Category: Equitablog

An alternative way of making the same point is to say that with an accelerationist Phillips Curve and an estimated slope coefficient of 0.25, while we can trace 3.5%-points of the 2.7%-point acceleration of inflation in the 1950s and 3.0%-points of the 4.5%-point accelerations of inflation in the 1960s to an average unemployment rate below a 6% NAIRU, we can only trace 1.7%-points of the 7.6%-point acceleration of the 1970s, and only 2.2%-points of the 8.9%-point deceleration of the 1980s to an average unemployment rate about a 6% NAIRU. In the 1990s unemployment was below the NAIRU on average and would have tended to raise the inflation rate by 1.0%-points, but it fell by 1.8. In the 2000s unemployment was below the NIRU on average and should have raised inflation by 1.2%-points, but it fell by 0.2%-points. That is not an impressive empirical record at all.

Roger Farmer: NAIRU theory–closer to religion than science: “According to the NRH, unemployment differs from its natural rate…

…only if expected inflation differs from actual inflation…. The probability that average expected inflation over a decade will be different from average actual inflation should be small. If the NRH and rational expectations are both true simultaneously, a plot of decade averages of inflation against unemployment should reveal a vertical line at the natural rate of unemployment…. This prediction fails dramatically…. Defenders of the Natural Rate Hypothesis might choose to respond to these empirical findings by arguing that the natural rate of unemployment is time varying. But I am unaware of any theory which provides us, in advance, with an explanation of how the natural rate of unemployment varies over time. In the absence of such a theory the NRH has no predictive content. A theory like this, which cannot be falsified by any set of observations, is closer to religion than science.

I think Mohamed El-Erian makes two analytical errors:

1. He argues that a faster American recovery requires that the private sector “decouple even more from Washington” and undertake “longer-term investments… [to] unleash underused resources and expand longer-term potential… [at the] scale and scope… need[ed] to validate the current level of excessive risk-taking by financial markets lest that, in itself, becomes a consequential headwind to economic growth and stability…” This morning’s earnings yield is 5.1%. This morning’s 5-year TIPS yield is 0.1%. That five percentage-point spread does not suggest a financial market in which demand for risky assets has outrun supply and pushed risky-asset valuations to levels that are inviting a crash and subsequent financial crisis triggered by the potential bankruptcy of institutions with normal equity cushions. And are there an unusually large number of institutions right now with normal or subnormal equity cushions whose business model is to sell unhedged out-of-the-money puts on a large scale, pocket their winnings until the strategy goes bust, and then declare bankruptcy and walk away? I’m watching. I don’t see any concentration of such institutions…

2. El-Erian assumes that Washington can do nothing. That is not true. Washington may do nothing–it probably well do nothing. But it could do a lot. FHFA head Mel Watt has the power to offer every homeowner in America a refi at conforming-loan rates with an equity-option kicker attached to mortgages that do not have the 20% equity cushion or exceed appropriate conforming-loan limits. Federal Reserve head Janet Yellen has the power to do a Paul Volcker and undertake a regime change to the Federal Reserve’s operating procedures and so alter the expected and actual future path of nominal GDP. Either or both of those could powerfully jumpstart the economy over the next two years. The FHFA and Federal Reserve regime change options should be on the table. El-Erian should not overlook them…

Mohamed El-Erian: US midterm elections offer limited prospect for economic change: “The main question is not whether the midterms will change the gridlock in Washington…

…that undermines economic growth, accentuates inequalities, and holds back prosperity; it is whether companies and individuals can decouple even more forcefully from yet another ‘do-little’ Congress…. There is little chance of change in the polarisation and dysfunction paralysing Congress…. The fiscal stance would not be altered to provide for higher and better balanced aggregate demand; supply responsiveness would not be enhanced by stepped-up investments in infrastructure, education, labour market strengthening and other areas that improve productivity; medium-term operational uncertainty would not be reduced by greater clarity on corporate tax reform; and damaging debt overhangs would not be lifted…. For stock markets to continue to prosper, the private sector would have to decouple even more from Washington…. It would require much bigger emphasis on longer-term investments in areas that, notwithstanding the continued shortfalls in Congress, unleash underused resources and expand longer-term potential. And the scale and scope would need to validate the current level of excessive risk-taking by financial markets lest that, in itself, becomes a consequential headwind to economic growth and stability…

Justin Wolfers presumably believes that starting in 1985 expectations and perceptions of inflation anchored themselves at “low”, and that since then we have 29 years of macroeconomic experience of cyclical patterns of wage growth and unemployment in an environment with low and stable inflation and low and anchored inflation expectations. Against that yardstick the “swirlogram” that Justin sees is evidence of a “wage growth puzzle”. Tim Duy, by contrast, expects such “swirlograms”:

Tim Duy: Is There a Wage Growth Puzzle?: “Let’s see what the 1980-85 episode looks like….

..It would appear that in the face of severe contractions… wage adjustment is slow. Now consider the 1985-1990 period… wage growth is stagnant until unemployment moves below 6%…. Thus, it is premature to believe that there has been a breakdown in this relationship. So far, the response of wages is exactly what you should have expected in light of the 1980’s dynamics…. Notice the minor “swirlogram” associated with the early-90’s recession. Again, not a breakdown…. After 1992, wage growth tends to move sideways until unemployment sinks below 6%…. Oh–and real wage growth has reverted to the pre-Great Recession trend–pretty much exactly where you would expect it to be given the level of unemployment. Honestly, this one surprised me. Which suggests that labor market healing has progressed much further than many progressives would like to admit. Many conservatives as well…. Bottom Line: Be cautious in assuming that this time is different. The unemployment and wage growth dynamics to date are actually very similar to what we have seen in the past. Low wage growth to date is not the ‘smoking gun’ of proof of the importance of underemployment measures. There very well may have been much more labor market healing that many are willing to accept, even many FOMC members. The implications for monetary policy are straightforward–it suggests the risk leans toward tighter than anticipated policy.

Was it Larry Summers who said that proofs that high-quality central banking couldn’t push average unemployment below (and low quality central banking above) the NAIRU should be classified the same way as proofs that it was not possible to either consistently win or lose at poker?

Robert Waldmann: Phillips curves with Anchored Expectations: “I will assume that unemployment is a function of actual inflation…

…minus expected inflation. I will also assume that people are smart enough that no policy will cause them to make forecast errors of the same sign period after period after period…. I will assume that perfect inflation forecasting causes unemployment to be 5%… [and] unemployment is linear in the inflation expectations error…. Under bounded rationality with hypothesis testing…. Forecasting rules are ordered from a first rule to a second, etc. When agents use rule n they also test the null that rule n gives optimal forecasts against the alternative that rule n+1 gives better forecasts. They switch to rule n+1 if the null is rejected at the 5% level…. I will assume that rules are also ordered so if rule n gives persistent underestimates of future inflation, rule n+1 gives higher forecasts…. Learning about the Fed Open Market Committee restarts each time a new Fed chairman is appointed…. The data used to test the current rule against the next one are only those accumulated with the current chairman… [who] are replaced at known fixed intervals…

Must- and Shall-Reads:

• Wolfgang Münchau: If Europe insists on sticking to rules, recovery will be a dream
• Edward Luce: Blinded EU can learn from one-eyed US
• Slava Gerovitch: InterNyet: why the Soviet Union did not build a nationwide computer network
• Yorkshire Ranter (2010): Review: Francis Spufford’s Red Plenty

1. Joseph G. Altonji, Lisa B. Kahn, Jamin D. Speer: Cashier or Consultant? Entry Labor Market Conditions, Field of Study, and Career Success: “We analyze the early labor market outcomes of U.S. college graduates from the classes of 1974 to 2011, as a function of the economic conditions into which they graduated. We have three main findings. First, poor labor market conditions substantially disrupt early careers. A large recession at time of graduation reduces earnings by roughly 10% in the first year, for the average graduate. The losses are driven partially by a reduced ability to find employment and full-time work and partially by a roughly 4% reduction in hourly wage rates. Second, these effects differ by field of study. Those in majors with typically higher earnings experience significantly smaller declines in most labor market outcomes measured. As a result, the initial earnings and wage gaps across college majors widen by almost a third and a sixth, respectively, for those graduating into a large recession. Most of these effects fade out over the first 7 years. Those in higher paying majors are also slightly less likely to obtain an advanced degree when graduating into a recession, consistent with their relative increase in opportunity cost. Our third set of results focuses on a recent period that includes the Great Recession. Early impacts on earnings are much larger than what we would have expected given past patterns and the size of the recession, in part because of a large increase in the cyclical sensitivity of demand for college graduates. The effects also differ much less by field of study than those of prior recessions.”

2. Daniel Riera-Crichton et al.: Procyclical and Countercyclical Fiscal Multipliers: Evidence from OECD Countries: “It is not always the case that government spending is going up in recessions…. The ‘true’ long-run multiplier for bad times (and government spending going up) turns out to be 2.3 compared to 1.3 if we just distinguish between recession and expansion. In extreme recessions, the long-run multiplier reaches 3.1.”

3. Adam Ozimek: Part-Time Work Is Up Even Among the Self-Employed: “The U.S. unemployment rates is nearing levels normally associated with full employment…. [But] the number of people who say they would rather have full-time jobs and cite economic reasons for why they don’t… rose from around 4 million before the recession to 9 million at its peak, and is now down to around 7 million…. Those favoring structural explanations argue that the increased use of complicated staffing software has allowed firms to be more flexible, and thus to employ more part-timers. Another structural explanation is that higher benefit costs—particularly for healthcare under the Affordable Care Act…. Several factors suggest the rise in involuntary part-time work is cyclical, including the fact that it has occurred across industries and demographics groups…. Even more telling, the same rise in involuntary part-time work has occurred among the self-employed. This can’t be a result of staffing software or a desire to avoid healthcare or other benefit costs…

4. Antonio Fatas: The (Very Large) Permanent Scars of Fiscal Consolidation: “I… look at the actual change in potential output during those years (2010-11) as presented in the April 2014 IMF World Economic Outlook. Comparing this figure to the forecast done back in April 2010, we can calculate for each country the forecast error associated to potential output growth. Most models assume that there should be no correlation between these two numbers. Fiscal consolidations affect output in the short run but not in the long run…. Fiscal consolidations have led to a large change in our views on potential output… around -0.75…. This number is very large and it provides supporting evidence of the arguments made by DeLong and Summers regarding the possibility of fiscal contractions leading to increases in debt via the permanent effects they have on potential output…”

5. Paul Krugman Plays Ming the Merciless: Gross Gone: “I don’t know anything about what’s been going on internally at Pimco; I just read the same stories as everyone else. I have, however, written a lot about Pimco’s macroeconomic analysis (which drove its bond-investment decisions). The interesting thing is the Pimco was initially a bond bull, based on the correct understanding that deficits don’t crowd out lending when the economy is in a liquidity trap; but it then went off the rails, with Bill Gross insisting that rates would spike when the Fed ended QE2. I tried to explain why this was wrong, and got a lot of flak from people insisting that the great Gross knew more than any ivory-tower academic. But I knew what I was talking about!” * Nobody Understands the Liquidity Trap, Still: “A correspondent points me to Bill Gross in 2010, declaring that we are in a liquidity trap–and that therefore the Fed’s expansionary policies won’t create jobs, but will simply cause inflation. There’s only one thing to say: AAUUGGHHHH! But a lot of people seem to have fallen into that curious fallacy, as I pointed out in the same year…. The liquidity trap… is a situation in which increasing the monetary base has no effect on aggregate demand, because you’re substituting one zero (or very low) interest asset–monetary base–for another…. Conventional monetary policy is completely sterile on all fronts. I don’t know why this very simple point is so hard to grasp, but people keep making a hash of it. I have no idea why Cullen Roche thinks that the TED spread has anything at all to do with the question of whether we’re in a liquidity trap; nor do I know what I can do, after all the times I’ve written about it, to make the point more clearly.” * Bill Grosses, Idealized and Actually Existing: “Brad DeLong tries at some length to rationalize Bill Gross’s insistence in 2011 that interest rates were about to spike. But while it’s nice to be charitable, to attempt to put the best face on someone else’s arguments, it’s also important to look at the argument someone was actually making. And the reasoning of Gross and others was much cruder and a lot more foolish than Brad acknowledges. I know because I was involved in the debate in real time…” * 2011 and All That: “All would have been forgiven, indeed never mentioned, but for [Bill Gross’s] utter misjudgment of the bond market in 2011–a misjudgment based on his failure, or more accurately refusal, to acknowledge the realities of a liquidity trap world…. Gross was by no means alone… 2011 was a sort of banner year for bad macroeconomic analysis by people who had no excuse for their wrong-headedness. And here’s the thing: aside from Gross, hardly any of the prominent wrong-headers have paid any price for their errors…. BS are still given reverent treatment…. Paul Ryan warned Ben Bernanke that he was ‘debasing’ the dollar, arguing that rising commodity prices were the harbinger of runaway inflation; the Bank for International Settlements made a similar argument, albeit with less Ayn Rand. They were completely wrong, but Ryan is still the intellectual leader of the GOP and the BIS is still treated as a fount of wisdom. The difference is, of course, that Gross had actual investors’ money on the line.” * The Pimco Perplex: “It’s fairly clear that the events of 2011 are a large part of the story of Bill Gross’s abrupt departure…. But why was Gross betting so heavily against Treasuries? Brad DeLong tries to rationalize Gross’s behavior in terms of a coherent story about an impending U.S. recovery, which would lift us out of the liquidity trap. But Gross wasn’t saying anything like that. Instead, he was claiming that the Fed’s asset purchases–QE2–were holding rates down…. So why did he believe all that? It all comes down, I’d argue, to liquidity trap denial. Since 2008 the basic logic of the economic situation has been that the private sector is trying to run a huge surplus, and the public sector isn’t willing to run a corresponding deficit. The result is an economy awash in desired savings with nowhere to go. This in turn means that budget deficits aren’t competing with private borrowing, and therefore need not drive up interest rates. This isn’t hindsight; it’s what I and others have been saying since the very beginning. But a lot of people–politicians, of course, but also a lot of people in finance–have just refused to accept this account. They have clung to the view that budget deficits must lead to higher interest rates. You might think the failure of higher rates to materialize, year after year, would cause them to reasses–indeed, would have caused them to reassess years ago. Instead, however, many of them made excuses. Above all, the big excuse was that rates would have gone higher if only the Fed weren’t buying up the stuff. So QE2 acquired a much bigger role in their thinking than it deserved…. And he was wrong. QE2 ended, and nothing happened to rates.” * The Pimco Perplex: You can see why I found Gillian Tett’s apologia for Gross–that he was blindsided by central bank intervention–frustrating. For one thing, that’s accepting a model that has failed with flying colors; but beyond that, Gross’s really bad call was almost exactly the opposite, his claim that rates would soar when the Fed’s intervention ended. As I’ve said, Gross of all people shouldn’t have fallen into this trap, since his own chief economist understood liquidity trap logic better than almost anyone. But finance people seem weirdly determined to believe in a macro canon whose hold on their perceptions appears to be completely unbreakable, no matter how much money it causes them to lose.” * Nobody Could Have Predicted, Bill Gross Edition: “Gillian Tett feels sorry for BIll Gross, who was caught unaware by the sudden shift in bond market behavior. Who could have predicted that interest rates would stay low despite large budget deficits? Um, how about Pimco’s own chief economist, Paul McCulley?… The truth is that the quiescence of interest and inflation rates was predicted by everyone who understood the obvious–that we had entered a liquidity trap–and thought through the implications. I explained it more than five years ago…. And Paul McCulley understood all this really well…. Strikingly, Tett’s version of what went wrong with Gross’s predictions makes no mention of deleveraging and the zero lower bound; it’s all a power play by central banks, which have been ‘intimidating’ bond investors with unconventional monetary policy. This is utterly wrong, and in fact Gross’s own mistakes show that it’s wrong: one of his big failures was betting that rates would spike when the Fed ended QE2, which they predictably didn’t. As an aside, whenever I hear people explaining away the failure of interest rates to spike as the result of those evil central bankers artificially keeping them down, I want to ask how they think that’s possible. Surely the same people, if you had asked them a few years ago about what would happen if the Fed tried to suppress interest rates by massively expanding its balance sheet, would have predicted runaway inflation. That didn’t happen, which should make you wonder what exactly they mean by saying that rates are artificially low. Oh, and Tett ends the piece by citing the Bank for International Settlements as a voice of wisdom. That’s pretty amazing, too; the sadomonetarists of Basel have a remarkable track record of being wrong about everything since 2008, but always finding some reason to call for higher rates. The thing is, Tett is a smart observer who talks to a lot of people in finance; seeing her present a discredited theory as obviously true, without so much as mentioning the kind of analysis that has been worked all along, says bad things about the extent to which anyone who matters has learned anything.” * Knaves, Fools, and Quantitative Easing: “When the going gets tough, the people losing the argument start whining about civility. I often find myself attacked as someone who believes that anyone with a different opinion is a fool or a knave; as I’ve tried to explain, however, that’s mainly selection bias. I don’t spend much time on areas where reasonable people can disagree, because there are so many important issues where one side really is completely unreasonable…. There are a lot of bad people engaged in economic debate–and I don’t mean that they’re wrong, I mean that they argue in bad faith. Which brings us to today’s installment of oh-yes-they’re-that-bad, courtesy of Bloomberg… the infamous open letter to Ben Bernanke warning that his efforts to boost the economy ‘risk currency debasement and inflation’…. Bloomberg… ask[ed] the signatories whether they would concede that they were wrong. Not a chance…. And this is far from the only example of inflationistas and bond worriers bobbing and weaving, refusing to acknowledge having said what they said, being completely unwilling to admit mistakes. I try hard not to behave that way…. No doubt there have been times when I rewrote history to make myself look better, but I try to avoid that–it’s a major intellectual and moral sin. And boy are there a lot of sinners out there.” * Ordoarithmetic: “Francesco Saraceno is furious and dismayed at Hans-Werner Sinn, who says among other things that deflation in southern Europe is necessary to restore competitiveness. Why not inflation in Germany, he asks? But Saraceno fails to understand German logic here. As they see it, their economy was in the doldrums at the end of the 1990s; they then cut labor costs, gaining a huge competitive advantage, and began running gigantic trade surpluses. So their recipe for global recovery is for everyone to deflate, gaining a huge competitive advantage, and begin running gigantic trade surpluses. You may think there’s some kind of arithmetic problem here, but in Germany they have their own intellectual tradition.” * Charlatans and Cranks Forever: “Back when Paul Ryan released his first big-splash budget–the one that had the commentariat cooing over its “seriousness”–it included a link to an absurd Heritage Foundation analysis claiming, among other things, that the plan would drive the unemployment rate down to 2.8 percent. (Heritage then tried, unsuccessfully, to send its nonsense down the memory hole and pretend it never happened.) Ryan defenders tried to claim that the plan didn’t actually rely on that Heritage stuff; but as some of us tried to explain, the plan actually didn’t add up, relying on a multi-trillion-dollar magic asterisk on tax receipts. And we predicted that sooner or later Ryan would embrace magical theories about how tax cuts increase revenue. And here we are. One disturbing effect if Republicans take the Senate, by the way, may be that the Congressional Budget Office becomes a purely partisan operation–effectively a department of Heritage.”

Should Be Aware of:

• The Book Smugglers: Joint Review: Ancillary Sword
• KAYAK: Cheap Flights, Hotels, Airline Tickets, Cheap Tickets, Cheap Travel Deals

1. Paul Krugman: Wages and the Fed: “My inbox is already starting to fill up with predictions and demands that the Fed accelerate the pace of’“normalization’ because today’s jobs report was better than expected. But the case for wait-and-see actually remains as strong as ever, and maybe a bit stronger…. We really, really don’t know how much slack there is…. Sorry, but that’s reality. We really won’t know until after the fact, if and when we finally see a notable pickup in inflation, and in particular in wages…. So, what did we learn about inflation from the latest employment report?… If you’re puzzled that a falling unemployment rate hasn’t translated into faster wage growth, well, that just reinforces the point that we truly don’t know how much slack there is. And does anyone think that wage growth was wildly excessive before the financial crisis? If you don’t, then you should believe that we need an extended period of tight labor markets just to get back to where we were. There is nothing in this report to suggest that it makes sense to hike rates any time soon. In fact, I find it very hard to understand why anyone thinks rates should rise even in 2015.”

2. Daniel Kuehn: Forty Years After the Hayek Nobel: “Thoughts on Israel Kirzner…. I don’t entirely buy this revisionist history, but what I do like about it is that it refocuses us on the work on knowledge, subjectivism, and economic calculation. I suspect the lull in interest in the Austrian school had far more to do with the failure of Austrian macroeconomics than the failure of the mainstream to appreciate this other work…. What bothers me about the revisionist account is that it relies too heavily on an implausible story about how mainstream economics is full of dunces. Kirzner argues that mainstream economists are preoccupied with equilibrium models where genuine competition and discovery doesn’t really go on and most importantly nobody talks about how you get to equilibrium. There is a germ of truth to this… but the idea that the market process is lost on them strikes me as misleading at best and borderline libelous at worst…. Every economist has these market process stories in mind when they think about why getting to equilibrium (even if it’s a constantly moving target) is reasonable…. I think his vision of his own research program is deeply problematic and too easily discounts how interesting and intelligent his fellow economists are.”

3. Cory Doctorow: The criticism that Ralph Lauren doesn’t want you to see!: “Last month, Xeni blogged about the photoshop disaster that is this Ralph Lauren advertisement, in which a model’s proportions appear to have been altered to give her an impossibly skinny body (‘Dude, her head’s bigger than her pelvis’). Naturally, Xeni reproduced the ad in question. This is classic fair use: a reproduction “for purposes such as criticism, comment, news reporting,” etc. However, Ralph Lauren’s marketing arm and its law firm don’t see it that way. According to them, this is an ‘infringing image’…. Instead of responding to their legal threat by suppressing our criticism of their marketing images, we’re gonna mock them. Hence this post…. So, to Ralph Lauren, GreenbergTraurig, and PRL Holdings, Inc: sue and be damned. Copyright law doesn’t give you the right to threaten your critics for pointing out the problems with your offerings. You should know better. And every time you threaten to sue us over stuff like this, we will: a) Reproduce the original criticism, making damned sure that all our readers get a good, long look at it, and; b) Publish your spurious legal threat along with copious mockery, so that it becomes highly ranked in search engines where other people you threaten can find it and take heart; and c) Offer nourishing soup and sandwiches to your models.”

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.

Any reasonable estimate of the core-PCE inflation Phillips Curve tells us that to raise the inflation rate by 0.5%-points/year requires that the unemployment rate spend 2%-point-years below the NAIRU. Were the unemployment rate over the next four years to average 5.0% that would do it in expectation if the NAIRU were 5.5%. The Federal Reserve forecasts that if it remains on its current policy path that the average unemployment rate over the next four years will be 5.4%–enough to get us to 2.0%/year inflation in expectation by 2018 if the NAIRU is 5.9%, but not if it is any lower.

Thus I really do not understand what time-series analysis underlies Martin Feldstein with his claims not just that the Federal Reserve’s current monetary policy path is too loose but that the Federal Reserve will recognize that it is too loose and raise interest rates faster than the market or it currently expects over the next fifteen months:

Martin Feldstein: Why the Fed Will Go Faster: “The midpoint of the opinions recorded at most recent FOMC meeting…

…implies a federal funds rate of 1.25-1.5% at the end of 2015… by the end of 2016… less than 3%…. Inflation is already close to 2% or higher…. The Fed’s own analysis points to a long-term rate of about 4% when the long-term inflation rate is 2%. The… consumer price index was up 1.7% year-on-year… would have been even higher but for the anomalous decline in the most recent month. In the second quarter of this year, the annualized inflation rate was 4%…. PCE inflation at just 1.5% for the 12 months to August…. But PCE inflation has also been rising, with the most recent quarterly value at 2.3% year on year in the April-June period.
So if price stability were the Fed’s only goal, the federal funds rate should now be close to 4%….

The Fed is certainly correct that current labor-market conditions imply significant economic waste and personal hardship. But economists debate the extent to which these conditions reflect a cyclical demand shortfall or more structural problems…. Increases in demand that would cause a further reduction in the current unemployment rate would boost the inflation rate…. Alan Krueger… showed that the inflation rate reflects the level of short-term unemployment… rather than the overall unemployment rate…. With short-term unemployment currently at 4.2%, the inflation rate is indeed rising…. I would not be surprised by a continued rise in the inflation rate in 2015… [and] the Fed… rais[ing] the federal funds rate more rapidly and to a higher year-end level than its recent statements imply.

Three things have to be true about the world for Feldstein’s forecast of interest rates at the end of 2015 to be a good one:

1. The current underlying rate of core inflation has to be 2.0% rather than (as the Federal Reserve thinks) 1.5%.

2. The current NAIRU has to be north of 6.0% rather than (as the Federal Reserve thinks) south of 5.5%.

3. The current majority on the FOMC have to be sufficiently uncertain of their analysis that–even after six years of data that have broadly supported it rather than Feldstein’s analysis–they will turn on the dime of a year’s worth of data in which inflation slightly overshoots their expectations.

Now I would say that each of these is at most a one-third chance–which means that my assessment of Feldstein’s scenario is that it is a 0.04 chance. It could happen–weirder things have happened than interest rates by the end of 2015 significantly higher than the Federal Reserve’s current projected policy path. But…

I wonder if I can persuade Noah Smith to make another bet?

Joseph G. Altonji, Lisa B. Kahn, Jamin D. Speer: Cashier or Consultant? Entry Labor Market Conditions, Field of Study, and Career Success: “We analyze the early labor market outcomes of U.S. college graduates…

…from the classes of 1974 to 2011, as a function of the economic conditions into which they graduated. We have three main findings. First, poor labor market conditions substantially disrupt early careers. A large recession at time of graduation reduces earnings by roughly 10% in the first year, for the average graduate. The losses are driven partially by a reduced ability to find employment and full-time work and partially by a roughly 4% reduction in hourly wage rates. Second, these effects differ by field of study. Those in majors with typically higher earnings experience significantly smaller declines in most labor market outcomes measured. As a result, the initial earnings and wage gaps across college majors widen by almost a third and a sixth, respectively, for those graduating into a large recession. Most of these effects fade out over the first 7 years. Those in higher paying majors are also slightly less likely to obtain an advanced degree when graduating into a recession, consistent with their relative increase in opportunity cost. Our third set of results focuses on a recent period that includes the Great Recession. Early impacts on earnings are much larger than what we would have expected given past patterns and the size of the recession, in part because of a large increase in the cyclical sensitivity of demand for college graduates. The effects also differ much less by field of study than those of prior recessions.

Needless to say, he has good reason:

Paul Krugman: Gross Gone: “I don’t know anything about what’s been going on internally at Pimco…

I just read the same stories as everyone else. I have, however, written a lot about Pimco’s macroeconomic analysis (which drove its bond-investment decisions). The interesting thing is the Pimco was initially a bond bull, based on the correct understanding that deficits don’t crowd out lending when the economy is in a liquidity trap; but it then went off the rails, with Bill Gross insisting that rates would spike when the Fed ended QE2. I tried to explain why this was wrong, and got a lot of flak from people insisting that the great Gross knew more than any ivory-tower academic. But I knew what I was talking about!

• Nobody Understands the Liquidity Trap, Still: A correspondent points me to Bill Gross in 2010, declaring that we are in a liquidity trap–and that therefore the Fed’s expansionary policies won’t create jobs, but will simply cause inflation. There’s only one thing to say: AAUUGGHHHH! But a lot of people seem to have fallen into that curious fallacy, as I pointed out in the same year…. The liquidity trap… is a situation in which increasing the monetary base has no effect on aggregate demand, because you’re substituting one zero (or very low) interest asset–monetary base–for another…. Conventional monetary policy is completely sterile on all fronts. I don’t know why this very simple point is so hard to grasp, but people keep making a hash of it. I have no idea why Cullen Roche thinks that the TED spread has anything at all to do with the question of whether we’re in a liquidity trap; nor do I know what I can do, after all the times I’ve written about it, to make the point more clearly.

• Bill Grosses, Idealized and Actually Existing: “Brad DeLong tries at some length to rationalize Bill Gross’s insistence in 2011 that interest rates were about to spike. But while it’s nice to be charitable, to attempt to put the best face on someone else’s arguments, it’s also important to look at the argument someone was actually making. And the reasoning of Gross and others was much cruder and a lot more foolish than Brad acknowledges. I know because I was involved in the debate in real time…”

• 2011 and All That: “All would have been forgiven, indeed never mentioned, but for [Bill Gross’s] utter misjudgment of the bond market in 2011–a misjudgment based on his failure, or more accurately refusal, to acknowledge the realities of a liquidity trap world…. Gross was by no means alone… 2011 was a sort of banner year for bad macroeconomic analysis by people who had no excuse for their wrong-headedness. And here’s the thing: aside from Gross, hardly any of the prominent wrong-headers have paid any price for their errors…. BS are still given reverent treatment…. Paul Ryan warned Ben Bernanke that he was ‘debasing’ the dollar, arguing that rising commodity prices were the harbinger of runaway inflation; the Bank for International Settlements made a similar argument, albeit with less Ayn Rand. They were completely wrong, but Ryan is still the intellectual leader of the GOP and the BIS is still treated as a fount of wisdom. The difference is, of course, that Gross had actual investors’ money on the line.”

• The Pimco Perplex: “It’s fairly clear that the events of 2011 are a large part of the story of Bill Gross’s abrupt departure…. But why was Gross betting so heavily against Treasuries? Brad DeLong tries to rationalize Gross’s behavior in terms of a coherent story about an impending U.S. recovery, which would lift us out of the liquidity trap. But Gross wasn’t saying anything like that. Instead, he was claiming that the Fed’s asset purchases–QE2–were holding rates down…. So why did he believe all that? It all comes down, I’d argue, to liquidity trap denial. Since 2008 the basic logic of the economic situation has been that the private sector is trying to run a huge surplus, and the public sector isn’t willing to run a corresponding deficit. The result is an economy awash in desired savings with nowhere to go. This in turn means that budget deficits aren’t competing with private borrowing, and therefore need not drive up interest rates. This isn’t hindsight; it’s what I and others have been saying since the very beginning. But a lot of people–politicians, of course, but also a lot of people in finance–have just refused to accept this account. They have clung to the view that budget deficits must lead to higher interest rates. You might think the failure of higher rates to materialize, year after year, would cause them to reasses–indeed, would have caused them to reassess years ago. Instead, however, many of them made excuses. Above all, the big excuse was that rates would have gone higher if only the Fed weren’t buying up the stuff. So QE2 acquired a much bigger role in their thinking than it deserved…. And he was wrong. QE2 ended, and nothing happened to rates.”

• The Pimco Perplex: You can see why I found Gillian Tett’s apologia for Gross–that he was blindsided by central bank intervention–frustrating. For one thing, that’s accepting a model that has failed with flying colors; but beyond that, Gross’s really bad call was almost exactly the opposite, his claim that rates would soar when the Fed’s intervention ended. As I’ve said, Gross of all people shouldn’t have fallen into this trap, since his own chief economist understood liquidity trap logic better than almost anyone. But finance people seem weirdly determined to believe in a macro canon whose hold on their perceptions appears to be completely unbreakable, no matter how much money it causes them to lose.”

• Nobody Could Have Predicted, Bill Gross Edition: “Gillian Tett feels sorry for BIll Gross, who was caught unaware by the sudden shift in bond market behavior. Who could have predicted that interest rates would stay low despite large budget deficits? Um, how about Pimco’s own chief economist, Paul McCulley?… The truth is that the quiescence of interest and inflation rates was predicted by everyone who understood the obvious–that we had entered a liquidity trap–and thought through the implications. I explained it more than five years ago…. And Paul McCulley understood all this really well…. Strikingly, Tett’s version of what went wrong with Gross’s predictions makes no mention of deleveraging and the zero lower bound; it’s all a power play by central banks, which have been ‘intimidating’ bond investors with unconventional monetary policy. This is utterly wrong, and in fact Gross’s own mistakes show that it’s wrong: one of his big failures was betting that rates would spike when the Fed ended QE2, which they predictably didn’t. As an aside, whenever I hear people explaining away the failure of interest rates to spike as the result of those evil central bankers artificially keeping them down, I want to ask how they think that’s possible. Surely the same people, if you had asked them a few years ago about what would happen if the Fed tried to suppress interest rates by massively expanding its balance sheet, would have predicted runaway inflation. That didn’t happen, which should make you wonder what exactly they mean by saying that rates are artificially low. Oh, and Tett ends the piece by citing the Bank for International Settlements as a voice of wisdom. That’s pretty amazing, too; the sadomonetarists of Basel have a remarkable track record of being wrong about everything since 2008, but always finding some reason to call for higher rates. The thing is, Tett is a smart observer who talks to a lot of people in finance; seeing her present a discredited theory as obviously true, without so much as mentioning the kind of analysis that has been worked all along, says bad things about the extent to which anyone who matters has learned anything.”

• Knaves, Fools, and Quantitative Easing: “When the going gets tough, the people losing the argument start whining about civility. I often find myself attacked as someone who believes that anyone with a different opinion is a fool or a knave; as I’ve tried to explain, however, that’s mainly selection bias. I don’t spend much time on areas where reasonable people can disagree, because there are so many important issues where one side really is completely unreasonable…. There are a lot of bad people engaged in economic debate–and I don’t mean that they’re wrong, I mean that they argue in bad faith. Which brings us to today’s installment of oh-yes-they’re-that-bad, courtesy of Bloomberg… the infamous open letter to Ben Bernanke warning that his efforts to boost the economy ‘risk currency debasement and inflation’…. Bloomberg… ask[ed] the signatories whether they would concede that they were wrong. Not a chance…. And this is far from the only example of inflationistas and bond worriers bobbing and weaving, refusing to acknowledge having said what they said, being completely unwilling to admit mistakes. I try hard not to behave that way…. No doubt there have been times when I rewrote history to make myself look better, but I try to avoid that–it’s a major intellectual and moral sin. And boy are there a lot of sinners out there.”

• Ordoarithmetic: “Francesco Saraceno is furious and dismayed at Hans-Werner Sinn, who says among other things that deflation in southern Europe is necessary to restore competitiveness. Why not inflation in Germany, he asks? But Saraceno fails to understand German logic here. As they see it, their economy was in the doldrums at the end of the 1990s; they then cut labor costs, gaining a huge competitive advantage, and began running gigantic trade surpluses. So their recipe for global recovery is for everyone to deflate, gaining a huge competitive advantage, and begin running gigantic trade surpluses. You may think there’s some kind of arithmetic problem here, but in Germany they have their own intellectual tradition.” * Charlatans and Cranks Forever: “Back when Paul Ryan released his first big-splash budget–the one that had the commentariat cooing over its “seriousness”–it included a link to an absurd Heritage Foundation analysis claiming, among other things, that the plan would drive the unemployment rate down to 2.8 percent. (Heritage then tried, unsuccessfully, to send its nonsense down the memory hole and pretend it never happened.) Ryan defenders tried to claim that the plan didn’t actually rely on that Heritage stuff; but as some of us tried to explain, the plan actually didn’t add up, relying on a multi-trillion-dollar magic asterisk on tax receipts. And we predicted that sooner or later Ryan would embrace magical theories about how tax cuts increase revenue. And here we are. One disturbing effect if Republicans take the Senate, by the way, may be that the Congressional Budget Office becomes a purely partisan operation–effectively a department of Heritage.”

And needless to say, Paul Krugman knows what he is talking about. In general:

1. Paul Krugman is right.
2. If you think Paul Krugman is wrong, refer to (1)