozone spending cuts (which were from an excessively high level, at least in the US.)

    Rob, Good point.

    Ray, You said:

    “In fact, money is neutral and even super-neutral. A careful perusal of history shows this true.”

    Oh dear, and all these years I and the rest of the economics profession assumed Friedman and Schwartz’s Monetary History was a “careful perusal of history.”

    Mike, On a new basis we’ve had stimulus, just much less than in 2008-10.

    Patrick, It’s really sad seeing a Nobel Prize winner advocate higher minimum wages. It makes the economics profession look ridiculous.

  22. Gravatar of Mike Sax Mike Sax
    4. March 2015 at 08:26

    Scott, I’ll be honest: I don’t know what you mean by ‘new basis’ in this context.

  23. Gravatar of ssumner ssumner
    4. March 2015 at 08:30

    Mike, I don’t either–it must have been a typo for net basis. 🙂

    Thus federal government spending as a share of GDP is higher than before the recession.

  24. Gravatar of Adam Adam
    4. March 2015 at 09:58

    Apologies if I’ve asked before, but if the Fed is consistently missing its inflation target on the low side, is there room for fiscal policy between the error and the target?

    And does a Fed that’s consistently missing it’s target demonstrate that monetary offset is necessarily imperfect? (Although perhaps we should infer hostility to over-shoots from the ongoing tolerance of undershooting.)

  25. Gravatar of Gary Anderson Gary Anderson
    4. March 2015 at 13:28

    Keynes would work if it were directed to the people and not to the banksters for speculation. You know that, Scott. All we have had is stagflation from artificially high prices. People on the main street level are so up against it that even low gasoline prices don’t help that much.

    You need to leave Bentley, Scott, and go out into the real world and see what I am talking about.

    You wanted even higher gasoline prices. How could you possibly think that would help our economy? Are you a shill for the wealthy? Answer me, Scott.

  26. Gravatar of Gary Anderson Gary Anderson
    4. March 2015 at 13:30

    One more point. I agree with you we need demand stimulus but cannot see how higher commodity prices will produce that at all.

  27. Gravatar of Derivs Derivs
    4. March 2015 at 13:44

    Gary Anderson = If anyone thought Ray, MF, and I were trolls (I’m not a troll, just dumb)… we now have Franz Liebkind in the house…

  28. Gravatar of Brian Donohue Brian Donohue
    5. March 2015 at 06:25

    @Patrick Sullivan, Your comment created a (spurious?) link in my brain.

    Since a college biology course, I’ve long been a huge and avid fan of natural history. The class included a collection of essays that comprised an amazing explication and defense of Darwinism by noted author and Professor Stephen Jay Gould.

    The essays were compiled in a series of books that, in retrospect, describe an arc in Gould’s career, from pioneering thought leader to, in later days, a defender of some abstruse theories (e.g. “spandrels”) and occasionally given to regretting some of his early and superb Darwiniana in the face of new refinements in Darwinian theory from the likes of E.O. Wilson (who now has himself seemed to get a hold of some bad biology in his dotage) and Richard Dawkins.

  29. Gravatar of ssumner ssumner
    5. March 2015 at 07:08

    Adam, The Fed doesn’t consistently miss on the low side, although it’s tended to undershoot in recent years. Since 1990 it’s been very close to 2%.

    Even if they miss on the low side, it doesn’t necessarily mean the multiplier is positive. It’s probably not exactly zero, but it might be slightly negative or slightly positive.

    Gary, If you are an example of the “real world”, then I think I’d prefer to stay in my ivory tower.

  30. Gravatar of Charlie Jamieson Charlie Jamieson
    5. March 2015 at 08:47

    Agree with Gary.
    Stimulus works. When the central bank flooded the financial sector with easy loans and bought depressed financial assets, and started QE to get people to sell their T-bonds and buy stocks, it was a huge stimulus package to the wealthy.

  31. Gravatar of Adam Adam
    5. March 2015 at 13:03

    Hasn’t the Fed’s preferred measure of inflation come in below its target consistently since 2008 and substantially below during the most acute portions of the crisis?

    It seems to me that the argument for fiscal policy in the set of narrow circumstances that lie in that gap, especially if it’s monetary offset that generates a zero or negative multiplier.

    Perhaps I’m mistaken, but I thought it was your position that the multiplier should be zero because the Fed acts last. Are you also saying that the multiplier would be zero (or close to it) regardless of Fed action?

  32. Gravatar of Scott Sumner Scott Sumner
    6. March 2015 at 12:58

    Adam, No, inflation has run above target during part of the period since 2008. You may be thinking that the average inflation rate is below 2%, which is true.

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