There’s no such thing as “out of ammo”

This really misses the point:

It’s time for central bankers to ask for help.

As the International Monetary Fund prepares to downgrade its outlook for the world economy again, monetary policy makers are running low of ammunition to fight a fresh downturn. Bank of America Merrill Lynch calculates they have reduced interest rates more than 600 times since the 2008 collapse of Lehman Brothers Holdings Inc. with theReserve Bank of India extending the run on Tuesday by cutting its benchmark more than expected.

While the European Central Bank and Bank of Japan haven’t ruled out buying even more bonds, there are doubts over how much more quantitative easing can achieve given yields are already around record lows and inflation still remains beneath the target of most policy makers. Even easier monetary policy may just end up propelling asset markets rather than economies.

That leaves economists and investors increasingly looking toward governments to lead the rescue efforts should the China-led slowdown in emerging markets infect developed nations. BofA Merrill Lynch sees a 25 percent chance of a recession-like slump this year.

“Monetary policy is basically exhausted in terms of producing real growth and even inflation,” billionaire Bill Gross of Janus Capital Management LLC told Bloomberg Television this month. “Fiscal policy is the second piece of the leg that has to take place in order to get us back to where we want to go.”

Almost every day something happens that refutes the claims made here.  First of all, there is no evidence that central bankers are not achieving their goals.  The Fed is about to raise rates.  The ECB seems satisfied with its progress in promoting a eurozone recovery.  I don’t think it should seem satisfied, but it does.  Ditto for the BOJ.  Just weeks ago Draghi said he’d do more QE if necessary.  And yet if you believe what I just quoted above, Draghi’s recent announcement should have had no impact on the markets, either because there are no more bonds to buy (out of ammo) or because QE has no effect. Instead here’s what happened to the euro:

Screen Shot 2015-09-30 at 4.58.54 PMIf Bill Gross were correct then it should be impossible to guess what time of day Draghi made his announcement.  But I’ll bet even Ray Lopez can guess.  (Hint, easier than expected money usually makes a currency depreciate in value.)

A beggar thy neighbor policy?  Let’s see how Wall Street reacted:

Wall Street has also welcomed Mario Draghi’s pledge to take more stimulus measure if needed.

The Dow Jones industrial average, and the broader S&P 500, are both up by almost 1%.

The following sounds appealing, until you think about the implications:

If the world economy enters a downdraft, Steven Englander, global head of G-10 FX strategy at Citigroup Inc., proposes a more revolutionary response, akin to the “helicopter money” once advocated by Milton Friedman.

In what he calls “cold fusion,” politicians would cut taxes and boost spending. Central banks would then cover the resulting increase in borrowing by purchasing more bonds as part of a commitment to permanently expand their balance sheets. The easier fiscal policy would be covered by QE Infinity.

“Politically it is difficult for central banks to outright endorse monetization of government debt, but faced with another slump and armed with ineffective policy tools, we expect that central banks will quickly give the wink and nod to fiscal measures,” Englander said in a report to clients last week.

The upshot would be greater purchasing power would be injected straight into the economy, increasing activity and inflation. Long-term bond yields would rise, yet short-term yields adjusted for inflation would turn negative.

Give him credit for recognizing that easier money can end up raising long term bond yields.  And “cold fusion” sounds pretty cool. But otherwise this makes no sense. What does it mean to promise the injections will be permanent?  That suggests you are targeting the monetary base, which could have catastrophic results.  You need to make just enough of the injections permanent to hit your NGDP target.  But if you do that, then the fiscal stimulus is pointless.  Even Paul Krugman claims that monetary policy ineffectiveness occurs when central banks cannot make credible promises to make monetary injections permanent.  But if you assume the promises are made and believed, then the fiscal part of the policy does nothing other than increase the national debt, worsening a problem that is already becoming increasingly worrisome as the population ages.



40 Responses to “There’s no such thing as “out of ammo””

  1. Gravatar of Ray Lopez Ray Lopez
    3. October 2015 at 06:31

    Did somebody page me? “But I’ll bet even Ray Lopez can guess”

    Well professor, stocks get a pop from press releases. Short term traders believe in money non-neutrality, they also believe in crazy things like “resistance at support levels”, “double tops”, “death cross for the S&P500” and other such tea-leaf reading indicators. Proves nothing.

    OT-please comment why, as T. Cowen points out in his blog today, why Japanese female labor participation rates shot higher when Abe took office. Any monetary explanation? I think it’s just coincidence.

  2. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    3. October 2015 at 06:37

    Truer words…never spoken (from Scott’s previous post);

    ‘The Fed should stop focusing on trying to hit its interest rate targets, and start focusing on hitting its inflation target. It’s not the Fed’s job to set interest rates. Even better, we should make their job much simpler by switching to NGDPLT.’

    If Janet Yellen, or Bernanke before her, simply called a press conference every day and repeated this one sentence; ‘Interest rates are not “the price of money”‘, the confusion would soon end.

  3. Gravatar of Ray Lopez Ray Lopez
    3. October 2015 at 06:51

    @Patrick R. Sullivan – “If Janet Yellen, or Bernanke before her, simply called a press conference every day and repeated this one sentence; ‘Interest rates are not “the price of money”’, the confusion would soon end.” – LOL, I love your unintended comedy. You should team up with Ben Cole and form a blog called “Excellent Blogging”.

  4. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    3. October 2015 at 07:59

    From a review of a new book on Margaret Thatcher;

    It is all very well to talk about controlling monetary aggreggates, but how do you measure them? Margaret Thatcher often spoke scornfully about governments which had tried to buy their way out of unpopularity by “printing money” as if the whole problem could be solved by halting the printing presses. In a modern economy, credit creation is a far more complex business and the government struggled to find the right monetary target. it finally lighted on Sterling M3, an indicator which is now only relevant to monetary archaeologists. But as it included interest- bearing assets, it was not appropriate. You decide that £M3 is growing too fast. So you put up interest rates to slow it down. But that has the opposite effect, as money is switched to earn higher interest, thus further increasing the growth of £M3.

    Which sounds like ‘sterilized’ M3. By 1981 there was severe economic contraction.

    … everything was about to change. Alan Walters arrived in No.10 at the beginning of the year as an economic advisor. He was no Wet, but he did look at the road. So did Jurg Niehans, a Swiss economist whom Alan Walters imported to help him persuade the Prime Minister than monetary policy was too tight and fiscal policy too lax. She took their advice. Hence the most controversial budget in British history. The economy was stagnant. Unemployment was rising. Most conventional economists would have known what do do: increase government borrowing to finance a Keynesian stimulus. Instead, the March Budget tightened fiscal policy.

    364 economists promptly wrote a round robin the Times to express their dismay. The economy promptly began to recover. It is important to remember that the government’s standing in the polls had started to improve even before the Falklands War. Within months, the round robin had turned into a dead parrot. Geoffrey Howe came out with the best joke; an economist is someone who knows 364 ways of making love, but does not know any women.

  5. Gravatar of ssumner ssumner
    3. October 2015 at 08:00

    Patrick, That would be a dream come true for me.

  6. Gravatar of ssumner ssumner
    3. October 2015 at 08:02

    Patrick, And 350 economists signed a letter warning about the “austerity” of 2013. They never learn.

  7. Gravatar of Peter K. Peter K.
    3. October 2015 at 08:21

    I agree with you that the central banks are not out of ammo and that they did the amount of QE they felt necessary.

    The problem is that non-central bankers consider the recovery very weak and blame QE.

    So I agree that next time central banks could do more, better QE (with a NGDP level target for example).

    However I would support “cold fusion” and Corbyn’s People’s QE and helicopter drops as additional policies to spur a swift recovery. I believe they would work better with better distributional impacts.

    As a compromise with conservative rightwingers, the policy could include equal parts Bankers’ QE, Peoples’ QE and helicopter money. The combined effect would be designed to hit the NGDP level target.

    “Cold Fusion,” People’s QE and helicopter money wouldn’t increase the debt. They’re money-financed government spending/investment. The only problem would be if it was overdone and they created too much inflation, just as with regular QE.

  8. Gravatar of Benny Lava Benny Lava
    3. October 2015 at 08:44


    Could you elaborate on the problem with targeting the monetary base?

  9. Gravatar of ssumner ssumner
    3. October 2015 at 09:23

    Peter, You said:

    “Cold Fusion,” People’s QE and helicopter money wouldn’t increase the debt. They’re money-financed government spending/investment. ”

    This is a very common misconception. There is more public debt created by any money financed fiscal stimulus. In the short run the debt is held by the Fed, hence no interest cost. But when you exit the zero bound there certainly is a burden on that debt. I have a number of older posts on helicopter drops that you might want to check out.

    People’s QE is a meaningless concept, based on a misunderstanding of how monetary policy works. If you favor more government spending that’s fine, but there’s no magic that comes from combining it with monetary policy. It adds nothing.

    Benny, The demand for base money (or base velocity if you prefer) is unstable, hence targeting the base leaves NGDP unstable.

  10. Gravatar of Jerry Brown Jerry Brown
    3. October 2015 at 09:27

    Cold fusion was really cool. Just wish it had worked.

    As for increasing the national debt by having the central bank monetize increased government spending (or decreased government taxation), is that really a problem if inflation is low? Can’t the central bank just hold on to the bonds it buys?

  11. Gravatar of Ray Lopez Ray Lopez
    3. October 2015 at 11:37

    A new paper by James Costain, Anton Nakov 03 October 2015. Of interest: the much-vaunted ‘menu costs’ implies a trivial (yes, MF, trivial) money non-neutrality effect, so effectively money is neutral given menu costs. Watch Sumner ignore this post…he is very selective on what he wants to learn – RL

    Abtract: “Many models used for macroeconomic policy analysis today rely on an assumption of nominal price stickiness. But different formulations of nominal frictions can greatly alter their macroeconomic implications. For example, Calvo’s (1983) assumption of a constant price adjustment probability implies large real effects of monetary policy, while ‘menu cost’ models such as that of Golosov and Lucas (2007), which feature a ‘state-dependent’ adjustment hazard, imply that money is almost neutral.”

  12. Gravatar of benjamin cole benjamin cole
    3. October 2015 at 15:56

    Excellent blogging.
    I like Englander’s ideas—if the amoint of QE was larger than the deficit then national debt would not grow.
    I prefer FICA tax cuts offset by QE-purchased bonds deposited into FICA trust funds. The Fed buys bonds and places them into the SS trust fund.
    This has the minor advantage that there is no hysteria about the Fed’s balance sheet.
    I think the idea that QE may become conventional policy should be expressed.

  13. Gravatar of Jason Smith Jason Smith
    3. October 2015 at 17:58

    This is a pretty small change from 1.12 to 1.11 — it was wiped out within a few days and is smaller than the noise in the annual time series:

    Over the past year the range is 20 times the range in that graph.

  14. Gravatar of benjamin cole benjamin cole
    3. October 2015 at 18:05

    Scott Sumner: You raise sensible concerns about mounting national debts. But what do national debts mean when a Japan can monetize debt for years on end without consequence?

  15. Gravatar of Spamolcat Spamolcat
    3. October 2015 at 21:05

    I don’t understand how credible irresponsibility is scientific? Can you explain that?

  16. Gravatar of Nick Nick
    4. October 2015 at 03:25

    All of this makes sense except the part at the end about increasing the US deficit. It’s enough to say, ‘the fiscal part does nothing’. For Japan, maybe it is a disastrous and unnecessary amendment to proper policy. In the U.S. it is merely unnecessary.

  17. Gravatar of Dan W. Dan W.
    4. October 2015 at 06:28

    Benjamin Cole,

    I appreciate your honesty about wanting to print more money. Can you appreciate that this method of faking prosperity fails once people decide what is being printed is worthless? What is the threshold at which money printing transitions from being “legitimate” to being a farce?

  18. Gravatar of Dustin Dustin
    4. October 2015 at 07:52

    Does monetary policy work by any mechanism other than permanent new money? It really just comes down to point-of-entry for the new money. Why not have the Fed fund Treasury subsidies of low-wage workers? Puts the new money right where needed most.

    Besides, “permanent” is really meant as ‘as permanent as it needs to be’. Regarding fiscal policy, permanent injections don’t necessarily raise the national debt (particularly if existing securities are purchased). Even if the injection raised the nation debt, besides the ‘so what?’, it is critical to note that the monetized portion is basically a notional book entry.

  19. Gravatar of Scott Sumner Scott Sumner
    4. October 2015 at 08:52

    Jerry, Yes, they can hold on to the bonds, but only by paying IOR when interest rates rise. So there’s a burden of the debt either way.

    Ray, I agree that menu costs are relatively trivial.

    Jason, I’m not sure what you mean by “small”. Yes, it was only 1%, but it was highly significant in a statistical sense. Just look at the graph! I would not have expected a huge move in the euro on that statement, which only slightly boosted the odds of another QE. On the other hand the euro has fallen fairly sharply over the past year, and that’s widely viewed as a response to moves toward ease (or less contractionary policy) by the ECB.

    What happens a few days later is totally irrelevant for an event study. The key point is that those who believe QE doesn’t matter would have predicted no effect.

    Dustin, I support subsidies to low wage workers, but that should not be combined with monetary policy—it’s a fiscal issue. Nobody elected Yellen, she should not decide where tax dollars go.

  20. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    4. October 2015 at 08:52

    ‘What is the threshold at which money printing transitions from being “legitimate” to being a farce?’

    My guess is, when NGDP begins to rise at faster than 5% annually.

  21. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    4. October 2015 at 08:59

    I see that Kocherlakota just missed a great opportunity to take my advice (and fulfill Scott’s dream);

    ‘Should the FOMC increase or lower short-term interest rates to increase financial stability? It seems clear that on Black Monday, the FOMC could best increase financial stability by easing policy. In contrast, some have argued that the FOMC could have increased financial stability by tightening policy in the mid-2000s.’

    Which only adds to the intellectual confusion, since he didn’t follow by merely saying, ‘Keep in mind that interest rates are NOT the price of money.’

    Also, using a word like ‘ternary’, when you could just say, ‘three-part’ isn’t likely to promote clarity of thought either.

  22. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    4. October 2015 at 11:21

    Since the Seahawks play on Monday night, and it’s 5 months before pitchers and catchers report, here’s a thought experiment. Suppose, in January 2009 Ben Bernanke announced The Fed would begin conducting monetary policy by sending out checks for $2,000 to a randomly selected 10 million American citizens each month. And they didn’t give a damn what happened with interest rates.

    The policy would be continued until The Fed was convinced the economy was recovered into ‘normal’ performance. The Fed would honor those checks upon presentation to them by a bank

    What would have happened to, 1. nominal spending, and 2. interest rates? I say both would rise.

    And, would this have been a better outcome than what did actually happen?

  23. Gravatar of Dustin Dustin
    4. October 2015 at 11:38

    Fair enough. Though presumably such a debt monetization policy could arise from an imposed mandate (and also fit within an NGDP targeting framework). Yellen wouldn’t decide where tax dollars go, just how much debt to monetize. She already has as much power and more.

    Anyway, under any monetary policy framework someone has to get the money first. The only distinction being that the new money comes 1) directly from the Fed or 2) from the Fed via the Treasury seems relatively minor.

  24. Gravatar of benjamin cole benjamin cole
    4. October 2015 at 15:51

    Dan W– my real goal is macro economic prosperity. I do not have a premise or theomonetaristic framework that inhibits me.

    My favorite rate of inflation is that seen most often with the highest rates of economic growth. Probably about 3%.

    Explain Japan? In Japan today each resident has $6,000 paper cash outside of banks. Yes the typical family of four has $24,000 in a drawer. Obviously they have boosted Bank reserves massively in the last couple years. They do not have enough growth and inflation.

  25. Gravatar of Jason Smith Jason Smith
    4. October 2015 at 17:26

    Hi Scott,

    You said:

    “The key point is that those who believe QE doesn’t matter would have predicted no effect.”

    I would think that people who think QE doesn’t matter would predict (e.g. me, but probably others):

    a) the market would respond in the short run (immediately) because a non-zero fraction of the market believes that QE has the effect of devaluing the currency, leading to selling of Euros
    b) over the next week or so that change would evaporate as if it had never happened

    Some people do think QE matters. But that doesn’t mean the market consists only of people who think QE matters (who would sell) or only of people who think it doesn’t matter (who would do nothing and maybe buy after seeing some of the aforementioned selling, heading off the drop in the exchange rate).

  26. Gravatar of Major.Freedom Major.Freedom
    4. October 2015 at 19:23

    There actually is such a thing as “out of ammo.”

    When a paper currency becomes valueless, any counterfeiter of said paper currency would have no ammo left.

  27. Gravatar of benjamin cole benjamin cole
    5. October 2015 at 05:04

    Major Freedom: You are welcome to send all of your Benjamin Franklins to me. If such a endeavor requires more than shoe box, I will come to you with my own paper bag to make it easier on you.

  28. Gravatar of benjamin cole benjamin cole
    5. October 2015 at 05:06

    Patrick Sullivan: don’t be an old fogey. 6%!

  29. Gravatar of Postkey Postkey
    5. October 2015 at 08:59

    ‘As Smallwood points out, the Treasury and Bank drew the wrong conclusion from the apparent success of the combination of fiscal contraction and monetary expansion in the 1980s and 1990s. “In both cases, the contractionary impact of tax rises and spending cuts was counterbalanced by substantial falls in interest rates, and of the sterling exchange rate at a time when our export markets were growing,” he writes. Exports and investment took up the slack left by budgetary cuts.’

  30. Gravatar of Ray Lopez Ray Lopez
    5. October 2015 at 09:02

    Patrick Sullivan sez: ” Suppose, in January 2009 Ben Bernanke announced The Fed would begin conducting monetary policy by sending out checks for $2,000 to a randomly selected 10 million American citizens each month. And they didn’t give a damn what happened with interest rates.”

    That’s illegal. The Fed cannot just print money without receiving some collateral, even if it’s bogus toxic paper from suspect mortgages. But why not extend your ‘thought experiment’ to instead of $2k a random person, make it $200M? Then you’ll get some hyperinflationary effects. Possibly people will quit working for money, and go back to barter or another currency.

  31. Gravatar of TravisV TravisV
    5. October 2015 at 09:36

    Bernanke on CNBC this morning:

  32. Gravatar of Matt McOsker Matt McOsker
    5. October 2015 at 10:01

    Scott writes:
    “worsening a problem that is already becoming increasingly worrisome as the population ages.”

    If the working population can create enough goods/services for the aged population are you still worried? Isn’t that the real issue – supply? And if the domestic working population cannot, then can we import what is needed? I only see this as a problem if we cannot do the latter and former. And if the supply of dollars is purposefully restricted, then I doubt workers will want to produce.

  33. Gravatar of ssumner ssumner
    5. October 2015 at 10:14

    Patrick, That’s a really good speech by Kocherlakota.

    Dustin, Yes, it makes no difference who gets the money first, I have recent posts over at Econlog on that point. If the Fed merely buys bonds and doesn’t cause more spending, then it would be no different from current policy.

    Jason, In any market there will be different points of view, what matters is the market consensus. As far as changes evaporating, that would violate the EMH. I don’t believe there are many $100 bills lying on the sidewalk.

  34. Gravatar of Ben Ben
    5. October 2015 at 10:20

    Mark Gilbert at bloomberg has an idea: El Nino might solve global growth by increasing prices of commodities!

  35. Gravatar of TallDave TallDave
    5. October 2015 at 12:22

    “We’re out of ammo!”

    “What about that infinitely large pile of ammo behind you?”

    “We can’t use that! It’s unconventional!”

  36. Gravatar of Justin Justin
    5. October 2015 at 12:35

    I don’t know how you keep going Scott. I read crap like this everyday. I am coming to the conclusion that arguing with facts is only effective for persuading small fraction of people who follow macro econ.

  37. Gravatar of Jason Smith Jason Smith
    5. October 2015 at 12:45

    Hi Scott,

    You said: “As far as [price] changes evaporating, that would violate the EMH.”

    I think that is actually a statement of the EMH: the information in past price changes does not influence future prices (prices are a memory-less random walk). The information in price changes ‘evaporates’ after they happen.

    If the information imparted by Draghi’s announcement persisted for some period (a week, a month, etc), a case could be made that expected monetary policy moved markets. As it happened, the change was lost in the noise a couple of days later:

    Let’s say someone announces an outbreak of apple blight and the price of apples goes up. But a few days later, the price is indistinguishable from a random walk using the prior empirical variance. Was there information in that price rise? I’d say no — the price of apples today (or Euros) is no different than what would be expected without the announcement. The information of the blight (or QE) — whatever that information was — must have already been “priced in”.

  38. Gravatar of Jerry Brown Jerry Brown
    5. October 2015 at 14:13

    “Yes, they can hold on to the bonds, but only by paying IOR when interest rates rise. So there’s a burden of the debt either way.” Thanks! I see your point (well I think and hope I do to be honest). But am I wrong to think that it wouldn’t be a burden until the Fed decided that it should tighten policy? And that hopefully it wouldn’t tighten policy until NGDP growth was too high, at which point the burden might not be as burdensome?

  39. Gravatar of ssumner ssumner
    6. October 2015 at 05:52

    Jason, I think you misunderstand the EMH; it says price changes do not evaporate over the next few days. If they did there would be easy opportunities to get rich. Just buy the euro right after it dropped on the Draghi announcement.

    Jerry, Yes, none of the debt is a burden when rates are at zero. Even long term debt is not really a burden, as its interest payments are mostly offset by expected price declines. But debt is a long term problem, and the national debt will still be a burden in 100 years, or 200 years.

  40. Gravatar of TallDave TallDave
    6. October 2015 at 06:28

    Jason — prices contain all the past information affecting them. If the apple blight doesn’t move prices, then it was already known, it was too small to affect prices, or the price changed for other reasons (hence Scott’s infamous “never reason from a price change!”). Note that its very hard to know in any case the counterfactual price.

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