Note that what Nick Rowe is talking about on the Old Keynesian side is a situation in which actual spending is greater than planned spending--in which the actual IS curve is to the right of where the representative agent thinks it is, inventories are falling. Note that what Nick Rowe is talking about on the Old Monetarist side is a situation in which the interest rate is greater than its equilibrium value given the money stock--in which the actual LM curve is below where the representative agent thinks it is, and financial dealers are finding their inventories of bonds falling. From my perspective the Old Monetarist story doesn't make much sense: people are not often surprised to find that they sold more bonds for cash than they had expected because people do not usually quote a price at which they offer to sell whatever quantity of bonds people want to buy. By contrast, the Old Keynesian story does seem to me to make sense: people do often quote a price at which they offer to sell whatever quantity of newly-produced goods and services people want to buy.
From my perspective, the economy moves rapidly--days? hours? minutes? seconds?--from a disequilibrium to a point on the LM curve, but can take a while--weeks? months? quarters?--to move to a point on the IS curve where desired S = planned I and inventories are constant at their preferred level.
Nick Rowe:
The very short run: I want to talk about the very short run… the very short run probably isn't really that short. Old Keynesians used to talk about the very short run. So did Old Monetarists. New Keynesians maybe won't even know what I'm talking about.
When Old Keynesians were talking about the successive rounds of the multiplier process, they were talking about the very short run. When Old Monetarists were talking about how the monetary hot potato gets passed from person to person, they were talking about the very short run. You can agree or disagree… but at least they did have an analysis… New Keynesians don't. Something important in the parental DNAs got left behind and forgotten when the Old Keynesians and Old Monetarists made their New Keynesian baby….
My plans depend on my expectations, and my expectations include what I expect others to do, and what others will do depends on their plans, which in turn depend on their expectations…. [Nothing makes] individuals' plans and expectations… mutually consistent in aggregate. Two people may both be planning to get up early and grab the prize first, because each expects the other to get up later than him. They can't both be right. The very short run is about plans and expectations that are mutually inconsistent in aggregate. When Old Keynesians talk about the successive rounds of the multiplier process, they are talking about plans and expectations that are mutually inconsistent in aggregate. When Old Monetarists talk about the monetary hot potato process, they are talking about plans and expectations that are mutually inconsistent in aggregate. And both were talking about the same thing….
Old Keynesians talked about planned purchases and expected sales of newly-produced goods, and ignored the distinction between money and other non-newly-produced goods. Old Monetarists talked about planned expenditures and expected receipts of money, and ignored the distinction between newly-produced and other non-money goods. The very short run is a disequilibrium…. Others aren't planning to do what we expect them to do, but we don't know this, so we keep on being surprised, and wish we had planned to do something different….
[T]he Old Keynesian story…. [E]ach individual plans to increase his spending on newly-produced goods by $100 per period. But what he doesn't know is that every individual is planning to do the same thing. The representative agent doesn't know that he is a representative agent. Why should he? So he plans to buy more newly-produced goods but doesn't expect to sell more newly-produced goods…. The representative agent is surprised to discover that he is selling $100 more newly-produced goods per period than he expected…. The Old Keynesian story normally assumes that the representative agent immediately revises his expected sales of newly-produced goods by $100 per period, and then immediately revises his plans to purchase an additional $60 (or whatever)…. And so on. Now if he does revise his expectations immediately, and also revises his plans immediately, and implements those revised plans immediately, then the very short run will last only a very short time. We jump immediately to the new short run equilibrium where plans and expectations are once again mutually consistent. But that isn't very likely…. The Old Keynesian multiplier process is indeed a process, that takes time….
[T[he Old Monetarist story…. [E]ach individual finds his stock of money is greater than he wishes to hold, and plans to increase his spending on all goods (not just newly-produced goods) by $100 per period…. But what he doesn't know is that every individual is planning to do the same thing…. The representative agent is surprised to discover that he is selling $100 more goods per period than he expected to sell….
What happens next? The representative agent's stock of money is right back where it started…. If he thinks the extra $100 in unexpected sales was just a temporary fluke, the second period is the same as the first. He failed to get rid of any money, and still wants to get rid of it. But eventually… he will revise upwards his expected flow of sales, and will also revise upwards his desired stock of money and his planned flow of purchases. The Old Monetarist hot potato process is indeed a process, that takes time. It would only happen instantly if every individual knew what every other individual was planning to do, and adjusted his own plans and expectations instantly to make them consistent with other individuals' plans and expectations….
The very short run… does not happen in meta-time, coordinated by some non-Walrasian version of the Walrasian auctioneer who ensures individuals' plans and expectations are always mutually consistent in aggregate…. How long will it take for the very short run process to play out? Dunno. It depends…. There's a signal-processing problem…. New Keynesian[s]… are embarrassed when the old folks mutter about income-expenditure multipliers and monetary hot potatoes. And the two old folks don't seem to realise they are talking about the same thing in different ways. Time to educate the kids, by making them sit down and listen to the old story. But maybe the old story needs updating too.
