There are two questions that must be answered in the process of figuring out weather having the government borrow money and spend is a good idea:
What is the money being used for?
How expensive is the money to borrow?
Back in the Reagan-Bush I years--the steep run-up in the debt-to-annual GDP ratio in the 1980s and the first third of the 1990s:
The money was used to rapidly build up the U.S. military to counter the Soviet Union's overwhelming might--an overwhelming might that existed only in the fantasies of the neoconservatives who ran the "Team B" exercise initiated at the CIA by George H.W. Bush.
The money was used for tax cuts for the rich in the hope that increasingly incentivizing entrepreneurship would accelerate economic growth above the pace of the 1970s--a vain hope indeed.
The real interest rate at which the U.S. government could borrow was relatively high--between 3.5%/year and 8.5%/year, and averaging 5.5%/year in the 1980s. Plus there was the fear that as the debt-to-annual-GDP ratio rose further without any strategy for ultimately amortizing the debt, the real interest rate would rise higher. Plus there was the fear that the real interest paid on the debt understated the cost to the taxpayer of carrying it because a high debt would create expectations that inflation would rise--expectations that would require unemployment semi-permanently above the NAIRU to avoid another inflationary spiral.
...less than 10% in the late 1970s but now exceeds 20%.... A large portion of this increase is due to an upsurge in the labor incomes earned by senior company executives and successful entrepreneurs. But... did wealth inequality rise as well?... The answer is a definitive yes.... We use comprehensive data on capital income—such as dividends, interest, rents, and business profits—that is reported on individual income tax returns since 1913. We then capitalize this income so that it matches the amount of wealth recorded in the Federal Reserve’s Flow of Funds.... In this way we obtain annual estimates of U.S. wealth inequality stretching back a century. Wealth inequality, it turns out, has followed a spectacular U-shape evolution over the past 100 years.... How can we explain the growing disparity in American wealth? The answer is that the combination of higher income inequality alongside a growing disparity in the ability to save for most Americans is fueling the explosion in wealth inequality. For the bottom 90 percent of families, real wage gains (after factoring in inflation) were very limited over the past three decades, but for their counterparts in the top 1 percent real wages grew fast. In addition, the saving rate of middle class and lower class families collapsed over the same period while it remained substantial at the top.... If income inequality stays high and if the saving rate of the bottom 90 percent of families remains low then wealth disparity will keep increasing. Ten or twenty years from now, all the gains in wealth democratization achieved during the New Deal and the post-war decades could be lost.... There are a number of specific policy reforms needed to rebuild middle class wealth.... Prudent financial regulation to rein in predatory lending, incentives to help people save... steps to boost the wages of the bottom 90 percent of workers are needed.... One final reform also needs to be on the policymaking agenda: the collection of better data on wealth... READ MOAR
Over at Equitable Growth: I think Paul Krugman gets one wrong--or, at least, I need more convincing before I think he gets this one right, in spite of the extraordinary empirical success of my rules (1) and (2):
...so why are companies concluding that they should return cash to stockholders rather than use it to expand their businesses? After all, we normally think of high profits as a signal: a profitable business is one people should be trying to get into. But right now we see a combination of high profits and sluggish investment. What’s going on? One possibility, I guess, is that business are holding back because Obama is looking at them funny. But more seriously, this kind of divergence — in which high profits don’t signal high returns to investment — is what you’d expect if a lot of those profits reflect monopoly power rather than returns on capital. More on this in a while. READ MOAR
Thursday, October 23, 2014
1:00 - 2: 30 p.m. ET
Economic Policy Institute
1333 H St., NW
Washington, DC 20005
Over at Equitable Growth: In the 60 years since 1954, the Federal Reserve has been moved to cut the 3-Mo. T-Bill rate when a recession threatens by 2.0%-points or more 13 times--once every 4.6 years. There have been eight cuts of 4.0%-points or more--once every 7.5 years. There have been five cuts of 5.0%-points or more--once every 12 years.
To me that suggests that the Greenspan-Bernanke policies--aim for 2.0%/year inflation, with a 300 basis-point "natural" short-term safe real interest rate on top of that when the economy is in the growth-along-the-potential-path phase of the business cycle--were already too restrictive. Once every 12 years is too often to run into ZLB problems, unless you are a strong believer in Coibion and Gorodnichenko arguments that price inertia is due to serious costs to businesses of altering price paths. READ MOAR
...is compatible with values rooted in our nation's history, among them the high value Americans have traditionally placed on equality of opportunity.... To the extent that opportunity itself is enhanced by access to economic resources, inequality of outcomes can exacerbate inequality of opportunity, thereby perpetuating a trend of increasing inequality.... Society faces difficult questions of how best to fairly and justly promote equal opportunity. My purpose today is not to provide answers to these contentious questions, but rather to provide a factual basis for further discussion.... I will review trends... then identify and discuss four sources of economic opportunity in America.... The first two are widely recognized as important sources of opportunity: resources available for children and affordable higher education. The second two may come as more of a surprise: business ownership and inheritances.... In focusing on these four building blocks, I do not mean to suggest that they account for all economic opportunity, but I do believe they are all significant sources of opportunity for individuals and their families to improve their economic circumstances...
Over at Equitable Growth: Jonathan Chait has an interesting piece on the thought on healthcare policy of the likely future senator from Iowa, Joni Ernst:
...have failed. And yet conservative opposition... has not diminished. If you want to know why this is, listen to... Joni Ernst....
We’re looking at Obamacare right now. Once we start with those benefits in January, how are we going to get people off of those? READ MOAR
Over at Equitable Growth: I am very happy to be here this morning to introduce the Oregon Economic Forum's Keynote Speaker, Doug Elliott of the Brookings Institution, and to set the stage for his talk.
To do that, let me ask all of you to cast yourselves back to 2006, to the end of Alan Greenspan's long tenure as Chair of the Federal Reserve, and to the days of what was then called the "Great Moderation". During Greenspan's term starting in 1987 the unemployment rate had never gone above 7.8% and it had gotten as low as 3.8%. The attainment of low unemployment under Greenspan did not signal any forthcoming inflationary spiral: The peak 12-mo PCE price index core inflation rate during Greenspan's tenure was 4.7%. The peak inflation rate that followed that 3.8% unemployment rate was 2.4%. Inflation had not been above 2.5% since December 1993. READ MOAR
Over at Equitable Growth: God! We were (and are) so smart!
J. Bradford DeLong and Lawrence H. Summers (1992): Macroeconomic Policy and Long-Run Growth:
On almost any theory of why inflation is costly, reducing inflation from 10%/year to 5%/year is likely to be much more beneficial than reducing it from 5%/year to 0%/year. So austerity encounters diminishing returns. And there are potentially important benefits of a policy of low positive inflation. It makes room for real interest rates to be negative at times, and for relative wages to adjust without the need for nominal wage declines....
These arguments gain further weight when one considers the recent context of monetary policy in the United States. A large easing of monetary policy, as measured by interest rates, moderated but did not fully counteract the forces generating the recession that began in 1990. The relaxation of monetary policy seen over the past three years in the United States would have been arithmetically impossible had inflation and nominal interest rates both been 3%-points lower in 1989. Thus a more vigorous policy of reducing inflation to 0%/year in the mid-1980s might have led to a recent recession much more severe than we have in fact seen...
If the past 24 hours... the past six months... the past six years... are not convincing evidence that a 2%/year inflation target is too low, what would be convincing evidence to that effect?
Plus Bonus Hoisted from the Archives:
A 2%/Year Inflation Target Is too Low: First, the live question is not whether the Federal Reserve should raise its target inflation rate above 2% per year.
The live question is whether the Federal Reserve should raise its target inflation rate to 2% per year.
On Wednesday afternoon, Federal Reserve Chair Bernanke stated that he was unwilling to undertake more stimulative policies because "it is not clear we can get substantial improvements in payrolls without some additional inflation risks." But the PCE deflator ex-food and energy has not seen a 2% per year growth rate since late 2008: over the past four quarters it has only grown at 0.9%. At a 3.5% real GDP growth rate, unemployment is still likely to be at 8.4% at the end of 2011 and 8.0% at the end of 2012--neither of them levels of unemployment that would put any upward pressure at all on wage inflation. It thus looks like 1% is the new 2%: on current Federal Reserve policy, we are looking forward to a likely 1% core inflation rate for at least another year, and more likely three. A Federal Reserve that was now targeting a 2% per year inflation rate would be aggressively upping the ante on its stimulative policies right now. That is not what the Federal Reserve is doing. Would that we had a 2% per year inflation target.
But if we were targeting a 2% inflation rate--which we are not--should we be targeting a higher rate? I believe that the answer is yes.
To explain why, let me take a detour back to the early nineteenth century and to the first generations of economists--people like John Stuart Mill who were the very first to study in the industrial business cycle in the context of the 1825 crash of the British canal boom and the subsequent recession. John Stuart Mill noted the cause of slack capacity, excess inventories, and high unemployment: in the aftermath of the crash, households and businesses wished to materially increase their holdings of safe and liquid financial assets. The flip side of their plans to do so--their excess demand for safe and liquid financial assets--was a shortage of demand for currently-produced goods and services. And the consequence was high unemployment, excess capacity, and recession,.
Once the root problem is pointed out, the cure is easy. The market is short of safe and liquid financial assets? A lack of confidence and trust means that private sector entities cannot themselves create safe and liquid financial assets for businesses and households to hold? Then the government ought to stabilize the economy by supplying the financial assets the market wants and that the private sector cannot create. A properly-neutral monetary policy thus requires that the government buy bonds to inject safe and liquid financial assets--what we call "money"--into the economy.
All this is Monetarism 101. Or perhaps it is just Monetarism 1. We reach Advanced Macroeconomics when the short-term nominal interest rate hits zero. When it does, the government cannot inject extra safe and liquid money into the economy through standard open-market operations: a three-month Treasury bond and cash are both zero-yield government liabilities, and buying one for the other has no effect on the economy-wide stock of safety and liquidity. When the short-term nominal interest rate hits zero, the government has done all it can through conventional monetary policy to fix the cause of the recession. The economy is then in a "liquidity trap."
Now this is not to say that the government is powerless. It can buy risky and long-term loans for cash, it can guarantee private-sector liabilities. But doing so takes risk onto the government's books that does not properly belong there. Fiscal policy, too, has possibilities but also dangers.
My great uncle Phil from Marblehead Massachusetts used to talk about a question on a sailing safety examination he once took: "What should you do if you are caught on a lee shore in a hurricane?" The correct answer was: "You never get caught on a lee shore in a hurricane!" The answer to the question of what you should do when conventional monetary policy is tapped out and you are at the zero interest rate nominal bound is that you should never get in such a situation in the first place.
How can you minimize the chances that an economy gets caught at the zero nominal bound where short-term Treasury bonds and cash are perfect substitutes and conventional open-market operations have no effects? The obvious answer is to have a little bit of inflation in the system: not enough to derange the price mechanism, but enough to elevate nominal interest rates in normal times, so that monetary policy has plenty of elbow room to take the steps it needs to take to create macroeconomic stability when recession threatens. We want "creeping inflation."
How much creeping inflation do we want? We used to think that about 2% per year was enough. But in the past generation major economies have twice gotten themselves stranded on the rocks of the zero nominal bound while pursuing 2% per year inflation targets. First Japan in the 1990s, and now the United States today, have found themselves on the lee shore in the hurricane.
That strongly suggests to me that a 2% per year inflation target is too low. Two macroeconomic disasters in two decades is too many.
If Cliff Asness was going to write the passage below, has there ever been a worse week for him to write it?
I mean "it's not over! The enormous pent-up inflation from the Fed's QE programs is out there bubbling under the surface!! Short Treasuries massively now!!!" has not been a winning rhetorical strategy for quite a while, and to double down on it this week does make you look like quite an idiot...
Paul Krugman lived up to his lifelong motto of 'stay classy'... lesser lights of the Keynesian firmament have also jumped in (collectivists, of course, excel at sharing a meme). Responding to Krugman is as productive as smacking a skunk with a tennis racket.... Paul's screeds.... I'll put our collective record up against Krugman's (and the Krug-Tone back-up dancers) any day of the week and twice on days he publishes... chicanery (silly Paul, you are no Rabbit)... never-uncertain-but-usually-wrong like Paul... malpractice... honest Paul Krugman (we will use this term again below but this is something called a "counter-factual")... former economists turned partisan pundits....
Much like when the Germans bombed Pearl Harbor, nothing is over yet. The Fed has not undone its extraordinary loose monetary policy and is just now stopping its direct QE purchases...
It was perfectly normal--well, not strikingly abnormal--for Cliff Asness to have taken a look at the speed at which the monetary base was increasing in 2009 and thinking that such policies, unless reversed, were likely to lead to a burst of inflation. Wrong, but not strikingly abnormal.
It was perfectly normal--well, not strikingly abnormal--for Cliff Asness to have taken a look at the speed at which the national debt was increasing in 2009 and thinking that such policies, unless reversed, were likely to lead to high Treasury real interest rates. Wrong, but not strikingly abnormal.
In order to avoid such predictions you had to:
For large increases in the monetary base not to make the likely future one of high inflation, and for large increases in the national debt not to make the likely future one of high Treasury real interest rates--well, something weird had to be going on.
But, as Krugman, Woodford, Eggertssen, Hicks, Keynes, etc. had noted, were warning, and were correct in warning back in 2009-2010, something weird was going on.
Because of how the economy had gotten itself wedged, the risk that extraordinary monetary easing would lead to an inflationary spiral was extremely low. Because of how the economy had gotten itself wedged, the risk that large government debt issuance would lead to exploding real interest rtes on government debt was extremely low. Only people who really did not understand what was going on would think that 2010 was a time to stress, highlight, obsess over, and freak out about INFLATION! DEBT! when the real risks to freak out about were DEPRESSION!! UNEMPLOYMENT!!!
But when something weird is going on, to get things badly wrong is normal--well, not that abnormal.
What is not normal--what is really abnormal--is to be a dead-ender.
What is not normal is to claim that your analysis back in 2010 that quantitative easing was generating major risks of inflation was dead-on.
What is not normal is to adopt the mental pose that your version of classical austerian economics cannot fail--that it can only be failed by an uncooperative and misbehaving world.
What is not normal is, after 4 1/2 years, in a week, a month, a six-month period in which market expectations of long-run future inflation continue on a downward trajectory, to refuse to mark your beliefs to market and demand that the market mark its beliefs to you. To still refuse to bring your mind into agreement with reality and demand that reality bring itself into agreement with your mind. To still refuse to say: "my intellectual adversaries back in 2010 had a definite point" and to say only: "IT'S NOT OVER YET!!!!"
Over at Equitable Growth: I note the publication of the IMF World Economic Outlook and its chapter 3 calling for North Atlantic economies to borrow more and spend it on infrastructure because, right, now in today's exceptional circumstances, it is--as Larry Summers and I pointed out in 2012--a policy that is self-financing does not increase but rather reduces the relative burden of the national debt.
It is thus time for Larry and me--and everyone else who has been doing the arithmetic--to take a big victory lap.
We have had no effect on policy in the North Atlantic in the past 2 1/2 years. But we were (and are) right. And it is important to register that--both so that our intellectual adversaries rethink their models and thus their positions, and so that the North Atlantic economic policymakers can do better next time. And next time is, come to think of it, right now: interest rates on the debts of reserve currency-issuing sovereigns are no higher, infrastructure gaps are larger, and output gaps are at least as large as they were 2 1/2 years ago. It's not too late to do the right thing, people!
...for countries with infrastructure needs, the combination of low interest rates and mediocre growth mean that it’s time for an investment push. What’s at stake: For countries with infrastructure needs, the combination of low interest rates and mediocre growth mean that it’s time for an investment push. While Brad DeLong and Lawrence Summers already laid out the theoretical case in a 2012 Brookings paper, the empirical case was laid out this week in Chapter 3 of the latest IMF World Economic Outlook.
Lawrence Summers writes that in a time of economic shortfall and inadequate public investment, there is for once a free lunch – a way for governments to strengthen both the economy and their own financial positions. Greg Mankiw writes that the free-lunch view is certainly theoretically possible (just like self-financing tax cuts), but we should be skeptical about whether it can occur in practice (just like self-financing tax cuts).
Abiad and al. write on the IMF blog that the evolution of the stock of public capital suggests rising inadequacies in infrastructure provision. Public capital has declined significantly as a share of output over the past three decades in both advanced and developing countries. In advanced economies, public investment was scaled back from about 4 percent of GDP in the 1980s to 3 percent of GDP at present (maintenance spending has also fallen, especially since the financial crisis).
This makes a very strong case for sharply increasing public investment in a depressed economy
Paul Krugman writes that this is disinvestment madness. Real interest rates are extremely low, indicating that the private sector sees very little opportunity cost in using funds for public investment. There has been a lot of slack in the labor market, so that many of the workers one would employ in public investment would otherwise have been idle--so very little opportunity cost there either. This makes a very strong case for sharply increasing public investment in a depressed economy; a case that doesn’t rely on claims that there is a large multiplier, although there’s every reason to believe that this is also true.
The authors of the WEO’s chapter 3 write that in contrast to the large body of literature that has focused on estimating the long term elasticity of output to public and infrastructure capital using a production function approach, the IMF analysis adopts a novel empirical strategy that allows estimation of both the short- and medium-term effects of public investment on a range of macroeconomic variables. Specifically, it isolates shocks to public investment that can plausibly be deemed exogenous by following the approach of smooth transition VARs of Auerbach and Gorodnichenko (2012, 2013), where the shocks are identified as the difference between forecast and actual investment. In the WEO chapter, the forecasts of investment spending are those reported in the fall issue of the OECD’s Economic Outlook for the same year.
The positive effects of increased public infrastructure investment are particularly strong when public investment is undertaken during periods of economic slack and monetary policy accommodation
The authors of the WEO’s chapter 3 write that a problem in the identification of public investment shocks is that they may be endogenous to output growth surprises. But the public investment innovations identified are only weakly correlated (about –0.11) with output growth surprises. Another possible problem in identifying public investment shocks is a potential systematic bias in the forecasts concerning economic variables other than public investment, with the result that the forecast errors for public investment are correlated with those for other macroeconomic variables. To address this concern, the measure of public investment shocks has been regressed on the forecast errors of other components of government spending, private investment, and private consumption.
Abiad and al. write on the IMF blog that the benefits depend on a number of factors. The authors find that the positive effects of increased public infrastructure investment are particularly strong when public investment is undertaken during periods of economic slack and monetary policy accommodation, where additional public investment spending is not wasted and is allocated to projects with high rates of return and when it is financed by issuing debt has larger output effects than when it is financed by raising taxes or cutting other spending.
Mario Monti writes that while a simplistic stability pact may have been the right choice when the euro was in its infancy, Europe can no longer afford to stick with such a rudimentary instrument. By failing to recognize the proper role of public investment, it has pushed governments to stop building infrastructure just when they should have built more. What is needed is not the flexibility to deviate from the rules, but rules that are economically and morally rigorous. The new Commission should announce a proposal for updating the rules on fiscal discipline, to reflect the role of productive public investment. The commission would then enforce the existing stability pact while allowing for the favorable treatment of public investment within the limits set out in 2013.
Europe needs mechanisms for carrying out self-financing infrastructure projects outside existing budget caps
Lawrence Summers writes that Europe needs mechanisms for carrying out self-financing infrastructure projects outside existing budget caps. This may be possible through the expansion of the European Investment Bank or more use of capital budget concepts in implementing fiscal reviews.
...That is, an IMF study suggests that the expansionary effects are sufficiently large that debt-financed infrastructure spending could reduce the debt-GDP ratio over time. Certainly this outcome is theoretically possible (just like self-financing tax cuts), but you can count me as skeptical about how often it will occur in practice (just like self-financing tax cuts). The human tendency for wishful thinking and the desire to avoid hard tradeoffs are so common that it is dangerous for a prominent institution like the IMF to encourage free-lunch thinking."
The Laffer Curve proposition holds true--tax-rate cuts are self-financing--if, defining α to be the elasticity of production with respect to the net-of-tax rate:
τ > 1/(1+α)
τ = 1/(1+α)
then tax revenue is at its maximum. If:
τ < 1/(1+α)
then the Laffer Curve proposition fails, and tax-rate cuts are not self-financing.
Arguments that the Laffer Curve proposition fails--that tax-rate cuts reduce revenue--are invariably arguments, with various bells and whistles added on, that the economy's parameter α is in the range from 0.25 to 1, depending, and thus that the critical tax rate τ at which the Laffer Curve proposition becomes true is between 50% and 80%, and thus above the current tax rate t.
Arguments that infrastructure investment is not self-financing should, similarly, invariably be arguments, with bells and whistles, that the net revenue raised ρt--the product of ρ, the comprehensive net rate of return on and thus the income produced by a dollar of infrastructure investment, multiplied by the current tax rate t--is less than the real rate of interest r at which the government must borrow to finance its infrastructure investment:
ρt < r
In a world where the real rate at which the U.S. Treasury can borrow for ten years is 0.3%/year and in which the tax rate t is about 30%, infrastructure investment fails to be self-financing only when the comprehensive rate of return is less than 1%/year.
Now you can make that argument that properly-understood the comprehensive rate of return is less than 1%/year. Indeed, Ludger Schuknecht made such arguments last Saturday. He did so eloquently and thoughtfully in the deep windowless basements of the Marriott Marquis Hotel in Washington DC at a panel I was on.
But Mankiw doesn't make that argument.
And because he doesn't, he doesn't let his readers see that there is a huge and asymmetric difference between:
my argument that tax-rate cuts are not (usually) self financing, which at a tax rate t=30% requires only that α < 2.33; and:
his argument that infrastructure investment is not self-financing, which at a tax rate t=30% requires that ρ < 1%/year.
To argue that α < 2.33 is very easy. To argue that ρ < 1%/year is very hard. So how does Mankiw pretend to his readers that the two arguments are equivalent? By offering his readers no numbers at all.
The data of economics comes in quantities. We can count things. We should count things. Please step up the level at which you play this game, guys...
"Secular stagnation" is a misleading phrase. It was coined by Alvin Hanson in the 1930s to describe a fear that an exhaustion of technological opportunities in a world monetary system that still possessed a nominal anchor to gold would generate a sub-zero full-employment Wicksellian natural rate of interest. But we don't have an exhaustion of technological opportunities. We don't have a monetary system with a nominal anchor to gold.
What we do have are rates of inflation in the DMs that expose us to severe downside macroeconomic risks, and a lack of risk tolerance and risk-bearing capacity in the United States that keep even the lowest of attainable safe interest rates from producing high enough equity and capital valuations to make it profitable to boost investment enough to push DM economies to anything like full employment.
There have not yet been any convincing stories of how a trend growth drop would have emerged in the absence of the investment shortfall, the labor skills atrophy, and the other channels of "hysteresis" that have been in operation since 2008.
The only major supply shock in the past decade has been a positive one: the unexpected emergence of new hydrocarbon-extraction technologies like tracking. We could have a large adverse hydrocarbon-supply shock from political turmoil at the borders of Muscovy. But we have not yet.
What to expect from interest rates? They will, of course, fluctuate. The modal scenario I see in the United States is one in which the Federal Reserve begins raising interest rates too early--a la Sweden at the start of this decade--and then has to return to the ZLB in a year or two as the economy weakens. The optimistic scenario is that that of the smooth glide-path to the normalized, Goldilocks economy. The pessimistic scenario is another adverse shock hits demand while the Federal Reserve is still too close to the ZLB to effectively respond, and political gridlock gives the United States another lost decade.
What to expect from interest rates? They will, of course, fluctuate. The modal scenario I see in the Eurozone is one of continued waves of crisis as Eurozone breakup fears cause spikes in interest rates in the European periphery, as the ECB then does enough to calm markets but not enough to generate recovery, that Germany makes covert fiscal transfers to keep the pain low enough to keep the Eurozone together--and winds up spending much much more than if it had bit the bullet back in 2000. In that scenario German growth over the medium term remains at best adequate as the chronic Eurozone crisis both diminishes confidence and keeps German exports competitive.
The pessimistic scenario is one of Eurozone breakup--with German interest rates even lower than they are, and peripheral European interest rates high with redoubled risk premium. The optimistic scenario is that somehow, some way, the Confidence Fairy appears and the Eurozone has a smooth glide-path to a normalized, Goldilocks economy.
The source of the chronic crisis is a shortage of aggregate demand coupled with deep structural woes that originated in the decision by German banks to loan massive amounts to the Eurozone periphery. Those loans pushed costs in the Eurozone periphery up to levels that are in strong disequilibrium in the absence of continued capital outflows from Germany.
Since the chronic crisis had a German origin--in the lending decisions of German banks--it is only appropriate that it have a German solution--adjustment via German fiscal expansion and via the implicit real debt writedowns generated by moderate German inflation should be part of the solution.
Back in 1829, the young British economist John Stuart Mill was the first to argue that while in a market monetary economy there would usually be enough spending to employ everyone who could be profitably employed at the wages they demanded, this was not always the case. If and when the economy lacked enough cash and cash-like assets to make households, businesses, and savers as a group happy with their holdings of means of payment and potential collateral, then there would be a "general glut"--an excess demand of cash and collateral--and an excess supply of labor and currently-produced goods and services: what we call a depression.
The provision of those cash and cash-like assets has to be the business of the national or currency-area government--if not of a super-continental monetary and financial hegemon--because no private entity has the power to make its liabilities legal tender and thus the ability to guarantee their acceptance in transactions and as collateral.
The ECB is tasked with this Millian objective of providing the eurozone economy with the means of payment and stores of value--cash and potential collateral--that the economy needs. The ECB is failing.
Fourth quarter-to-fourth quarter real GDP growth in the eurozone in 2013 was 0.5%. Fourth quarter-to-fourth quarter real GDP growth in the eurozone in 2013 looks to be 0.4%. December-to-December inflation in the eurozone in 2013 was 0.9%. December-to-December inflation in the eurozone in 2014 looks to be 0.0%. The ECB's annual inflation target is 1.75%. Given the potential for catchup in the European periphery to higher productivity standards, that can only be attained via nominal eurozone GDP growth of 4%-5%/year. The 1.4% nominal GDP growth we saw in 2013 and the 0.4% nominal GDP growth it appears we will see in 2014 tell us that the ECB has fallen further behind the curve than it was at the end of 2012: 7.2%-points further behind the curve than it was then.
One possibility is that the ECB is failing because it cannot do so, for every time it creates a reserve deposit it does so by withdrawing A high-quality liquid asset from the private market place, and so to first-order leaves the stock of cash plus potential collateral unchanged. Perhaps the ECB cannot carry out its million objective without engaging in what would be regarded as fiscal policy.
Another possibility is the ECB is failing because financial Germany believes that the ECB's target must be not a 1.75%/year inflation target for the eurozone, but a 1.5%/year or less inflation target for Germany--and that Mario Draghi is not powerful enough to overrule financial Germany in the corridors of power in the ECB and hence cannot do whatever it takes.
In this context, I am reminded of Ludger Schuknecht's exchange with Martin Wolf back in 2012, in which Schuknecht said, among others things: "Mr Wolf’s solution... is risk transfer via eurobonds... and demand stimulation via cheaper money and less fiscal consolidation in Germany. But the public and markets have been led to believe in short-term measures for far too long...." "expansionary policies and weak fiscal positions... created the current problems..." "fiscal consolidation and structural reforms... have invariably succeeded wherever they have been implemented..." "any decision to disregard the rules or introduce ill-suited tools such as eurobonds could undermine... confidence..." "Germany must not undermine its role as an anchor of stability via inappropriate and ineffective fiscal stimuli..." "German and European interests are indeed very much aligned and they are reflected in the jointly agreed strategy...": the policies that the eurozone has undertaken over the past 2.5 years were, to his eyes back in 2012, already dangerously radical and already pushing the utmost of the envelope that Germany could allow. Yet now we clearly need more...
Over at Equitable Growth: As I continue to try to worry--without great success--the question of just where the increases in financial instability produced by the prolonged period of past and expected future extremely low interest rates and by quantitative easing comes from...
Two sources of risk:
To recap my thinking before now:
Over at Equitable Growth: Nick Bunker picks up the slack left when Reuters pulled the plug on its noble and very useful Counterparties:
Nick Bunker: Where is the wage growth?: "The lack of wage growth is on everyone’s mind...
...Catherine Rampell at The Washington Post considers a variety of reasons for this slow wage growth... but finds one more convincing... a considerable amount of slack in the labor market.... Justin Wolfers presents a related puzzle... at the historical relationship between the unemployment rate and average wage growth.... Jared Bernstein looks at the relationship between wage growth and... [a] labor market slack [measure] developed by... Andrew Levin... [and] finds that the... relationship between slack and wage growth has weakened.... Tim Duy... thinks that Wolfers’s puzzle... isn’t all that puzzling.... The meager wage growth of recent years is just a continuation of a long-term trend highlighted by The New York Times’ David Leonhardt...
Over at Equitable Growth: J. Bradford DeLong: Talking Points for IIF: Modern Capitalism: Growth and Inequality”: 4:00-4:50 pm, Friday October 10, 2014, Ronald Reagan Building
I am going to talk mostly about the U.S. and somewhat less about the North Atlantic, and say only one thing about the world as a whole.
The one thing about the world as a whole: After the Qingming Festival of 1976, the rulers of China recognized that they had lost whatever legitimacy they had ever possessed, that Hua Guofeng and his allies could not manage the situation, and that they needed to adopt the successful-mouse-catchers development strategy, the world has become a more equal place because China and secondarily India have done well. But a continuation is not guaranteed for the next two generations. It may not even be ore likely than not.
The United States primarily and the rest of the North Atlantic to a lesser degree are losing the race between technology and education. We do not need to slow technology; we do need to accelerate education if we are to ever reduce the gap between those at the 20th and 80th income percentiles to a magnitude that does not shame us.
We may not be able to do so with our current educational technologies: we know how to get 1/3 of our populations reaching adulthood a useful college education--but the same educational strategies may well be much less effective for those outside our luckiest 1/3.
A good deal of the rise in inequality outside of the 80-20 education-and-technology factor is also due to our technologies' creation of winner-take-all contests within our economy. It is not clear to me why the economy of 1900 and the economy of 2000 did this, while the economy of 1960 did not.
The rest of the rise is due to a feedback loop by which the rich use their wealth to acquire more political influence to secure the rents that make them even richer so that they can use their wealth to an even greater extent to acquire still more political influence to secure even more rents. We do stand in great danger of building a latifundista society, which will in due course bring with it our Perons, our Pinochets...
Martin Wolf, J. Bradford DeLong, Mohamed El-Erian,
Jason Furman Lawrene Summers.
Over at Equitable Growth: Back before 2008, we neoclassical new Keynesian-new monetarist types were highly confident that the U.S. macroeconomy as then constituted had very powerful stabilizing forces built into it: if the unemployment rate rose above the so-called natural rate of unemployment, the NAIRU, it would within a very few years return to normal. READ MOAR
Over at Equitable Growth: Larry Elliott: IMF warns period of ultra-low interest rates poses fresh financial crisis threat: "The Washington-based IMF said...
...that... the risks to stability... c[o]me from the... shadow banking system... hedge funds, money market funds and investment banks that do not take deposits from the public. José Viñals, the IMF’s financial counsellor, said:
Policymakers are facing a new global imbalance: not enough economic risk-taking in support of growth, but increasing excesses in financial risk-taking posing stability challenges.... Risks are shifting to the shadow banking system in the form of rising market and liquidity risks. If left unaddressed, these risks could compromise global financial stability.
The stability report said low interest rates were “critical” in supporting the economy because they encouraged consumers to spend, and businesses to hire and invest. But it noted that loose monetary policies also prompted investment in high-yield but risky assets and for investors to take bigger bets. One concern is that much of the high-risk investment has taken place in emerging markets, leaving them vulnerable to rising US interest rates.... The IMF said there was a trade-off between the upside economic benefits of low interest rates and the money creation process known as quantitative easing and the downside financial stability risks... developments in high-yielding corporate bonds were “worrisome”, that share prices in some western countries were high by historical norms, and that there were pockets of real estate over-valuation...
I have come to the conclusion that those who say that quantitative easing has increased systemic financial-market risks have simply not thought hard enough about what quantitative easing is. In quantitative easing the central bank takes duration risk off of the private sector's balance sheet and onto the governments, that is, the taxpayers'. The ratio of risk to be borne to private-sector risk-bearing capacity falls. The presumption is that this makes financial markets less, not more, vulnerable to systemic risk. You could tell some kind of complex contrarian story with demand and supply curves that slope in non-obvious ways. But none of those who say that quantitative easing increases systemic risk make such arguments--and if they understood quantitative easing properly, they would understand that they need to and feel impelled to do so.
The argument that ultra-low interest rates and the anticipated continuation of ultra-low interest rates for a considerable time period raises systemic financial risks is less mired in the, well, mire. But it, too, is not obvious. An economy sinks into depression when households, savers, and businesses in aggregate believe that they are short of the assets they need to hold to ensure liquidity--that after subtracting off assets they are holding as savings vehicles they do not have enough cash and enough safe nominal assets that could be pledged to immediately raise cash. As a result, the aggregate of households, savers, and businesses try to cut their spending below their income in order to build up their liquid cash and safe collateral balances; but since my income is nothing more than your spending, they fail and so production, income, and spending fall until the private sector finds itself so poor that it no longer seeks to build up its liquid cash and safe collateral balances.
In such a situation the government, by trading its cash and its safe collateral liabilities for risky financial assets and four currently-produced goods and services both:
creates more of what the private sector wants to hold, and so reduces or eliminates the gap between current and desired holdings of liquid cash and safe collateral.
lowers interest rates and so increases the value of the future relative to the present, providing a direct financial incentive both to spend now on the creation of long-duration real assets and to spend now out of what are now more valuable anticipations of future income.
On the one hand, higher asset valuations and higher levels of production and income greatly reduce the risks associated with financial assets backed by real wealth of one form or another. On the other hand, the tilting of the intertemporal relative price structure greatly increases the incentive to create long-duration financial assets--which will inherently be speculative, and some of which will partake to some degree of the unhedged out-of-the-money put or even the Ponzi nature. Which of these effects will be larger? For small reductions in interest rates, the first-order effect on the value of existing collateral assets in making finance safer will outweigh the second-order creation of new long-duration assets in making finance riskier. To the extent that prudential regulation is effective--or even exists--the range over which reductions in interest rates will improve stability is larger. To the extent that the economy is already flush with long-duration financial assets--which it is--the range over which reductions in interest rates will improve stability is larger.
The first-class study of this I know finds no evidence of the IMF's contention that policies of ultra-low interest rates have laid the foundations for increased risks of systemic financial instability in the United States. Outside the United States? Yes, times of low interest rates in the core are times of opportunity--cheap financing is available to finance economic development--but also times of danger--are their financial markets robust enough to control and manage the hot-money fluctuations?--in the periphery. But how much weight does the argument that prudential policy in the periphery may go wrong have in militating against policies that--correctly--aim at appropriate internal balance in the core?
I am now more inclined to view worries that ultra-low interest rate and quantitative easing policies raise risks of future financial instability as the last-gasp argument of the austerians--as one more attempt to find an argument, any argument, to justify universal bankruptcy and the war on the Keynesian Mammon of Unrighteousness.
Mark Halperin: The Truth About Jeb Bush's Presidential Ambitions: "Finally, the most macro significant question...
...for any Republican putting him or herself forward to beat Clinton is this: what states can you win that Romney lost? For [Jeb] Bush, the easy answer includes Florida, Ohio, Colorado, Iowa, Wisconsin, New Hampshire, and Virginia. If he runs a strong campaign, Bush could perhaps compete in California and possibly New Jersey and Michigan.
In response to this:
Is there a reason why Mark Halperin thinks that Jeb Bush could not take Pennsylvania? Or is Halperin just a bullshit artist who couldn't be bothered to consult his notes? Any Republican who runs strong against a Democrat will in all likelihood win Florida and Ohio, and make Virginia, Colorado, Pennsylvania, Iowa, New Hampshire, Nevada, and Wisconsin competitive. How--aside from this omission of Pennsylvania--is this list of additional states that Jeb Bush could win different from the list of states that any Republican nominee could win if things broke their way?
California? A Republican who takes California in all likelihood has 474 electoral votes. If you are going to claim that Jeb Bush could compete in California, why not claim Massachusetts, Delaware, and Maryland as well? If you are going to claim that Jeb Bush could compete in New Jersey, why not claim Connecticut and Illinois too? And why Michigan rather than Minnesota and New Mexico?
Bloomberg Politics has managed a remarkable launch: a day-one declaration of analytical and intellectual bankruptcy...
Over at Equitable Growth: I look at the track of the past twelve months' core PCE chain-index inflation:
And I look at the annualized month-to-month changes:
And this is what I see: Over the past 50 months, only 11 have seen core inflation above 2%/year. Of the past 25 months, only 5 have seen core inflation above 2%/year. Of the past 12 months, only 2 have seen core inflation above 2%/year. Any reasonable time-series smoothing-and-forecasting algorithm tells us that PCE core inflation right now is about 1.4%/year. READ MOAR
"IF at any time between 7/28/2012 and 7/28/2015 core consumer prices...
...as recorded in the FRED database series CPILFESL, are up more than 5% in the preceding 12 months, and if over the same 1-year period monthly U3 unemployment (as recorded in FRED database series UNRATE) has not averaged below 6%:
THEN Brad DeLong agrees to buy Noah Smith one dinner at Zachary's Pizza at 1853 Solano Ave. in Berkeley CA, and to pay Noah 49 times the cost--including tax but excluding tip--of Noah's meal at Zachary's in Federal Reserve notes, or in alternative means of payment accepted by Zachary's should Zachary's Pizza no longer be accepting Federal Reserve notes at the date of the dinner.
This cost will be assessed as the total cost of the dinner to all, divided by the number of people present, regardless of how much pizza is consumed by or how much alcohol is drunk by specific individuals. If however, the above condition is not satisfied, Noah agrees to buy Brad one dinner at Zachary's.
Miles Kimball will be the judge in charge of refereeing the bet. The decisions of the judge will be final and unappealable.
Furthermore, Noah's brave and gracious willingness to take the John Cochrane-Argentina side of this bet at odds of only 50-1 will not be construed as a statement of his confidence in or of his support for any economist or position of economic analysis that judges expansionary fiscal policy at the zero lower nominal interest rate bound to be "insane", or that judges "1932" to currently be a less dire risk for the U.S. than "Argentina".
In retrospect, given Bernanke's unwillingness to split the FOMC over policy, it was grossly unfair of me to give Noah only 50-1 odds:
We now have only ten more data points to see before the bet expires, and the last two data points are now in the average that must be over 5.0%/year for Noah to win. Annualized, the two data points we have are: July: 1.2%/year; August: 0.9%/year. The ten remaining data points must thus average more than 5.8%/year for Noah to win his bet.
And, as I said before, the question remains of what wine we should brown-bag to Zachary's: I am partial to a Chateau Mouton myself, but perhaps better values are had in Haut Medocs or in Francis Ford Coppola's Archimedes, and we could always invite Paul Ryan to come to learn some real economics and drink an Échezeaux, if we felt like following the taste of the House of Valois-Burgogne rather than the House of Plantagenet, and going for wines descended from the Burgundy served to Duchesse Marie la Riche rather than from the Bordeaux served to King Edward IV...
But perhaps the most interesting thing I learn today about my bet with Noah is this: A bunch of the people whose astonishing unwisdom originally provoked it are not marking their beliefs to market and hedging, but rather doubling down:
Caleb Melby, Laura Marcinek and Danielle Burger: Fed Critics Say ’10 Letter Warning Inflation Still Right: "Signatories of a letter sent to then-Federal Reserve Chairman Ben S. Bernanke in 2010...
...are standing by their claims... that the Federal Reserve... risked “currency debasement and inflation”... “distort[ed] financial markets”....
I think there’s plenty of inflation--not at the checkout counter, necessarily, but on Wall Street... at the expense of other things, including the people who saved all their lives and are now earning nothing on their savings....
inflation, [un]employment... destroy[ed] financial markets, complicate[d]... normaliz[ation]... all have happened....
The clever thing... is never give a number and a date. They are going to generate an uptick in core inflation.... I don’t know when, but they will.
Niall Ferguson... saying his thoughts haven’t changed....
This bull market has been accompanied by significant financial market distortions, just as we foresaw. Note that word ‘risk.’ And note the absence of a date. There is in fact still a risk of currency debasement and inflation.
The letter was correct”....
Inflation could come... the nation is not prepared....
All of us... have never seen anything like what’s happened here. This recovery... by far the slowest... in the last 50 years.
Everything has panned out.... If the Fed doesn’t ease money growth into it, inflation could arrive.
Someone’s got to prove to me that inflation did not increase in the areas where the Fed put the money....
Cliff Asness... declined to comment. Michael Boskin... didn’t immediately respond.... Charles Calomiris... was traveling and unavailable.... Jim Chanos... didn’t return a phone call or an e-mail.... John Cogan... didn’t respond.... Nicole Gelinas... didn’t respond.... Phone calls... and an e-mail... to Kevin A. Hassett... weren’t returned. Roger Hertog... declined to comment.... Gregory Hess... didn’t immediately return.... Diana DeSocio... said Klarman stands by the position.... William Kristol... didn’t immediately return a call.... Ronald McKinnon... died yesterday prior to a Bloomberg call.... Dan Senor... didn’t respond.... Stephen Spruiell... declined to comment...
I am sorry that I will never learn what Ron McKinnon would have said--the last time I talked to him, at the San Francisco Fed, he said he was working on some ideas about why and where the enormous money-printing by the Fed had been soaked up.
And I do not know which is worse and less professional:
Asness, Boskin, Calomiris, Chanos, Cogan, Gelinas, Hassett, Hertog, Hess, Klarman, Kristol, and Spruiell; who stand mute.
Grant, Taylor, Ferguson, Malpass, and Wood, and Bove; who claim that the letter's warnings were prescient: "The letter mentioned several things... inflation, employment... destroy financial markets, complicate the Fed’s effort to normalize... and all have happened..."
Holtz-Eakin, Shlaes, and Ferguson (again); who claim it was always the "there are risks!" con: “The clever thing forecasters do is never give a number and a date. They are going to generate an uptick in core inflation. They are going to go above 2 percent. I don’t know when, but they will.”
The only one who emerges from this with any credit at all is Peter Wallison:
But even he gives no further reflections on why the clear and present economic dangers and imminent economic threats he saw back then have shown no signs at all of any existence.
My take: Mark your beliefs to market, people! Learn from history, people! As George Santayana said: "Those who do not remember the past are condemned to repeat it." You can argue that that is a form of justice for you. But it is not a form of justice for us--because your amnesia dooms us to repeat the bad parts of it with you sometime in the future.
Joshua Brown: “Do we need to fire PIMCO?”: "In February of 2011, [Bill] Gross loudly proclaimed...
[that] Pimco Total Return had taken its allocation to US Treasury bonds down to zero. As recently as the previous December, Pimco Total Return had been carrying as much as 22 percent of its AUM in Treasurys.... Gross compounded the move by being extremely vocal about his rationale--he went so far as to call Treasury bonds a 'robbery' of investors given their ultra-low interest rates and the potential for inflation. He talked about the need for investors to 'exorcise' US bonds from their portfolios, as though the asset class itself was demonic. He called investors in Treasury bonds 'frogs being cooked alive in a pot'. The rhetoric was every bit as bold as the fund’s positioning. It’s really hard to pound the table like this and then be flexible in the aftermath...
Over at Project Syndicate: The extremely sharp but differently-thinking Peter Thiel:
Peter Thiel: Robots Are Our Saviours, Not the Enemy: "Americans today dream less often of feats that computers will help us to accomplish...
...[and] more and more we have nightmares about computers taking away our jobs.... Fear of replacement is not new.... But... unlike fellow humans of different nationalities, computers are not substitutes for American labour. Men and machines are good at different things. People form plans and make decisions.... Computers... excel at efficient data processing but struggle to make basic judgments that would be simple for any human.... [At] PayPal... we were losing upwards of $10m a month to credit card fraud.... We tried to solve the problem by writing software.... But... after an hour or two, the thieves would catch on and change their tactics to fool our algorithms. Human analysts, however, were not easily fooled.... So we rewrote the software... the computer would flag the most suspicious transactions, and human operators would make the final judgment. This kind of man-machine symbiosis enabled PayPal to stay in business.... Computers do not eat.... The alternative to working with computers... is [a world] in which wages decline and prices rise as the whole world competes both to work and to spend. We are our own greatest enemies. Our most important allies are the machines that enable us to do new things...
Over at Equitable Growth: That U.S. policy since 2008 has been so much more successful than Eurozone policy even though the center of the financial crash was in the U.S., in the desert between Los Angeles and Albuquerque, should have caused the Eurozone to revise its economic policies and move them closer to the more-stimulative policies of the U.S. And it should have caused the U.S. to revise its policies and moved them further away from the hyper-austere policies of the Eurozone. But no.
Joe Stiglitz is, unsurprisingly, in despair:
Joe Stiglitz: [Europe’s Austerity Zombies:a “Austerity has failed. But its defenders are willing to claim victory on the basis of the weakest possible evidence: [that] the economy is no longer collapsing.... To say that the medicine is working because the unemployment rate has decreased by a couple of percentage points, or because one can see a glimmer of meager growth, is akin to a medieval barber saying that a bloodletting is working, because the patient has not died yet.... The long recession is lowering Europe’s potential growth. Young people who should be accumulating skills are not.... Meanwhile, Germany is forcing other countries to follow policies that are weakening their economies--and their democracies.... Privatization of pensions, for example, has proved costly in those countries that have tried the experiment. America’s mostly private health-care system is the least efficient in the world.... Selling state-owned assets at low prices is not a good way to improve long-run financial strength. All of the suffering in Europe... is even more tragic for being unnecessary. Though the evidence that austerity is not working continues to mount, Germany and the other hawks have doubled down on it, betting Europe’s future on a long-discredited theory. Why provide economists with more facts to prove the point? READ MOAR
Over at Equitable Growth: Chicago Federal Reserve Bank President Charles Evans's position seems to me to be the position that ought to be the center of gravity of the Federal Open Market Committee's thoughts right now, with wings on all sides of it taking different views as part of a diversified intellectual portfolio. Charles Evans:
Charles Evans: Patience Is a Virtue When Normalizing Monetary Policy: "At the end of the second quarter of 2014...
...the labor force participation rate was between 1/2 and 1-1/4 percentage points below trend... as much as 3/4 of a percentage point below predictions based on its historical relationship with the unemployment rate.... Virtually all the gap during this cycle has been due to withdrawal from the labor market of workers without a college degree.... If skills mismatch were an ongoing problem, we’d expect to see wages rising for those with the skills in demand.... Pools of potential workers other than the short-term unemployed, notably the medium-term unemployed and the involuntary part-time work force, substantially influence wage growth at the state or metropolitan statistical area level.... Current circumstances and a weighing of alternative risks mean that a balanced policy approach calls for being patient in reducing accommodation.... The biggest risk we face today is prematurely engineering restrictive monetary conditions.... If we were to... reduce monetary accommodation too soon, we could find ourselves in the very uncomfortable position of falling back into the ZLB environment.... There are great risks to premature liftoff.... And the costs of being mired in the zero lower bound are simply very large...
Yet Evans is out there on his own--with perhaps Narayana Kocherlakota beside him.[] READ MOAR
: http://www.federalreserve.gov/monetarypolicy/files/fomcprojtabl20140917.pdf (￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼￼Percent Economic Projections of Federal Reserve Board Members and Federal Reserve Bank Presidents, September 2014: Advance release of table 1 of the Summary of Economic Projections to be released with the FOMC minutes)
Live Multi Bit Rate Player (1:16 video from September 19, 2014)
...by higher wages. Via Reuters:
Fisher said on Friday he worries that further declines in unemployment nationally could lead to broader wage inflation. To head that off, and also to address what he called rising excesses in financial markets, Fisher said he prefers to raise rates by springtime, sooner than many investors currently anticipate....
I wondered if he was not misquoted or misinterpreted. But he definitely warns that wage growth is set to accelerate in his Fox News interview.... READ MOAR
Over at Equitable Growth: I am still thinking about the best assessment of potential output and productivity growth that we have--that of the extremely-sharp John Fernald's "Productivity and Potential Output Before, During, and After the Great Recession". And I am--slowly, hesitantly, and unwillingly--coming to the conclusion that I have to mark my beliefs about the process of economic technological change to market, and revise them significantly.
Let's start with what I wrote last July: READ MOAR
Over at the
Grauniad Guardian: Why is Thomas Piketty's 700-page book a bestseller? I like Thomas Piketty’s Capital in the Twenty-First Century a lot. It follows Larry Summers’s advice – which I have always thought wise--that the further ahead in time we want to forecast, the further back in time we should look. It deals with very big and important questions. It takes a broad moral-philosophical view, rather than a narrow technical-economist view. It combines history, quantitative estimation, social science theory, and a deep concern with societal welfare in a way that is too rare these days.
Over at Equitable Growth: The smart David Giles writes things that thousands of time-series econometricians out of the San Diego tradition have written, and continue to write:
David Giles: The (Non-) Standard Asymptotics of Dickey-Fuller Tests: "One of the most widely used tests in econometrics...
...is the (augmented) Dickey-Fuller (DF) test. We use it in the context of time series data to test the null hypothesis that a series has a unit root (i.e., it is I(1)), against the alternative hypothesis that the series is I(0), and hence stationary...
A stationary time series is one in which (once a deterministic non-stochastic trend is removed) you are willing to bet at very heavy odds that if you look far into the future the variable will still be close to what you calculate as its past sample average. A non-stationary time series is one that is not. This is kinda important: whether (and how much) radical uncertainty there is about the long run is a thing. This is a big issue if a piece of what enters your model is not what the time series has been over the course of your sample but rather what the agents in your model anticipate that the time series will be in the distant future. Things that look very well-behaved from today's perspective and in the past may well have underlying generating processes that are not so well-behaved in the future.
But consider for the white-noise innovation ε the time series: READ MOAR
Over at Equitable Growth: Let's look at the five-year and ten-year U.S. break-even inflation rates--the inflation rates at which an investment in U.S. Treasury bonds held to maturity produces exactly the same return as an investment in U.S. Treasury inflation-protected securities of the same maturity:
Q: How much of regional variation in real health-care (Medicare) costs is due to the fact that some regions have sicker populations than others?
A1 (micro): If we examine how much sicker people in different regions are, and multiply the difference in average sickness by how much extra treatment sicker people get on average, we get an incremental regional R2 ~ 0.1: an extra 10%-points of the regional real cost variation can be accounted for because some regions are sicker than others.
A2 (macro): If we just regress regional real costs on some plausible indicator of regional average sickness, we get an incremental regional R2 ~ 0.5: an extra 50%-points of the regional real cost variation can be accounted for because some regions are sicker than others. READ MOAR
Over at Equitable Growth: As best as I have been able to determine, the thinking among the executives and editors of the Washington Post who commissioned and published this piece back in September 2008 was roughly: "We need to publish an economy-is-actually-in-good-shape piece so that the McCain campaign and the Republicans won't be made at us". Whether the piece was true, whether the numbers quoted in it were accurate or representative, or even whether the author had a conceptually and analytically interesting perspective did not enter their thinking at all. For none of those conditions were satisfied.
I have been waiting ever since for somebody in the Washington Post to decide that they need to commission somebody to do a deep dive about how and why this piece got commissioned and published, and how they drifted so very very far away from the idea that a newspaper exists to inform its readers about the world.
I suppose I am going to have to keep waiting, and when the last piece of newsprint spins through the Washington Post presses and the last update is posted to the Washington Post servers, it will still not have dared to come clean with its readers about what went so wrong.
For your pleasure:
Donald Luskin (2008): Quit Doling Out That Bad-Economy Line | The Washington Post: "'It was the worst of times, and it was the worst of times'... READ MOAR
Daniel Kuehn administers the smackdown:
Daniel Kuehn: Facts & Other Stubborn Things: Kuehn Smackdown Watch: Bastiat Edition" "Brad DeLong thinks that Bastiat would be a modern liberal...
...(I had said the other day that he likely would be a libertarian but that Smith, Jefferson, Locke, Paine, etc. were classical liberals that would very plausibly be left-liberals today). I think he makes a good case. I've discussed many of the passages he presents to make the claim here, and I think they are important for libertarian fans of Bastiat especially to be aware of. And anyone that's followed the blog for a few years know that I think most modern invocations of the broken window are God-awful and that Bastiat's understanding of general equilibrium is far more sophisticated and closer to people like me or Krugman who make important distinctions between stocks and flows (wealth and income) in arbitrating the effects of, for example, a disaster.
I would only say this in my defense (because I still think he would be more of a libertarian, simply due to the center of gravity of his commentary): he would certainly be more of a libertarian in the vein of Hayek of the Constitution of Liberty or Law, Legislation, and Liberty than a libertarian like Bob Murphy (for example).
Over at Equitable Growth: The very smart Nick Rowe produces an explanation of his point of view with which I can have only linguistic quibbles:
**Nick Rowe: What's special about monetary coordination failures?: "This is a response to Brad DeLong's and David Glasner's good posts...
...[that] forced me to think.... Apples and bananas are perishable, but gold lasts forever. One apple tree produces 100 apples per year, regardless. One banana tree produces 100 bananas per year, regardless. Trees cannot be produced. Gold cannot be produced. Gold is the medium of account. Apples and bananas are priced in gold. Those prices may be sticky.... There are two parallel economies... a barter economy... a monetary exchange economy.... READ MOAR
Over at Equitable Growth: John Mearsheimer is only one of a surprising number claiming that the current crisis in Ukraine is predominantly the U.S.'s, and NATO's, and the Ukraine's fault:
John Mearsheimer: How the West Caused the Ukraine Crisis: Why the Ukraine Crisis Is the West’s Fault: "The United States and its European allies share most of the responsibility...
...The taproot of the trouble is NATO enlargement.... For Putin, the illegal overthrow of Ukraine’s democratically elected and pro-Russian president--which he rightly labeled a “coup”--was the final straw.... Realpolitik remains relevant--and states that ignore it do so at their own peril. U.S. and European leaders blundered in attempting to turn Ukraine into a Western stronghold on Russia’s border....
Soviet leaders... and their Russian successors did not want NATO to grow any larger and assumed that Western diplomats understood their concerns. The Clinton administration evidently thought otherwise.... The first round of enlargement... 1999... the Czech Republic, Hungary, and Poland. The second... 2004... Bulgaria, Estonia, Latvia, Lithuania, Romania, Slovakia, and Slovenia. Moscow complained bitterly.... The alliance considered admitting Georgia and Ukraine.... Putin maintained that admitting those two countries to NATO would represent a “direct threat” to Russia.... READ MOAR
Hyman Minsky: Minsky on the IS-LM obfuscation: "The glib assumption made by Professor Hicks...
...in his exposition of Keynes’s contribution that there is a simple, negatively sloped function, reflecting the productivity of increments to the stock of capital, that relates investment to the interest rate is a caricature of Keynes’s theory of investment... which relates the pace of investment not only to prospective yields but also to ongoing financial behavior.... The conclusion to our argument is that the missing step in the standard Keynesian theory was the explicit consideration of capitalist finance within a cyclical and speculative context... then the full power of the revolutionary insights and the alternative frame of analysis that Keynes developed becomes evident.... The greatness of The General Theory was that Keynes visualized [the imperfections of the monetary-financial system] as systematic rather than accidental or perhaps incidental attributes of capitalism.... Only a theory that was explicitly cyclical and overtly financial was capable of being useful... READ MOAR
Olivier Blanchard, inveighing against "ergodicity" and "linearity" as assumptions, sounds like some post-Keynesian from the 1980s. They were right then. He is right now:
Olivier Blanchard: Where Danger Lurks: "One has to go back to the so-called rational expectations revolution...
...What was new was the development of techniques to solve models under the assumption that people and firms did the best they could in assessing the future. (A glimpse into why this was technically hard: current decisions by people and firms depend on their whole expected future. But their whole expected future itself depends in part on current decisions.) These techniques... made sense only... [if] economic fluctuations were regular enough so that, by looking at the past, people and firms (and the econometricians)... could understand their nature and form expectations... and simple enough so that small shocks had small effects.... Thinking about macroeconomics was largely shaped by those assumptions....
Over at Equitable Growth: Nick Rowe has a nice, intuitive, monetarist take on the core of macroeconomics. But he keeps failing to convince me completely. And I keep failing to make my objections clear in a way that convinces him I have a point rather than simply being a Crazy-Old-Keynesian-Yelling-at-Clouds. Let me try it again:
The way Nick sees it, The key is money demand and money supply (at full employment). When money demand is greater than money supply, people try to cut their spending hello their income in order to build up cash balances. The problem, of course, is that one person spending is another person's income. So everyone's income falls until everyone's income is so low that people in aggregate no longer wish to build up their cash balances right now. And there the economy sits, depressed, until something happens to balance money demand and money supply (at full employment). [READ MOAR:]
J. Bradford DeLong
Professor of Economics, U.C. Berkeley
Research Associate, NBER
September 30, 2009
A Little Background
About a year and a half ago—in the days after the forced merger of Bear Stearns into J.P. MorganChase, say—there was a near consensus of economists that an additional dose of expansionary fiscal policy was unlikely to be necessary. The Congress had passed a first round of tax cut-based stimulus, the impact of which in the summer of 2008 is clearly visible in disposable personal income and perhaps visible in the tracks of estimated monthly real GDP. The near-consensus belief back then, however, was that that was the only expansionary discretionary fiscal policy move that was appropriate. READ MOAR
When Do We Start Calling This "The Greater Depression"?
We started by calling it the financial crisis of 2007. Then it became the financial crisis of 2008. Next it was the downturn of 2009-2009. By the middle of 2009 it was clearly the biggest thing since the 1930s, and acquired the name of "The Great Recession". By the end of 2009 the business cycle trough had been passed, and people breathed a sigh of relief: "The Great Recession" would be its stable name--we would not have to change its name again, and move on to labels containing the D-word. READ MOAR at Project Syndicate READ MOAR at Equitable Growth:
Over at Equitable Growth: The extremely-sharp Jérémie Cohen-Setton has a roundup:
Jérémie Cohen-Setton: Blogs review: The bond market conundrum redux: "Are we seeing a new version of the Greenspan 2005 conundrum?...
Fed tapering was widely expected to push up US yields. Instead, US yields have fallen since the beginning of the year.... A successful explanation of this new conundrum cannot just rely on a flight to safety... it also needs to rationalize why 5-year... and 10-year yield[s] have diverged.... READ MOAR
Over at Equitable Growth A Baker's Dozen of recent keepers:
And three that require excerpting: READ MOAR
David Beckworth notes that in the Bernanke-Yellen era the FOMC gets uncomfortable and decides that it has to loosen policy and steps up its interventions when PCE inflation falls below 1.5%/year and gets uneasy and decides that it has to tighten policy when PCE inflation rises above 2%/year:
[This] reduced-form relationship... is highly suggestive and consistent with my claim... that... there is a 2% ceiling to an inflation target corridor...
Over at Equitable Growth: Nick Rowe begs for North Atlantic central banks to do what he (and I) regard as their proper job, and whimpers:
Nick Rowe: Money, Prices, and Coordination Failures "The more interesting cases are...
...where a non-monetary coordination failure has spillover effects, and causes a monetary coordination failure. A worsening of asymmetric information problems in financial markets, which is a coordination problem in its own right, also causes an increased demand for money and a monetary coordination problem. Should we say that the problem in financial markets is the "root cause" of the recession, and one that should be addressed directly, if possible, by something other than monetary policy? No. Monetary policy should take the world as it is, warts and all, and do what it can do. And what it can do is eliminate that excess demand for money, even if it cannot eliminate that original problem that initially caused the excess demand for money. It does not matter, for the monetary authority, whether that increased demand for money was caused by some natural event like the weather, which nobody can change, or whether it was caused by some other problem, which the fiscal authority can and should fix. READ MOAR
Over at Equitable Growth: Apropos of:
Cosmos Elysée (2009): On the Certainty of the Bayesian Fortune-Teller,
Thrasymakhos: Today we discover that Sam Wang does not seem to be a Bayesian:
Sam Wang: Why you’re wrong to get excited about “60%”: Some people are excited... Nate Silver... [gives] a probability of a GOP [Senate] takeover at 60%. To cut to the chase: I do not think that number means what you think it does...
Thomas Bayes: It is simple. It means that Nate Silver stands ready to bet on Senate control next January at odds of 3-2.
Thrasymakhos: "Stands ready"? READ MOAR
Over at Equitable Growth: Over in Yurp:
Paul de Grauewe: "[European policymakers] are doing everything they can...
...to stop recovery taking off, so they should not be surprised if there is in fact no take-off. It is balanced-budget fundamentalism, and it has become religious. We know from the 1930s that if everybody is trying to pay off debt and the government then deleverages at the same time, the result is a downward spiral. The rigidities in the European economy have been there for ages. They have absolutely nothing to do with the problem we face today...
Mario Draghi said differently at Jackson Hole last weekend. READ MOAR
...It’s the posts and the tweets. It’s the stream of daily and sub-daily updates that remind people that you exist. Stock is the durable stuff. It’s the content you produce that’s as interesting in two months (or two years) as it is today. It’s what people discover via search. It’s what spreads slowly but surely, building fans over time. I feel like flow is ascendant... but we neglect stock at our own peril...
A Baker's Dozen of keepers for the stock from the excellent but (and?) highly irascible Daniel Davies... READ MOAR
Over at Equitable Growth: Lots of people are going to be saying lots of things in and around the Federal Reserve Bank of Kansas City's Annual Jackson Hole Conference this weekend. To help me (and you) keep your thoughts from being buffeted by the noise and drifting off into various forms of macroeconomic idiocy, here is an updated version of a graph I have found useful since 2009 in keeping my thoughts clear, coherent, and (I hope) correct.
It plots four major components of real aggregate demand: exports, business investment in equipment and software, Government purchases, and residential construction. All are measured as shares of potential GDP. And all are measured as percentage-point-of-potential deviations from the values they attained at the last business cycle peak. And it teaches nine lessons. READ MOAR