Category: Equitablog

Must-Reads: For the Morning of November 12, 2015

Posted on by Brad DeLong

Must-Read:

  • Neel Kashkari confuses an unsustainable level of investment, a sectoral maldistribution of demand, with an unsustainable level of output…
  • Mark Thoma and company on live questions for monetary policy…
  • Noah Smith and company on the reading list for bubbles and panics…
  • And…
  • Plus…

Sorry Japan, printing money is morphine. makes u feel better but doesn't cure. BOJ Unveils Bold Bid to End Deflation http://t.co/9G9mnAOdOq

— Neel Kashkari (@neelkashkari) April 5, 2013

And in January 2014, arguing that U.S. real GDP in 2007 was unsustainably high, and thus that the economy needed a recession:

In response, Paul Krugman quotes himself from 2011: A Note on Aggregate Demand and Aggregate Supply: “One thing that keeps appearing in comments is the notion that…

…because we had a bubble, in which some people were borrowing too much, the economic growth of 2000-2007 wasn’t [sustainable]…. This is confusing demand with supply. We really did produce all the goods and services… because we had willing workers, a sufficient capital stock, the right technology, and so on…. Some… spending… was debt-financed, and those [particular] debtors can’t continue to spend…. But that doesn’t say… the capacity has somehow ceased to exist; it only says that… someone else has to spend instead…. Past growth wasn’t an illusion, or a fraud[, or unsustainable]; but we need policies to sustain aggregate demand. And yes, I have a model.

Paul Krugman’s model: : Debt, Deleveraging, and the Liquidity trap: A New Model: “Debt is the crux of advanced economies’ current policy debates…

…Some argue for fiscal expansion to avoid recession and deflation. Others claim that you can’t solve a debt-created problem with more debt. This column explains the core logic of a new model by Eggertsson and Krugman in which debt shocks and policy reactions can be examined. Relying on heterogeneous agents, the model naturally produces the paradox of thrift but also finds new supply-side paradoxes, those of toil and flexibility. The model suggests that most economists have been misthinking the issues and that actual policy in the US and EU is misguided.

These are must-reads because Neel Kashkari’s views of potential output and monetary policy are, Milton Friedman would say, profoundly wrong. Friedman would say: the way you tell whether a boom is artificial and unsustainable or not is whether it generates unexpected and rising inflation. Friedman would say: When employment and production are below their sustainable supply-side trends, the right monetary policy is for the central bank to boost the money stock. Milton Friedman would say: Friedrich von Hayek was a great economist–but his greatness was definitely not in the field of business-cycle theory.

Also: Charles Steindel (2009): Implications of the Financial Crisis for Potential Growth: Past, Present, and Future; (2010): The Financial Crisis and the Measurement of Financial Sector Activity.

And, if you wish: Brad DeLong: Neel Kashkari to Replace Narayana Kocherlakota at the Minneapolis Fed?

The second must-read is one from the estimable Mark Thoma: Questions for Monetary Policy: “James Bullard, president of the St. Louis Fed…

says there are five questions for monetary policy…. “What are the chances of a hard landing in China? Have U.S. financial market stress indicators worsened substantially? Has the U.S. labor market returned to normal? What will the headline inflation rate be once the effects of the oil price shock dissipate? Will the U.S. dollar continue to gain value against rival currencies?” I would add: Will wage gains translate into inflation (or something along those lines)? Anything else?

I would add: if the Federal Reserve starts raising interest rates, will there be wage gains?

Third, Noah Smith presents his “Panics and Bubbles” reading list: “There are a lot of good non-macro and empirical papers out there on the topic of ‘Panics and Bubbles’…

…Harrison and Kreps (1978)… [on] overconfidence can lead to asset price volatility. Scheinkman & Xiong (2003) follow up. Barber and Odean (2001) provide some evidence…. Heterogeneous beliefs… a good overview by Xiong… Morris… David Romer… Barsky talking about the Japanese bubble…. Learning… Zeira…. Noise trader models… DeLong et al. (1990)… Abreu & Brunnermeier (2003). Mendel and Shleifer (2012) is yet another good one… Brunnermeier and Nagel (2004) on hedge funds and the technology bubble for some evidence…. ‘Information cascades’… Avery and Zemsky (1998), Chari and Kehoe (2003), and Park and Sabourian (2009)…. Variance bounds… other kinds of bubble tests… Refet Gurkaynak… surveys… by Brunnermeier and by Scherbina and Schlusche…. The finance theory literature has developed in parallel to the macro literature, with incomplete communication between the two…

Noah is responding to Tony Yates: If I was devising a panics and bubbles course…: “Looking through the reading list for the [proposed] PCE Manchester course…

…it seemed to miss… mainstream financial macro and microeconomics.  If I were teaching a course on panics and bubbles… I would take them through Diamond and Dybvig’s classic model of banks runs… And I would take them through the analyses of moral hazard in the provision of public deposit insurance to stop these runs [for example, see the references in Sargent’s LSE lecture, or indeed Andy Haldane’s speeches]… Geanakoplos’ work on how leverage and bouts of optimism creates booms and busts in asset prices…. Karaken and Wallace…. Angelotos and co-authors, Morris and Shin and Shleifer and Vishny… have sought to model how beliefs (eg about the value of an asset, or the likelihood of a future event) can spread and become self-fulfilling…. Roger Farmer…. I would stuff the reading list with reams of papers I hadn’t even properly read myself… Brunnermeir and Sannikov… Shin, and John Moore… Kiyotaki-Moore… Lucas, Svensson, Mehra and Prescott, Campbell and Cochrane, Epstein and Zin, Fama, Shiller…. Banking and finance in macro [due to Bernanke, Gertler, Gilchrist, Carlsrom, Fuerst, and others]…. I don’t really know why the proposal for the Manchester course on panics and bubbles was rejected.  But, if it were me, I would have ditched it too, in favour of a course that looked more like the above.

Who is responding to Claire Jones: Students’ hopes dashed over ‘crash’ course in economics teaching: “Students from the birthplace of the Industrial Revolution have had their hopes for a course on financial crashes…

…dashed after the University of Manchester refused to put it on next year’s syllabus…. The University of Manchester said: ‘We have decided not to run the Bubbles, Panics and Crashes module next academic year, but will launch other new economics-run modules to address broader areas of the economics curriculum.’

And:

Matthew Klein: The Euro Was Pointless: “It’s easy to forget now, but… many economists in the 1980s and 1990s…

…thought monetary union would encourage cross-border investment and trade by eliminating the risk premiums associated with the supposedly destabilising devaluations of the past. The net effect would be converging living standards, dampened business cycles, slower inflation, and faster productivity growth for everyone. This was a laudable goal, but unfortunately it’s not how things worked out. The policy mistakes that exacerbated the eurozone crisis, while deeply destructive, can’t be blamed. A stimulating conference recently hosted by the Centre for European Reform made it clear to us the euro had already failed to meet the expectations of its architects before the crisis.

Claudia Olivetti and M Daniele Paserman: When US intergenerational income mobility vanished: 1900-1920: “Intergenerational income mobility is currently not very high in the US…

…compared to other developed countries…. US intergenerational income equality was high in the 19th century but plummeted between 1900 and 1920. The income-mobility ladder was thus pulled up during the so-called Great Gatsby era.

Plus:

Must-Read: Paul Krugman: The Investment Accelerator and the Woes of the World

Posted on by Brad DeLong

Must-Read: I must say, I want to go back to Larry Summers’s and my discussants for our 2012 paper, and ask them whether they want to amend their remarks, or whether they still stand by them.

Valerie Ramey: Do you still believe that any valid inferences can be made about long-run properties from AR models that match the first several autocorrelations? And do you still believe that the rate of long-run potential output growth is invariant to whether the short-run sees depression or boom?

Marty Feldstein: Do you still believe that a downturn like the one that began in 2008 is “cleansing” and leads potential output onto a higher growth path in the long run?

Paul Krugman: The Investment Accelerator and the Woes of the World: “Jason Furman… refuting the ‘Ma! He’s looking at me funny!’ school…

…which attributes US economic weakness to the way the Obama administration has created uncertainty, or hurt businessmen’s feelings, or something…. It’s a global slowdown, very much consistent with the ‘accelerator’ model, in which the level of investment demand depends on the rate of growth of overall demand…. If weak demand leads to lower investment, which it does, and if fiscal austerity is contractionary, which it is, then in a depressed economy deficit spending… crowds investment in…. Austerity policies [then] don’t release resources for private investment… [but] reduce future capacity in addition to causing present pain, [while] stimulus… supports, not hinders, long-run growth…

And let me say two further things to Jason Furman:

  1. Housing: the failure of the Obama administration to do anything to set the pattern of housing finance in stone may well be boosting uncertainty, and retarding investment in housing

  2. Investment and interest rates: If you are unhappy with a Federal Reserve that thinks that investment is growing too rapidly and needs to be cooled-off with interest rate increases, there is, on January 4, 2017, a recess of the Congress, during which recess appointments can be made.

Must-Read: Rich Yeselson: The Decline of Labor; The Increase in Inequality

Posted on by Brad DeLong

Must-Read: The question I always find myself going back and forward on is this: Do strong unions primarily reflect or primarily cause a high labor share of income? And I find my views on this question both disturbingly ungrounded in evidence and disturbingly volatile…

Rich Yeselson: The Decline of Labor; The Increase in Inequality: “Between the end of the Second World War and the early 1970s, the American labor movement was one of the reliable signposts…

…that defined the parameters of American life. But if history has taught us anything, it’s that the signposts of our culture, economics, and politics are continually evolving, even as we believe they will be perennially rooted…. No less a figure than Dwight Eisenhower assumed an America that would always have strong unions…. Timothy Noah, relying on the work of economists Claudia Goldin and Robert Margo, describes this period in his book about American inequality, The Great Divergence (2012), as one in which “incomes became more equal and stayed that way.” Union density peaked at about 1/3rd of the non-farm workforce in the decade following the second world war…. States like Alabama and Tennessee had “low” union density rates in the high teens that were equal to the “high” density rates of “union states” like Michigan today….

During the 1972 election, Meany’s AFL-CIO, enraged by George McGovern’s opposition to the Vietnam War and the influence of the New Left and the counter-culture that permeated his campaign, remained neutral rather than endorse the Democratic candidate. Organized labor was so important to the Democrats that the wily Republican president, Richard Nixon, had courted Meany over several rounds of golf and sought to identify the administration with what Nixon and his top aides took to be the cultural symbols of blue collar, white manhood. The Federation’s neutrality was his reward…. By the middle of the 1980s, history had fooled the present again: the “secure place” of American labor which Ike had spoken of so confidently in 1952, turned out to be, in fact, evanescent. By 1991, union density had declined to just 16%. (It is now about 11%.)… In 1978, despite the most massive lobbying drive in union history, Carter placidly watched a modest labor reform bill be filibustered to death by Republicans and Southern Democrats in an overwhelmingly Democratic Congress….

Why did this happen?… For some of the same structural, macro-economic reasons it has declined in almost every advanced country… but… also occurred for reasons intrinsic to the American political economy…. Just as labor and the economic base of much of its membership lost altitude, unions faced the egalitarian necessity to modernize themselves. This was not without complications. Title VII of the1964 the Civil Rights Act accelerated a much longer struggle by black workers to have full and equal representation within unions. Arguments against racial (and gender) discrimination, especially in building trades and manufacturing unions, that had mostly been ignored by the NLRB, gained salience before the new Equal Employment Opportunity Commission (EEOC)….

Labor… today… remains the most effective institutional bulwark against income inequality. Within its blue state zones of urban power, labor has, effectively, fought inequality via the “fight for 15” led by the still formidable SEIU, and promoted the passage of minimum wage laws in states and cities around the country. Unions, despite their inability to win legislation of direct benefit to themselves, still lead efforts to augment social insurance and regulate companies and banks…. Advancing beyond their previous racism and sexism, unions are, in significant ways, better advocates for such concern today than they were when George Meany was refusing to endorse the March on Washington and, then during the McGovern campaign, railing about the Democratic party being seized by “people named Jack who look like Jill and smell like johns.”…

The numbers of union members and the dollars in the stagnant paychecks of millions of American workers tell an unhappily congruent story. If, in subsequent years, union membership numbers don’t increase dramatically, workers’ paychecks aren’t likely to increase very much either.

Must-Read: Adam Posen: Making Sense of the Productivity Slowdown

Posted on by Brad DeLong

Must-Watch: The big surprises that shocked me over the past decade were:

  1. The lack of knowledge of their own derivatives books–and thus of their own risk posture–at the major money-center universal banks. That turned what ought to have been a garden-variety sectoral episode of financial distress into what will, I think, in the end be the worst macroeconomic catastrophe in history.
  2. The failure of central banks and governments to take aggressive-enough action to generate a V-shaped recovery–the (completely false) view that once the downturn had been stemmed their proper task had been accomplished and their job was essentially over, and that a V-shaped recovery would come of itself.

But there is also a third:

(3) The productivity slowdown–the fact that, even before 2008, the tide of rapid third-industrial-revolution productivity growth we saw starting in 1995 had ebbed. This I, still do not understand at all…

Adam S. Posen: Making Sense of the Productivity Slowdown: November 16, 2015: 8:30 am–3:45 pm (ET)…

…David J. Stockton will chair the first session (9:00–10:15 am), focused on understanding the US productivity slowdown…. John Fernald… Jaana Remes… Peter Orszag of Citi… Jacob Funk Kirkegaard… Kyoji Fukao… Marcel Fratzscher… Sebnem Kalemli-Ozcan… Chang-Tai Hsieh… David Ramsden… Lawrence H. Summers… Marcus Noland… Daniel Andrews… Jeremy Bentham… John Van Reenen… and Adam S. Posen, PIIE

Must-Read: Menzie Chinn: “Inflation Expectations Can Change Quickly…”

Posted on by Brad DeLong

Must-Read: It is not clear to me that inflation expectations would undergo a “rapid and dramatic shift” even if we had a “drastic regime change”. Or rather, as Stan Fischer told me when we were discussing Tom Sargent’s “Stopping Moderate Inflation” and “End of Four Big Inflations” papers, we say after the fact that we had a drastic regime change if and only if inflation expectations underwent a rapid and dramatic shift. It’s not something that one can do–especially living, as we do, not in Plato’s Republic but in Romulus’s Sewer…

Menzie Chinn: “Inflation Expectations Can Change Quickly…”: “One of the arguments for acting sooner rather than later on monetary policy…

…is that if the slack disappears, inflationary expectations will surge… [aA] in this quote from reader Peak Trader’s comment…. I am sure if there is a drastic regime change, one could see a rapid and dramatic shift in measured expectations; the question is whether that scenario is relevant and/or plausible…. I will let readers decide whether expectations turned on a dime. They seem pretty adaptive to me.

Inflation expectations can change quickly Econbrowser

Question: Neel Kashkari to Replace Narayana Kocherlakota at the Minneapolis Fed?

Posted on by Brad DeLong

Can somebody remind me: where was Neel Kashkari in September 2008 on letting Lehman go into uncontrolled bankruptcy?

History: John Maynard Keynes Getting One Very Wrong

Posted on by Brad DeLong

Here it is plain to me that Keynes has simply not understood John Hicks–call this Keynes “Keynes the Pre-Hicksian”:

John Maynard Keynes (1937): The General Theory of Employment: “There are passages which suggest that Professor Viner is thinking too much…

…in the more familiar terms of the quantity of money actually hoarded,and that he overlooks the emphasis I seek to place on the rate of interest as being the inducement not to hoard. It is precisely because the facilities for hoarding are strictly limited that liquidity preference mainly operates by increasing the rate of interest. I cannot agree that “in modern monetary theory the propensity to hoard is generally dealt with, with results which in kind are substantially identical with Keynes’, as a factor operating to reduce the ‘velocity’ of money.” On the contrary, I am convinced that the monetary theorists who try to deal with it in this way are altogether on the wrong track.

Again, when Professor Viner points out that most people invest their savings at the best rate of interest they can get and asks for statistics to justify the importance I attach to liquidity-preference, he is over- looking the point that it is the marginal potential hoarder who has to be satisfied by the rate of interest, so as to bring the desire for actual hoards within the narrow limits of the cash available for hoarding. When, as happens in a crisis, liquidity-preferences are sharply raised, this shows itself not so much in increased hoards–for there is little, if any, more cash which is hoardable than there was before–as in a sharp rise in the rate of interest, i.e. securities fall in price until those, who would now like to get liquid if they could do so at the previous price, are persuaded to give up the idea as being no longer practicable on reasonable terms. A rise in the rate of interest is a means alternative to an increase of hoards for satisfying an increased liquidity-preference.

Nor is my argument affected by the admitted fact that different types of assets satisfy the desire for liquidity in different degrees. The mischief is done when the rate of interest corresponding to the degree of liquidity of a given asset leads to a market-capitalization of that asset which is less than its cost of production…

It seems very clear that this Keynes has not yet read–or has not understood–John Hicks (1937), “Mr. Keynes and the ‘Classics’: A Suggested Interpretation”.

Keynes thinks that money demand consists of three terms:

  • kPY, the amount of money needed to grease the amount PY of total nominal spending,
  • S, the liquidity-preference speculative demand for money, and
  • -jr, a term that depends on increases in the interest rate r curbing the speculative demand for money, and also inducing people to economize on their transactions balances.

For a given money supply, M, this gives us a money demand-money supply equation:

M = kPY + S – jr

Jacob Viner wants to take this equation and rewrite it in quantity-theory terms as an LM-curve relation:

kPY = M – S + jr

Y = [M – S + jr]/Pk

Y = (M/P)V, with V = [1-(S/M)-(jr/M)]/k

An increase in Keynes’s liquidity preference S is thus a reduction in the velocity of money V associated with any interest rate r. This is what Viner means when he writes that:

In modern monetary theory the propensity to hoard is generally dealt with, with results which in kind are substantially identical with Keynes’, as a factor operating to reduce the ‘velocity’ of money.

And he is correct.

Keynes says he disagrees. He claims that the key effect of a rise in liquidity preference is not to reduce the velocity of money–to produce “increased hoards”–but rather to raise the interest rate r. And working through the IS-curve relation:

Y = C + I
C = co + (cy)Y
I = io – (ir)r
Y = [co + io]/(1-cy) – [ir/((1-cy)]r

This rise in r reduces real spending Y.

Keynes is right when he says that an increase in liquidity preference S reduces Y working through the IS-curve relationship. But Keynes is wrong when he says that implies that Viner is wrong. Viner is right too. The LM-curve and the IS-curve relations jointly determine Y and r. You can use either. In fact, you have to use both in order to get an answer, even if you are not aware that you are using both. That is what Hicks made clear. But Keynes does not know it. And I see no signs that Viner knows it either.

Noted for the Morning of November 10, 2015

Posted on by Brad DeLong

Must- and Should-Reads:

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Might Like to Be Aware of:

Must-Read: Brink Lindsey, ed.: Reviving Economic Growth: Policy Proposals from 51 Leading Experts

Posted on by Brad DeLong

Must-Read: Brink Lindsey, ed.: Reviving Economic Growth: Policy Proposals from 51 Leading Experts: “If you could wave a magic wand and make one or two policy or institutional changes…

…to brighten the U.S. economy’s long-term growth prospects, what would you change and why? That was the question asked to the 51 contributors to this volume. These essays originally appeared in conjunction with a conference on the future of U.S. economic growth held at the Cato Institute in December 2014. Brink Lindsey, Vice President for Research at the Cato Institute and editor of this volume, is pleased to share this insightful and provocative collection with a new audience.

The motivation for asking that question should be clear enough to anyone who has been following the dreary economic news of the past few years. Since the Great Recession of 2008–2009, the U.S. economy has experienced the most stubbornly disappointing expansion since World War II. Reviving Economic Growth offers a wide-ranging exploration of policy options from an eclectic group of contributors. Think of this collection as a brainstorming session, not a blueprint for political action. By bringing together thinkers one doesn’t often see in the same publication, the editor’s hope is to encourage fresh thinking about the daunting challenges facing the U.S. economy—and, with luck, to uncover surprising areas of agreement that can pave the way to constructive change.