Tag: Ben Bernanke

Lack of Demand Creates Lack of Supply; Lack of Proper Knowledge of Past Disasters Creates Present and Future Ones

Posted on by Brad DeLong
FRED Graph FRED St Louis Fed

“We have lost 5 percent of capacity… $800 billion[/year]…. A soft economy casts a substantial shadow forward onto the economy’s future output and potential.” It is now three years later than when Summers and the rest of us did these calculations. If you believe Janet Yellen and Stan Fischer’s claims that we are now effectively at full employment, the permanent loss of productive capacity as a result of the 2007-9 financial crisis, the resulting Lesser Depression, and the subsequent bobbling of the recovery is not 5% now. It is much closer to 10%. And it is quite possibly aiming for 15% before it is over:

Lawrence Summers et al. (2014): Lack of Demand Creates Lack of Supply: “Jean-Baptiste Say, the patron saint of Chicago economists…

…enunciated the doctrine in the 19th century that supply creates its own demand…. If you produce things… you would have to create income… and then the people who got the income would spend the income and so how could you really have a problem[?]… Keynes… explain[ed] that [Say’s Law] was wrong, that in a world where the demand could be for money and for financial assets, there could be a systematic shortfall in demand.

Here’s Inverse Say’s Law: Lack of demand creates, over time, lack of supply…. We are now in the United States in round numbers 10 percent below what we thought the economy’s capacity would be today in 2007. Of that 10 percent, we regard approximately half as being a continuing shortfall relative to the economy’s potential and we regard half as being lost potential…. We have lost 5 percent of capacity… we otherwise would have had…. $800 billion[/year]. It is more than $2,500[/year] for every American…. A soft economy casts a substantial shadow forward onto the economy’s future output and potential. This might have been a theoretical notion some years ago, it is an empirical fact today…

What are we going to do?

Well, we are going to do nothing–or, rather, next to nothing. Life would be convenient for the Federal Reserve if right now (a) the U.S. economy were at full employment, (b) a rapid normalization of interest rates were necessary to avoid inflation rising significantly above the Federal Reserve’s 2%/year PCE chain index inflation target, and (c) U.S. tightening were more likely to stimulate economies abroad via greater opportunities to sell to the U.S. than contract economies abroad by withdrawing risk-bearing capacity. And the Federal Reserve appears to have decided to believe what makes life convenient. Thus nothing additional in the way of action to boost the economy can be expected from monetary policy. And on fiscal policy a dominant or at least a blocking position is held by those who, as the very sharp Olivier Blanchard put it recently, even though:

[1] In the short run, the demand for goods determines the level of output. A desire by people to save more leads to a decrease in demand and, in turn, a decrease in output. Except in exceptional circumstances, the same is true of fiscal consolidation [by governments]…

nevertheless Olivier Blanchard:

was struck by how many times… [he] had to explain the “paradox of saving” and fight the Hoover-German line, [2] “Reduce your budget deficit, keep your house in order, and don’t worry, the economy will be in good shape”…

Apparently he was flabbergasted by the number of people who would agree with [1] in theory and yet also demand that policies be made according to [2], and he plaintively asks for:

anybody who argues along these lines must explain how it is consistent with the IS relation…

Remember: the United States is not that different. As Barry Eichengreen wrote:

It is disturbing to see the refusal of [fiscal] policymakers, particularly in the US and Germany, to even contemplate… action, despite available fiscal space (as record-low treasury-bond yields and virtually every other economic indicator show). In Germany, ideological aversion to budget deficits runs deep… rooted in the post-World War II doctrine of “ordoliberalism”…. Ultimately, hostility to the use of fiscal policy, as with many things German, can be traced to the 1920s, when budget deficits led to hyperinflation. The circumstances today may be entirely different from those in the 1920s, but there is still guilt by association, as every German schoolboy and girl learns at an early age.

The US[‘s]… citizens have been suspicious of federal government power, including the power to run deficits…. From independence through the Civil War, that suspicion was strongest in the American South, where it was rooted in the fear that the federal government might abolish slavery. In the mid-twentieth century… Democratic President Lyndon Baines Johnson’s “Great Society”… threatened to withhold federal funding for health, education, and other state and local programs from jurisdictions that resisted legislative and judicial desegregation orders. The result was to render the South a solid Republican bloc and leave its leaders antagonistic to all exercise of federal power… a hostility that notably included countercyclical macroeconomic policy. Welcome to ordoliberalism, Dixie-style. Wolfgang Schäuble, meet Ted Cruz…

The world very badly needs an article–a long article, 20,000 words or so. It would teach us how we got into this mess, why we failed to get out, and how the situation might still be rectified–so that the Longer Depression of the early 21st century does not dwarf the Great Depression of the 20th century in future historians’ annals of macroeconomic disasters. Such a book would have to assimilate and transmit the lessons of what I think of as the six greatest books on our current ongoing disaster:

Plus it would have to summarize and evaluate Larry Summers’s musings on secular stagnation.

We were lucky that John Maynard Keynes started writing his General Theory summarizing the lessons we needed to learn from the Great Depression even before that depression reached its nadir. But we were not lucky enough. As Eichengreen stresses, only half the lessons of Keynes were assimilated–enough to keep us from repeating the disaster, but not enough to enable us to get out of it. (Although, to be fair, the world of the 1940s emerged from it only at the cost of imbibing the even more poisonous and deadly elixir called World War II.)

Paul? (Krugman, that is.) Are you up to the task?

Must-read: Ben Bernanke: “China’s Trilemma—and a Possible Solution”

Posted on by Brad DeLong

Must-Read: The extremely-sharp Ben Bernanke continues to make the argument that the Washington-Consensus Great-Moderation division of labor between technocratic central banks and directly-elected governments–central banks tasked with macroeconomic stabilization, and directly-elected governments focused on rightsizing a public sector funded by an appropriately-prudent debt management system–is simply wrong and inadequate, as we have learned to our great cost. Here he addresses the problem of macroeconomic balancing in China, and says smart things:

Ben Bernanke: China’s Trilemma—and a Possible Solution: “Is the no-devaluation strategy a good one for China?…

…If it is, what does China need to do to make its exchange-rate commitments credible?… China’s ability to avoid a significant devaluation in the medium term will depend on a number of factors, including the country’s other policy choices. China… cannot simultaneously have more than two of the following three: (1) a fixed exchange rate; (2) independent monetary policy; and (3) free international capital flows….

Start with four premises…. 1. China is undergoing a difficult but necessary transition… to [a growth model] that focuses on… services and… consumer demand… accompanied by a slowdown in Chinese GDP growth…. 2. China’s growth appears to have slowed recently by more than the leadership expected or wanted…. 3. To support economic growth… China has eased monetary policy…. 4. At the same time, China has continued a process of reforming and opening up its capital markets. Notably, private Chinese citizens are allowed to invest some of their savings abroad, to a limit of $50,000 per person. Points #3 and #4 are the sources of China’s trilemma…. Chinese households and firms who are able to do so are spurning yuan-denominated investments and looking abroad for higher returns. However, increased private capital outflows also constitute a flight from the yuan toward the dollar and other currencies; that, in turn, puts downward pressure on China’s exchange rate.

In the short run, the PBOC can offset this pressure by selling some of its enormous stocks of dollar-denominated securities and buying yuan…. [But] here is the trilemma in action: If China wants to use monetary policy to manage domestic demand and to simultaneously free up international capital flows, it may not be able to fix the exchange rate at current levels…. One approach would be to devalue now and get it over with. (A series of small devaluations wouldn’t work, as expectations of future devaluations would just accelerate capital outflows.)… [But] a big yuan devaluation would likely be deflationary for the rest of the world… [and] would work against the goal of promoting services over exports. A second possibility… would be to stop or reverse the process of liberalizing capital flows…. This strategy… would sacrifice some of the progress that China has made in opening up its financial system…. Moreover, the horse may be out of the proverbial barn, in that the effectiveness of new capital controls in China would be uncertain…. A third option is to wait and hope…. However, hope is not a plan.

So what to do? An alternative worth exploring is targeted fiscal policy, by which I mean government spending and tax measures aimed specifically at aiding the transition…. Fiscal policies aimed at increasing income security, such as strengthening the pension system, would help to promote consumer confidence and consumer spending. Likewise, tax cuts or credits could be used to enhance households’ disposable income, and government-financed training and relocation programs could help workers transition from slowing to expanding sectors…. Targeted fiscal action has a lot to recommend it, given China’s trilemma. Unlike monetary easing, which works by lowering domestic interest rates, fiscal policy can support aggregate demand and near-term growth without creating an incentive for capital to flow out…

Must-Read: Gauti Eggertson and Michael Woodford: The Zero Bound on Interest Rates and Optimal Monetary Policy

Posted on by Brad DeLong

Must-Read: The reality-based piece of the macroeconomic world is right now divided between those who think (1) that Bernanke shot himself in the foot and robbed himself of all traction by refusing to embrace monetary régime change and a higher inflation target, and thus neutered his own quantitative-easing policy; and (2) that at least under current conditions markets need to be shown the money in the form of higher spending right now before they will give any credit to factors that make suggest they should raise their expectation of future inflation. What pieces of information could we seek out that would help us decide whether (1) or (2) is correct?

Gauti Eggertson and Michael Woodford (2003): The Zero Bound on Interest Rates and Optimal Monetary Policy: “Our dynamic analysis also allows us to further clarify the several ways…

…in which the central bank’s management of private sector expectations can be expected to mitigate the effects of the zero bound. Krugman emphasizes the fact that increased expectations of inflation can lower the real interest rate implied by a zero nominal interest rate. This might suggest, however, that the central bank can affect the economy only insofar as it affects expectations regarding a variable that it cannot influence except quite indirectly; it might also suggest that the only expectations that should matter are those regarding inflation over the relatively short horizon corresponding to the term of the nominal interest rate that has fallen to zero. Such interpretations easily lead to skepticism about the practical effectiveness of the expectations channel, especially if inflation is regarded as being relatively “sticky” in the short run.

Our model is instead one in which expectations affect aggregate demand through several channels…. Inflation expectations, even… [more than] a year into the future… [are] highly relevant… the expected future path of nominal interest rates matters, and not just their current level… any failure of… credib[ility] will not be due to skepticism about whether the central bank is able to follow through on its commitment…

Intellectual broker: Secular stagnation vs. Ben Bernanke

Posted on by Brad DeLong

Let me put here my first, much longer draft to what appeared on Project Syndicate: The Tragedy of Ben Bernanke

Ben Bernanke has published his memoir, The Courage to Act.

I am finding it difficult to read. I am finding it hard to read it as other than as a tragedy. It is the story of a man who found himself in a job for which he may well have been the best-prepared person in the world. Yet he soon found himself overmastered by the situation. And he fell and stayed well behind the curve in understanding what was going on.

Those of us with even some historical memory winced when, back in 2003, Robert Lucas flatly declared that the problem of depression-prevention had been solved “for all practical purposes, and has in fact been solved for many decades”. We remembered 1960s Council of Economic Advisers chairs Walter Heller and Arthur Okun saying much the same thing. Indeed, we remembered Irving Fisher in the 1920s saying much the same thing. Fisher’s hubris was followed by nemesis in the form of the Great Depression. Heller’s and Okun’s hubris was followed by nemesis in the form of the 1970s inflation. The joke was on Lucas.

But in a deeper sense the joke was on those of us who winced at Lucas–and also on the people of the North Atlantic. For, as we know, the economy since 2007 has not been a very funny joke the people of the North Atlantic.

Those of us with historical memory knew that the problem of preventing severe macro economic instability had not been solved. But even we believed that even sharp downturns would be transitory and short. Rapid recovery to full prosperity and the supply side-driven trend growth was all but guaranteed. Perhaps full prosperity could be delayed into an extended medium-run by actively-perverse and destabilizing government policies. Perhaps the full-prosperity equilibrium-restoring forces of the market would work quickly.

But they would work.

Indeed, back in 2000 it was Ben Bernanke who had written that central banks with sufficient will and drive could always, in the medium-run at least, restore full prosperity by themselves via quantitative easing. Simply print money and buy financial assets. Do so on a large-enough scale. People would expect that not all of the quantitative easing would be unwound. Thus people would have an incentive to use the extra money that had been printed to step up their spending. Even if the fraction of quantitative easing that thought permanent was small, and even if the incentive to spend was low, the central bank could do the job.

It is to Bernanke’s great credit that the shock of 2007-8 did not trigger another Great Depression. However, what came after was unexpectedly disappointing. Central banks in the North Atlantic–including Ben Bernanke’s central bank, the Federal Reserve–went well beyond the outer limits of what we had thought, back before 2008, would be the maximum necessary to restore full prosperity. And full prosperity continued and continues to elude us. Bernanke pushed the US monetary base up from $800 billion to $4 trillion–a five-fold increase, one that a naïve quantity theory of money would have seen as enough stimulus to create a 400% cumulative inflation. But that was not enough. And Bernanke found himself and his committee unwilling to take the next leap, and do another more-than-doubling to carry the monetary base up to $9 trillion. And so, by the last third of his tenure in office, he was reduced to begging in vain for fiscal-expansionary help closed-eared Congress, which refused. Some leading figures in the dominant Republican party made political hay by calling what he had done “almost treasonous”, and threatening, in the coded language applied a generation ago to civil rights and other agitators, to lynch him should he show up where he was not wanted.

So what went wrong? I have been thinking about this with mixed success, most recently for the Milken Institute Review. So let me try yet again to summarize:

As I understand Ben Bernanke’s perspective, he thinks that nothing fundamental went wrong. It is just that the medium-run it takes for aggressively-expansionary monetary policy to restore full prosperity has been artificially lengthened, and seems long to us indeed. Interventions by non-market–or perhaps it would be better to call them non-risk adjusted return maximizing–financial players have created a temporary global savings glut. Sovereign wealth funds for which loss aversion is key, the emerging-market rich seeing their positions in the North Atlantic as primarily insurance against political risk, and governments seeking to ensure freedom of action have pushed full-prosperity interest rates down substantially, and lengthened the medium-run it takes for shocks to dissipate. But, I believe Bernanke believes, these disturbances are ending. And so, if he were still running the Fed, he would think it appropriate to raise interest rates now.

An alternative view is held by the very sharp Ken Rogoff. He believes, I think, that Bernanke’s cardinal error was to focus on money when he should have been focusing on that. In our simple models which you focus son does not matter: when the money market is in full-prosperity equilibrium, the debt market is too. But in the real world a central bank and a broader government that focused not on expanding the stock of safe money but on buying back and inducing the writing-down of the stock of risky debt would have boosted private spending much more effectively and restored full prosperity much more quickly.

Yet a third possible view is that the Fed could have done it: if it had committed to a higher target inflation rate than 2%/year, and promised to do as much quantitative easing as needed to get to that target, it would have produced full prosperity without requiring anywhere near as much quantitative easing as has been, so far, undertaken without that favorable result.

And then there is fourth view, one that I associate with Larry Summers and Paul Krugman, that we have no warrant for believing that monetary policy can restore full prosperity not only not in the short-run, but not in the medium-run and probably not even in the long-run. As Krugman put it most recently:

In 1998… I envisaged an economy in which the… natural rate of interest… would return to a normal, positive level… [and so] the liquidity trap became a [monetary-]expectations problem… monetary policy would be effective if it had the right kind of credibility…. [But if] a negative Wicksellian [natural] rate… permanent… [then] if nobody believes that inflation will rise, it won’t. The only way to be at all sure… [is] with a burst of fiscal stimulus…

Their position is, after a long detour through the post-World War II neoclassical-Keynesian synthesis, a return to a position set out by John Maynard Keynes in 1936:

It seems unlikely that the influence of [monetary] policy on the rate of interest will be sufficient by itself…. I conceive, therefore, but a somewhat comprehensive socialization of investment will prove the only means the securing an approximation to full employment; though this not need exclude all manner of compromises and of devices by which the public authority will cooperate with private initiative…

The government, that is, will have to be infrastructure-builder, risk-absorber, safe debt-issuer, debt workout-manager, and to a substantial degrees sectoral economic planner of last resort to maintain full prosperity. Milton Friedman’s dream that strategic interventions by the central bank in the quantity of high-powered money would then be just that—a dream. And our confusion, and the attractiveness of Milton Friedman’s monetarism in the half-century starting with a World War II would be an accident of the particular circumstances of the uniquely rapid North Atlantic-wide demographic and productivity growth of the transient post World War II era.

I cannot claim—we cannot claim—to know whether Bernanke he will Rogoff or Krugman and Summers are correct here, or even weather if Bernanke he and his committee had found the nerve, and rolled double-or-nothing one more time to boost the American high-powered money stock to $9 trillion, we might have been back to full prosperity a couple of years ago. But I do think that the debate over this question is the most important debate within macroeconomics since the debate—strangely, a very similar debate, at least with respect to its policy substance—that John Maynard Keynes had with himself in the decade around 1930 that turned him from a monetarist into a Keynesian.

Secular Stagnation–That’s My Title, of the Longer Version at Least

Posted on by Brad DeLong

J. Bradford DeLong: The Tragedy of Ben Bernanke: Project Syndicate:

Ben Bernanke has published his memoir, The Courage to Act.

I am finding it hard to read. And I am finding it hard to read as anything other than a tragedy. It is the story of a man who may have been the best-prepared person in the world for the job he was given, but who soon found himself outmatched by its challenges, quickly falling behind the curve and never quite managing to catch up.

It is to Bernanke’s great credit that the shock of 2007-2008 did not trigger another Great Depression. But the aftermath was unexpectedly disappointing… READ MOAR AT PROJECT SYNDICATE

Must-Read: Joseph E. Gagnon: Is QE Bad for Business Investment? No Way!

Posted on by Brad DeLong

Must-Read: Also Larry Summers.

The important thing here, I think, is to have Bernanke’s back. Bernanke is right: QE was worth trying ex ante, and ex post it looks as though it was worth doing–and I would say it was worth doing more of it than he did. If there are arguments that Bernanke’s QE policy is wrong, they need to be arguments–not mere expressive word-salad.

Spence and Warsh are attacking Bernanke’s monetary policy. Why? It’s not clear–they claim that business investment is low because Bernanke’s QE policies have retarded it. But they do not present anything that I would count as an argument or evidence to that effect. As I see it, they are supplying a demand coming from Republican political masters, who decided that since Obama renominated Bernanke the fact that Bernanke was a Republican following sensible Republican policies was neither here nor there: that they had to oppose him–DEBAUCHING THE CURRENCY!!

And Warsh and Spence are meeting that demand, and meeting it when a more sensible Republican Party–and more sensible Republican economists–would be taking victory laps on how the George W. Bush-appointed Republican Fed Chair Ben Bernanke produced the best recovery in the North Atlantic.

I don’t know why Warsh is in this business, lining up with the Randites against Bernanke, other than hoping for future high federal office. And I am with Krugman on Spence: I have no idea why Spence is lining up with Warsh here–he is very sharp, even if he did give me one of my two B+s ever. What’s the model?

Joseph E. Gagnon: Is QE Bad for Business Investment? No Way!: “There is no logical or factual basis for their claim…

…It is the reluctance of businesses and consumers to spend in the wake of a historic recession that is forcing the Fed and other central banks around the world to keep interest rates unusually low–not the other way around…. Economies in which central banks were most aggressive in conducting QE early in the recovery (the United Kingdom and the United States) have been growing more strongly than economies that were slow to adopt QE (the euro area and Japan). At the top of their piece, the authors pull a classic bait and switch, noting ‘gross private investment’ has grown slightly less than GDP since late 2007. Yet the shortfall in private investment derives entirely from housing. No one believes that Fed purchases of mortgage bonds tanked the housing market. The whole premise of the article, that business investment is excessively weak, is simply false….

But the piece also fails a basic test of common sense. Spence and Warsh posit that ‘QE has redirected capital from the real domestic economy to financial assets at home and abroad.’ This statement reveals a fundamental misunderstanding of what financial assets are. They are claims on real assets. It is not possible to redirect capital from financial assets to real assets, since the two always are matched perfectly. Equities and bonds are (financial) claims on the future earnings of (real) businesses. Spence and Warsh accept that QE raised the prices of equities and bonds. Yet they seem ignorant of the effect this has on incentives to invest…. True, some businesses have used rising profits to buy back their own stock. But that is a business prerogative that points to lackluster investment prospects and cannot be laid at the feet of easy Fed policy…. [If] QE has raised stock prices, it discourages businesses from buying back stock because it makes that stock more costly to buy…

Department of “Huh!?!?”: QE Has Retarded Business Investment!?

Posted on by Brad DeLong

Kevin Warsh and Michael Spence attack Ben Bernanke and his policy of quantitative easing, which they claim “has hurt business investment.”

2015 10 06 for 2015 10 07 DeLong ULI key

I score this for Bernanke: 6-0, 6-0, 6-0.

In fact, I do not even think that Spence and Warsh understand that one is supposed to have a racket in hand when one tries to play tennis. As I see it, the Fed’s open-market operations have produced more spending–hence higher capacity utilization–and lower interest rates–has more advantageous costs of finance–and we are supposed to believe that its policies “have hurt business investment”?!?!

Michael Spence and Kevin Warsh: The Fed Has Hurt Business Investment: “Bernanke[‘s view]… may well be true according to economic textbooks…

…But textbooks presume the normal conduct of policy and that the prices of financial assets like stocks and bonds are broadly consistent with expectations for the real economy. Nothing could be further from the truth in the current recovery…. Earnings of the S&P 500 have grown about 6.9% annually… pales in comparison to prior economic expansions… half of the profit improvement… from… share buybacks. So the quality of earnings is as deficient as its quantity…. Extremely accommodative monetary policy… $3 trillion in… QE pushed down long-term yields and boosted the value of risk-assets…. Business investment in the real economy is weak. While U.S. gross domestic product rose 8.7% from late 2007 through 2014, gross private investment was a mere 4.3% higher. Growth in nonresidential fixed investment remains substantially lower than the last six postrecession expansions….

As I have said before and say again, weakness in overall investment is 100% due to weakness in housing investment. Is there an argument here that QE has reduced housing investment? No. Is nonresidential fixed investment below where one would expect it to be given that the overall recovery has been disappointing and capacity utilization is not high? No. The U.S. looks to have an elevated level of exports, and depressed levels of government purchases and residential investment. Given that background, one would not be surprised that business investment is merely normal–and one would not go looking for causes of a weak economy in structural factors retarding business investment. One would say, in fact, that business investment is a relatively bright spot.

Yes, businesses have been buying back shares. How would the higher interest rates and higher risk spreads in the absence of QE retard that? They wouldn’t. Yes, earnings growth from business operations over the past five years has been slower than in earlier expansions. How has QE dragged on earnings growth. It hasn’t.

Efforts by the Fed to fill near-term shortfalls in demand… have shown limited and diminishing signs of success. And policy makers refuse to tackle structural, supply-side impediments to investment growth, including fundamental tax reform.

And the Federal Reserve’s undertaking of QE has hampered efforts to engage in “fundamental tax reform” how, exactly? Is an argument given here? No, it is not.

We believe that QE has redirected capital from the real domestic economy to financial assets…. How has monetary policy created such a divergence between real and financial assets?

OK: Now there is a promise that there will be some meat in the argument.

How do Spence and Warsh say QE has reduced corporate investment? Let’s look:

First, corporate decision-makers can’t be certain about the consequences of QE’s unwinding on the real economy… [that] translates into a corporate preference for shorter-term commitments–that is, for financial assets….

Let’s see: when QE is unwound, asset prices are likely to fall. The period of QE may have boosted the economy and created a virtuous circle–in which case unwinding QE will still leave asset prices higher than they would have been in its absence. Unwinding QE may return asset supplies and demands to where they would have been if it had never been undertaken–in which asset prices will be what they would have been in its absence. Is there a story by which first winding and then unwinding QE leaves asset prices afterwards lower than in QE’s absence? Is there? Anyone? Anyone? Bueller?

Without an argument that the round-trip will leave lower asset prices than the absence of QE, this “uncertainty” argument is incoherent. No such argument is offered.

And I cannot envision what such an argument would be.

The financial crisis taught an important lesson…. Illiquidity can be fatal….

So in the absence of QE people would have forgotten about the financial crisis and would be eager to get illiquid–no, wait a minute! This is not an argument that QE has depressed business investment.

QE reduces volatility in the financial markets, not the real economy…. Much like 2007, actual macroeconomic risk may be highest when market measures of volatility are lowest…

QE reduces volatility in financial markets by making some of the risk tolerance that was otherwise soaked up bearing duration risk free to bear other kinds of risk. That is what it is supposed to do. With more risk tolerance available, more risky real activities will be undertaken–and so microeconomic risk will grow. A higher level of activity with more risky enterprises being undertaken is the point of QE. To say that it pushes up macroeconomic risk is to say that it is doing its job, isn’t it? If that isn’t its job, then there needs to be an argument to that effect, doesn’t there? I do not see one.

QE’s efficacy in bolstering asset prices may arise less from the policy’s actual operations than its signaling effect…

The originator of the idea of signaling equilibrium thinks that such a thing is bad? If QE has effects because it is an informative signal, then it is a good thing as long as its dissipative costs are not large. Is an argument offered that its dissipative costs are large? No. Is there reason to think that its dissipative costs are large? No.

We recommend a change in course. Increased investment in real assets is essential to make the economic expansion durable.

And unwinding QE more rapidly accomplishes this how, exactly? In the absence of QE increased investment in real assets would be higher why, exactly?

If you set out to take Vienna, take Vienna. If you are going to argue that QE has reduced real business investment, argue that QE has reduced real business investment. I see no such argument anywhere in the column.

So Warsh and Spence should not be surprised at my reaction: “Huh!?!?!” and “WTF!?!?!?!?”

Must-Read: Martin Wolf: Lunch with the FT: Ben Bernanke

Posted on by Brad DeLong

Must-Read: Martin Wolf: Lunch with the FT: Ben Bernanke: “‘The notion that the Fed has somehow enriched the rich…

…through increasing asset prices doesn’t really hold up…. The Fed basically has returned asset prices… to trend… [and] stock prices are high… because returns are low…. The same people who criticise the Fed for helping the rich also criticise the Fed for hurting savers…. Those two… are inconsistent….

‘Should the Fed not try to support a recovery?… If people are unhappy with the effects of low interest rates, they should pressure Congress… and so have a less unbalanced monetary-fiscal policy mix. This is the fourth or fifth argument against quantitative easing after all the other ones have been proven to be wrong….’ Other critics argue, I note, that the Fed’s intervention prevented the cathartic effects of a proper depression. He… respond[s]… that I have a remarkable ability to keep a straight face while recounting… crazy opinions…. ‘We were quite confident from the beginning there would be no inflation problem…. As for… the Andrew Mellon [US Treasury secretary] argument from the 1930s… certainly among mainstream economists, it has no credibility. A Great Depression is not going to promote innovation, growth and prosperity.’ I cannot disagree, since I also consider such arguments mad….

Does… blame… lie in pre-crisis monetary policy… interest rates… too low… in the early 2000s?… ‘Serious studies that look at it don’t find that to be the case…. Shiller… has a lot of credibility…. The Fed had some complicity… in not constraining the bad mortgage lending… [and] the structural vulnerabilities in the funding markets….’ Thus, lax regulation…. Has the problem been fixed?… ‘It’s an ongoing project…. You can’t hope to identify all the vulnerabilities in advance. And so anything you can do to make the system more resilient is going to be helpful.’… I push a little harder on the costs of financial liberalisation. He agrees that, in light of the economic performance in the 1950s and 1960s, ‘I don’t think you could rule out the possibility that a more repressed financial system would give you a better trade-off of safety and dynamism.’ What about the idea that if the central banks are going to expand their balance sheets so much, it would be more effective just to hand the money directly over to the people rather than operate via asset markets?… A combination of tax cuts and quantitative easing is very close to being the same thing.’ This is theoretically correct, provided the QE is deemed permanent…

Must-Read: Matt Phillips: Bernanke: I’m not really a Republican anymore

Posted on by Brad DeLong

Must-Read: As I have said before and will stay again, the Republican Party could be taking a serious policy victory lap right now, not just with respect to health policy–as Mitt Romney tried to do yesterday before losing his nerve and pulling back–and with respect to monetary policy. they could be pointing out right now that the most successful recovery in the North Atlantic from 2008-9 was engineered by Republican Ben Bernanke following Friedmanite countercyclical monetary policies.

But no!

They would rather be Hayekians, predicting imminent hyperinflation…

Why? I think it’s the Fox News-ification of political discourse: terrify people in the hope that you will then gain their attention and they will give you money…

Matt Phillips: Bernanke: I’m not really a Republican anymore: “Ben Bernanke has publicly broken ranks with the Republican party…

…In one of the more revealing passages of… The Courage to Act… [he] lays out his experience with Republican lawmakers during the twin financial and economic crises….Continual run-ins with hard-right Republicans… pushed him away from the party that first put him in charge of the Fed….

[T]he increasing hostility of the Republicans to the Fed and to me personally troubled me, particularly since I had been appointed by a Republican president who had supported our actions during the crisis. I tried to listen carefully and accept thoughtful criticisms. But it seemed to me that the crisis had helped to radicalize large parts of the Republican Party….

The former Princeton economics professor said he had:

lost patience with Republicans’ susceptibility to the know-nothing-ism of the far right. I didn’t leave the Republican Party. I felt that the party left me.

He later concludes: ‘I view myself now as a moderate independent, and I think that’s where I’ll stay’…

Must-Read: Martin Wolf: Lunch with Ben Bernanke

Posted on by Brad DeLong

Martin Wolf: Lunch with the FT: Ben Bernanke: “Critics complain that the Fed… let ordinary people drown…

…How does he respond? ‘Rising inequality… is a long-term trend that goes back at least to the 1970s. And the notion that the Fed has somehow enriched the rich through increasing asset prices doesn’t really hold up… [because] the Fed basically has returned asset prices… to trend… [and] stock prices are high… because returns are low…. The same people who criticise the Fed for helping the rich also criticise the Fed for hurting savers…. Those two… are inconsistent. But what’s the alternative? Should the Fed not try to support a recovery?… If people are unhappy with the effects of low interest rates, they should pressure Congress to do more on the fiscal side, and so have a less unbalanced monetary-fiscal policy mix. This is the fourth or fifth argument against quantitative easing after all the other ones have been proven to be wrong. And this is certainly not an argument for the Fed to do nothing and let unemployment stay at 10 per cent.’

Other critics argue, I note, that the Fed’s intervention prevented the cathartic effects of a proper depression. He… respond[s]… that I have a remarkable ability to keep a straight face while recounting… crazy opinions. I add that many critics still expect hyperinflation any day now. ‘Well, we were quite confident from the beginning there would be no inflation problem. And, of course, the greater problem has been getting inflation up to target. As for allowing the economy to go into collapse, this is the Andrew Mellon [US Treasury secretary] argument from the 1930s. And I would think that, certainly among mainstream economists, it has no credibility. A Great Depression is not going to promote innovation, growth and prosperity.’ I cannot disagree, since I also consider such arguments mad….

Neither he nor the Fed expected the meltdown. Does the blame for these mistakes lie in pre-crisis monetary policy?… Had interest rates not been kept too low for too long in the early 2000s?… ‘[Was] monetary policy… in fact, a major contributor to the housing bubble[?]…. Serious studies that look at it don’t find that to be the case…. Shiller… who has a lot of credibility… says that: it wasn’t monetary policy at all…. The Fed had some complicity… in not constraining the bad mortgage lending and excessive risk-taking that was permeating the system. This, together with the structural vulnerabilities in the funding markets….’ Thus, lax regulation was to blame. Has the problem been fixed? ‘I think it’s an ongoing project,’ he replies. ‘You can’t hope to identify all the vulnerabilities in advance. And so anything you can do to make the system more resilient is going to be helpful.’…

Some argue that the financial sector is riddled with perverse incentives: limited liability; excessive leverage; ‘too-big-to-fail’ banks; and a range of explicit and implicit guarantees. How far does he agree? ‘I think that there was, for rational or irrational reasons, an upsurge in risk-taking. And if you’re taking risks, then I have to take the same risks, or else I get left behind. There’s two ways to get rid of ‘too-big-to-fail’. One is by having a lot of capital. And the other approach is via the liquidation authority in… Dodd-Frank….’ But, he adds, ‘if you break the firms down to the size of community banks, you lose a lot of functionality. At the same time, you don’t necessarily stop financial panics, because we had financial panics in the 1930s.’… I push a little harder on the costs of financial liberalisation. He agrees that, in light of the economic performance in the 1950s and 1960s, ‘I don’t think you could rule out the possibility that a more repressed financial system would give you a better trade-off of safety and dynamism.’

What about the idea that if the central banks are going to expand their balance sheets so much, it would be more effective just to hand the money directly over to the people rather than operate via asset markets?… A combination of tax cuts and quantitative easing is very close to being the same thing.’ This is theoretically correct, provided the QE is deemed permanent…