Where I’ve failed (so far)

I see market monetarism as a seamless whole, a new worldview that doesn’t just critique current Fed policy, but also questions the traditional way of thinking about stabilization policy.

Some publications have argued that I and the other market monetarists have led to an increased awareness that the Fed can and should do more to promote recovery.  But how durable are those gains?  Perhaps it’s just a passing fad, and when QE3 fails to achieve a robust recovery (as seems likely) the profession will move on to something new—MMT or Austrianism.

In order for the gains from MM to be (semi) permanent, we need to convince the profession that they have been thinking about macro policy in the wrong way. Here are some ideas that I’ve been pushing, where I’ve failed to make any headway:

1.  Money has been ultra tight since 2008.  Even most sympathetic pundits (with one exception) don’t go that far.  Tight money is an implication of Bernanke’s 2003 description of how to ascertain the stance of monetary policy—which looks at NGDP growth and inflation.  Bernanke’s criteria are 100% pure MM, but even Bernanke doesn’t seem to really believe it anymore.  (Update:  Two exceptions)

2.  Tight money caused the severe recession of 2008.  Even sympathetic pundits are more likely to view the recession as being caused by the financial crisis, and instead view monetary stimulus as a potential cure for the recession. This despite the fact that mainstream economists would have predicted almost exactly the current path of RGDP, if in 2007 they’d been told of the future path of NGDP, and that there’d be no financial crisis at all.

3.  Tight money greatly intensified the financial crisis in late 2008.  Even sympathetic pundits tend to see the financial crisis as an exogenous shock, which triggered the severe phase of the recession.  This despite the fact that economic theory predicts a sharp fall in NGDP will trigger a financial crisis.  And despite the fact that previous financial crises (such as 1931, or Argentina 2001) were clearly triggered by falling NGDP, not vice versa.

4.  There is no “wait and see;” the effects of monetary policy initiatives show up immediately in market signals of expected NGDP growth.  Even sympathetic pundits tend to read the tea leaves, watch the ups and downs or real variables (jobs/GDP) and asset prices (stocks/TIPS spreads) for signs that QE3 is “working.”  This is a dead end.  Policy needs to target the forecast—any other approach will lead to chronic disappointment.  We knew within 5 minutes how well QE3 worked.

It is true that the markets themselves might have Knightian uncertainty about the true model of the economy.  But NGDP expectations are the “thing” we need to be steering.  If we do so, then we’ll radically reduce that Knightian uncertainty.  We’ll never be able to steer NGDP directly–controlling NGDP expectations is the end of history, er the end of macroeconomics.

5.  Fiscal stimulus makes no sense.  That’s not quite the same as claiming fiscal stimulus has no effect–I may well be wrong on that point.  Rather my claim here is slightly different.  There doesn’t seem to be any awareness in the blogosphere about the grotesque absurdity of statements like Angela Merkel’s recent claim that Germany needs fiscal stimulus.  You’d expect the usual suspects to be all over poor Merkel, mercilessly ridiculing the insanity of arguing for fiscal stimulus at the same time Germany is pressuring the ECB to squeeze eurozone NGDP ever more ruthlessly.  If Germany needs more AD, how can Greece and Spain and Italy and Portugal and Ireland and Cyprus and Slovenia not need more AD!  But I didn’t see even a mention of this speech.  Could it be that ridicule would lead people to ask some obvious questions about the point of fiscal stimulus, when monetary policy can do the same job without ballooning government deficits?  I can’t say, but it’s obvious than most people still don’t see the absurdity of fiscal stimulus.  Another example would be those who call for Cameron to do fiscal stimulus, when he can simply instruct the BOE to aim for a higher NGDP target.  And if Cameron instructs the BOE to keeping aiming for 2% inflation, he’s essentially asking them to sabotage fiscal stimulus.  Better monetary policy is a necessary and sufficient condition for more AD, at least once you start thinking of the stance of policy in Bernankian terms:

The imperfect reliability of money growth as an indicator of monetary policy is unfortunate, because we don’t really have anything satisfactory to replace it. As emphasized by Friedman  . . . nominal interest rates are not good indicators of the stance of policy . . .  The real short-term interest rate . . . is also imperfect . . .  Ultimately, it appears, one can check to see if an economy has a stable monetary background only by looking at macroeconomic indicators such as nominal GDP growth and inflation.

And not only are we not making progress in those key areas, the internet discussion seems to be sliding backwards, just as it did in the 1930s.  MMT theories of monetary policy ineffectiveness.  Austrian theories of “Cantillon effects.”  Stiglitzian theories of income maldistribution causing a lack of AD.  Theories of “overproduction,” or of workers suddenly lacking the skills to do anything useful.  Theories of “debt burdens” causing the public to take long vacations and produce less output (aka unemployment).  Obviously I could go on and on.

So while I’m happy about the recent success of market monetarism, there’s still much more work to be done.

PS.  Here’s CNBC:

As Japan gears up for an election which could provide it with its seventh change of prime minister in six years, governments and economists from elsewhere in the developed world are looking East for a clue to the long-term consequences of loose monetary policy.

Sigh . . .

Update:  Casey Mulligan provides the first halfway plausible explaination I have ever read as to how debt might reduce work effot:

Guest: The debt overhang is a much bigger issue in a place like Nevada. Nevada is full of people who, whether they realize it or not–I expect they do realize it–if they work, they are working for their banker.  Their family is not going to get any of the proceeds of that. It’s just going to go toward digging their loan a little further out from the bottom of the ocean. So incentives, I’m afraid, are pretty bad in Nevada, California, Arizona. Hopefully getting better, but these incentive changes weren’t uniform geographically.

HT: Patrick



89 Responses to “Where I’ve failed (so far)”

  1. Gravatar of Laurent Laurent
    6. December 2012 at 08:42

    “If Germany needs more AD, how can Greece and Spain and Italy and Portugal and Ireland and Cyprus and Slovenia not need more AD! But I didn’t see even a mention of this speech.”

    Indeed. However, in a world where the ECB did a better job, ensuring 4-5% NGDP growth for the Eurozone, we could imagine that some countries will experience NGDP growth well under or above 5% (e.g. 7% in Germany, or 3% in Spain). What should those country do? Fiscal austerity (stimulus) in Germany (Spain). Or can the ECB establish mechanisms that provide even growth across countries?

  2. Gravatar of Scott N Scott N
    6. December 2012 at 09:06

    If QE3 fails to produce a robust recovery, then I think it undermines MM. This is especially true if the Fed ups its bond purchases to $85B a month at next week’s meeting (as seems likely). I think most people will think that the Fed has done everything it can but it just wasn’t enough.

  3. Gravatar of Scott Sumner Scott Sumner
    6. December 2012 at 09:06

    Laurent, The ECB cannot equalize growth across regions.

  4. Gravatar of Scott Sumner Scott Sumner
    6. December 2012 at 09:09

    Scott N, You said;

    “If QE3 fails to produce a robust recovery, then I think it undermines MM.”

    That’s a rather odd claim given that MM theory predicts a weak recovery from QE, and I specifically predicted it would only have a weak effect. I can a theory be refuted when it’s predictions are confirmed?

    Having said that, your view is the standard view, as I indicated in my post. Very few people understand that the difference between market monetarism and regular monetarism is that we rely on markets, not money.

  5. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    6. December 2012 at 09:23

    ‘I can’t say, but it’s obvious than most people still don’t see the absurdity of fiscal stimulus.’

    This guy is trying to measure the absurdity (and taking a lot of grief for doing so);


  6. Gravatar of nickik nickik
    6. December 2012 at 09:23

    Seams to me that we should change the language. With ‘we’ I mean everybody that belives in the money demand, supply story or you would call it MV.

    Saying ‘tight money’ makes no sence for somebody that does not understand how you mean it. They look at the reserves, call you crazy and keep walking.

    People must understand that volatility changes and that these changes have to be meet with changes in money. I think both most 100% austrians and others must understand this. The only groupes I see that understand this are MM and the free bankers.

    Some points:
    – Stop call it tight money, maybe call it overdemand for money
    – Stop calling for monetary stimulus, call for volatility flatting measures
    – Talk more often about forward looking targeting

    I think the most fundamental point is that money must be elastic to changes in V, otherwise you will always have bad effects.

    > QE3 fails to achieve a robust recovery (as seems likely) the profession will move on to something new””MMT or Austrianism.

    I would prefer if you said 100% austrians or something but ok.

  7. Gravatar of Doug M Doug M
    6. December 2012 at 09:41

    Regarding 4,

    What is your signal that monitary policy is “working”?

    What the heck does this mean?

    “Very few people understand that the difference between market monetarism and regular monetarism is that we rely on markets, not money.”

    You say it isn’t the stock market, and you say it isn’t implied inflation.

  8. Gravatar of jknarr jknarr
    6. December 2012 at 10:06

    1) Money has been tight since 1980. The year 2000 was when the US reverted back to (1870-) trend, having unwound the 1970s, and yet the Fed still kept the clamps on: less NGDP, less income, more debt, lower yields, higher equity P/Es. We’re now some 40% below NGDP trend — similar to the 1930s.

    2) The Fed is still too tight! 4% yoy NGDP is traditional recession-level growth! It’s a starvation diet that preserves the value of the titanic debt load, but does not literally starve households too much. The broad economy does not want or use reserves, you and I use currency — and the economy does not need or want additional lending and debt via banks.

    4) Currency production is better at getting NGDP back to trend than are reserves – look at the 1933-1935 failure of reserve expansion versus the success of currency expansion beginning in 1939. The Fed is doing it again. The question is why?!

    5) Europe is all about the federalization project, and is most certainly not about utilitarian questions of the ECB’s boosting NGDP. Tight money, debt and austerity will force national governments to cede power to the EU. The same thing is happening in the US with the states and citizenry handing power to the Federal government.

    I’d suggest that tight money in the US and Europe is no mistake – it is a political project aimed at centralizing power, and is most certainly not an economic management issue. There is no “failure” when these sorts of interests are at stake. Success is exposing the truth.

    Tight money -> slow NGDP -> low income -> more debt -> zero rates -> debt liquidation liquidity crisis. Most people believe the reverse.

    Don’t judge policies as success, Scott. Washington DC and Brussels have other interests and agendas — it is not an issue of understanding.

    Educating people that the Fed is, in actuality, running a tight-money policy is the success, and you are bleeding-edge on helping people take the “red pill”.

    High debt, high equity P/Es, and zero rates are symptoms of tight money, low incomes, and low NGDP. Low interest rates are a sign of Fed policy failure, not success.

  9. Gravatar of Tyler Joyner Tyler Joyner
    6. December 2012 at 10:08

    It seems to me that MM might be more accurately understood as a method of addressing imbalances between creditors and lenders.

    “Moreover, George Selgin has shown that, contrary to conventional wisdom, unexpected inflation is not unfair to lenders as long as NGDP growth is on target. If inflation were to rise sharply during a period of stable NGDP growth, it would mean that a real shock had depressed the economy. When real shocks occur, it is only fair that debtors and creditors share the loss. Suppose lenders made lots of foolish loans to the housing sector, leading to a subsequent fall in real GDP as housing construction plummeted and workers had to be retrained for other sectors. In that case, NGDP targeting would lead to a period of above-normal inflation, and lenders would bear some of the burden for this misallocation of capital, even in the absence of outright defaults. That would be appropriate.”

    That’s from Scott’s “Defense of NGDP Targeting” link on the right, and to me it’s a core concept of what I understand to be Market Monetarism. First, I agree that it’s appropriate for lenders to share some of the burden for mistakes made. Second, it seems clear that having a debtor default is much worse for the creditor than having inflation negate some or all of the profit on the loan. The key is that both sides have to pay – and that’s also how the moral hazard question is addressed.

    The point of this somewhat off-topic response is that, in my opinion, voters will not understand points #1-5, must less come to a consensus of agreement. What they could understand, and what could hopefully be the basis for bipartisan support, is that 1) Scott’s proposed futures market is a market-based solution which should appeal to conservatives, and 2) the implicit acceptance of periodic inflation can be pitched as helping debtors.

  10. Gravatar of mpowell mpowell
    6. December 2012 at 10:10

    I think you have a very strong argument on targetting the forecast and the ability of monetary policy to get the job done. I think you have a pretty good argument that NGDP expectations drive recessions, though there are some tricky cause-effect claims to be worked out there. Together, these imply to me that central banks could be doing a much better job managing monetary policy (though the ECB will always have a very tough job, even if they wanted to do it right). And I think this is a very important point to try to publicize. You’ve had some success, though I’d agree that it’s been mixed.

    On the other hand, I don’t think you have a very good fiscal policy argument. Let’s ignore the debates about whether monetary policy will offset fiscal policy because that’s a question of politics, not economics. Let’s assume that monetary policy offsets fiscal policy – we can still ask what kind of fiscal policy we would want in different circumstances. Higher deficits lead to tigher monetary policy and visa versa. Even if it doesn’t determine NGDP the level of deficits still matter! And here you really have to get much further into the details to figure out what the right deficit level is, both from an economic health perspective and a social justice one. The answer is not going to be: always go for lower deficits! There is some right level, right? I haven’t read every post you’ve written, but I’ve read many of them and I haven’t seen this developed to the degree that I’ve been persuaded that you have a compelling and complete narrative here. I can see why you’d want to address this issue since the possibility of using fiscal policy is, to an extent, distracting people from your monetary arguments, but wading into this issue offers it’s own distractions since your arguments aren’t as persuasive, imop. And I would add, it’s not just me, I’ve seen some form of this complaint mentioned elsewhere.

  11. Gravatar of Major_Freedom Major_Freedom
    6. December 2012 at 10:20


    1) Money has been tight since 1980.

    Sure, if you compare it to the inflationary 1970s. But if you compare it to what a free market in money would have provided, it’s not so clear.

    I mean, one could say money has been tight in Germany since Weimar. Well sure…

  12. Gravatar of D.Gibson D.Gibson
    6. December 2012 at 10:23

    Yes, there is still much work to be done, but it takes time. Folks are still promoting wrong ideas about 1930s! And while there may not be wide acceptance of your ideas in the US and EU, some other country with a functional political system may show the way. Keep up the fight, it is worth it.

  13. Gravatar of jknarr jknarr
    6. December 2012 at 10:40

    MF — just defining as 1/NGDP, the US got some 40% above trend by 1980 or so. (In 1920 it was almost 50% above trend!) Volcker put the clamps on in 1980, and the pace of NGDP outproduction slowed, and then reversed. The long term trend was hit in 2000 – the US was back on trend growth – but they continued a tight money policy, revealed in slower NGDP growth and lower Treasury yields. Past inflation otherwise is a sunk cost, sailed ship, et cetera – damages savers in Weimar, certainly, but people with relevant skill sets generally get paid in real terms in all inflations.

    You can argue that the 1920s were much the same – the US ran tight money policies (after the WWI above-trend overproduction) that attracted gold to the US and fed the equity market and real estate froth. A key to understanding Scott’s framework is that debt and speculative froth rushes in when money is tight, not when money is loose! Households simply try to substitute speculation and borrowing for income; and yields fall and have a present value effect on prices of assets (pushing them higher). Leverage is a symptom of tight money. Full stop.

    Tight money means that financial assets are more attractive. Loose money means financial assets are less attractive. Tight money produces leveraged booms as incomes and real-world growth is scarce; while money is reliable and “hard” under tight-money. Loose money deleverages and decentralizes growth. Farmers loved silver, bankers loved gold.

  14. Gravatar of Felipe Felipe
    6. December 2012 at 11:05

    I’m with nickik here, a change of language is needed.

    1. Money has been ultra tight since 2008.
    2. Tight money caused the severe recession of 2008.
    3. Tight money greatly intensified the financial crisis in late 2008.

    These three are the same thing, and can be agreed by pretty much everyone if you replace “tight money” with “low velocity”. The problem arises when people say that the Fed cannot (as opposed to will not) accommodate. Perhaps a change of language will make it easier to focus on this core issue?

    4. There is no “wait and see;”

    This can be rephrased as “the fed’s job is to manage expectations”.

    5. Fiscal stimulus makes no sense.

    This, again, is agreed by pretty much everyone, provided the central bank can do its job. When the Fed cannot do its job, then fiscal stimulus has a place.

    Therefore, I would rephrase the things where you have failed so far are actually 2:

    1. The fed’s job is to manage expectations.
    2. The Fed can never not do its job. Or maybe, the Fed can always (be expected to) offset (expected) velocity changes.

  15. Gravatar of Andy Harless Andy Harless
    6. December 2012 at 11:23

    Rather than saying “fiscal stimulus makes no sense” (which may be literally true but is misleading), I would say that, given an effective monetary regime, fiscal policy is not about stimulus. Even with an effective monetary regime, fiscal policy may have value, but the value is not to stimulate aggregate demand per se. For example, as Laurent above suggests, fiscal policy could be used to help distribute demand across regions within a currency zone. (Of course, this would imply that Germany needs to tighten fiscal policy, not loosen it.) Also, it can be used to improve the credibility of monetary policy: many people don’t think the Fed could achieve the kind of NGDP targets that you or I would prefer, and there is a danger that this skepticism becomes a self-fulfilling prophecy, resulting in the Fed’s having to take extreme and extremely volatile actions in order to effectively target its forecast; it would be much easier with support from fiscal policy. Also, if the Fed is targeting NGDP, fiscal policy can be used to pursue goals related to other variables, such as interest rates and exchange rates. (I personally think that very low interest rates are a problem because they make asset prices volatile, so a loose fiscal policy has an advantage in reducing this problem, but the point is more generally applicable to any reason one might think public policy should care about macroeconomic variables that are influenced by fiscal policy.) And of course, apart from concerns of macroeconomic management, there are public finance issues such as tax smoothing and the opportunity cost of government spending which could lead one to argue for running deliberate deficits and/or surpluses at various times.

  16. Gravatar of jknarr jknarr
    6. December 2012 at 11:33

    Sadly, the fact that debt is the substitute good for income makes NGDP targeting a tough row to hoe politically.

    If base money works to stabilize NGDP income (which is a widely-distributed pubic good), then you let debt value vary by definition. Right now, we have a stabilize-debt-let-NGDP-vary policy in place via the combined structures of Federal Reserve “lender of last resort”, “special bank money reserves” and now “interest on reserves” policies.

    In doing so, the Fed lets vary income and NGDP, and instead focuses on preserving and manipulating debt formation – which leads to a wild NGDP cycle. In short, at present, NGDP is starved for the benefit of low interest rates and the present value of debt.

    If policy shifts to stabilizing NGDP – which you and I should earnestly hope for and work towards – then the Fed no longer can stabilize debt (and by extension the banking system). They would have to let banks fail, and keep base money formation on a NGDP track rather than the current policy of shoving reserves around. There would be no need for reserves at all! Currency could do the entire trick of base money!

    Thus, NGDP targeting spells the end of the need for the US Federal Reserve. The US Treasury could simply provide currency (“lawful money”) in line with predefined NGDP targets. Targeting debt/bank stability and letting NGDP vary is the whole purpose and function of the US Federal Reserve. Scott is on to bigger things than he perhaps knows(?)

  17. Gravatar of Philo Philo
    6. December 2012 at 12:14

    “We knew within 5 minutes [of the announcement] how well QE3 worked.” Except that we didn’t know the degree to which what was announced as QE3 was already expected.

    The market reaction to an announcement might even give us the wrong *direction*. Suppose the Fed up to time *t* is not doing any QE, but the market expects it to announce BigQE at time *t*. At *t*, the Fed announces MediumQE. This is better–maybe a lot better–than the previous policy of no QE, but it gets a *negative* reaction from the market.

    To tell how good a policy initiative is, we must simply rely on macroeconomic theory””and it had better be the right theory!

  18. Gravatar of Philo Philo
    6. December 2012 at 12:24

    Well, I take it back. I was thinking of the stock market reaction to an announcement, but you are wanting to look at the reaction in your NGDP futures market (or the nearest synthetic equivalent to that, until we get the real thing), and your criterion is steady NGDP growth of 5% (or 4.5%, or whatever your latest figure is).

  19. Gravatar of Philo Philo
    6. December 2012 at 12:27

    The criterion is not actual NGDP *n* months out; it is the present market expectation for NGDP *n* months out. We need not wait to learn that.

    Unfortunately most commentators would say, that’s not *their* criterion of success.

  20. Gravatar of JoeMac JoeMac
    6. December 2012 at 12:29


    Concerning # 3,

    My recommendation, respectfully, is that you spend more time explaining theoretically and precisely how the NGDP fall in the summer of 2008 and after caused the financial crash. Its not enough to say “A happened before B and therefore theoretically it must be so.” I think you have to show more empirically that the bank runs on the shadow banking system were caused not by the housing crash but by the NGDP fall. Its not obvious to anyone that it wasn’t the housing crash.

    For example, why not go in depth of Gary Gorton work on the panic (his is the best work, imho) and explain how everything he writes is more consistent with the NGDP story than housing story.

    Best regards.

  21. Gravatar of Suvy Suvy
    6. December 2012 at 12:46

    I agree with most everything on here except for a few points. Tight money did not cause the recession, the recession was caused by too much debt and leverage in the private sector.

    There would still have been a financial crisis even if NGDP was targeted. Financial crises happen because there becomes a point where the debts can no longer be rolled over. This is because debt bubbles are essentially Ponzi schemes that require more resources coming in than leaving. In a world of finite resources, it’s impossible for more resources to be coming in than leaving forever. This is why asset bubbles cannot be sustained. When you add debt to asset bubbles, it magnifies the impact because it fragilizes an economy just like it does a firm.

    You cannot ignore the role of debt; it’s quite simple really. If you have a firm levered 30:1, a 4% move their assets wipes out the firm. It’s the same thing for an economy. If you have a highly levered economy in which debt was used to buy assets; the economy becomes highly susceptible to movements in the price of assets. When you have low volatility and a lot of the economy uses debt to buy assets, what will happen when the volatility of assets increases? Asset prices are very volatile and it’s only a matter of time until the volatility of assets increases. When that happens due to some sort of an external shock; the economy blows up much like a firm would.

    Crises are not caused by falling NGDP, they’re caused because the debts cannot be rolled over. Falling NGDP is just a symptom of financial crises, not their cause.

    “Fiscal stimulus makes no sense.”

    We have 12 million people unemployed that aren’t producing anything. That’s a waste of a resource that could be used to produce something. Unless the Fed can come in and use these people for something useful(which it can’t), this resource will continue to be unused. Fiscal policy can help us produce more. Especially when these unemployed people are used to build things like infrastructure and public works that can give us a return to pay off the debt that they accumulate; this could be very valuable. Using unemployed people to build/create useful things is much better than things like Social Security which creates no wealth and produces nothing.

    We need to produce more; we’re not producing enough. We have resources that are not being used by the private sector; let’s use these resources to build things that might be useful. Fiscal stimulus certainly has a value in this kind of a situation.

  22. Gravatar of Suvy Suvy
    6. December 2012 at 12:49

    What leverage does is that it magnifies the impact of shocks. So with a levered economy, a small shock has a much greater impact because it spreads. For example, say I have a firm with a leverage ratio of 30:1 and that leverage was primarily used to buy assets. That’s 29 dollars I owe to someone else for every dollar I have. Now suppose you have other firms in the same situation. If the volatility of assets goes up and I blow up; the other firms don’t get paid. If the other firms don’t get paid, they don’t pay other. This continues and shocks spread through the system extremely rapidly with large amounts of leverage. Leverage and debt fragilizes an economy due to network effects.

  23. Gravatar of jknarr jknarr
    6. December 2012 at 13:27

    Suvy — consider the possibility that debt increases over time because NGDP is suppressed; and NGDP is suppressed because policy is tight.

    I’m a big Minsky guy too, with leverage and balance sheets at the center. But tight money leads to money scarcity which leads to greater debt. Consider a cash-starved mining town high in the mountains — shopkeepers and miners work on credit — obligations expand — until the monetary base expands when the stagecoach arrives with $, then debts clear.

    Scott, I believe, is saying that the monetary base growth was slow in the years before 2008 (which it was at 1-4% yoy, 6% LR average — close to LR NGDP). This is tight money, which (by my account) leads to greater debt and slowing NGDP. IOR as he says was an additional huge tightening since, the extent of which is unknown to us.

    Tight money creates the leverage — more debt, less cash flow. The timing of the event is uncertain, perhaps exogenous, and centered on real estate, but both the slow-NGDP and leveraged-shock conditions were caused by monetary policy. Leverage expands until it stops — the fact that leverage was expanding was a consequence of tight money.

    Re fiscal policy, the economy needs more base money — (and not necessarily excess reserves — I am no longer certain that they are part of the monetary base any longer) — not more (fiscal) debt.

    Only if fiscal policy were done in conjunction with unimmunized-by-IOR currency printing would it make sense — and the currency printing would be the part that matters. (And they would have to liberalize money laundering laws). Consider WWII — huge fiscal expansion, but people overlook the base money currency ramp-up that occurred as well (not reserves).

    By contrast, fiscal policy was (similar to now) applied to poor effect in the 1930s alongside huge excess reserve formation — and it failed badly.

    Expand the currency portion of base money, buy whatever assets the Fed wants on the asset side of their balance sheet — this would be stimulative monetary policy for NGDP.

    But, the Fed, Treasury, and banks hate currency. They cannot easily tax, attach fees, or receive interest on the stuff, and it has carrying and production costs. If anything, I’m sure they would like to get rid of currency just like they got rid of the gold standard.

  24. Gravatar of Morgan Warstler Morgan Warstler
    6. December 2012 at 13:30

    jknarr is welcome relief here.

    Once again, Scott I’m going to link to the movie Swingers:


    Look, please for the love of kee-ryst, just say that the “UNDER NGDPLT THERE WOULD HAVE BEEN NO HOUSING BUBBLE!”

    That’s the #1 headline.

    It is a totally defensible.

    And when you say it, when you claim it, it ALIGNS YOU WITH YOUR COMPATRIOTS. Small govt. conservatives.


    I’d bet, and this is pure instinct… that if you make this specific claim DeKrugman goes out of the way to refute you.

    His spidey sense will go off, and he’ll smell the handcuffs Barney Frank (mortgage) and George Bush (public sector compensation) would have had on, and will not want that story told.

    I can only remember once where DK started to worry about the positive feedback loop of cutting fiscal to stay on the NGDPLT path.

    This woud be like that.

    Look, NGDPLT at 4.5% gets rid of the high and lows, it ends booms early and pulls out of busts faster.

    So, rather than just trying to tell the story beginning at 2008, OVER AND OVER explain why coming into 2008, we’d have being taking evasive actions far earlier.

    The ship’s captain would have been yanking with both hands by 2006 to keep hitting 4.5% .

    It doesn’t matter that homes are savings, blah blah blah…

    People REMEMBER 2004-2007 with bartenders and taxi drivers suddenly owning 5 homes, and living on the flip cash.

    People HATE that is happened.

    Stop telling them it wasn’t such a big deal, and meet the people WHERE THEY ARE EMOTIONALLY.

    It doesn’t matter what true headline gets sales, so before you start lamenting that people are forgetting MM, be honest with yourself…

    You haven’t been putting the meat in the window.

  25. Gravatar of Suvy Suvy
    6. December 2012 at 13:42


    I actually agree with what you’re saying. That’s why I support NGDP targeting in this situation. I would immediately go for an NGDP target of 6% tomorrow. I think the Fed should not only buy assets, but it should also find a way to directly give cash to individuals and force them to use it pay down debt.

    The last thing we want now is tight money as this could easily cause debt/income ratios to rise. One way to decrease debt/income ratios is to increase income(increasing NGDP).

    As for the fiscal policy note, I completely agree. We could give massive tax cuts to individuals while simultaneously financing massive amounts of infrastructure spending and other spending on public works by printing money.

    However, one thing we have to stop are the bailouts to financial companies while protecting the depositors. We did this in the 1980’s with the S&L crisis, we did this again with LTCM, etc. This bails out companies that made bad decisions while encouraging them to do the same thing again. We must have a lot of these firms go bust. That’s why I actually agree with a lot of what Prof. Sumner is saying.

  26. Gravatar of Doug M Doug M
    6. December 2012 at 14:10

    Suvy, Jknarr,

    Soctt has a strange definition of “tight money.” For Soctt, “tight money” is money cration insufficient to maintain the targeted level of NDGP growth. By this definition, every recession is tight money. Sorry, that is a slight exageration as a staglfationary scenario would not be “tight money.”


    “Tight money creates the leverage “” more debt.”

    Actually, this is completely backward. Easy money creates debt. Or, more accurately debt creation is monenatary expansion. Debt destruction — de-leveraging, is what we had in 2008 and 2009.

    Suvy, you are right that too much debt is desabilising. However, not all debt is bad. Plenty of responsible people (and institutions) use debt in way that grows the economy. A world without debt, is a world where the rich have all of the power. That is, no one can start a new venture, unless they already have the wherewithal to launch it. With debts, poeple with good ideas can bring their own ideas to market. Without debt, they must sell their ideas to someone else, and keep less of the reward.

    Jknarr, I agree with you that bailouts are bad policy.

  27. Gravatar of Sarkis Sarkis
    6. December 2012 at 14:10

    MF you said:
    “Sure, if you compare it to the inflationary 1970s. But if you compare it to what a free market in money would have provided, it’s not so clear.

    I mean, one could say money has been tight in Germany since Weimar. Well sure…”

    If you mean a free market in money linked to some commodity (which one is going to be decided by the market participants as you said somewhere else) then that would be even tighter.

    If now you are talking about competition in 100% fiat money that seems impossible. Are you going to be precise about what kind of competition in money are you talking about?

    3rd time I’m asking the same question. You generally accuse Scott Sumner than he ignores questions. Are you any better? I know I know you didn’t see the questions but the same can be said about Scott.

  28. Gravatar of jknarr jknarr
    6. December 2012 at 14:13

    Suvy — recall that the “get the money” cash that we are talking about are Fed liabilities — they are promises to deliver (physical FRNs in the case of bank reserves and ?!lawful money!? in the case of physical FRNs). The asset side are Treasurys, Maiden Lane or whatever it is. The liabilities matter, the assets not so much. I don’t care so much what the Fed owns as what it owes the economy (currency).

    The question is how to deliver base money to individuals (no debt attached, and without going through banks). If transfers are done in the context of a healthy banking system, then what Scott says is spot-on, and it will be delivered into deposits. If currency is delivered into an unhealthy banking environment, then it would sustain economic activity without the participation of the banks — they could fail and fade, and nobody would care.

    In short, I suspect that the natural market for banks is fairly narrow — people with so much cash lying around that they don’t want to keep it at home. It is not for the bulk of the US with a few thousand in savings. In fact, banks are likely welfare-destroying for most of these people. This suggests to me that consumer deposit banks should be much smaller (and more like risk-taking unbacked private client investment banks), and the role of currency (and 1:1 reserved currency “vaults”) should be much larger.

    We have tight money right now (repeat as necessary) — the US is some 40% ($6t) less wealthy now than if a NGDP trend target had been set in 2000. Again, low interest rates are a symptom of tight money. High rates are a symptom of high NGDP.

    Again, if we target NGDP, we get rid of the need for the Fed. The Fed is the banks, the banks are the reserves, and reserves aren’t used by such as you and I. We use NGDP, with currency the ultimate deliverable.

    If targeting NGDP means that we don’t need the banks, then we don’t need the Fed, and then we don’t need their darn FRN notes, either. I’d like real dollars, thank you — printed by the Treasury in the volumes required to keep US output on its long-term NGDP trend — fewer above trend, more below trend. Borrow or lend as much as you like in this context, just don’t look for bailouts from the grotesque kludge that is now the US financial and fiscal system.

    You might have an SSN and tax ID or EBT or whatever — just deposit the Treasury liabilities (USD) into a Treasury direct type account under this code, and let me access it for “real USD” on demand. Thanks!

  29. Gravatar of Sarkis Sarkis
    6. December 2012 at 14:19

    Doug M you said
    “Soctt has a strange definition of “tight money.” For Soctt, “tight money” is money cration insufficient to maintain the targeted level of NDGP growth. By this definition, every recession is tight money.”

    I thought that a recession was defined as 2 quarters of declining RealGDP rather than NGDP. You can have a recession with a stable NGDP or even an increasing NGDP. Are you confusing the two? It appears you are slightly confused.

  30. Gravatar of ssumner ssumner
    6. December 2012 at 14:30

    Patrick, Thanks, I added an update.

    Doug. You estimated expected NGDP growth. It the government wasn’t brain dead they’d create an NGDP futures market.

    mpowell, I completely agree that higher deficits are appropriate in recessions–even Barro agrees!

    Andy, I mostly agree, although am much less worried about bubbles. I fear more Fed disasters, as we will hit the zero bound in future recessions as well.

    Morgan, Sorry, but under NGDP targeting there WOULD have been a housing bubble–just a bit smaller one.

    jknarr, Yes monetary base growth completely stopped in the 9 months after about August 2007 (I don’t recall exactly)

  31. Gravatar of Doug M Doug M
    6. December 2012 at 14:30


    While that is theoretically possible — as I mentioned stagflation — it rarely happens. Inflation and output are corellated.

  32. Gravatar of Doug M Doug M
    6. December 2012 at 14:36

    “It the government wasn’t brain dead they’d create an NGDP futures market.”

    The government doesn’t make markets.

    The government could issue GDP linked debt, and that might encouage a GDP derivatives market to arb the GDP linker and the bullets. Argentina issued some GDP linked warrants as they came out of the 2001 default. The government makes payments if GDP is growth is on or above trend, and doesn’t pay if growth stalls.

  33. Gravatar of Mike F. Mike F.
    6. December 2012 at 14:46

    This is not directly related to the topic at hand but I’m wondering what happens when the government debt that the FED is holding matures? Does the treasury actually pay the FED with dollars (either from taxes or issuing additional debt) or does the Fed sort of just say “don’t worry about it” and retire them without payment (I seem to remember being told in some macro class that the FED remits all “profits” back to the treasury, so if the Gov. paid the FED and they called it “profit” and paid it right back this would amount to the same thing.)

    Another way of asking the same question, I think, would be: when a $1000 T-bill held by the FED matures, in neither the FED nor the Gov. took any action to counter it, would the monetary base shrink by $1000 or would the FED’s balance sheet shrink while the monetary base remained unchanged?

  34. Gravatar of ssumner ssumner
    6. December 2012 at 14:50

    Sarkis, Doug doesn’t realize that Barnanke also has a strange definition. But you make a good point–he should check out NGDP growth in Zimbabwe, or in the US in 1974.

  35. Gravatar of Steve Steve
    6. December 2012 at 15:00

    Scott, I agree with you but I think people struggle with the following:

    monetary policy = where the Fed wants to go
    monetary policy instrument = what the Fed does to get us somewhere
    credit policy = how the Fed, FDIC, and other regulate the real and shadow banks (capital requirements and loan risking)

    By that terminology, we currently have:
    monetary policy: RANDOM DRIFT
    monetary policy instrument: LOW RATES AND QE
    credit policy = EXTREMELY TIGHT (Elizabeth Warren and Barney Frank are sabotaging the Fed’s policy instrument)

    Am I thinking about this the same way you are?

  36. Gravatar of jknarr jknarr
    6. December 2012 at 15:18

    Doug M — debt destruction deleveraging destroys debt, but you’ll see that it created huge demand (and supply) for base money. Is more base money easier- or tighter- policy? Again, debt and base money are substitutes. More of one typically means less of the other.

    It’s a really tough concept to get over, but I have seen it empirically. (And it shows how backward most economists and ananalysts are outside of SS.) Tight monetary policy produces leverage — it suppresses NGDP, makes cash flow scarce, and drives yields down (and P/Es up). Debt is substituted for income (or retained earnings or tax revenue or what have you.)

    M Friedman got it — low interest rates are a sign that money is tight. Everything else follows from this observation. Declining interest rates go hand in hand with slowing NGDP. Below-trend slowing of NGDP is a symptom of too-tight monetary policy. Lower yields attract the marginal borrower, which produces debt. Slowing NGDP makes for a willing pool of lenders, as incomes are being crushed. Tight money controls 1/NGDP.

    Zero interest rates are a sign that there is no further demand to borrow funds — high interest rates are a sign of heavy borrowing demand. Not vice versa. A lack of borrowing now is because of 4% NGDP (which is due to tight money policy) — if NGDP went to 15%, you’d have a line out the door to borrow at 2% for 10y.

    You have to distinguish what we are talking about with money — the Fed controls all base money, and everything else is derivatives on this base money, aka debt — even various M’s demand deposits. With electronic accounts in the banks, your cash is just not there — they have to go out and get a slice of the base on demand. You only own a promise to deliver cash on demand, and you might get interest (once upon a time) as a kicker to mitigate the counterparty risk. Electronic deposits are therefore debt promises, and therefore inferior to base money currency (which is why they give you interest payment incentives for you to deposit, typically).

    Tight money also guarantees the strength of financial assets — low inflation and the like. Tight money drives savers out in search of financial speculation and rewards, because the real economy is not producing incomes.

    The debt boom began in 1980 when the Fed went to tight money and NGDP expansion slowed, and yields fell. Tight money creates more debt. Recall that low NGDP drives low interest rates.

    The idea that low interest rates is easy money is a canard — low yields produce higher present values to cash flows (which are sometimes confused as a liquidity effect). The key is slower NGDP — this lowers yields, which attracts more marginal borrowers and lenders, which creates more debt. Tight policy restricts money and produces debt.

  37. Gravatar of Tim Tim
    6. December 2012 at 15:31

    On points 2 and 3, do you think that its possible that in some countries, like Britain, where the financial sector was a relatively larger part of the economy, that the financial crisis was a more important contributor to the recession than in the US? Like Bernanke’s belief that financial crises make recessions worse and recoveries longer.
    Also, i think you should include something about the EMH, seeing as its important to market monetarism but is still being trashed by the rest of the profession.

  38. Gravatar of Steve Steve
    6. December 2012 at 15:32

    “We knew within 5 minutes how well QE3 worked.”

    This is tricky, because we had Fed speeches hinting at the possibility of considering QE3, and Hilsenrath pieces hinting at QE3, and then the announcement of QE3. It’s very difficult to decompose the market moves for each piece. And we’re actually doing pretty well considering the presidential election and the impending cliff dive.

    “Fiscal stimulus makes no sense”

    I’m fine with deficit spending, the problem is the government doesn’t think about ROI vs cost of capital. High ROI public goods are fine, but neither stimulus nor austerity leave me warm and fuzzy.


    I know what you meant to say, but I’m surprised no one has had fun with this quote:

    “the internet discussion seems to be sliding backwards, just as it did in the 1930s”

  39. Gravatar of W. Peden W. Peden
    6. December 2012 at 15:54


    The internet discussion in the 1930s was vacuous and meaningless, to the point of non-existence.

  40. Gravatar of Doug M Doug M
    6. December 2012 at 16:08

    I stand corrected, ’74 was normal and ’29, ’37, ’53,’58,’61, ’81, ’91, and ’08 are aberations. ’01 wasn’t a recession as there were not two consecutive quarters of negative real GDP. Stagflation is the traditional form of a recession and a co-decline in real GDP is exceptional.

  41. Gravatar of Doug M Doug M
    6. December 2012 at 16:22


    “debt destruction deleveraging destroys debt, but you’ll see that it created huge demand (and supply) for base money. Is more base money easier- or tighter- policy?”

    Intersting point of view. I would say that the money supply is growing when banks are sucessfully converting base money into new loans.

    “M Friedman got it “” low interest rates are a sign that money is tight.”

    I would say has been tight. It says very little about the current stance of monetary policy.

    “Zero interest rates are a sign that there is no further demand to borrow funds “” high interest rates are a sign of heavy borrowing demand.”

    Absolutely true.

    One point on rates. There is more than one rate out there. The Fed targets the overnight lending rate. The real measure then is the shape of the curve. A high intermediate rate and a low short-term rate is easy. A flat or inverted curve is tight.

  42. Gravatar of Keshav Srinivasan Keshav Srinivasan
    6. December 2012 at 16:44

    Scott, I’ve heard that you believe that NGDP targeting is suboptimal, and that the ideal policy would be nominal wage targeting. So what exactly are the practical problems with it?

    Also, what are the problems with an RGDP target?

  43. Gravatar of Rademaker Rademaker
    6. December 2012 at 16:48

    Scott, I must admit that when it comes to the issue of what constitutes “loose or tight monetary policy” it seems to me that your argument amounts to little more than a semantic obfuscation. Among all the possible ways to interpret “loose monetary policy” there are plenty that unambiguously apply to the current US and Japanese situation. Take for example the rate at which the monetary base has been expanded. Is this not unambiguously a form of monetary looseness unlike anything seen before the crisis?

    Say that there are 10 interpretations of “loose monetary policy” and 9 of them apply to the current monetary situation, does it make sense to obsess over the fact that the 10th doesn’t and call everyone wrong on that basis?

  44. Gravatar of flow5 flow5
    6. December 2012 at 17:12

    If the average American understood Bernanke’s mistakes he would have been assassinated long ago. But not even the average economist understands what Bernanke did (& continues doing) wrong.

    The fact is no one will ever understand what happened because it’s impossible to reconstruct the requiste time series. The Fed overlays the data on some of its releases (covering up its own errors).

    Some economic principles are simple. Contrary to Friedman, monetary lags always comprise the same length of time. Bernanke should have known in Dec of 2007 that the U.S. would enter a recession in the 4th qtr of 2008.

    And then some economic principles are exceedingly abstract: the payment of interest on excess reserve balances induces dis-intermediation (where the size of the CB system remains the same, but the size of the non-banks shrink).

  45. Gravatar of jknarr jknarr
    6. December 2012 at 17:15

    Doug M —

    That definition of money supply is as you say a form of debt — for the bank, fractional lending creates an asset (the loan) and a liability (the new checking account). Conversely, the borrower now has the asset (checking account) and a liability (principal plus interest loan).

    If banks are lending, then debt-based M’s expand alongside deposits, CDs, et cetera. The incentive to lend is based on NGDP pace of growth compared with prevailing rates (the level that lenders are willing to depart with their cash).

    Debt is not money however — it is self-extinguishing with a term life, and carries interest costs. Debt is a symptom of economic activity by creditworthy entities, i.e. NGDP, that is unmet by base money availability (tight money). When you consume, and base money cash is scarce, you create debt. You write a check (you have cash in the bank despite your overwhelming mortgage principal), or tap vendor finance (I’ll pay you next week).

    NGDP is controlled by the Fed’s provision of base money. Rates are effectively generated by the status of your balance sheet vis-a-vis other productive users of borrowing at a given level of NGDP. If you are the only good balance sheet on the block, and everybody else is a bad overleveraged credit, then rates are low (borrower’s market). If there are many good balance sheets, then rates are high as they offer higher interest to borrow (lender’s market).

    But policy — the monetary policy stance — revolves on base money, not interest rates or lending. Rates are an outcome from the demand for money, which is determined by NGDP. NGDP is determined by the volume of base money available.

    Long interest rates are largely NGDP — real plus inflation GDP. If the Fed is currently successful (or even anticipated to be successful in the future) in easing monetary policy, long end yields would be rising today, full stop. Tight monetary policy and the anticipation of failure will be met with falling Treasury yields as of today.

    The slope of the curve (positive) suggests that there are still creditworthy long-lived borrowers out there for term borrowing — large corporations, the US Treasury — that can be enticed to borrow as rates fall. As the price of debt rises (yields fall) then more debt supply is enticed onto the market. Tight policy->less NGDP->lower rates->more debt.

    The Fed, nonetheless, controls “money” — the monetary base is the ultimate deliverable for all debt promises, and its scarcity determines the scarcity of all other forms of (largely debt based) money.

    I’ll add that even this monetary base is slippery — there is clear leakage on the IOR side (reserves are no longer cash-equivalent), but the physical currency side is only “that which is printed” — not necessarily that which is available to the US consumer. Some 40% of printed currency is apparently held abroad.

  46. Gravatar of flow5 flow5
    6. December 2012 at 17:17


    No, loose or tight is easy to determine. A recessionary or contractionary monetary policy is defined as one where the rates-of-change (roc’s) in money flows (our means-of-payment money multiplied by its transactions rate-of-turnover or M*Vt) is less than 2% above the trendline in the roc’s for the real-output of goods/services.

  47. Gravatar of Doug M Doug M
    6. December 2012 at 17:32


    NDGP, demand, is the money you have plus the money you are both willing and able to borrow.

    The fed does create base money, but the banks lend against thier reserves which creates much money. The Fed can fairly easily withraw reserves when they want to restict banks ability to create money (tighten policy). They have a bit of a tough time of it when they want to create money. The Fed can increase reserves, but if banks are not intersted in writing new loans or corporations and consumers are not intersted in borrowing money then demand is not going to increase.

  48. Gravatar of Morgan Warstler Morgan Warstler
    6. December 2012 at 17:52

    “Morgan, Sorry, but under NGDP targeting there WOULD have been a housing bubble-just a bit smaller one.”

    like in all things, Scott it’s the 80 / 20 rule.

    Just like with peak oil in the 70’s. Or Texas Hold ’em.

    Everything is fine, until it isn’t.

    The first part of the bubble doesn’t matter – the first 80% causes just 20% of the problem.

    It’s the last 20% of the bubble, where the leverage has been levered, that does 80% of the damage.

    I know you know this if you think about it.

    Game it out, it’s the end game, where HUGE giant bets are being made against the market, chasing good $ after bad, trying to get back to even.

    it is the story, every time.

    Really care to deny it?

  49. Gravatar of jknarr jknarr
    6. December 2012 at 18:09

    Doug M —
    1) Yes, NGDP contains borrowing, but this is self-extinguishing via default and maturity over time — but the debt is ultimately deliverable with base money. As we saw with the Fed in 2008, a sudden debt liquidation requires huge amounts of base money. Zero rates on the short end suggest that base money is more in-demand than debt (which is floating value plus counterparty risk). Borrowing is classic “taking demand forward” — the base money will have to be there in the future to deliver the obligation. Debt ultimately extinguishes.

    2) The other side of the base is currency — and money is very much in demand at present (demand is its whole purpose of money of course!) The problem is that the Fed has insisted on routing policy through the banks at zero rates — a nonsequitur. The demand, as you point out, is not there *at this level of NGDP*.

    Again, if NGDP were to rise to 15% yoy, demand for loans would skyrocket. Zero rates are a symptom that NGDP is too low to entice borrowers. NGDP is low because of tight money.

    If reserves are not working, then why not expand the base via currency printing that you or I could actually use (not only the special-currency-reserve for balance sheet impaired banks).

    Buy whatever assets on the other side that tickle the Fed’s fancy (how about capitalizing the bonds of an national infrastructure bank — I’ll provide the equity upon request).

    Bottom line, the US NGDP economy is gaunt and starved for base money — it’s that the Fed has been so far unwilling to provide it. I’d wonder why, but their interests speak for themselves.

    The Fed is happy to provide reserves — into its magic charmed reserve circle of bank fees, money laundering, taxes and interest, where things are fat and the living easy. But gosh darn it, people are simply not borrowing at 4% NGDP?! Not a surprise.

    But rest assured that there is plenty of demand for base money — just not fractional debt. Currency is like a dirty word to the Fed — filthy lucre!

  50. Gravatar of Morgan Warstler Morgan Warstler
    6. December 2012 at 18:45


    The only real question is this: do you still want to print money, if I’m the guy who gets to decide how to spend it?

    Meaning, not based on your current assumptions of the political situation, but instead, someone determined to use the newly printed money towards and for my own desired social structure and system?

    You don’t get to know how it will be spent, you only get to decide to print it and let me do whatever I want.

    Do you still want to turn on the presses?

  51. Gravatar of Morgan Warstler Morgan Warstler
    6. December 2012 at 18:48

    Sumner, one more from Tyler:


    I really REALLY really want you to admit, that if the last 20% of RE boom didn’t happen, that would have saved 80% of the real gut punch.

  52. Gravatar of Doug M Doug M
    6. December 2012 at 18:59

    if NGDP were to rise to 15% yoy, demand for loans would skyrocket. Zero rates are a symptom that NGDP is too low to entice borrowers. NGDP is low because of tight money.

    or if demand for loans were to skyrocket NGDP would rise to 15%

  53. Gravatar of Major_Freedom Major_Freedom
    6. December 2012 at 19:13


    Tyler writes:

    Was it so hard for investors to say to themselves?: “I see that one price (short-term rates) has changed in favor of greater housing investment. But other parts of my brain tell me that real estate prices won’t go up forever, levered positions are dangerous, and that I should be cautious.”

    If any investor said that to themselves, then they would have lost market share to those investors who did not. After all, nominal profits in unsustainable lines can be made…for a time. If investors didn’t take the plunge, so to speak, then monetary policy wouldn’t even give the economy any “oomph”. In other words, if you say that monetary policy “stimulates” economies, you are already presupposing that investors are not acting exactly the way they would act in a free market without the central bank!

    It’s funny when those who believe central banks “stimulate” the economy find the time to deny the very implications of their own worldviews.

    Ah well…

  54. Gravatar of ThaomasH ThaomasH
    6. December 2012 at 19:18

    I agree with 1-4. On fiscal stimulus, it seems to make a lot of sense as long as there are unemployed resources, whatever NGDP is or is not doing. Unemployed resources mean that the costs of projects fall and so investments that did not pass cost benefit tests at full employment may pass with unemployed workers and low real interest rates. And the number of people who have high marginal utilities of consumption will increase, raising the optimum level of transfers. Is this a disagreement with the essence of your point 5?

  55. Gravatar of Major_Freedom Major_Freedom
    6. December 2012 at 19:22


    If you mean a free market in money linked to some commodity (which one is going to be decided by the market participants as you said somewhere else) then that would be even tighter.

    Perhaps post 2008, but definitely not over the period 2002-2009. That’s the thing with fiat money and credit expansion heretofore. Huge upswings and huge declines.

    A free market in money almost certainly would not have created the quantity of credit expansion 2002-2005 that even John Taylor believes blew up a housing bubble.

    If now you are talking about competition in 100% fiat money that seems impossible. Are you going to be precise about what kind of competition in money are you talking about?

    I will not be precise about what exactly occurs in a free market of money, for the same reason I will not be precise about what exactly happens in a free market of cars, or computers, or food. All I can tell you are the general principles and logical constraints.

    3rd time I’m asking the same question. You generally accuse Scott Sumner than he ignores questions. Are you any better? I know I know you didn’t see the questions but the same can be said about Scott.

    That’s a tough question to answer. When it comes to Sumner answering his posters, he answers lots of questions. More than most bloggers. Maybe he is even number one on a pound for pound basis (i.e. number of posts and number of replies). I am not sure.

    He has just decided never to answer my questions. There is a moratorium on my posts. So I think I am justified in saying what I said. I was making a general statement about him not responding to everyone’s posts. Just mine. I wouldn’t look too much into it. I am not doing it for his benefit anyway. It’s not like he’s easily convinced of that which contradicts his life’s work. It’s tough for anyone to take.

  56. Gravatar of Major_Freedom Major_Freedom
    6. December 2012 at 19:24

    Sorry, “I was NOT making a general statement…”

  57. Gravatar of jknarr jknarr
    6. December 2012 at 19:26

    MW — debt is degrees of slavery, decentralization is good. I’m down with that. That’s an ancient concept and reality. The DC Fed’s insistence on generating debt-driven demand creates… well, you know. The truth is that borrowing and lending and leverage are all great — phenomenal and efficient stuff! But let’s do it in the context of competing over a SR fixed supply of currency (gold, yap stones, it does not matter, as long as it is generally fixed in the SR and everybody knows it, no tears).

    The now-flexible and discretionary “who gets the money” issue is one of Fed liabilities — the monetary base. Banks get reserves like a crying child gets ice cream — and they have already turned on the presses (and are getting paid for it! IOR sukaz!). You and I would use currency, and they have not done much at all there — so yes, printing currency would be a democratic decentralized act that separates the ROUS from the DC-WS debt axis. Farmers love silver, bankers love gold.

    As an individual, you have the chance to lay your hands on some of that action — go 100% base money reserved. March to your bank and withdraw cash. You may be placed on a government watch list, because they have deemed currency as suspicious activity, but if you are unhappy with how the money is distributed, distribute some base money to yourself — you probably have a better credit profile than your bank anyway, and there is no interest benefit attached. But it forces the Fed to produce, provide and deliver the base money of currency — in effect, you reveal to them that you have lost faith in the reasonableness, usefulness, and solvency of the reserved banking system.

    Otherwise, NGDP targeting implies the irrelevance of the Fed and the potential for direct base money distribution from the Treasury to the citizenry. That would be great. Never gonna happen, at least in the form you would choose.

    They will go currency-free as soon as they are able — during the *real* upcoming crisis, just like the gold standard — and thereafter you will be watched, judged, and VAT-ted during every economic action you take (they may provide a sweetener of direct base money distribution tho).

    Whoever gets to run the big money machine and spend the dough may be the least of your concerns.

  58. Gravatar of jknarr jknarr
    6. December 2012 at 19:42

    Doug M —
    “or if demand for loans were to skyrocket NGDP would rise to 15%”

    The debt is there, it has to be paid back — and can’t be discharged without increased cash flow or default. There are simply not enough healthy balance sheets around to borrow — it’s not an everlasting oil well. Low rates are a symptom of not enough creditworthy borrowers at this level of NGDP.

    Either default and clear the balance sheet decks for new borrowers at this level of the monetary base, or reduce the debt in real terms via 1/NGDP inflation. The existing cash flows are already hypothecated. If zero does not spark off borrowing, I’d consider reassessing my premise and not holding my breath for a surge of lending.

    Note that interest-bearing debt is not necessarily monetary policy! AKA don’t get bogged down in liquidity traps at the zero bound navel gazing. Expanding the currency base always works to reduce 1/NGDP. Full stop. Look at Zimbabwe.

    But, the Federal Reserve, US Treasury, and commercial banks hate physical hard currency — or else they would not have gone off the gold standard, then stripped FRNs to a shell of their former deliverable for a “dollar” status. Physical currency decentralizes — which is in your and my interest — but they would rather have centralization and keep you begging at the bank.

  59. Gravatar of Tom Tom
    6. December 2012 at 20:02

    Scott, a huge problem you totally overlook is the definition of “normal”. The post housing bust/ financial crisis is not normal. But neither can it be claimed that the 2002-2006 housing bubble trends were “normal”, because they were irrationally exuberant. House prices always go up.

    A second problem you have is the failure to deal with massive mal-investment, as happened in housing; and in the stock market 1995-2000, with Greenspan articulating the irrationality end of 1996, to be followed by 3 more years of internet bubble. (unlike the 30s, w/o internet. ha!)
    Not normal.

    Post 1989, with implosion of USSR? Not normal.
    80s? 70s? 60s? 50s? 40s? 30s?
    There is no “normal”.
    Or, it’s all sort of equally “normal”.

    Too much debt does fragilize the economy, but not-quite too much debt, like not-quite too much exercise/ training, is the way to optimize growth. In the economy or in body-building.

    The new normal in Japan is one of increasing percentage of ederly, and 2 “lost decades” (and counting). In a still fairly rich, but not getting much richer, society.

    Perhaps that is where NGDP targeting will more likely be tried first. And if they do, and it starts to work, what will be “normal”?

  60. Gravatar of Saturos Saturos
    6. December 2012 at 20:34

    Keshav, the likes of Barney Frank would blow their tops if they thought the Fed was deliberately holding down wages, or some such (also see: Interfludity blog). And the Fed does not ultimately control real variables, its job is to keep money neutral not to dictate the effects of money (neutral or not) on real variables. You can’t target a level path for RGDP 50 years out, or any years out for that matter. We would be back to steering a ship by looking at the waves it makes. Plus, the sixties.

  61. Gravatar of Saturos Saturos
    6. December 2012 at 20:35

    Seeing lots of new commenters round here these days – clearly Scott has been doing something right…

  62. Gravatar of Greg Ransom Greg Ransom
    6. December 2012 at 20:46

    You are shadow boxing yourself, Scott. no one brought his up but you, and all Austrians have flat out told you that your discussiion of “Austrian theories of “Cantillon effects.” ” has nothing to do with either one of these as far as Hayek’s macro go, which is the macro the BIS economists used to predicted the coming bust of the 00s.

    Hayek’s macro — properly incorporating Horwitz, Yeager, Selgin& others — was the new predictor of what actually happened and the best explainer of what happened after the fact.

    Yet you Scott know nothing of this research.

    And you throw insults instead.

    That helps.

  63. Gravatar of ssumner ssumner
    6. December 2012 at 20:58

    Tim, You are right about finance being more important to Britain–oil also plays a role in their recession. They also have some stagflation from bloated government, which grew dramatically under Labour.

    And most of the profession doesn’t understand the EMH. Indeed lack of understanding of the EMH by macroeconomists was one of the major causes of the recent recession.

    Doug, NGDP usually declines in American recessions, but not always. The government should create and subsidize trading in an NGDP futures market–call it a prediction market if you wish. They can and often are created artificially, even when then is no demand for such a market.

    Keshav, Wages are hard to measure, and it would be politically difficult to target wages.

    Rademaker, It would be completely absurd to use the monetary base. That soared in the early 1930s, but only a lunatic would say money was “easy” during the early 1930s. So that won’t work.

    Money was tight in 2008 by Mishkin’s definition–he wrote the number one money textbook. Money is tight by Bernanke’s defintion, he’s the world’s number one monetary policymaker. Money’s tight by Friedman’s definition, he’s the greatest monetary economist of the 20th century. Who do you have on your side? And what’s your definition, now that the base obviously doesn’t work.

    Saturos, Yes, I wish I had more time to answer all the comments, but I don’t. Thanks for helping.

  64. Gravatar of ssumner ssumner
    6. December 2012 at 21:03

    Greg, I don’t do blog posts on Hayek’s macro, so if you are talking about Hayek then you are not address my blog posts. You should comment on the content of my blog posts, not what you are interested in. If you are totally obsessed with Hayek then start you own blog and talk about Hayek all day long. I have no interest in Hayek’s macro–he’s not an important macroeconomist, so take your discussion of Hayek elsewhere.

    I’m losing interest in talking to Austrian commenters who think easy money makes bond prices rise. Life’s too short for such nonsense.

  65. Gravatar of dtoh dtoh
    7. December 2012 at 00:33

    If I can, I would respectively like to offer a suggestion here, which is that I think the failure by mainstream economists to more fully understand and embrace market monetarism is due almost entirely to an insufficient understanding of the mechanism through which monetary policy works. Even economists seem to have a hard time accepting macro principles unless they can understand mechanisms at a micro level.

    Rather than explaining the very important triggering mechanism which financial asset prices play, you have instead focused too much on the general HPE which occur subsequently in the process. I think the HPE is difficult to accept unless you first realize there is an initial financial asset price triggering mechanism. You yourself have cited the Bill Gates Ferarri analogy. Not only is this correct, but it conforms with economists’ real world views and thus makes it difficult for them to understand how an increased supply of money by and of itself can result in increased spending on real goods and services.

    I have spoken to numerous economists and read various objections to MM. The three objections I always hear are a) monetary policy doesn’t work at the ZLB because interest rates can go no lower, b) you can put money in the market but that doesn’t mean anyone will spend it, or c) you may be able to boost NGDP but all of the increase will be in inflation rather than real growth.

    IMHO emphasizing the triggering mechanism of financial asset prices responds to all of these objections in a manner which is extremely straightforward, relies only on the most well accepted and non-controversial economic principals, frames the argument in the well understood neo-Keynesian context of “lower interest rates spur investment”, and thus is not only easy to understand but also impossible to refute.

    The crucial part of explaining the financial asset price transmission mechanism is a) emphasizing that financial asset prices need to be measured as real expected returns (or more specifically as the inverse of real risk adjusted expected annualized returns) and b) that the increase in AD is caused because economic players are induced to exchange financial assets for real goods and services.

    The only way to refute the second point is to reject the most fundamental economic principles by arguing either that a) people are not rationale, or b) that indifference curves are not downward sloping or not convex.

    The first point (measuring financial asset prices in real terms) is important because it easily refutes the argument that monetary policy is not effective at the ZLB. It’s obvious that the ZLB is only a nominal limitation and that there is no limit as to how low real rates can go by pushing inflation higher. The only possible counter-argument is that people are irrationale and look only at nominal prices (rates) and not real rates. (BTW – it amazes me that people are not immediately ridiculed whenever they advance the nominal ZLB argument).

    The emphasis on real prices (rates) also refutes the argument that any increase in NGDP will be in the form of higher inflation. If that were in fact true, we know that higher inflation rates equals higher real financial asset prices (lower real rates) and that higher financial asset prices will result in an exchange of financial assets for real goods (i.e. an increase in RGDP…not just inflation).

  66. Gravatar of Rien Huizer Rien Huizer
    7. December 2012 at 00:40


    A very good overview but one omission: “fiscal stimulus” is first and foremost a politicians’ tool, not an economists’. Politicians compete by offering solutions and their “solution” cannot be the work of an independent (and in Germany’s case, “foreign” central bank. Keynesianism is (ao) a rationalization and legitimization of what politicians need to function in a democracy.

    And if one accepts that and recognizes the widely perceived depletion of fiscal policy space, maybe this time politicians may be forced to adopt collective action and allow the technocrats to have good policy. So that depleted fiscal policy space should give MMers reason for cheer, though only for a while. Politicians will go back to their normal behaviour once the MMcrowd has returned the economy to reasonable levels of functioning.

    In this sense, Merkel’s behaviour is entirely rational: she has some policy space, faces an election and a public that does not approve of actions that would give immediate benefit to the peripherals (and most educated observers in Germany see supply side problems in the peripherals, which will take time and effort but have a better chance of succeeding under “transition economics” style conditions).

    Meanwhile German policymakers are also clearly pleased by the (unintended) consequence of the current lack of good policy: a weak EUR. And interestingly, celebrated mr Svensson from the Riksbank in Sweden loves (monetary) policy for very open economies that results greater FX competitiveness.

  67. Gravatar of Saturos Saturos
    7. December 2012 at 02:28

    “If you are totally obsessed with Hayek then start you own blog and talk about Hayek all day long.”

    Scott, he’s kinda already done that.


    Greg Ransom IS the Hayek guy. I thought everyone knew that.

  68. Gravatar of Saturos Saturos
    7. December 2012 at 04:29

    A list on which Bernanke still has Scott outranked: http://www.forbes.com/powerful-people/

  69. Gravatar of Saturos Saturos
    7. December 2012 at 04:31

    To be clear, Scott is not on that list. (Don’t want to give him a heart-attack.)

    I notice that Sebelius is, though…

  70. Gravatar of Saturos Saturos
    7. December 2012 at 04:36

    Dylan Matthews just endorsed NGDP targeting (he reads Evan Soltas, I think): http://www.washingtonpost.com/blogs/wonkblog/wp/2012/12/06/ten-ways-to-reduce-inequality-without-raising-tax-rates/

    But he also has other not so brilliant suggestions, such as “devalue the dollar to reduce inequality”. There’s a post on this blog he should read…

  71. Gravatar of Saturos Saturos
    7. December 2012 at 04:37

    The last one, though… was an issue that I was not aware of.

  72. Gravatar of Saturos Saturos
    7. December 2012 at 04:52

    Breaking news – ECB about to cut rates, according to Bloomberg.

  73. Gravatar of Ritwik Ritwik
    7. December 2012 at 05:51

    “We knew within 5 minutes how well QE3 worked.”

    Can we give up all pretense and agree that propping up asset prices is the be all and end all of monetary policy, then? Whether through open market operations or open mouth operations.

  74. Gravatar of ssumner ssumner
    7. December 2012 at 06:35

    dtoh, Economists who believe in the liquidity trap, ipso facto believe Fed policy cannot impact stocks, exchange rates, etc.

    Rien, So the Germans want to shoot themselves in the foot because doing something better for Germany might also help the PIGS? Or am I misreading you?

    Saturos, I thought he endorsed it long ago?

    Ritwik, No asset prices are not the policy goal, they are an indicator of how well the market expects various actions to influence the goal variable (NGDP.)

  75. Gravatar of W. Peden W. Peden
    7. December 2012 at 07:57


    Shouldn’t that be “propping up AND pushing down”?

    Scott is right that asset prices are not the goal, but I also think that they’re more than just an indicator. They are also a transmission mechanism between monetary policy and credit expansion.

  76. Gravatar of Rien Huizer Rien Huizer
    7. December 2012 at 09:35


    “So the Germans want to shoot themselves in the foot because doing something better for Germany might also help the PIGS? Or am I misreading you?”

    No you did not misread the part concerning the apparent willingness of the Germans (ie the German public/electorate) to more or less starve the peripherals into supply side reforms at some expense to the German economy itself.

    However I doubt that the German public (a problematic term, likewise “the Germans”) is making a conscious and well informed trade-off here. It all appears pretty emotional. There is of course the double trauma-cum-recovery of the Reunification and Hartz-reform experiences: the German public has learned that painful reform may have its reward and hence it may project that onto the peripherals. As you may have gathered from Kantoos’ blog, notions of demand side oriented policy are not widely accepted in Germany among academics and specialist journalists, let alone the general public. This is a country with a very long history of a division of labour between CB and fiscal where the CB focuses on currency stability and leaves the business cycle to the politicians, within a consensus that the country needs to be competitive externally, but not via currency weakness. That state of affairs may not be rational, and highly problematic within the EUR (where protectionist populism is always close to the surface) but the current political leadership in Germany is not (publicly at least) signalling a break with the old faiths. Meanwhile an important constituency, manufacturers for world markets, are enjoying a weak EUR. Trying to tell the Germans they would be better off with a different policy is useless.

    Besides, as mentioned before, Sweden’s rapid recovery from the financial crisis had a lot to do with deliberately engineered SKR weakness, applauded by several MM luminaries..German politicians are having the same effect, without sacrificing political capital. They are blessed with a very useful electorate that likes to ignore the fact that Germany is no longer a medium-sized open economy but now the industrial heart of a very large, much less open one.

    Top priority for mrs Merkel (curiously the name of her former husband despite having remarried with a Dr Sauer, probably a more appropriate name under the circumstances) is the upcoming elections and any economic policy change is subordinate to that. I guess any rational politician would do the same in her position.

  77. Gravatar of dtoh dtoh
    7. December 2012 at 09:57


    You said,
    dtoh, Economists who believe in the liquidity trap, ipso facto believe Fed policy cannot impact stocks, exchange rates, etc.

    They don’t believe that they can impact nominal prices. You, Scott, should point out to them that they need to look at real prices not nominal prices.

  78. Gravatar of Saturos Saturos
    7. December 2012 at 10:16

    Ritwik, if we had an NGDP futures market Scott wouldn’t care about other asset prices as far as monetary policy was concerned.

  79. Gravatar of Suvy Suvy
    7. December 2012 at 12:12


    You’re explanation of how low interest rates represent easy money and how that leads to asset bubbles is very interesting. So the basic idea is that high growth rates combined with low interest rates are the time when speculative bubbles can occur. So wouldn’t there be two ways to deal with that. You could either increase NGDP or decrease NGDP. For example, in the late 1990s CPI was below 2% for a good period while NGDP was relatively high. Wouldn’t a good way to prevent an asset bubble at that time be to reduce NGDP even lower? You might have to create some deflation, but that might work just as well as increasing NGDP. I’m not saying that shooting for a lower NGDP target in that situation is desirable, but would that also not work in controlling asset price inflation and excessive credit growth.

    Doug M,

    I agree with you on debt, what I don’t like debt being used for is asset price speculation. I don’t care if it’s used for business investment. However, when debt grows at 3-4 times NGDP, that level of debt growth is obviously not sustainable. At that point, the economy has to be cooled off doesn’t it?

    Also, this is a question for anyone out there. Do you think the type of debt that’s taken on during a speculative boom has an affect on how quickly the debt is cleared and how quickly the economy recovers? The reason I ask this is because in the Great Depression, the type of debt that was primarily there was excessive business sector debt, but now we have excessive household sector debt (along with the financial sector). It would seem to be that business sector debt would clear much quicker than household sector debt would and that might have an impact on the severity of the recession/depression/contraction and the length of the recession/depression/contraction too.

  80. Gravatar of jknarr jknarr
    7. December 2012 at 16:30

    Suvy —

    If you ever see high growth rates and low yields, borrow to the hilt and go buy assets. The point is that they don’t tend to go hand in hand for that very reason — people borrow more in expansions than depressions. Yields head higher as a consequence. Yields are a symptom, not a cause.

    Base money determines NGDP levels, yields simply discount NGDP growth. Tight money means slower NGDP, which makes income more valuable, which boost the price of bonds, which leads to more bond supply. Slower NGDP and more debt means more leverage — which might be bubbly by definition.

  81. Gravatar of jknarr jknarr
    7. December 2012 at 16:31

    Sorry, borrow less in expansions because income is plentiful and borrowing is expensive.

  82. Gravatar of Negation of Ideology Negation of Ideology
    8. December 2012 at 06:53

    Well, I think you may be underestimating how much headway you’ve made. I know I’m not typical, because I’ve always believed #5 “Fiscal stimulus makes no sense.” I’ve never believed in the liquidity trap either. I believed in the Sumner Critique before I ever hear of Scott Sumner – I just didn’t have a name for it (Friedman’s thermostat might be the same thing). I did agree with #3 before I started coming here (discovered from a link from a Ponnuru column at NRO). Now I understand and believe all 5 – that’s progress.

    I think the problem is people don’t think these things through. Take #5. If you give people two choices during a recession:

    A. Hold the Fed monetary base constant and have the Treasury borrow and spend to fight the recession.

    B. Hold Treasury spending and taxing constant and expand the Fed monetary base to fight the recession.

    Most people recoil in horror at B and say “That’s just printing money! You can’t do that. Inflation!” Now I understand why people who’ve put no thought into it think that way, but why do politicians and economists?

    It seems to me that if A works it is by speeding up velocity or “putting money into circulation”, meaning it is no less inflationary than B – unless the government spends the money more efficiently than the private sector.

  83. Gravatar of ssumner ssumner
    8. December 2012 at 14:34

    dtoh, They don’t think the Fed can impact real or nominal prices.

  84. Gravatar of ssumner ssumner
    8. December 2012 at 14:37

    Rien, You said;

    “I guess any rational politician would do the same in her position.”

    Regardless of whether this is true or not, I was primarily taking shots at bloggers, not German politicians.

  85. Gravatar of dtoh dtoh
    8. December 2012 at 15:02

    You said,

    dtoh, They don’t think the Fed can impact real or nominal prices.

    Surely that’s not true. If they believed that they would certainly advocate that the Fed extinguish the entire Federal debt at no cost to the economy.

    You may not believe me, but most economists think the ZLB is a problem simply because they haven’t thought through the difference between nominal and real rates.

  86. Gravatar of ssumner ssumner
    9. December 2012 at 06:05

    dtoh, They most certainly do believe that. If they thought it could influence asset prices, they would not argue that it couldn’t influence AD. They have been very clear that (in their minds) it can’t even influence asset prices. The Fed can’t even reduce real interest rates, or exchange rates.

  87. Gravatar of Dtoh Dtoh
    9. December 2012 at 13:06


    Think this through!

    Almost no one disputes that Fed can impact asset prices and AD when not at the ZLB.

    It’s only at the ZLB that they don’t believe the Fed can impact AD.

    This implies one of three things.

    1. The Fed can’t impact inflation at the ZLB so we can retire the national debt for free.

    2. The Fed can impact inflation but real rates (real asset prices) don’t matter to investors, I.e investors are irrationale.

    3. Ecomists have not thought through the difference between real and nominal rates (asset prices).

    I don’t see how this is even remotely debatable and so it seems to me the path to convincing economists and achieving what you have failed to do so far is very clear and very easy.

  88. Gravatar of ssumner ssumner
    9. December 2012 at 17:31

    Dtoh, Good luck, I’ve been making those arguments for 4 years.

  89. Gravatar of Dtoh Dtoh
    9. December 2012 at 18:42

    You’ve got to dumb down your argument when dealing with idiots. Seriously if you explain this in terms of real asset prices anybody can understand it.

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