The economy is cyclically depressed. It is not clinically depressed.
That is all...
Gianluca Cafiso and Roberto Cellini:
Fiscal consolidations for debt-to-GDP containment?: [W]e examine whether a fiscal consolidation can reduce or contain the debt-to-GDP ratio…. [T]he restrictive effect of a fiscal consolidation on GDP might well offset the deficit reduction and cause an undesired debt-to-GDP ratio increase. As a matter of fact, this is an outcome which cannot be excluded a priori (Gros 2011, Krugman 2011, Sutherland et al 2012) and which has a clear theoretical reference in the fiscal multiplier literature (see, among the others, Cwik and Wieland 2011 for their focus on the Eurozone).
Our analysis covers a selected group of EU countries observed over the period 1980–2009…. Fiscal consolidations appear to be associated with a favourable contemporaneous evolution of the debt-to-GDP ratio when one considers the EU countries under scrutiny as a whole…. [T]he medium-term response (namely, the cumulative effect in the current and subsequent year) is adverse in most countries… fiscal consolidations are more likely to be associated with a two-year cumulated debt-to-GDP ratio increase in general…
Bernhard von Bülow:
'Hammer and Anvil' Speech before the Reichstag: The English prime minister said a long time ago that the strong states were getting stronger and stronger and the weak ones weaker and weaker…
We don't want to step on the toes of any foreign power, but at the same time we don't want our own feet tramped by any foreign power (Bravo!) and we don't intend to be shoved aside by any foreign power, not in political nor in economic terms.(Lively applause.) It is time, high time, that we… make it clear in our own minds what stance we have to take and how we need to prepare ourselves in the face of the processes taking place around us which carry the seeds within them for the restructuring of power relationships for the unforeseeable future. To stand inactively to one side, as we have done so often in the past, either from native modesty (Laughter) or because we were completely absorbed in our own internal arguments or for doctrinaire reasons -- to stand dreamily to one side while other people split up the pie, we cannot and we will not do that. (Applause.) We cannot for the simple reason that we now have interests in all parts of the world…
The rapid growth of our population, the unprecedented blossoming of our industries, the hard work of our merchants, in short the mighty vitality of the German people have woven us into the world economy and pulled us into international politics. If the English speak of a 'Greater Britain;' if the French speak of a 'Nouvelle France;' if the Russians open up Asia; then we, too, have the right to a greater Germany (Bravo! from the right, laughter from the left), not in the sense of conquest, but indeed in the sense of peaceful extension of our trade and its infrastructures…
We'll only be able to keep ourselves at the fore if we realize that there is no welfare for us without power, without a strong army and a strong fleet. (Very true! from the right; objections from the left ) The means, gentlemen, for a people of almost 60 million -- dwelling in the middle of Europe and, at the same time, stretching its economic antennae out to all sides -- to battle its way through in the struggle for existence without strong armaments on land and at sea, have not yet been found. (Very true! from the right.) In the coming century the German people will be a hammer or an anvil.
That is all.
"21 Jump Street" grossed $36.3 million its first weekend...
John Cochrane, 2012:
The Grumpy Economist: Stimulus and Etiquette: This is all ridiculous, of course. No, I -- and certainly Bob Lucas and Gene Fama -- am not making the "Say's law" fallacy. We all understand the difference between [accounting] identities, budget constraints, and equilibrium conditions…
John Cochrane, 2009:
If the government borrows a dollar from you, that is a dollar that you do not spend, or that you do not lend to a company to spend on new investment. Every dollar of increased government spending must correspond to one less dollar of private spending. Jobs created by stimulus spending are offset by jobs lost from the decline in private spending. We can build roads instead of factories, but fiscal stimulus can’t help us to build more of both. This form of “crowding out” is just accounting, and doesn't rest on any perceptions or behavioral assumptions…
Eugene Fama, 2009:
There is an identity in macroeconomics... private investment [PI] must equal the sum of private savings [PS], corporate savings (retained earnings) [CS], and government savings [GS]....
(1) PI = PS + CS + GS....
The problem is simple: bailouts and stimulus plans are funded by issuing more government debt.... The added debt absorbs savings that would otherwise go to private investment.... [S]timulus plans do not add to current resources in use. They just move resources from one use to another.... In a "fiscal stimulus," the government borrows and spends the money on investment projects or gives it away as transfer payments to people or states. The hope is that government spending will put people to work.... Unfortunately, there is a fly in the ointment.... [G]overnment infrastructure investments must be financed -- more government debt. The new government debt absorbs private and corporate savings, which means private investment goes down by the same amount...
Robert Lucas, 2009:
[I]f we do build the bridge by taking tax money away from somebody else, and using that to pay the bridge builder -- the guys who work on the bridge -- then it's just a wash. It has no first-starter effect. There's no reason to expect any stimulation. And, in some sense, there's nothing to apply a multiplier to. (Laughs.) You apply a multiplier to the bridge builders, then you've got to apply the same multiplier with a minus sign to the people you taxed to build the bridge. And then taxing them later isn't going to help, we know that...
"Must", "are offset", "just accounting", "must be financed… private investment goes down by the same amount", "it's just a wash".
All three of these statements seem, to me at least, to try to use the national income identity as an equilibrium condition in a way that only people who do not understand the difference between them could possibly do.
Somebody who understood the difference would say, instead, something like: "Were we in a cash-in-advance economy, the fact that money demand in such an economy is interest-inelastic means that increases in government purchases would be offset…"
If there is another explanation for what these paragraphs mean, let's hear it: I have been listening for three years now, and heard nothing.
I can do no better than to quote Milton Friedman on how increases in government purchases are not necessarily fully and completely offset by reductions in private spending. Here's Uncle Miltie talking about the effects of a contractionary fiscal policy--an increase in taxes:
Milton Friedman: [H]igher taxes would leave taxpayers less to spend. But this is only part of the story…. [T]he government would have to borrow less. The individuals, banks, corporations or other lenders from whom the government would have borrowed now have more left to spend or to lend…. If they spend it themselves, this directly offsets any reduction in spending by taxpayers. If they lend it to business enterprises or private individuals--as they can by accepting a lower interest rate for the loans the resulting increase in business investment… and so on indirectly offsets…. To find any net effect on private spending, one must look farther beneath the surface. Lower interest rates make it less expensive for people to hold cash. Hence, some of the funds not borrowed by the Federal government may be added to idle cash balances rather than spent or loaned…
That is how you do the analysis. The flow-of-funds national income identity is an identity. It must be satisfied. Income equals expenditure.
But that does not mean, as Cochrane, Fama, and Lucas all claimed back in 2009, that the total of income and expenditure must remain the same when individual pieces of it--in this case government purchases--change. That does not mean that "we can build roads instead of factories, but fiscal stimulus can’t help us to build more of both. This form of “crowding out” is just accounting, and doesn't rest on any perceptions or behavioral assumptions". This does not mean that "bailouts and stimulus plans… funded by issuing more government debt… means private investment goes down by the same amount". This does not mean that "if we do build the bridge by taking tax money away from somebody else, and using that to pay the bridge builder -- the guys who work on the bridge -- then it's just a wash".
The right way to do the analysis is the way Milton Friedman did it back at the start of the 1970s.
This is not a mistake that anybody who has done their homework should make, or that anybody who understands the difference between accounting identities, equilibrium conditions, and behavioral relationships can make.
The interest rates on ten-year U.S Treasury inflation-indexed securities (constant-maturity series since its inception, auction-day rates beforehand) and the interest rate on the ten-year nominal Treasury bond minus the previous year's inflation rate:
The conclusion I draw is that nobody was in the business of trying to arbitrage the TIPS rate until the Treasury began publishing its constant-maturity TIPS daily interest rate series. Which is cause and which is effect I leave as an exercise to the reader...
He's right. The tax increases programmed-in at the end of 2012 are too large and too sudden to be at all prudent. The lame-duck session needs to do something.
Obama tax hikes threaten US recovery: The recent payroll gains and the declining unemployment rate in the United States have raised hopes that the economy will now start growing faster than the tepid 1.7 per cent rate last year. Optimists are expecting growth rates as high as three per cent for this year and next…. The recession that began in December 2007 was deep and painful…. House prices have continued to fall and housing construction remains dormant because of Barack Obama’s government’s failure to reduce the large number of homeowners whose mortgage debt exceeds the value of their homes….
Looking to the future, there are strong headwinds…. Higher petrol prices…. The weaknesses in many European economies…. But the most important cloud on the horizon is the large tax increase that will occur next year… bringing federal revenue as a share of GDP from 15.8 per cent this year to 18.7 per cent next year….
A sustained tax increase of that magnitude would push the US into a new and deep recession next year. So, it is important to recognise that legislation is required to prevent such a tax rise…. The risk of dramatic tax increases and an economic downturn next year affects the behaviour of businesses and households today…. America needs to reform its tax rules and entitlement programmes. But we can do that in a way that strengthens confidence and raises the rate of economic growth…
…and judging by the previews I don't see a better one on the horizon.
How Bad The Debate Is: Many pundits still like to pretend that we’re having something resembling a rational national debate…. And when you find a politician saying something not at all reasonable, there’s a lot of false equivalence — surely both sides do it, even if you don’t have any, you know, actual examples from one side. Then you encounter something like this: the CBO puts out its latest update (pdf) on the cost of the subsidies in the Affordable Care Act, and the chairman of the House Republican Policy Committee puts out this statement:
House Republican Policy Committee Chairman Tom Price, M.D. (R-GA) issued the following statement regarding the Congressional Budget Office’s (CBO) updated cost estimate of the president’s health care law. The new CBO projection estimates that the law will cost $1.76 trillion over 10 years – well above the $940 billion Democrats originally claimed….
[T]he CBO report says this:
CBO and JCT now estimate that the insurance coverage provisions of the ACA will have a net cost of just under $1.1 trillion over the 2012–2021 period—about $50 billion less than the agencies’ March 2011 estimate for that 10-year period
And where does this statement that the estimated costs have fallen, not risen, appear? On the very first page of the report.
Tell me that this is a rational, honest debate. Or if you claim that everyone does it, find me a senior Democrat — not some random pundit or backbencher — making an equivalent howler.
Marginal Tax Rates and Wishful Thinking: If the incentive effects are small, however, the situation is very different. Cutting taxes would still raise output for a while by putting more money in people’s pockets, and so increasing their spending — a temporary demand-side effect. But lower marginal rates wouldn’t greatly raise output over the long haul through the supply side. History shows that marginal federal income tax rates have varied widely…. If you can find a consistent relationship between these fluctuations and sustained economic performance, you’re more creative than I am. Growth was indeed slower in the 1970s than in the ’60s, and tax rates were higher in the ’70s. But growth was stronger in the 1990s than in the 2000s, despite noticeably higher rates in the ’90s….
A useful summary measure of such changes’ supply-side effects is the sensitivity of reported income to marginal rates. If people work and invest more in response to tax cuts, their reported income will rise when marginal rates fall. True supply-siders believe that this sensitivity is well over a value of 1, implying that cuts in marginal rates raise reported income enough that government tax revenues nevertheless rise. But a critical review of several natural-experiment studies concluded that the best available estimates of this sensitivity range from 0.12 to 0.40…. David Romer and I found that changes in marginal rates in the 1920s and ’30s had even smaller effects…. The rate shifts in that era make those after World War II look tame, and varied greatly across income groups…. We found that an increase in marginal rates on an income group leads to a decrease in its reported taxable income relative to other groups…. But the estimated impact is very small — almost at the bottom of the postwar studies’ range….
I can’t say marginal rates don’t matter at all…. But the strong conclusion from available evidence is that their effects are small. This means policy makers should spend a lot less time worrying about the incentive effects of marginal rates and a lot more worrying about other tax issues….
[I]ncome inequality has surged in recent decades. Raising marginal rates on the wealthy is a straightforward, effective way to counter this trend, while helping to solve our looming deficit problem. Given the strong evidence that the incentive effects of marginal rates are small, opponents of such a move will need a new argument. Invoking the myth of terrible supply-side consequences just won’t cut it.
The Collapse of Employment-Based Coverage: Reed Abelson at Economix points us to a startling study on the effects of the Great Recession on health insurance…. [T]he system that has provided workable insurance coverage to many (but not enough) Americans is coming apart at the seams…
mainly macro: Austerity and not wasting a crisis: In the short term we need stimulus, whereas fiscal discipline is a long term problem. We need to raise taxes and cut spending when times are good, not when times are bad…. The response is often to concede the macroeconomic logic, but say that promises of austerity tomorrow cannot be trusted….
Suppose the government did go for fiscal stimulus today, and this helped lead to a macroeconomic recovery. Once the recovery was complete, the underlying fiscal position (i.e. the structural or cyclically adjusted deficit) would be a little worse than today, because the stimulus would have added to debt. So if a politician is prepared to undertake austerity today, they will be even more willing to undertake it tomorrow. Of course following a recovery the actual (rather than structural) deficit may be smaller, but is our macroeconomic discourse that naive?…
[W]hen it comes to fiscal policy and deficit bias, the role of time inconsistency seems less central. The problem is not that we have a benevolent policy maker that is subject to a time inconsistency temptation; it is that we do not have a benevolent policy maker….
[C]ountries could establish rules today that were designed to only begin operating when the economy has recovered. Use the current crisis to get the rules established, but recognise that their implementation needs to be delayed because of the recession…. Is a government that commits to future austerity that begins tomorrow, any more likely to renege in the future than that same government that commits to long term austerity and starts it today? We could argue the opposite: an austerity plan in conjunction with a recession is more likely to come unstuck….
[A] government that just promises future austerity tells us very little…. If a government undertakes austerity now, we know more…. [W]e have governments that are prepared to undertake austerity now. They have demonstrated that they take the debt problem seriously. Are these preferences going to change if we delay austerity until after the recovery?…
From a paper I missed seeing yesterday due to various life choices and chances, and that I regret missing.
Robert Hall's comprehensive unemployment rate:
Robert E. Hall (2012), "Quantifying the Forces Leading to the Collapse of GDP after the Financial Crisis" (Palo Alto, CA: Stanford University) http://www.stanford.edu/~rehall/QuantifyingForces.pdf
Mrs Beeton, the Voltaire of caffeine — Crooked Timber: Sighted at Port Arthur, Tasmania, this quote from Mrs. Beeton’s Book of Household Management, by Isabella Beeton (emphasis added):
It is true, says Liebig, that thousands have lived without a knowledge of tea and coffee; and daily experience teaches us that, under certain circumstances, they may be dispensed with without disadvantage to the merely animal functions; but it is an error, certainly, to conclude from this that they may be altogether dispensed with in reference to their effects; and it is a question whether, if we had no tea and no coffee, the popular instinct would not seek for and discover the means of replacing them.
Science, which accuses us of so much in these respects, will have, in the first place, to ascertain whether it depends on sensual and sinful inclinations merely, that every people of the globe have appropriated some such means of acting on the nervous life, from the shore of the Pacific, where the Indian retires from life for days in order to enjoy the bliss of intoxication with koko, to the Arctic regions, where Kamtschatdales and Koriakes prepare an intoxicating beverage from a poisonous mushroom.
We think it, on the contrary, highly probable, not to say certain, that the instinct of man, feeling certain blanks, certain wants of the intensified life of our times, which cannot be satisfied or filled up by mere quantity, has discovered, in these products of vegetable life the true means of giving to his food the desired and necessary quality.
Chairman, you’ve said in the past you understand some of the anger on display with the Occupy Wall Street protesters. And a lot of the anger is directed at the Fed, with some protesters saying that the Fed is part of the problem, that the Fed preserves the financial system and promotes income inequality. Can—are the protesters right? Is the Fed part of the problem? And, secondarily, can the Fed do anything to promote a more equitable economy?
Well, as I’ve said before, I certainly understand that many people are dissatisfied with the state of the economy. I’m dissatisfied with the state of the economy. Unemployment is far too high. Inequality, which is not a new phenomenon, has been going on—increases in inequality have been going on for at least 30 years, but obviously as that has continued, we now have a more unequal society than we’ve had in the past. So again, I fully sympathize with the notion that the economy is not performing the way we would like it to be, and in that respect, the concerns that people express across the spectrum are understandable.
I think that the concerns about the Fed are based on misconceptions. The Federal Reserve was involved, obviously, in trying to stabilize the financial system in 2008 and 2009. A very simplistic interpretation of that was that we were doing that because we wanted to preserve, you know, bankers’ salaries. That is obviously not the case. What we were doing is trying to protect the financial system in order to prevent a serious collapse of both the financial system and the American economy. We needed to take those steps. If we hadn’t taken them, the consequences would have been dire. And not everybody understands that, and therefore they sometimes misunderstand our motives. Our motives are strictly to do what’s in the interest of the broad public, and I believe that our efforts to stabilize the financial system, which ultimately proved successful, were very much in the interest of the broad public.
With respect to the current economy, as I described earlier, we are currently continuing with our accommodative monetary policy. We are trying to do our best to support economic growth and job creation. I think it would be helpful if we could get assistance from some other parts of the government to work with us, to help create more jobs. But certainly, we are doing our part to try to create more jobs and more opportunities in America.
Macro and Other Market Musings: The "What Would Milton Friedman Say?" Whack-A-Mole Game: [O]bservers claim that both the ad-hoc nature and scale of monetary policy intervention [we currently have] would never be sanctioned by Milton Friedman. I and others have responded many times that except for the former point, this critique is wrong. Just look at Milton Friedman's own words to see why.
Nevertheless, this "What would Milton Friedman Say?" critique against Bernanke's Fed keeps reappearing in prominent media outlets like a never-ending whack-a-mole game.
The most recent contribution comes from Amity Shlaes… who is operating without a license here…. Her claim that Friedman would not endorse QE2 or Operation Twist overlooks… [that] Milton Friedman advocated large scale asset purchases for Japan [in 2000]…. Milton Friedman's call… for purchasing long-term government bonds as a way to push the Japanese economy out of its quasi-recession is similar to the Fed's justification for QE2 and Operation Twist. The only meaningful difference is that Friedman was advocating a continual, sustained purchase of securities until a robust recovery began. The Fed, on the other hand, has been applying a piecemeal approach (i.e. QE2, Operation Twist, long-term interest rate forecasts) that in some ways creates more uncertainty…. Second, not only did Friedman call for large-scale asset purchases (LSAPs) but he also provided theoretical reasons for doing so… portfolio effects that in turn affected aggregate nominal spending. Edward Nelson… has an excellent article that summarizes Friedman's view on LSAPs and its implications for the portfolio channel. Anyone who wants to make claims about Friedman's monetary views should read this article first.
Third, Milton Friedman was very clear that one should never look to the level of short-term interest rates as a guide to monetary policy….
The one point where I do agree with Shlaes is that Friedman would have preferred that monetary stimulus be done in a more systematic manner…
From: Classroom Scheduling firstname.lastname@example.org
Your room request for ECON has been booked.
Start Date: 4/1/2012
End Date: 4/1/2012
Start Time: 7:00:00 PM
End Time: 8:00:00 PM
Day(s) of Week: Sunday
In Charge: DELONG
Confirmation Number: 188208
"We can try to calculate how much information this intensity of selection can provide about institutions. (The following calculations are very rough, but should get the right orders of magnitude; cf. Rivoire and Leibler, 2010.) Take the high estimate of a 33 percent chance of destruction over 500 years. This works out to an annual risk of polis death of about 0.2 percent. This is not nothing, but it's not very much either. If we applied selection like this to a population starting with a standard Gaussian distribution, removing the lowest 0.2 percent of the population each year, by the end of 500 years we'd have increased the mean by about a standard deviation. Said another way, the entropy rate of selection is about 0.02 bits/year, so, accumulated over the whole of the archaic and classical periods, we get about 11 bits of information on which constellation of institutions works best. This is the maximum amount of information which could be extracted from the "signal" of city destruction (and yes, that does bring to mind the one good passage in Thomas Pynchon), and it would be reduced by correlations over time, etc.
"I think that selection is actually vital to the development of institutions. It's just that the selection which matters is not the rare destruction (or duplication) of whole polities or societies, but rather the continual choice by individuals about whether to conform to institutionalized expectations about their behavior, or to do something else. Renan said that a nation is a daily plebiscite; in a real sense, this is true of every human institution. They survive if, and only if, they are continually reproduced in human practices. This is where selection gets its purchase on institutions."
--Cosma Shalizi, "Review of Josiah Ober, Democracy and Knowledge: Innovation and Learning in Classical Athens"
Wilkinson on Cato, Self-Serving Excuses, Second-Best Solutions (Ponies and Pandaemonia of Pis-Aller): Will Wilkinson makes what seem to me very astute comments about the Cato Institute’s partisan profile. The occasion is the ongoing Koch-Crane conflict. But these comments are important more for the way they point up typical deflections that occur when the light of ‘ideal’ theory is refracted through the lens of partisan desire, playing tricks on our view of the landscape of actual politics….
Politics is the art of the possible. Sometimes I’m tempted to say that political philosophy is the science of the impossible. That is, it consists of efforts to be maximally systematic and rational about what ain’t going to happen, politically, but should. Political philosophy orbits around first-best solutions. If it doesn’t, it’s confused. If a liberal/progressive says this, conservatives will of course take to their fainting couches, between gasps: ‘utopianism … procrustean bed … cruel lopping of limbs … shall there be no cakes and ale! … Jacobin Alinskyite!’ No doubt the performance is mandatory. Still, we shouldn’t let our sense that this is so detract from our awareness of its exquisite nonsensically. For, as G. K. Chesterton remarks:
No man demands what he desires; each man demands what he fancies he can get. Soon people forget what the man really wanted first; and after a successful and vigorous political life, he forgets it himself. The whole is an extravagant riot of second bests, a pandemonium of pis-aller. Now this sort of pliability does not merely prevent any heroic consistency, it also prevents any really practical compromise. One can only find the middle distance between two points if the two points will stand still. We may make an arrangement between two litigants who cannot both get what they want; but not if they will not even tell us what they want.
Awareness of what is first-best is a condition of being able to aim at second-best. Nevertheless, the thing about second-best solutions is that they may not resemble first-best options. Politicians are typically bad at dealing with the first consideration. Political philosophers are typically bad at dealing with the second. It would be nice if ideologically/philosophically-minded partisans could be those with one foot on the rough ground, the other in the cloud. But it is, per Wilkinson’s comment, typical for things not to work out in this happy way. In practice, being versed in political philosophy does not so much bind you as gift you with a plenitude of potential excuses, hence with a capacity for higher-order double-think.
Wilkinson really is saying that the thing about Cato is not that it’s in the tank, politically, but that it’s a double-think tank, philosophically.
What would be nice, then, would be a political philosophy that did a better job of taking this sort of typical deformation into intelligent account, which would discourage it – since it thrives on not being seen for what it is. (Also would be nice: a pony!) A theory of first-best that talks astutely about second-best. This is inherently hard to do, so I don’t say ‘theorizes well’. I guess I would propose a sort of line-of-sight rule. Optimally, you shouldn’t lose sight of your ideals or of reality. So much so obvious. But really the trick is keeping accurate score with regard to semi-idealistic philosophical and policy proposals. Philosophers like to talk about the difficulty deriving an ought from an is (or an is from an ought). But it’s equally important to think about the difficulty in analyzing an is-ought compound into component elements, the better to reduce and potentially reconstitute it….
Every philosophy should try to build into itself as much insulation against double-think tankery as possible. This ought to be regarded as a standard safety feature. The human mind being as fiendish as it is, this effort is bound to fail. Nevertheless, one ought to try.
Why quantitative easing is the only game in town: The onus of UK macroeconomic policy falls on the Bank of England. George Osborne, chancellor of the exchequer, has nailed his colours to the mast of fiscal discipline…. The big macroeconomic doubt is whether “quantitative easing” works. The sums involved are startling. At the end of its third round of asset purchases, the BoE will own £325bn of financial assets, predominantly government bonds (or gilts), which it will have bought with newly created money. It will own close to a third of the gilt market…. The BoE’s view is that QE is a natural extension of monetary policy, necessary when the short rate is 0.5 per cent…. The BoE argues that asset purchases work by restoring confidence, signalling future policy, forcing rebalancing of portfolios, improving liquidity and increasing the money supply when the standard mechanism – lending by banks – has frozen….
Is the policy dangerous? A familiar hysteria is that QE has put the UK on the path to hyperinflation. If so, the concern is not that QE’s effect would be too small, but that it would be both huge and impossible to reverse in a timely manner. Neither view seems to make sense…. A different argument is that the policy is unfair, because it harms the prudent savers. Yet all monetary policy has distributional effects. These cannot be avoided. In this case, the accumulation of vast financial claims before the crisis was largely a consequence of soaring property prices. Sellers and their bequests benefited. Those forced to borrow to buy expensive property lost. There was nothing just about this outcome and nothing guaranteed about the income that people might earn from these artificially bloated balance sheets….
Another, more plausible argument is that a policy of ultra-low interest rates risks creating zombie companies and so a zombie economy…. The solution is to force banks to build up capital and write off bad loans.
Yes, QE is a disturbing necessity. But it is a necessity. The right fear has to be that it will not work well enough, not that it will be damaging.
Interesting, but I suspect he is overthinking it a little bit. I think the Fed could not agree on any change to its announcement, and so inertia ruled.
Employment, Interest, and Money: Federal Funds and the Paradox of Conditional Promises: The Fed’s Open Market Committee met on Tuesday and issued a statement. What changed in this statement compared to the Fed’s previous statement? Here’s what I think is the most important change. On January 25, the Fed said:
In particular, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.
On March 13, the Fed said:
In particular, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014….
There is a change, but it isn’t visible to the naked eye…. What we have here is a case of the shifting relationship between signifier and signified. Suppose your spouse calls from work and says, “I’ll be home in two hours.” Then an hour later, your spouse calls again and says, “I’ll be home in two hours.” The words are the same, but the meaning has changed: changed enough, perhaps, to make the difference between a hot dinner and a cold one…. In the Fed’s statement, what has changed is the referent for the word “conditions.”… A rational forecaster will not be expecting the same conditions between now and 2014 as they had been expecting on January 25. Logically, if the conditions expected today are likely to warrant the same thing as conditions expected in January were likely to warrant, then the Fed must have changed its idea of what kind of conditions would warrant that.
By repeating the language in its earlier statement, the Fed has in effect announced a change in its reaction function….
What does the Fed’s statement, implying that it expects to keep the federal funds rate low, mean about the likely actual future path of the federal funds rate? It means that the federal funds rate is likely to rise sooner than you previously expected. By promising – quite sincerely – to keep the federal funds rate low, the Fed is increasing the chance that the economy will call its bluff and force it to raise the federal funds rate. This is the paradox of a conditional promise…. Think about it this way. Suppose the Fed had an explicit economic target such as nominal GDP. The Fed’s repetition of its “likely to warrant” language, in the face of an improved outlook, is like an increase in its nominal GDP target. If the Fed had such a target, and if it increased the target, what would you expect the effect to be on interest rates two-and-a half years hence? Surely a higher target would mean that future interest rates are likely to be higher rather than lower.
If you ask me for my best guess, I still expect that the Fed will most likely end up sticking to the late 2014 timetable. After all, we did have the worst recession in 70 years and have barely started to recover even three years later. And under current law, federal fiscal policy is scheduled to drive directly into a brick wall next year. But the Fed’s repetition of its “likely to warrant” language, because it makes me a little more confident in the economy, makes me a little less confident in my prediction about the federal funds rate.
The Congress established the statutory objectives for monetary policy--maximum employment, stable prices, and moderate long-term interest rates--in the Federal Reserve Act.
The Federal Open Market Committee (FOMC) is firmly committed to fulfilling this statutory mandate. In pursuing these objectives, the FOMC seeks to explain its monetary policy decisions to the public as clearly as possible. Clarity in policy communications facilitates well-informed decisionmaking by households and businesses, reduces economic and financial uncertainty, increases the effectiveness of monetary policy, and enhances transparency and accountability, which are essential in a democratic society.
Following its meeting in January 2012, the FOMC issued a statement regarding its longer-run goals and monetary policy strategy. The FOMC noted in its statement that the Committee judges that inflation at the rate of 2 percent (as measured by the annual change in the price index for personal consumption expenditures, or PCE) is most consistent over the longer run with the Federal Reserve's statutory mandate. Communicating this inflation goal clearly helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the FOMC's ability to promote maximum employment.
While monetary policy can influence the level of employment over the medium run, the maximum level of employment that the economy can sustain in the longer run, without inflation accelerating, is largely determined by nonmonetary factors that affect the structure and dynamics of the job market, such as population trends and technological innovation. These factors may change over time and may not be directly measurable. As a result, the FOMC does not specify a fixed goal for maximum employment; rather, the FOMC's policy decisions must be informed by its members' assessments of the maximum level of employment, though such assessments are necessarily uncertain and subject to revision. In the FOMC's most recent Summary of Economic Projections, Committee participants' estimates of the longer-run normal rate of unemployment had a central tendency of 5.2 to 6.0 percent, roughly unchanged from January 2011 but substantially higher than the corresponding interval several years earlier.
In setting monetary policy, the Committee seeks to mitigate deviations of inflation from its longer-run goal and deviations of employment from the Committee's assessments of its maximum level. These objectives are generally complementary. However, under circumstances in which the Committee judges that the objectives are not complementary, it follows a balanced approach in promoting them, taking into account the magnitude of the deviations and the potentially different time horizons over which employment and inflation are projected to return to levels judged consistent with its mandate.
I was among the first who were convinced that an administration by single men was essential to the proper management of the affairs of this country. I am persuaded now it is the only resource we have to extricate ourselves from the distresses which threaten the subversion of our cause. It is palpable that the people have lost all confidence in our public councils; and it is a fact, of which I dare say you are as well apprised as myself, that our friends in Europe are in the same disposition. I have been in a situation that has enabled me to obtain a better idea of this than most others; and I venture to assert that the Court of France will never give half the succors to this country, while Congress holds the reins of administration in their own hands, which they would grant, if these were entrusted to individuals of established reputation, and conspicuous for probity, abilities, and fortune.
With respect to ourselves, there is so universal and rooted a diffidence of the government, that, if we could be assured the future measures of Congress would be dictated by the most perfect wisdom and public spirit, there would be still a necessity for a change in the forms of our administration, to give a new spring and current to the passions and hopes of the people.
To me it appears evident that an executive ministry, composed of men with the qualifications I have described, would speedily restore the credit of government abroad and at home—would induce our allies to greater exertions in our behalf—would inspire confidence in moneyed men in Europe, as well as in America, to lend us those sums of which it may be demonstrated we stand in need, from the disproportion of our national wealth to the expenses of the war.
I hope, sir, you will not consider it as a compliment, when I assure you that I heard, with the greatest satisfaction, of your nomination to the department of finance. In a letter of mine last summer to Mr. Duane, urging, among other things, the plan of an executive ministry, I mentioned you as the person who ought to fill that department. I know of no other in America, who unites so many advantages; and of course every impediment to your acceptance is to me a subject of chagrin. I flatter myself Congress will not preclude the public from your services by an obstinate refusal of reasonable conditions; and, as one deeply interested in the event, I am happy in believing you will not easily be discouraged from undertaking an office, by which you may render America, and the world, no less a service than the establishment of American independence! ’T is by introducing order into our finances—by restoring public credit—not by gaining battles, that we are finally to gain our object. ’T is by putting ourselves in a condition to continue the war—not by temporary, violent, and unnatural efforts to bring it to a decisive issue, that we shall, in reality, bring it to a speedy and successful one. In the frankness of truth I believe, sir, you are the man best capable of performing this great work.
What is the most striking and memorable invocation of the Confidence Fairy by a European in the current crisis?
I am not expecting anything to match Alfred and Mary Marshall:
The chief cause of the evil is a want of confidence. The greater part of it could be removed almost in an instant if conﬁdence could return, touch all industries with her magic wand, and make them continue their production and their demand for the wares of others…..
We would all be a lot smarter if we had paid much more attention to this than we did at the time:
Paul Krugman (1998), “Japan’s Trap” (Cambridge, MA: MIT) http://www.princeton.edu/%7Epkrugman/japans_trap.pdf
The extremely smart John Kitchen is at Econbrower. Very much worth reading:
Econbrowser: Guest Contribution: “Financing U.S. Debt”: From the abstract:
With the outlook for continued U.S. budget deficits and growing debt -- and the uncertainties regarding their financing -- we examine the role of foreign official holdings of U.S. Treasury securities in determining Treasury security interest rates, and the resulting implications for international portfolio allocations, net international income flows, and the U.S. net international debt position.... Although relationships suggest that the world portfolio could potentially accommodate financing requirements over the intermediate horizon, substantial uncertainty surrounds the likelihood of that accommodation and the associated effects on interest rates and adjustments in international portfolios. Notably, unprecedented levels and growth of foreign official holdings of U.S. Treasuries will be required to keep longer-term Treasury security interest rates from rising substantially above current consensus projections.
Although the United States has had little trouble financing its large budget deficits in recent years and at low interest rates, the results of the paper show the extent to which Federal Reserve policies (from expanding its holdings of Treasuries and government-backed securities) and the large purchases of Treasuries by foreign governments and central banks (foreign official assets) have contributed to keeping longer-term Treasury security yields low (and low relative to the low short-term interest rates from Federal Reserve policy). Once the U.S. and major developed world economies return to a more established economic expansion, however, the United States likely will face greater challenges in financing its debt -- and at a higher cost with much higher interest rates….
The preferred equation in Kitchen and Chinn for estimating the effects of the various factors determining U.S. Treasury interest rates is given by:
i10YR-i3MO = 1.22 + 0.56(UNGAP) - 0.38(INFL) - 0.33(STRSURP+FOREIGN+FED)
- i10YR is the constant-maturity yield on 10-year Treasury notes;
- i3MO is the secondary market interest rate on 3-month Treasury bills;
- UNGAP is the gap between the unemployment rate and the NAIRU;
- INFL is the deviation of consumer price inflation from the Fed’s target inflation rate;
- STRSURP is the Federal structural budget surplus as a percent of potential GDP;
- FOREIGN is foreign official holdings of U.S. Treasuries as a percent of potential GDP;
- FED is the change in the Federal Reserve’s holdings of long-term Treasury and government securities as a percent of potential GDP.
The results in the equation generally conform to prior estimates…. The coefficient on the structural surplus variable is negative as an increase in the structural budget surplus (a fall in the deficit) would reduce the relative supply of Treasury securities and reduce risk and uncertainty for longer-term Treasury securities, leading to a lower long-term yield relative to short-term (short-run-policy-determined) rates. The estimated effect is 33 basis points on the 10-year yield relative to the short-term yield for each one percentage point of GDP for the structural budget deficit. The coefficients on the change in foreign official holdings of U.S. Treasuries, and for Federal Reserve holdings of long-term Treasuries, MBS and U.S. agency assets, are also negative; an increase in official/monetary holdings (foreign or domestic) is effectively an exogenous demand shift for Treasury securities (at that point in time) that would lower longer-term yields…. Given that the Federal Reserve is expected to draw down the size of its balance sheet over time as the economy returns to its potential growth path, the results of the paper indicate that the interest rate projections from public and private forecasters are effectively and implicitly based on an assumption (even though most probably don’t even know they are doing it) that foreign governments and central banks will continue to purchase a large share of U.S. Treasury securities. If the foreign purchases aren’t forthcoming at those large amounts, longer-term Treasury yields would be higher than forecasters project…. To keep the 10-year Treasury yield down at 5.4 percent, the paper estimates that foreign official holdings of Treasuries would have to rise from 5 percent of world GDP to over 20 percent of world GDP by 2020. Given the large demands for funding governments worldwide, imagining such an increase for the U.S. alone seems challenging at the least….
In practice, then, it is unlikely that the United States -- as it returns to a potential growth path -- could simultaneously have relatively low long-term Treasury yields and a large improvement in its trade position. Yet that is what the “consensus” of private forecasters (as in the Blue Chip) shows. If foreign funding of U.S. Treasuries continues at a large pace and keeps interest rates lower than otherwise, then the United States will run a higher trade deficit, ceteris paribus. If, alternatively, foreign funding of U.S. Treasuries wanes, then the U.S. trade deficit will be lower, but interest rates higher, ceteris paribus…. In short, the analysis and scenarios illustrate that there is “no free lunch” for funding U.S. government debt, with some combination of “costs” from higher interest rates and debt servicing costs, an adverse trade balance effect, or negative effects on the real valuation of existing bonds…
Say, rather, that consensus forecasts are assuming either continued very strong growth in global demand for U.S. Treasuries or a substantial reduction in the value of the dollar that reduces the global asset share of U.S. Treasuries. Either relative demand continues to rise, or an exchange depreciation leads the relative supply to fall.
Econ 210a: Spring 2012: U.C. Berkeley: March 21, 2012: Globalization and Crises:
Noahpinion: An interesting model of asset bubbles: Gadi Barlevy of the Chicago Fed, one of the people whose work on bubbles inspired me to tackle the topic…. Why would people pay more for an asset than it is fundamentally worth? There are many possible answers, but most of them involve some irrationality on the part of some subset of traders. It's difficult, but also very interesting, to try to imagine a situation in which a market made up of fully rational individuals would still overpay for something. The Barlevy (2011) model does precisely that. Instead of irrationality, the culprit is asymmetric information.
In the Barlevy (2011) model, which is based on some earlier models by Franklin Allen, people overpay for financial assets because they don't fully bear all of the risk - they buy the asset with borrowed money, so if the price crashes they can just default on their loans.
So why would anybody loan money to people who intend to use the money to buy overpriced financial assets? That sounds like a bum deal! The answer is that the people lending the money may not know what the borrowers are going to do with it…. Lenders can't necessarily tell the difference between these people and the "speculators" who will just dump the money into risky financial assets. So if lenders want the chance to lend to productive borrowers, they have to accept some of the risk that the people they're lending to are actually just unproductive speculators….
Now how about the rise-and-crash pattern of pricing? This gets a little trickier. It has to do with uncertainty about the payoff from the risky asset. In the model, there is a chance that the payoff will be revealed sooner, and a chance that it will be revealed later. If the payoff is revealed later - in other words, if traders suddenly discover that they have to wait to find out how much income they can get from the asset - then the bubble will grow….
Anyway, I encourage everyone who's interested in bubbles to take a look at Gadi Barlevy's work. The financial crisis right refocused the econ profession on financial instability and asset market failures...but Barlevy was doing it before it was cool!
Life at the Zero Lower Bound: Roger Lowenstein has a profile on Ben Bernanke. Some key takeaways:
Why the 4% Club Failed
But after talking with the chairman at length (he was generally not willing to be quoted on this issue), I think that, although Bernanke appreciates the intellectual argument in favor of raising inflation, he finds more compelling reasons for not doing so. First is the fear that inflation, once raised, could not be contained…. “The notion that we can antiseptically raise the target and control it is highly questionable,” Bernanke told me.
This is something that will fascinating to hear about in the aftermath but it seems to fly in the face not only of what Bernanke himself has said but the history of modern central banking. Suppose worst came to worst and inflation expectation became unmoored. The Volker Fed tamed them in the 1980s with a recession far less damaging and far more easily recovered from than this one….
Law and Responsibility
According to Greg Mankiw, formerly President George W. Bush’s top economist and now an adviser to Mitt Romney, Bernanke earnestly believes in the democratic process; he thinks disclosure will lead to a more responsible electorate. Perhaps this is why the public vitriol so disturbs him….
From my vantage point the purpose of the democratic process is to check your actions as a public official. It is not your role to check yourself. It is your role to vigorously pursue policies that are in the best interest of your polity. If your polity choses to vote you out of office or send you to jail or send you to the gallows, then so be it. But, let them do it. “I followed the law” or “I respected the democratic process” is no shield against the consequences of action or inaction.
They Know Nothing!
In 2007, as the subprime-mortgage crisis leached into the financial markets, Bernanke’s training failed him. As a scholar, he had studied how bank failures worsened the Depression; as the Fed chair, he didn’t scrutinize the banks closely enough…. Speaking of government officials collectively, he added, “Everyone failed to appreciate that our sophisticated, hypermodern, highly hedged, derivatives-based financial system—how ultimately fragile it really was.”
What is still so shocking to me and I don’t completely understand was the ease at which leading policy officials dismissed those of us who were freaking out…. I wrote in late 2007 in response to someone who proposed that Citigroup could survive if it split-up:
The problem I see is this: we know that Citi will take more write downs on direct holdings of CDOs. I don’t think anyone on the outside knows for sure whats going to happen when all of Citis SIV rolls back on to the books. On top of that there are looming losses in Credit Card where Citi is heavily exposed as well as non-Agency prime mortgages and HELOCs. This is not even counting what kind of shit storm comes to fruition in CMBS….
It wasn’t like we had access to some private stash of information. This was all public and publically discussed on message boards, emails, blogs, the like. It seemed like this odd situation where financials were trading with positive valuations because of the Fed put and the Fed was saying “Look, no need for a put, the stocks are trading at positive valuations”….
I walked away feeling a bit more confident in the asymmetric response hypothesis. That the FOMC has a hard time doing more, but as things improve will not do less.
Michael D. Bordo and Barry Eichengreen http://www.nber.org/papers/w8716.pdf:
Goodhart dates the first age of globalization to the laying of the transatlantic telegraph cable, which by providing a real-time communications link between England and North America transformed the information environment. ... There were other, perhaps equally important, factors at work. One was the growth of trade, stimulated by the Cobden-Chevalier Treaty of 1860 which was generalized to other countries through the operation of most-favored-nation clauses. In the four decades leading up to World War I, as transport costs fell and governments adopted trade-friendlier commercial policies, there was nearly a doubling of the share of exports in GDP.... Certainly the enthusiasm of British investors for Argentine railway bonds would have been less in the absence not just of cable traffic and refrigerated steamships but also of an open British market for chilled beef...
19th Century Financial Crises: How Do They Compare to Today's? Pegged exchange rates, high capital mobility, asymmetric information, and weak institutions clearly comprised a fertile environment for crises. In these respects if not others, the crises of the pre-1914 era bear no little resemblance to the Asian crisis of 1997-8 and other recent crises. But how extensive are the parallels?... We distinguish banking crises, currency crises and twin crises. For an episode to qualify as a currency crisis, we must observe a forced change in parity, abandonment of a pegged exchange rate, or an international rescue. For an episode to qualify as a banking crisis, we must observe either bank runs, widespread bank failures and the suspension of convertibility of deposits into currency such that the latter circulates at a premium relative to deposits (a banking panic), or significant banking sector problems (including but not limited to bank failures) resulting in the erosion of most or all of banking system collateral that are resolved by a fiscally- underwritten bank restructuring...
Compared to these pre-1914 cases, Asian countries in the 1990s fared less well because of the absence of an analogous rule. There, as Delargy and Goodhart put it, "the combination of a downwardly flexible exchange rate (raising the domestic burden of dollar debt) combined with efforts to keep the Asian countries from imposing moratoria on outward debt payments, plus high (often sky-high) interest rates has led to a cocktail of external/internal financial conditions far less conducive to rapid recovery than pre-1914..."
The major difference between then and now, we would argue, lay not in currency crises per se but in banking crises and their tendency to spill over to the currency market. Banking crises, although as frequent then as now, were less prone to undermine confidence in the currency in the countries that were at the core of the gold-standard system. Today, the outbreak of a banking crisis typically leads investors to anticipate that the authorities will engage in large-scale credit creation to bail out the banks. Banking crises undermine currency stability, creating the notorious twin crisis problem (Kaminsky and Reinhart 2000). This was not the case a century ago at the center of the gold standard system. Then, banks suspended the convertibility of deposits into currency, currency went to a premium (relative to deposits), and foreign capital -- undeterred by exchange risk -- flowed in to arbitrage the difference, so long as countries remained on gold (Gorton 1987)...
Where the pre-1914 system appears to have worked better (quoting Delargy and Goodhart, 1999, p.11) was in limiting the tendency for banking problems to destabilize the currency market.... A very hard currency peg, like that practiced in the countries at the core of the European gold standard in the late 19th century, could thus prevent financial problems arising elsewhere in the economy from also undermining the currency and then feeding back to the rest of the economy in destabilizing ways. Of course, even a very firm commitment to the peg was no guarantee against other financial problems, serious banking-sector problems in particular. This is an important lesson of history for emerging markets today...
Conventional Normal-Time Analysis: The conventional analysis of a debt-financed boost to government purchases ΔG calculates that its effect on the present value of future output ΔV is:
where (i) μ is the policy-relevant net-of-monetary-offset multiplier, (ii) ξ is the fiscal drag—the future output lost as a result of raising a dollar of tax revenue through distortionary taxes—and (iii) τ is the baseline tax rate needed to finance ongoing government expenditures.
The underpinnings of equation (1) are straightforward. More government purchases this period, amplified or damped by the net-of-monetary-policy-offset Keynesian multiplier, produce more spending, production, and employment now. Some of the current-period cost is recaptured because the extra workers pay taxes. The actual increase in debt is not ΔG, but rather (1-μτ)ΔG. And amortizing this debt requires taxes in the future that act as a drag on enterprise.
In normal times, equation (1) will be strongly negative. Think of a value of 0.5 for ξ and of 1/3 for τ. Then (1) will be negative as long as:
And in normal times μ will indeed be lower than 0.43, perhaps by a considerable margin.
The monetary authority, in normal times, has strong views about the appropriate level of economy-wide spending. It focuses on its price-level target. It seeks a level of economy-wide spending consistent with that target. It will thus damp most if not all of the effect on spending from the increase in government purchases ΔG. It will make the multiplier μ small—if not zero.
By contrast, the fiscal drag ξ for raising tax rates is always there and can be substantial. Only if the shift of demand away from private to public purposes were very highly valued indeed, could there possibly be offsetting benefits that would outweigh (2). Absent such an extraordinary need to boost government purchases, raising government purchases is not a good idea—in normal times.
This Time, It Really Is Different: But right now things really are different:
Right now the monetary policy regime is not one of substantial monetary-policy offset, but rather of amplification of the “bare” constant-monetary-and-financial-conditions Keynesian multiplier. Right now the monetary authority welcomes assistance in boosting output from the other branches of government. It has committed itself to keeping short-term safe nominal interest rates at their zero nominal lower bound. It will do so even should fiscal expansion raise the expected future price level somewhat. Thus μ is not zero, but, unusually, relatively high.
Right now there is a wedge between the rate at which the Treasury can borrow r and the social rate of time discount rd.
The current deep recession is going to cast a shadow on the future. A reduction in current real GDP of $1 carries with it a reduction in future potential output equal to some hysteresis parameter η. And this hysteresis shadow is a long-run phenomenon. It decays only at some rate φ.
Expansionary fiscal policy now damps the downturn, reduces the shadow, and raises future output. Thus it reduces the baseline tax rate needed to finance ongoing government operations. Such tax-rate reduction carries with it a fiscal dividend: lower tax rates boost output in the future.
Equation (1) thus is transformed into:
where g is the long-run growth rate of potential output.
While the normal-time (1) is almost surely negative, its right-now counterpart (3) is almost surely positive.
Expansionary Fiscal Policy and the Burden of Government Debt: Look first at the government-finance terms in (3): Expansionary fiscal policy raises the present value of the government’s future incoming cash flow by:
It increases the present value of future spending on debt amortization by:
As long as:
holds, expansionary fiscal policy in the present:
• boosts present-period output via standard Keynesian multiplier channels,
• increases future output by diminishing the shadow cast on future potential output by the current downturn, and
• further increases future output by improving the government’s long-run fiscal balance and thus diminishing the fiscal drag from taxation.
As long as (6) holds, there is no benefit-cost calculation to be made. Expansionary fiscal policy has no costs, only benefits.
Does (6) hold? Auerbach and Gorodnichenko (2012) estimate a recession-period multiplier μ comfortably more than 2.5. The Congressional Budget Office (2012) appears to assume a hysteresis parameter η of 0.2. It has marked down the future growth path of potential output in the wake of the current downturn by such a margin. The baseline tax rate τ is about 1/3. 4%/year is a reasonable social rate of time discount. 2.5%/year is the projected growth rate g of potential output. Assume a value of 0.05/year for the hysteresis-decay parameter φ—a parameter about which we know nothing.
Solving (6) for the Treasury real borrowing rate r reveals that (6) holds as long as:
And for these parameter values, that means that:
is the critical value of the real Treasury borrowing rate. If the Treasury can borrow below this rate, fiscal expansion does not damage but rather improves the government’s long-run cash flow.
Now perhaps you choose a Ramey (2011) multiplier of 1 (which incorporates substantial monetary policy offset via leaning against the wind by the monetary authority). Perhaps you reject a depressed-economy multiplier of 2.5. Perhaps you choose a hysteresis parameter η of 0.05. Perhaps you reject a hysteresis parameter of 0.2.
Then (8) becomes:
Right now the U.S. Treasury’s real borrowing costs are, for five years, -1.02%/year; for seven years, -0.54%/year; for ten years, -0.07%/year; for twenty years, 0.64%/year, and for thirty-years. 0.95%/year. The weighted real interest rate on U.S. Treasury debt has not been above 3.1%/year for any consistent period in the post-Great Contraction era save for the Reagan years in the immediate aftermath of the Volcker disinflation.
It might be the case that a collapse of the Treasury bond market over the next generation would push the Treasury’s ex post real borrowing rate up above 3.1%/year.
But that just means that there is a benefit-cost calculation to be made.
Doing the Benefit-Cost Calculation: There are still net benefits as long as:
which holds as long as:
For the parameter values underlying (9), (11) is:
We have already stepped down from a depressed-economy multiplier of 2.5 to a multiplier of 1.0. We have already stepped down to a hysteresis coefficient of .05. Yet we find it expansionary fiscal policy is a good idea, unless it pushes the Treasury’s borrowing rate—and that is the real not the nominal borrowing rate—up to 11%/year.
How much further do we have to push things before expansionary fiscal policy becomes a bad idea at interest rates we might actually see?
Eliminating All Hysteresis Effects: We could eliminate all hysteresis effects whatsoever. We could make the unrealistic and contrary-to-fact assumption that the economy’s long-run growth trajectory has been unaffected by the current downturn We could claim that potential output would in no wise be boosted by a quicker cyclical recovery.
That would get us all the way back to:
Is there a case for thinking that the current depressed-economy multiplier μ is much less than one? Is there a case for thinking that the fiscal drag on output from raising additional tax revenue ξ is much more than .5? Is there a case for thinking that even a full-blown US sovereign debt crisis would cause real Treasury borrowing rates to rise to 7%/year?
I, at least, find it hard to think so.
The United States borrows in its own currency. A U.S. sovereign debt crisis entails a fall in the value of the dollar below purchasing power parity, a steep reduction in the foreign-currency value of the national debt, and expected subsequent appreciation: that is not a scenario in which real home-product interest rates spike and remain high.
How Low Would the Multiplier Have to Go?: It is possible to turn the question around, and ask: Suppose that the United States loses its exorbitant privilege—loses its ability to borrow at less than the social rate of discount. In that case, how low does the multiplier μ have to go in order for expansionary fiscal policy to be a bad idea?
The answer to that is simply equation (2):
As a last ditch effort, a critic might complain that the taking of present values is inappropriate. Present value is not a welfare measure. Changes in demand-determined production today produce first-order welfare gains proportional to the increase in production: it is not as though to-day’s cyclically non-employed are deriving great enjoyment from their leisure. But changes in supply-side production in the future are worth only the utility of higher output minus the disutility of increased leisure. This point has some force. But it goes the wrong way: it greatly reduces the welfare value of the drag on the economy from the requirement to raise tax revenue in the future to amortize the debt, and that is the sole significant cost of expansionary fiscal policy. The benefit-cost ratio improves
No hysteresis effects, no interest rate discount for U.S. Treasuries as safe assets in what is now a grossly risky world economy, and a multiplier less than 0.43 even though the monetary authority is not leaning against the fiscal wind but rather cheering expansionary fiscal authorities on—you have to work very, very hard indeed to conclude that the arithmetic tells us that the U.S. would not benefit from additional expansionary fiscal policy, as long as the economy is in anything like its current situation.
March 21. Globalization and Crisis (DeLong)
Douglas Irwin (1998), “Did Late Nineteen Century U.S. Tariffs Promote Infant Industries? Evidence from the Tinplate Industry,” NBER Working Paper no. 6835 (December). http://www.nber.org/papers/w6835
Richard Baldwin and Philippe Martin (1999), “Two Waves of Globalization: Superficial Similarities, Fundamental Differences,” NBER Working Paper no.6904 (January). http://www.nber.org/papers/w6904
From our present perspective, what did Barry Eichengreen and Michael Bordo miss back in 2002 when they tried to draw lessons for the then future about financial crises from the pre-1914 record of growth, development, and financial deepening?
Econ 210a: Spring 2012: U.C. Berkeley: Globalization and Crisis: Memo Question for March 21, 2012:
From our present perspective, what did Barry Eichengreen and Michael Bordo miss back in 2002 when they tried to draw lessons for the then future about financial crises from the pre-1914 record of growth, development, and financial deepening?
TODAY is my last day at the Empire.
'I no longer have the pride, or the belief'
After almost 12 years, first as a summer intern, then in the Death Star and now in London, I believe I have worked here long enough to understand the trajectory of its culture, its people and its massive, genocidal space machines. And I can honestly say that the environment now is as toxic and destructive as I have ever seen it.
To put the problem in the simplest terms, throttling people with your mind continues to be sidelined in the way the firm operates and thinks about making people dead.
The Empire is one of the galaxy's largest and most important oppressive regimes and it is too integral to galactic murder to continue to act this way. The firm has veered so far from the place I joined right out of Yoda College that I can no longer in good conscience point menacingly and say that I identify with what it stands for.
For more than a decade I recruited and mentored candidates, some of whom were my secret children, through our gruelling interview process. In 2006 I managed the summer intern program in detecting strange disturbances in the Force for the 80 younglings who made the cut.
I knew it was time to leave when I realised I could no longer speak to these students inside their heads and tell them what a great place this was to work.
How did we get here? The Empire changed the way it thought about leadership. Leadership used to be about ideas, setting an example and killing your former mentor with a light sabre. Today, if you make enough money you will be promoted into a position of influence, even if you have a disturbing lack of faith.
What are three quick ways to become a leader? a) Execute on the firm's 'axes', which is Empire-speak for persuading your clients to invest in 'prime-quality' residential building plots on Alderaan that don't exist and have not existed since we blew it up. b) 'Hunt Elephants'. In English: get your clients - some of whom are sophisticated, and some of whom aren't - to tempt their friends to Cloud City and then betray them. c) Hand over rebel smugglers to an incredibly fat gangster.
When I was a first-year analyst I didn't know where the bathroom was, or how to tie my shoelaces telepathically. I was taught to be concerned with learning the ropes, finding out what a protocol droid was and putting my helmet on properly so people could not see my badly damaged head.
My proudest moments in life - the pod race, being lured over to the Dark Side and winning a bronze medal for mind control ping-pong at the Midi-Chlorian Games - known as the Jedi Olympics - have all come through hard work, with no shortcuts.
The Empire today has become too much about shortcuts and not enough about remote strangulation. It just doesn’t feel right to me anymore.
I hope this can be a wake-up call. Make killing people in terrifying and unstoppable ways the focal point of your business again. Without it you will not exist. Weed out the morally bankrupt people, no matter how much non-existent Alderaan real estate they sell. And get the culture right again, so people want to make millions of voices cry out in terror before being suddenly silenced.
TheMoneyIllusion » More evidence that the real problem was nominal: Last year David Glasner produced one of the strongest pieces of evidence in favor of the view that the current recession was caused by an AD shortfall. He found that beginning around 2008 stocks became highly correlated with TIPS spreads, suggesting the market was rooting for higher inflation, higher aggregate demand. Even Paul Krugman gave him a high five. Now Alexander David of the University of Calgary and Pietro Veronesi of the University of Chicago have a study….
[W]e should look at the late 1970s. Our estimates suggest that at that time investors faced large uncertainty about whether the U.S. would enter a persistent stagflation regime. Any consumer-price data that were above expectations were taken as an indication that the U.S. was transiting into such a regime, which brings about low growth and high inflation. The former makes stock prices decline, the latter makes long- term yields increase. Thus, data-driven fluctuations in investors’ beliefs about a stagflation regime pushed the prices of stocks and Treasuries to move together, and increased volatility for both.
In the recent Great Recession, the opposite occurred. The market now fears deflation, which is accompanied by low growth, as we know from the Great Depression. In this case, CPI data above expectations are great news for the economy, as investors interpret them as a signal that the bad deflation regime could be averted….
In late 2008 the markets were telling us that the Fed was making a tragic mistake by allowing NGDP expectations to plunge. But the economics profession didn’t listen, as they view stock investors as being irrational. Economists were obsessed with the notion that the real problem was banking distress, and that fixing banking would fix the problem. No, the real problem wasn’t banking, the real problem was nominal.
Peter Orszag writes:
To Boost U.S. Productivity, Elect a New Congress: Last week, Harvard Business School hosted a conference in New York to talk about how the U.S. could continue to support “high and rising living standards for Americans” in the face of global competition. It was a lively discussion, leading to many good, if familiar, economic-policy ideas for increasing productivity in the U.S. Unfortunately, this conversation largely ignored the key constraint to many of the policy recommendations: the rise of hyperpolarization in Congress. If business leaders want better economic policy, they need to first help elect more moderates to Congress…
I think that this annoys the elephant in the room. Since January 1993--from Chaffee on the Reconciliation Bill to Specter on judicial nominations to Snowe on the Affordable Care Act--when the chips were down, Republican moderates in congress have almost invariably chosen to back their party leaders rather than to use their crucial median-voter position to dictate that their policy preferences become law.
Electing a large decisive block of Democratic moderates to hold the balance of power in the House and Senate would be effective at ending what Peter somewhat misleadingly calls "hyperpolarization"--because while policy has swung to the crazy right when Republicans hold the levers, there has been no countersuing when Democrats do. Electing any Republican moderates… isn't.
Fed forecasts: Prudent guidance or pure guesswork?: Richard W Fisher, president of the Federal Reserve Bank of Dallas and a member of the FOMC, presented his views on [FOMC members'] forecasts. He argued that “at best, the economic forecasts and interest-rate projections of the FOMC are ultimately pure guesses”… tactical judgements of the moment, made within a broader strategic context” (Fisher 2012)…. [T]o what extent is Fisher’s claim supported by the data?…
Gavin and Mandal (2003)… show that the FOMC’s real growth forecasts are at least as good as those provided by the private sector. The inflation forecasts were more accurate than private-sector forecasts. In light of these findings, Fisher’s (2012) first conjecture seems less convincing.
But what about Fisher’s (2012) other claim that forecasts are “tactical judgements of the moment”… that members pursue strategic motives to have an additional leverage on policy decisions of the committee. McCracken (2010)… argues that hawkish members have an incentive to forecast high inflation…. He finds that for inflation, the midpoint of the trimmed range, ie the outlier-adjusted range, is a more accurate predictor than the midpoint of the full range. Hence, controlling for outliers improves the accuracy of the FOMC's inflation forecast….
In a new data set, Romer (2010) managed to collect individual forecasts for a set of key variables for the period 1992–2000…. Tillmann 2011 uses the rotating voting right to identify strategic motives…. The incentives to pursue strategic motives are stronger for members without a direct say on policy…. [N]on-voters systematically over-predict inflation relative to the consensus forecast if they favour tighter policy and under-predict inflation if they prefer looser policy…. [T]he inflation forecasts exhibit strong evidence of anti-herding, ie FOMC members intentionally scatter their forecasts around the consensus…. Taken together, there is indeed evidence suggesting that motives other than forecast accuracy play a role…
Nick Denton: every human a moderator!
Owen Thomas on Anil Dash's interview of Nick Denton:
Daily Dot | Gawker Media's Nick Denton comments on "the tragedy of the comments": In 2002… Dash met Denton…. Denton hadn’t yet launched his… Gawker Media… Dash would join Six Apart, one of the first blog-software startups…. We can blame them both, in other words, for the mess that has ensued. Comments on blogs and other Web communities are mostly a mess: uncivil, insipid, and unmanageable…. Denton called the state of affairs “the tragedy of the comments”… current approaches like moderation… were inadequate.
So he’s been having Gawker’s technology team roll its own. “The core of the Gawker idea that we're building, that will launch on Gawker.com in about six weeks, is that everyone owns the thread they start,” said Denton. The commenting system, which will later be introduced across Gawker’s network of eight sites, will both allow only invited commenters to comment on particular posts and will allow commenters who start a thread to control who can reply…. "I want the sources, the experts, the authorities to comment on discussions,” said Denton….
“I’ve seen writers cry” after reading comments, he said. The new system, he hoped, might “actually soften that divide between editors and commenters” and allow them to “share responsibility and ownership” for the quality of conversation on Gawker’s sites…. Denton’s clearly focused on that word: “conversation”…
Please try, people: try…
Chapin White’s response to Avik Roy: The author of the recent Atlantic blog post did not contact me while writing the piece, and I found that it missed several key points.
The Atlantic blog misrepresents the ACA in two key ways. a. It represents low provider payment rates in Medicaid as a major problem with the program. It ignores the fact that the ACA begins to address this problem by increasing primary care physician fees in Medicaid beginning next year (sec. 1202). This feature of the ACA is pointed out in the third sentence of the HSR article. b. The blog claims that the Medicaid expansion in the ACA will mainly impact people in the lower-middle income group (i.e. not the lowest). In fact, the Medicaid expansion in the ACA will occur more or less exclusively among childless adults with very low incomes (below 138 percent of the federal poverty level). The crowdout phenomenon, which drives much of the discussion in the Atlantic blog, is smallest when coverage is expanded to people in the lowest income groups.
The Atlantic blog also misrepresents the paper’s findings: a. The paper finds that the effects of CHIP expansions on indicators of access are mixed. Non-cost related access problems (e.g. waiting for appointments) appear to go up in one of the four income groups, whereas the share of children having 1 or more ER visits in a year appears to go down for the lowest of the four income groups. This mixed finding does not support the blogger’s contention that “[the ACA’s] expansion of Medicaid coverage … may actually reduce those individuals’ access to health care.” b. The evidence in the HSR paper suggests that CHIP did not change aggregate physician utilization one way or the other (i.e. the point estimate is near 0), but the HSR paper points out that “the results on doctor visits are not precisely estimated due to the variability in the underlying measure.” The Atlantic blog incorrectly characterizes the HSR paper as finding that “physician utilization was lower in the states with the largest CHIP expansions.”
Here are the last three paragraphs from the HSR piece—these properly summarize my take on the paper and its findings:
In general, these findings argue strongly against the idea that the effect of expanding coverage on utilization can be deduced simply from the reduction in patient cost sharing. The nature of the coverage—for example, does the coverage consist of a tightly managed product? does the coverage pay providers generously?—appears to be critical.
From a federal budgetary perspective, these results are good news— if we extrapolate from the results in this article, the expansions of public coverage called for in PPACA will not have any effect on aggregate utilization of physician services. From the enrollee’s perspective, the results are mixed—the benefits of expanded public coverage may lie primarily in improved financial protection, rather than a sheer increase in services received. These findings also support the idea that public health insurance plans can have spillover effects on children who do not themselves gain coverage, and that those spillover effects can either increase utilization (if the public plan’s reimbursement environment is made more generous) or reduce utilization (if coverage is expanded without making reimbursement more generous).
As it is conventionally understood, our policy options are either to expand coverage and increase health spending or to leave coverage gaps and hold the line on spending. That dilemma is false. Coverage expansions by themselves do not necessarily spur increases or decreases in overall utilization—what does appear to matter is the nature of the coverage and the generosity of provider reimbursements in the public program. The policy questions that we should be focusing on are as follows: (1) the degree to which we want the rationing of medical services to occur based on out-of-pocket costs and the ability to pay versus nonprice factors such as queuing, and (2) the degree to which we want our financing of the health care system to be redistributive. Expanding public coverage clearly moves in the direction of redistributive financing. Depending on how we choose to set reimbursement levels in our public programs, expansion coverage may or may not move in the direction of increased utilization and increased system spending.
Cal official demoted, improperly gave pay raises: A UC Berkeley campus investigation found that actions by Diane Leite, an assistant vice chancellor in the department that supports Berkeley's vast research enterprise, created a conflict of interest in violation of UC's sexual harassment policy…. Leite has been removed from her department and supervisory responsibilities. She was told at first that her $188,531 salary would be cut 8 percent to $173,531. But after Leite objected, her pay was reduced by 7 percent, to $175,000, records show….
UC Berkeley officials called the discipline "severe, particularly for a 30-year employee." Leite, 47, has worked on campus since 1982. In August, a whistle-blower sent a letter to Graham Fleming, vice chancellor for research, describing the relationship between Jonathan Caniezo, 30, a purchasing manager in the Research Enterprise Services department, and Caniezo's boss…. Caniezo was earning $89,400 by July 2009. The sexual relationship began in September 2009, Leite told investigators. After that, Caniezo "received five additional salary increases initiated by Leite between 2009 and 2010," says the heavily redacted report…. The report says Leite also put pressure on another employee to sign off on the pay hikes.
Records show that Caniezo got a raise to $107,000 in August 2010. He received additional monthly stipends of $1,118 from September 2009 to August 2010. After that, the amount dropped to $892. In July 2011, his salary grew to $110,210. The employee told to approve the extra pay "began arguing" with Leite in January 2010 "because she felt that Leite was providing (Caniezo) with compensation that he had not earned," the report says. Leite told investigators she did not recall a disagreement. Text messages show otherwise, the report says. It concludes that Leite's "ongoing romantic relationship with (Caniezo) more likely than not provided the underlying motivation for her support of this salary action."…
Where Middle Class America Has Gone « Modeled Behavior: The long term trend in goods and government vs. everything else I think also shows part of what has happened to the American middle class. Goods and Government are what we might have thought about as backbone jobs. These are police officers, fire fighters, school teachers, factory workers, construction workers. When you think of a stereotypical 1950s American, they are doing one of these jobs. And, in the 1950s half of Americans were employed in these sectors. Yet, since then the labor market has radically shifted.
Notice these two are plotted on the same axis so from 1939 to 1965 – not including the war boom – goods and government was roughly half of the nonfarm labor force. Then a rapid falling off. One thing I hadn’t considered but is probably true is that goods (via the magic of boxes) and government via transfers between jurisdictions, is not as dependent on urbanization as the rest of the economy. This probably supported the stagnation in land rents that occurred over this period, which also supported real wages.
Anatomy of a Recession and a Recovery « Modeled Behavior: The following chart I have found useful in analyzing the baseline for this entire recession and seeing past lots of what I would consider noise about the causes and consequences. Here I basically split the labor market into two parts: Goods and Government and everything else.
Everything else hit a wall in 2008 but as you can see it was a nice natural V. It was not even the job-less U of 2000. And since the beginning of 2010 everything else has been growing just as fast as the last recovery. As we moved into 2012 job growth seems to be speeding up faster than anything we saw last time around.
The difference this time was goods and government. To cut it down to the micro-level I like we are largely talking about construction workers, metal and automotive workers, and school teachers. These workers are massively influenced by credit constraints. One cannot build a building without credit. One cannot buy a vehicle without credit and state and local governments have very little credit room by statute. So what we need for job growth to really hit its stride is for construction to comeback, cars to comeback and school teachers to come back.
The process is well on its way with cars, though could be derailed. Construction is building and my best guess is that school teachers will start to be rehired in about 12 – 18 months. Though again because these sectors respond so much to liquidity the job recovery is still fragile.
"I now know it is a rising, not a setting, sun" --Benjamin Franklin, 1787