Must-Read: Paul Krugman: Nutcases and Knutcases

Must-Read: If you work really, really hard, you might be able to make something not completely unintelligible out of Andrew Sentance. You might agree with Paul Krugman that interest rates need to be even lower to provide people with an incentive to consume and invest at the economy’s sustainable non-inflationary potential. But you might go on to say that interest rates need to be higher to curb people’s desires to engage in overleverage, bubbles, and Ponzi schemes–that debts of extraordinarily long duration with extraordinarily low rates of amortization is asking for trouble.

But if you did that, you would be advocating not tight money but, rather, a higher inflation target. Amortization rates and durations of debt, you see, depend primarily on nominal interest rates. While the Wicksellian real rate to balance aggregate supply and aggregate demand and make Say’s Law true in practice is a real interest rate. And a higher inflation target is the way to make a bigger wedge between the two.

So even if you try really, really hard to make something not completely unintelligible out of Andrew Sentance, you conclude that he has no idea what he is talking about:

Paul Krugman: Nutcases and Knut Cases: “Monetary permahawkery takes two forms…

…One is obviously ridiculous… with a lot of influence on right-wing politicians… the likes of Ron Paul, Zero Hedge, and Paul Ryan. Hyperinflation is always just around the corner. And no matter how wrong the scare stories have been in the past, there’s always a willing audience.

But the clear and present danger comes from people like Andrew Sentance, who was until recently a member of the Bank of England’s Monetary Policy Committee… a remarkable piece… castigating the Fed for not hiking rates…. Sentanc[has] made up his own version of macroeconomics… unaware that he has done so. As I… [and] others, notably Ben Bernanke… point out… monetary wisdom… starts with Knut Wicksell’s concept of the natural interest rate. Try to keep rates too low, and inflation accelerates; try to keep them too high, and inflation decelerates and heads toward deflation. Now comes Sentance, claiming that monetary policy has been consistently too easy, not just in recent months, but for the past generation….

This should imply that policy has had an inflationary bias, right? Except that inflation has trended downward…. You might have expected at least some effort to explain why this isn’t a problem…. Sentance mocks the decision not to raise rates, suggesting that it has no real justification…. How about the fact that inflation is still below the Fed’s target, and shows no sign of rising? And that doesn’t even get into the argument, which Larry Summers, yours truly, and many others have made, that the risks of getting it wrong are highly asymmetric…. Maybe Sentance is right to toss almost everything economists have said about interest rate policy for the past 117 years out the window. But… it’s hard to escape the suspicion that he has no idea that this is what he’s doing. And he sat on the committee making British monetary policy!

October 19, 2015


Brad DeLong
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