Category: Equitablog

Must-read: Rob Johnson: “The China Delusion”

Posted on by Brad DeLong

Must-Read: The extremely sharp Rob Johnson is in the camp of those who think that China’s principal short-run problems of problems of macroeconomic management–that investors are not confident that their investments in China will remain profitable–rather than the more-fundamental problems of political economy: the fear by investors that their investments in China are insecure. There’s a return-problems camp. There’s a risk-problems camp. Rob Johnson is in the first:

Rob Johnson: The China Delusion: “China’s transition from an export-led growth strategy to one propelled by domestic consumption…

…is proceeding far less smoothly than hoped. For some people, visions of the wonders of capitalism with Chinese characteristics remain undiminished…. The optimists’ unreality is rivalled by that of supply-siders, who would apply shock therapy to China’s slumping state sector and immediately integrate the country’s underdeveloped capital markets into today’s turbulent global financial system. That is a profoundly dangerous prescription. The power of the market to transform China will not be unleashed in a stagnant economy, where such measures would aggravate deflationary forces and produce a calamity.

The persistent downward pressure on the renminbi reflects a growing fear that Chinese policymakers have no coherent solution to the dilemmas they face. Floating the renminbi, for example, is a dangerous option. After all, with the Chinese economy undergoing wholesale economic transformation, estimating a long-term equilibrium exchange rate that will anchor speculation is virtually impossible, particularly given persistent doubts about data quality, disclosure, and opaque policymaking processes.

But if the current exchange-rate peg to a basket of currencies fails to anchor the renminbi and prevent sharp depreciation, the deflationary consequences for the world economy will be profound. Moreover, they will feed back on the Chinese export sector, thus dampening the stimulative impact of a weakened currency.

The key to stabilising the exchange rate lies in creating a credible development policy. Only then will the pressure on the renminbi, and on China’s foreign-exchange reserves, subside, because investors will see a clear way forward.

Establishing policy credibility will require diminishing the muddled microeconomic incentives of state control and guarantees. It will also require reinvigorating aggregate demand by targeting fiscal policy to support the emerging economic sectors that will underpin the new growth model…

Must-read: Narayana Kocherlakota: “What We’ve Learned About Unconventional Monetary Policy”

Posted on by Brad DeLong

Must-Read: Narayana Kocherlakota has been on quite a roll recently:

Narayana Kocherlakota: What We’ve Learned About Unconventional Monetary Policy: “Lesson 1: Even over relatively long periods of time…

…unconventional monetary policy tools don’t have extreme downside risks…. Lesson 2: Central banks are able to guide inflation close to its desired level using unconventional tools…. One could certainly ask: why was the FOMC consistently aiming for such a low inflation rate in this time frame, given that they expected such a high unemployment rate? (I have posed that question here.) But let’s leave that question aside. Throughout much of the 2008-10 period, many observers outside of the Fed expressed strong concerns about the risk of unduly high or unduly low inflation. Given that level of background uncertainty, I would say that the FOMC did a very good job at using unconventional tools to achieve what policymakers wanted in terms of inflation outcomes. Lesson 3: Hitting inflation objectives does not translate into hitting growth objectives…

Plus:

Narayana Kocherlakota: Interest Rate Increases Are Hard to Undo?: “Yellen made the following statement…

I do not expect that the FOMC [Federal Open Market Committee] is going to be soon in the situation where it is necessary to cut rates….

I argue that her statement suggests that the FOMC’s policy moves will be inappropriately insensitive to adverse information about the evolution of the economy…. There’s some set of economic conditions for which a range of a quarter to half a percent for the target range for the fed funds rate is appropriate. Under an appropriately data-sensitive approach… the FOMC should slightly lower the fed funds rate target range if it confronts a slightly worse set of economic conditions [than that]…. If a move of zero is highly likely, surely a downward move of a quarter percent point should be more than a little possible? But Chair Yellen’s statement suggests that this isn’t the way that the FOMC is thinking about the situation…. She seems to be saying that it will take a pretty bad turn of events for the FOMC to be willing to reverse its December move.  Such an approach means that the FOMC’s December has created a new higher floor….

The FOMC could be a lot more data-sensitive than I’ve described when it considers interest rate cuts. Failing that, the other response is to realize that any future rate increase will push upwards on the new soft floor.  That realization should make the FOMC very cautious about undertaking any future rate increase.

And:

Narayana Kocherlakota: Negative Rates: A Gigantic Fiscal Policy Failure: “Since October 2015, I’ve argued that the Federal Open Market Committee (FOMC)…

…should reduce the target range for the fed funds rate below zero. Such a move would be appropriate for three reasons:

  • It would facilitate a more rapid return of inflation to target.
  • It would help reduce labor market slack more rapidly.
  • It would slow and hopefully reverse the ongoing and dangerous slide in inflation expectations. 

So, going negative is daring but appropriate monetary policy. But it is a sign of a terrible policy failure by fiscal policymakers.

The reason that the FOMC has to go negative is because the natural real rate of interest r* (defined to be the real interest rate consistent with the FOMC’s mandated inflation and employment goals) is so low.   The low natural real interest rate is a signal that households and businesses around the world desperately want to buy and hold debt issued by the US government. (Yes, there is already a lot of that debt out there – but its high price is a clear signal that still more should be issued.)  The US government should be issuing that debt that the public wants so desperately and using the proceeds to undertake investments of social value.

But maybe there are no such investments?  That’s a tough argument to sustain quantitatively.  The current market real interest rate – which I would argue is actually above the natural real rate r* – is about 1% out to thirty years.  This low natural real rate represents an incredible opportunity for the US. We can afford to do more to ensure that all of our cities have safe water for our children to drink.  We can afford to do more to ensure that our nuclear power plants won’t spring leaks.  We can afford to do more to ensure that our bridges won’t collapse under commuters.

These opportunities barely scratch the surface.  With a 30-year r* below 1%, our government can afford to make progress on a myriad of social problems.  It is choosing not to. 

If the government issued more debt and undertook these opportunities, it would push up r*.  That would make life easier for monetary policymakers, because they could achieve their mandated objectives with higher nominal interest rates. But, more importantly, the change in fiscal policy would make life a lot better for all of us. 

I don’t think that Chair Yellen will say the above in her Humphrey-Hawkins testimony tomorrow – but I also think that it would be great if she did.

Narayana Kocherlakota: Dovish Actions Require Dovish Talk (To Be Effective): “The Federal Open Market Committee (FOMC) has bought a lot of assets and kept interest rates extraordinarily low…

…Yet all of this stimulus has accomplished surprisingly little (for example, inflation and inflation expectations remain below target and are expected to do so for years to come)…. Over the past seven years, the FOMC’s has consistently talked hawkish while acting dovish. This communications approach has weakened the effectiveness of policy choices, probably in a significant way…. In December 2008, the FOMC lowered the fed funds rate target range to 0 to a quarter percent. It did not raise the target range until December 2015, when the unemployment rate had fallen back down to 5%.   But – with the benefit of hindsight – a shocking amount of this eight years’ worth of unprecedented stimulus was wasted, because it was largely unanticipated by financial markets…

Abundance and the direction of technological growth

Posted on by Bridget Ansel
An activist cheers at a minimum wage rally in New York. Given the slow productivity growth, some economists are wondering if higher wages might increase productivity.

Where does productivity growth come from? The definitive answer to that question would quickly win someone a Nobel prize and the immediate gratitude of economists and policymakers. (Well, maybe not the economists researching the causes of productivity growth.) The arrival of that revelation, however, is far from imminent.

But in the here and now, given the slow productivity growth in the United States, there’s been quite a bit of thinking recently about how to push productivity growth up. One provocative idea that has captured some attention is that boosting wages will help increase the pace of productivity growth.

When we think about the relationship between productivity and wages, it’s usually in the sense that productivity determines wages. The arrow of causality points from higher productivity to higher wages. But it’s possible that the arrow can point in the other direction at the same time—higher wages might also increase productivity. That’s some of the thinking behind the efficiency wage argument, reviewed here by Justin Wolfers of the University of Michigan and Jan Zilinsky of the Peterson Institute of International Economics.

Expanding that intuition to the broader economy, Noah Smith wonders if direct policy intervention in the form of higher minimum wages may increase innovation and therefore productivity growth. And in a piece from two years ago, Ryan Avent of The Economist fleshes out a deeper argument: that in incentivizing work from low-wage workers, wages remain low and reduces the incentive to innovate. If these workers were able to live without earning wages from work, wages might rise and spark labor-saving innovation. Jared Bernstein of the Center on Budget and Policy Priorities floats the idea that during periods of full employment, when the labor market and the economy as a whole use labor and capital to their capacity, productivity can be boosted as companies innovate in response to higher wages.

These arguments are similar to the idea of directed technical change, first introduced in a 2001 working paper by economist Daron Acemoglu of the Massachusetts Institute of Technology. The idea is that the relative prices of the factors of production affect the kind of innovation and productivity growth in an economy. So an economy where wages are higher will have productivity growth biased toward using labor less and using capital more. Discussing the possibility of a global labor shortage, Duncan Weldon uses a directed technical change-type argument to point out that a decline in available labor won’t necessarily lead to an increase in labor’s bargaining power.

It’s worth reminding ourselves that our knowledge of how to spur productivity growth is limited, to say the least. But let’s also not limit the potential sources that we look into.

Must-read: David Glasner: “Competitive Devaluation Plus Monetary Expansion Does Create a Free Lunch”

Posted on by Brad DeLong

Must-Read: The very sharp David Glasner says–correctly–that currency war is different from war-war. War war is a negative sum game. Currency war is a positive-sum game:

David Glasner: Competitive Devaluation Plus Monetary Expansion Does Create a Free Lunch: “Hawtrey explained why competitive devaluation in the 1930s was–and in my view still is–not a problem…

…Because the value of gold was not stable after Britain left the gold standard and depreciated its currency, the deflationary effect in other countries was mistakenly attributed to the British depreciation. But Hawtrey points out that this reasoning was backwards. The fall in prices in the rest of the world was caused by deflationary measures that were increasing the demand for gold and causing prices in terms of gold to continue to fall, as they had been since 1929. It was the fall in prices in terms of gold that was causing the pound to depreciate, not the other way around….

Depreciating your currency cushions the fall in nominal income and aggregate demand. If aggregate demand is kept stable, then the increased output, income, and employment associated with a falling exchange rate will spill over into a demand for the exports of other countries and an increase in the home demand for exportable home products. So it’s a win-win situation.

However, the Fed has permitted passive monetary tightening over the last eighteen months, and in December 2015 embarked on active monetary tightening…. Passive tightening has reduced US demand for imports and for US exportable products, so passive tightening has negative indirect effects on aggregate demand in the rest of the world…

Must-read: Dan Davies: Comment on “The Euro Area Crisis Five Years After the Original Sin”

Posted on by Brad DeLong

Must-Read: Dan Davies: Comment on “The Euro Area Crisis Five Years After the Original Sin”: “The IMF took two decisions on Greece, not one…

…They decided that they could lend without a debt restructuring, and they decided to implement a completely unprecedented front-loaded fiscal consolidation program. The first of these was the subject of the ‘mea culpa’ exercise, but the second has never been revisited… they actually defended it in the lessons-learnt paper…. It seems clear to me that it is the second mistake, not the first, which deserves the name ‘austerity’, and it is blindingly obvious that the overwhelming majority of the economic damage was done by the front-loaded nature of the fiscal cuts. (The IMF occasionally tries to claim that the headline number of the debt/GDP ratio had a negative effect on business confidence, but this seems pretty desperate to me when you’re trying to explain what happened to Greek GDP and the alternative explanation is simply the cut in government spending).
But having noted that the decision to slash and burn the primary deficit might have been a bad idea, Orphanides then spends the rest of the paper talking about the minor mistake which made hardly any difference!…

Must-read: Tim Duy: “FOMC Minutes and More”

Posted on by Brad DeLong

Must-Read: But being “behind the cycle” is good, no? On a lee shore you need more sea room, lest the wind strengthen, no?

Tim Duy: FOMC Minutes and More: “The Fed may be turning toward my long-favored policy position…

…the best chance they have of lifting off from the zero bound is letting the economy run hot enough that inflation becomes a genuine concern. That means following the cycle, not trying to lead it. And I would argue that if the recession scare is just that, a scare, they are almost certainly going to fall behind the curve. The unemployment rate is below 5 percent and wage pressures are rising. The economy is already closing in on full-employment. If we don’t have a recession, then how much further along will the economy be by the time the Fed deems they are sufficiently confident in the economy that they can resume raising rates? And note the importance of clearly progress on inflation….

Bullard noted that the FOMC has repeatedly stated in official communication and public commentary that future monetary policy adjustments are data dependent. He then addressed the possibility that the financial markets may not believe this since the SEP may be unintentionally communicating a version of the 2004-2006 normalization cycle, which appeared to be mechanical…. You might forgive market participants for believing that the SEP infers some calendar-based guidance when Federal Reserve Vice Chair Stanley Fischer says things like:

WELL, WE WATCH WHAT THE MARKET THINKS, BUT WE CAN’T BE LED BY WHAT THE MARKET THINKS. WE’VE GOT TO MAKE OUR OWN ANALYSIS. WE MAKE OUR OWN ANALYSIS AND OUR ANALYSIS SAYS THAT THE MARKET IS UNDERESTIMATING WHERE WE ARE GOING TO BE. YOU KNOW, YOU CAN’T RULE OUT THAT THERE IS SOME PROBABILITY THEY ARE RIGHT BECAUSE THERE’S UNCERTAINTY. BUT WE THINK THAT THEY ARE TOO LOW. 

Saying the markets are wrong implies that the policy direction is fairly rigid. In any event, I am not confident there is yet much support for Bullard’s position…. Bullard has also gone full-dove. He remembered that he thought inflation expectations were supposed to be important, and the decline in 5-year, 5-year forward expectations has him spooked. And he thinks that the excess air has been released from financial markets, so his fears of asset bubbles has eased. Hence, the Fed can easily pause now….

Bottom Line: The Fed is on hold, stuck in risk management mode until the skies clear. If you are in the ‘recession’ camp, the path forward is obvious. The Fed cuts back to zero, drags its heals on more QE, and fumbles around as they try to figure out if negative rates are a good or bad thing. Not pretty. But if you are in the ‘no recession’ camp, it’s worth thinking about the implications of a Fed pause now on the pace of hikes later. Being on hold now raises the risk that by the time the Fed moves again, they will be behind the cycle.

Explore the link between race and student debt—and read our new report on inequality and innovation

Posted on by David Hudson

Earlier today, we released the second set of maps in our interactive Mapping Student Debt project, examining the relationship between race and student loan delinquency across the United States. Unsurprisingly, these new maps show that the two are highly correlated.

Here are the key takeaways:

  • Student loan delinquency disproportionately affects minority communities.
  • Even after controlling for income, race still has a strong impact on student loan delinquency.
  • Middle-class minorities are hurt the most by student loan delinquency.

As Marshall Steinbaum and Kavya Vaghul explain, a substantial body of research establishes that these outcomes are the result of structural racism in higher education, the credit and labor markets, and the wealth distribution in the United States.

Explore the new maps here.

Yesterday, we published a new report that asks the question, “What do trends in economic inequality imply for innovation and entrepreneurship?” Authored by Elisabeth Jacobs, Senior Director for Policy and Academic Programs here at Equitable Growth, the report develops a framework that connects rising economic inequality with declining levels of innovation and economic dynamism in the United States.

Briefly, the new report finds that economic growth and inequality, innovation, and entrepreneurship are inexorably linked, but in very different ways when examined across the wealth and income spectrum rather than through the usual lens of overall small business creation and direct investments in technology and innovation.

Read the full report here.

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Concrete Economics: The Hamilton Approach to Economic Growth and Policy

Posted on by Brad DeLong
Concrete Economics The Hamilton Approach to Economic Growth and Policy Stephen S Cohen J Bradford DeLong 9781422189818 Amazon com Books

Stephen S. Cohen and J. Bradford DeLong: Concrete Economics: The Hamilton Approach to Economic Growth and Policy: (Allston, MA: Harvard Business Review Press: 1422189813) http://amzn.to/1XxIyPV

Steve Cohen and I have a new book coming out from Harvard Business Review Press on March 1, 2016. A very short book. Easy and quick to read. Easy and quick to read because it tries to make one big and very important point, and avoid being distracted from it:

America’s debate about economic policy goes way wrong whenever it is ruled by ideology.

It doesn’t matter much which ideology—a rigid and ideologized Hamiltonianism would have been (almost) as bad as rigid-Jeffersonianism, an excessive attachment to outmoded industries or to ways of delivering social-insurance that were merely emergency expedients when adopted in the 1930s would be (almost) as bad as the market-worshipping sects of neoliberalism.
Thus we say:

America’s debate about economic policy goes largely right whenever it is ruled by pragmatism.

Successes come whenever the question asked and answered is: What concrete steps can we take, here and now, to make America more prosperous and to share the fruits of growth equitably? Failures come whenever the question asked and answered is: Do these policy proposals conform to the ideas of Adam Smith or Edmund Burke or William Beveridge or even John Maynard Keynes?—let alone those of the Karl Marxes, the Friedrich von Hayeks, and the Ayn Rands.

So I now have a problem. HBR Press would be extremely annoyed if I were to simply dump the book (or large parts of the book) online. But I really do want to do so. I am excited about the big idea. And I want this big idea to get out into the world undistorted.

So how should Steve and I tease this little book of ours?