Tag: Ken Rogoff

Will the U.S. Economy Boom?

Posted on by Brad DeLong

The very sharp Ken Rogoff predicts a boom over the next four years: “The biggest missing piece… is business investment, and if it starts kicking in… output and productivity could begin to rise very sharply…. You don’t have to be a nice guy to get the economy going…. It is far more likely that after years of slow recovery, the US economy might at last be ready to move significantly faster…”

I really can’t see it as likely. Rogoff talks about:

  • “the prospect of a massive stimulus, featuring a huge expansion of badly needed infrastructure spending…” but Trump’s stimulus proposal as of now is for tax subsidies to projects that would be built in any event coupled with privatization to restrict use. There is definitely space for fiscal stimulus and infrastructure–and we should lobby and argue hard to use that space–but what appears to be on Trump’s agenda is a bunga-bunga Berlusconi-like policy.

  • “a massive across-the-board income-tax cut that disproportionately benefits the rich… [although it] hardly seems as effective as giving cash to poor people… tax cuts can be very good for business confidence…” but I haven’t seen cases in which this is true–rather, rich people say that tax cuts are very good for business confidence and then skip town with the money.

  • “repealing Obama-era regulation… businesses will be ecstatic, maybe enough to start really investing again. The boost to confidence is already palpable…” but I can’t see a bigger carbon-energy boom than we have had, I don’t notice other labor or environmental regulations binding–certainly not in the Seattle restaurant industry–and, this morning, Boeing is really not ecstatic about a president Trump.

  • “the huge shadow Obamacare casts on the health-care system, which alone accounts for 17% of the economy…” but ObamaCare is primarily a source of money for health care, not a regulatory drain. Repeal of ObamaCare would be–as every hospital and insurance company is right now telling everyone on Capitol Hill who will listen–a major downer. Who is Rogoff talking to? When he made this point earlier, he referred to the “substantial regulatory burden of ObamaCare on small business”. But there never was any. Small businesses–those with less than fifty employees–face no burden. Those few larger businesses–those with fifty employees or more–that do not offer employer-sponsored health insurance face a not-yet-implemented and often-postponed 2% of payroll tax. That’s a cost to them, but a benefit to their many, many competitors who have been offering employer-sponsored insurance.

And:

  • “Even steadfast opponents of President-elect Trump’s economic policies would have to admit they are staunchly pro-business (with the notable exception of trade)…” Enough said.

By saying that a boom is “far more likely” than the opposite, I think Rogoff is playing a 20% chance as if it were a 60% chance. And I do not understand what makes him see the world this way. Tax credits for already-planned infrastructure projects are not fiscal stimulus, ObamaCare is not a substantial regulatory burden on small business, etc. Or do I not live in the real world?

Kenneth Rogoff: The Trump Boom?: “Under President Barack Obama, labor regulation expanded significantly…

…not to mention the dramatic increase in environmental legislation. And that is not even counting the huge shadow Obamacare casts on the health-care system, which alone accounts for 17% of the economy. I am certainly not saying that repealing Obama-era regulation will improve the average American’s wellbeing. Far from it. But businesses will be ecstatic, maybe enough to start really investing again. The boost to confidence is already palpable.

Then there is the prospect of a massive stimulus, featuring a huge expansion of badly needed infrastructure spending. (Trump will presumably bulldoze Congressional opposition to higher deficits.) Ever since the 2008 financial crisis, economists across the political spectrum have argued for taking advantage of ultra-low interest rates to finance productive infrastructure investment, even at the cost of higher debt. High-return projects pay for themselves.

Far more controversial is Trump’s plan for a massive across-the-board income-tax cut that disproportionately benefits the rich. True, putting cash in the pockets of rich savers hardly seems as effective as giving cash to poor people who live hand to mouth. Trump’s opponent, Hillary Clinton, memorably spoke of “Trumped-up trickle-down economics.” But, Trumped-up or not, tax cuts can be very good for business confidence.

It is hard to know just how much extra debt Trump’s stimulus program will add, but estimates of $5 trillion over ten years – a 25% increase – seem sober. Many left-wing economics commentators, having insisted for eight years under Obama that there is never any risk to US borrowing, now warn that greater borrowing by the Trump administration will pave the road to financial Armageddon. Their hypocrisy is breathtaking, even if they are now closer to being right.

Exactly how much Trump’s policies will raise output and inflation is hard to know. The closer the US economy is to full capacity, the more inflation there will be. If US productivity really has collapsed as much as many scholars believe, additional stimulus is likely to raise prices a lot more than output; demand will not induce new supply.

On the other hand, if the US economy really does have massive quantities of underutilized and unemployed resources, the effect of Trump’s policies on growth could be considerable. In Keynesian jargon, there is still a large multiplier on fiscal policy. It is easy to forget the biggest missing piece of the global recovery is business investment, and if it starts kicking in finally, both output and productivity could begin to rise very sharply.

Those who are deeply wedded to the idea of “secular stagnation” would say high growth under Trump is well-nigh impossible. But if one believes, as I do, that the slow growth of the last eight years was mainly due to the overhang of debt and fear from the 2008 crisis, then it is not so hard to believe that normalization could be much closer than we realize. After all, so far virtually every financial crisis has eventually come to an end….

At the risk of hyperbole, it’s wise to remember that you don’t have to be a nice guy to get the economy going. In many ways, Germany was as successful as America at using stimulus to lift the economy out of the Great Depression.

Yes, it still could all end very badly. The world is a risky place. If global growth collapses, US growth could suffer severely. Still, it is far more likely that after years of slow recovery, the US economy might at last be ready to move significantly faster, at least for a while.

Note to Self: I Still Fail to Understand Ken Rogoff’s Medium-Long Term Macroeconomic Optimism…

Posted on by Brad DeLong

Ken Rogoff: “In nine years, nobody will be talking about ‘secular stagnation’. I’ve been debating Larry on this for a year, and I started saying ‘in ten years…, and so for consistency I now say ‘in nine years…”.

10 Year Treasury Constant Maturity Rate FRED St Louis Fed

This is a wager that the full-employment long-run in which money and its associates are a veil that does not affect or disturb the Say’s Law operation of the economy will come not more than 18 years after the shock of 2017–or at least that whatever remnants of the effects of that shock on the business cycle come 2025 will be dwarfed the effects of other business cycle shocks subsequent to now.

I do know from experience that one disagrees with Ken Rogoff at one’s grave intellectual peril. But is he correct here? I really cannot follow him to the conclusion he wants me to reach…

Things to reread and chew over:

  • Paul Krugman (2015): The Inflationista Puzzle: “Traditional IS-LM analysis said that the Fed’s [expansionary QE] policies would have little effect on inflation; so did the translation of that analysis into a stripped-down New Keynesian framework that I did back in 1998, starting the modern liquidity-trap literature. We even had solid recent empirical evidence: Japan’s attempt at quantitative easing in the naughties…. I’m still not sure why relatively moderate conservatives like Feldstein didn’t find all this convincing back in 2009…”

  • J. Bradford DeLong (2015): New Economic Thinking, Hicks-Hansen-Wicksell Macro, and Blocking the Back Propagation Induction-Unraveling from the Long Run Omega Point

  • Paul Krugman (2015): Backward Induction and Brad DeLong: “Brad DeLong is, unusually, unhappy with my analysis in a discussion of the inflationista puzzle–the mystery of why so many economists failed to grasp the implications of a liquidity trap, and still fail to grasp those implications despite 6 years of being wrong. Brad sorta-kinda defends the inflationistas on the basis of backward induction; I find myself somewhat baffled by that defense…”

  • Paul Krugman (2015): Rethinking Japan: “Secular stagnation and self-fulfilling prophecies: Back in 1998… I used a strategic simplification… [assumed] the Wicksellian natural rate… would return to a normal, positive level at some future date. This… provided a neat way to deal with the intuition that increasing the money supply must eventually raise prices by the same proportional amount; it was easy to show that this proposition applied only if the money increase was perceived as permanent, so that the liquidity trap became an expectations problem… [so] that if the central bank could “credibly promise to be irresponsible,” it could gain traction even in a liquidity trap. But what is this future period of Wicksellian normality of which we speak?… Japan looks like a country in which a negative Wicksellian rate is a more or less permanent condition. If that’s the reality, even a credible promise to be irresponsible might do nothing…. The only way to be at all sure of raising inflation is to accompany a changed monetary regime with a burst of fiscal stimulus…. While the goal of raising inflation is, in large part, to make space for fiscal consolidation, the first part of that strategy needs to involve fiscal expansion. This isn’t at all a paradox, but it’s unconventional enough that one despairs of turning the argument into policy…”

  • Paul Krugman (2015): St. Augustine and Secular Stagnation: “The assumption here is that the neutral rate will eventually rise so that monetary policy can take over the job of achieving full employment. What if we have doubts about whether that will ever happen? Well, that’s the secular stagnation question… a situation in which the neutral interest rate is normally, persistently below zero. And this raises a puzzle: If we worry about secular stagnation, should we then say that St. Augustine no longer applies, because better days are never coming? No. The way to deal with secular stagnation, if we believe in our models, is to raise the long-run neutral interest rate…. If we can do this via structural reform and/or self-financing infrastructure investment, fine. If not, raise the inflation target. And how do we get to the higher target inflation rate, when monetary policy is having trouble getting traction? Fiscal policy! If you’re really worried about secular stagnation, you should advocate a combination of a raised inflation target and a burst of fiscal stimulus to help the central bank get there. So the St. Augustine approach is right either way, with secular stagnation suggesting the need to be even less chaste in the short run.”

  • J. Bradford DeLong (2015): Must-Read: Paul Krugman: Rethinking Japan: “Paul Krugman’s original argument assumed that the economy would eventually head towards a long-run equilibrium in which flexible wages and prices would make Say’s Law hold… [with] the price level would be proportional to the money stock. That now looks up for grabs. It is the fact that that is up for grabs that currently disturbs Paul. Without a full-employment Say’s Law equilibrium out there in the transversality condition to which the present day is anchored by intertemporal financial-market and intertemporal consumer-utility arbitrage, all the neat little mathematical tricks that Paul and Olivier Blanchard built up at the end of the 1970s to solve for the current equilibrium break in their hands…. There is… more. Paul Krugman’s original argument also assumed back-propagation into the present via financial-market… and consumer-satisfaction intertemporal… arbitrage of the effects of that future well-behaved full-employment equilibrium. The equilibrium has to be there. And the intertemporal arbitrage mechanisms have to work. Both have to do their thing…”

  • J. Bradford DeLong (2015): The Scary Debate Over Secular Stagnation: Hiccup… or Endgame?

  • Paul Krugman (2015): On Being Against Secular Stagnation Before You Were for It

  • Duncan Weldon (2016): Negative Yields, the Euthanasia of the Rentier, and Political Economy: “I understand the mechanics of engine that took us here but not what the driver was thinking…”

  • J. Bradford DeLong (2015): Just What Are the Risks That Alarm Ken Rogoff?: “This part of Ken Rogoff’s piece appears to me to be very much on the wrong track: ‘Ken Rogoff: Debt Supercycle, Not Secular Stagnation: Robert Barro… has shown that in canonical equilibrium macroeconomic models small changes in the market perception of tail risks can lead both to significantly lower real risk-free interest rates and a higher equity premium…. Obstfeld (2013) has argued cogently that governments in countries with large financial sectors need to have an ample cushion, as otherwise government borrowing might become very expensive in precisely the states of nature where the private sector has problems…’ We need to be clear about what the relevant tail-risk states that Ken Rogoff is talking about are…. [They are that] even though it was sold at a high price and carries a low interest rate, the issuing of government debt is very expensive to the government [because] when the time comes in the bad state of the world for it to raise the money to amortize the debt, it finds that it really would very much rather not do so. It is clear if you are Argentina or Greece what the risk is: it is of a large national-level terms-of-trade or political shock, something that you can insure against by investing in the ultimate reserves of the global monetary system. If you are the United States or Germany or Japan or Britain, what is the risk? What is the risk that cannot be handled at low real resource cost by a not-injudicious amount of inflation, or of financial repression?”

  • J. Bradford DeLong (2015): Watching a Discussion: The Omega Point

Note to Self: Inadequate Musings on Elements of Rogoff’s Debt Supercycle Hypothesis

Posted on by Brad DeLong
Real Gross Domestic Product for European Union 28 countries © FRED St Louis Fed

It is, once again, time for me to think about Ken Rogoff’s hypothesis: his claim that right now the world economy as a whole is depressed because we are in the down phase of a debt supercycle–dealing with a debt overhang.

I have never been able to make enough sense of Rogoff’s perspective here to find it convincing.

I should, however, warn people that when I fail to see the point of something that Ken Rogoff has written, the odds are only one in four that I am right. The odds are three in four that he is right, and I have missed something important:

One way to view the situation is that there have been four serious diagnoses of the ills of the Global North. They are:

  • A Bernanke global savings-glut.
  • A Krugman-Blanchard return to “depression economics”.
  • A Rogoffian-Minskyite crisis of overleverage and debt overhang
  • A Summers secular-stagnation chronic crisis.

The policies recommended by the different diagnoses do differ.

  • A Bernanke global savings-glut chronic crisis requires shifts in global governance that reduce incentives to run large trade surpluses and a redistribution of world income to those with lower marginal propensities to save.
  • A Krugman-Blanchard return to “depression economics” requires larger automatic stabilizers, a higher inflation target, and perhaps a return of fiscal policy to preeminence
  • A Rogoffian-Minskyite temporary crisis of overleverage and of excessive underwater debt requires debt writedowns and financial-intermediary recapitalizations.
  • A Summers secular-stagnation chronic crisis of insufficiently-profitable risk-adjusted investment opportunities requires a shift in responsibility for long-run expenditure from private to government–” a more-or-less comprehensive socialization of investment”, as some guy once wrote.

Let me put the other three to the side, and focus on Rogoff here…

A principal implication of Rogoff’s hypothesis is that, if it is true, that there is no complete and quick fix : recovery is inevitably a lengthy process–although good policies can accelerate and bad policies retard full recovery.

As I understand it, the down phase of what Ken Rogoff calls a debt supercycle can be generated by some or all of:

  • a collapse of market risk tolerance, or of trust in the credit channel, itself generated by one or more of:
    • a failure to mobilize society’s risk bearing capacity,
    • inadequate capitalization of financial intermediaries,
    • a collapse in the reputation of financial intermediaries: either trust that they are long-term greedy, or confidence in their competence, or both.
  • a rise in fundamental riskiness.
  • the past issue of too much risky debt.
  • the past issue of too much risky debt that has become or is now perceived to be risky.
  • a decline in expectations of how much future cash flow there will be available for potential debt servicing.

How long it takes to work off a debt supercycle and rebalance the economy depends on the speed of the processes of:

  • economic growth, which raises cash flow for potential debt servicing.
  • capital depreciation, which by raising the profit rate also raises cash flow for potential debt servicing.
  • debt write-offs.
  • the normal pace of debt amortization.
  • unexpected inflation writing down nominal debts.
  • other forms of financial repression.

As long as we remain in the down-phase of the debt supercycle, even low interest rates do little to encourage the investment spending needed to drive the economy to full employment. Why? Because investment spending requires not just positive expected value given the interest rate, but also the commitment of risk bearing capacity, which is absent because of the debt overhang.

My first reaction is that the right way to deal with this is to rebalance the economy by undertaking economic activities that do not require the deployment of risk bearing capacity to set them in motion. Governments with exorbitant privilege that have ample fiscal space should borrow and spend–most desirably on things that raise potential output in the future, but other worthwhile activities that create utility are also fine.

As I wrote: We have underemployment. We have interest rates on government debt and thus the debt amortization costs of the government far below any plausible rate of return on productive public investments (or, indeed, any plausible social rate of time discount geared to a sensible degree of risk aversion and the trend rate of technological progress). Under such circustances, at least reserve currency-issuing governments with exorbitant privilege should certainly be spending more, taxing less, and borrowing.

But Rogoff seems to disagree:

Kenneth Rogoff (2011): The Second Great Contraction: “Many commentators have argued that fiscal stimulus has largely failed… because it was not large enough…

…But, in a “Great Contraction,” problem number one is too much debt. If governments that retain strong credit ratings are to spend scarce resources effectively, the most effective approach is to catalyze debt workouts and reductions…. Governments could facilitate the write-down of mortgages in exchange for a share of any future home-price appreciation…. Europe could perhaps be persuaded to engage in a much larger bailout for Greece (one that is actually big enough to work), in exchange for higher payments in ten to fifteen years if Greek growth outperforms…

And:

Kenneth Rogoff (2015): world’s economic slowdown is a hangover not a coma: “Vastly increased quality infrastructure investment… a great idea. But… not… a permanently sustained blind spending binge…

…What if a diagnosis of secular stagnation is wrong? Then an ill-designed permanent rise in government spending might create the very disease it was intended to cure…. There can be little doubt that a debt super cycle lies behind a significant part of what the world has experienced over the past seven years. This resulted first in the US subprime crisis, then the eurozone periphery crisis, and now the troubles of China and emerging markets. The whole affair has strong precedent…. America’s experience–whether one looks at the trajectory of housing and equity prices, unemployment and output, or public debt–has uncannily tracked benchmarks from past systemic financial crises. This is not to say that secular factors are unimportant. Most financial crises have their roots in a slowing economy that can no longer sustain excessive debt burdens…

Rogoff seems to have a counter. He seems to think that borrow-and-spend by governments with fiscal space will, or perhaps may, lead, ultimately, to disaster. Why? Because the fiscal space was never really there. The increase in debt issue will transform even the government’s old safe debt into risky debt. And the overhang of risky debt will be increased, worsening the problem.

The counter to that, of course is helicopter money: money printing- and financial repression-financed expansionary fiscal policy rebalances the economy at full employment without any risk of incurring a larger overhang of risky debt further down the road.

And Rogoff’s response to that is… what?

Relevant:

Paul Krugman: Airbrushing Austerity: “Ken Rogoff weighs in on the secular stagnation debate, arguing basically that it’s Minsky, not Hansen…

…that we”re suffering from a painful but temporary era of deleveraging, and that normal policy will resume in a few years…. Rogoff doesn”t address the key point that Larry Summers and others, myself included, have made–that even during the era of rapid credit expansion, the economy wasn’t in an inflationary boom and real interest rates were low and trending downward–suggesting that we”re turning into an economy that “needs” bubbles to achieve anything like full employment. But what I really want to do right now is note… people who predicted soaring interest rates from crowding out right away now claim that they were only talking about long-term solvency… people who issued dire warnings about runaway inflation say that they were only suggesting a risk, or maybe talking about financial stability; and so on down the line…. In Rogoff’s version of austerity fever all that was really going on was that policymakers were excessively optimistic, counting on a V-shaped recovery; all would have been well if they had read their Reinhart-Rogoff on slow recoveries following financial crises. Sorry, but no….

David Cameron didn’t say “Hey, we think recovery is well in hand, so it’s time to start a modest program of fiscal consolidation.” He said “Greece stands as a warning of what happens to countries that lose their credibility.” Jean-Claude Trichet didn’t say “Yes, we understand that fiscal consolidation is negative, but we believe that by the time it bites economies will be nearing full employment”. He said: “As regards the economy, the idea that austerity measures could trigger stagnation is incorrect … confidence-inspiring policies will foster and not hamper economic recovery, because confidence is the key factor today.” I can understand why a lot of people would like to pretend, perhaps even to themselves, that they didn’t think and say the things they thought and said. But they did.

And this part of Ken Rogoff’s piece appears to me to be on the wrong track:

Ken Rogoff: Debt Supercycle, Not Secular Stagnation: “Robert Barro… has shown that in canonical equilibrium macroeconomic models…

…small changes in the market perception of tail risks can lead both to significantly lower real risk-free interest rates and a higher equity premium…. Martin Weitzman has espoused a different variant of the same idea based on how people form Bayesian assessments of the risk of extreme events…. Those who would argue that even a very mediocre project is worth doing when interest rates are low have a much tougher case to make. It is highly superficial and dangerous to argue that debt is basically free. To the extent that low interest rates result from fear of tail risks a la Barro-Weitzman, one has to assume that the government is not itself exposed to the kinds of risks the market is worried about, especially if overall economy-wide debt and pension obligations are near or at historic highs already. Obstfeld (2013) has argued cogently that governments in countries with large financial sectors need to have an ample cushion, as otherwise government borrowing might become very expensive in precisely the states of nature where the private sector has problems…

Ken Rogoff’s Hooverismo…: Hoisted from the Archives from Three Years Ago

Posted on by Brad DeLong
NewImage

Just what is Ken Rogoff’s argument that the Cameron-Osborne-Clegg government in Great Britain was correct to hit the British economy over the head with the austerity hammer in the spring of 2010, anyway?

Simon Wren-Lewis opens: Ken Rogoff on UK austerity: “Ken Rogoff’s article… is a welcome return to sanity…

…Rogoff focuses on what was always the critical debate: was austerity necessary because financial markets might have stopped buying government debt…. As critical pieces go, you couldn’t have a friendlier one than this…. Rogoff agrees that it was a mistake to cut back on public sector investment…. He says that austerity critics “have some very solid points”…. His comment after putting the austerity critics’ case is “perhaps” or “maybe”…

But… But… But…

About the Rogoff argument: If markets stop buying government debt, then they are buying something else: by Walras’s Law, excess supply of government debt is excess demand for currently-produced goods and services and labor. That is not continued deflation and depression, that is a boom–it may well be a destructive inflationary boom, and it may be a costly boom, but it is the opposite problem of an deflationary depression

So, by continuity, somewhere between policies of austerity that that produce deflationary depression due to an excess demand for safe assets and policies of fiscal license that produce inflationary boom caused by an excess supply of government debt, there must be a sweet spot: enough new issues of government debt to eliminate the excess demand for safe assets and so cure the depression, but not so much in the way of new issues of government debt to produce destructive inflation, right? Why not aim for that sweet spot? Certainly Cameron-Osborne-Clegg were not aiming for that sweet spot, and the John Stuart Millian using the government’s powers to issue money and debt to balance supply and demand for financial assets and so make Say’s Law true in practice even though it is not true and theory?

More urgent and important: In the spring of 2010 there was no sign of an inflationary boom with rising interest rates. There was no sign that there was going to be an inflationary boom soon. There was no sign that anybody in financial markets whose money moved market prices at the margin placed a weight greater than zero on any prospect of an inflationary boom at any time horizon out to thirty years.

Thus the question is: what do you do if there is no boom, are no signs of a boom, is no expectation that there will be a boom, is no excess supply of government debt right now, is no sign in the term structure of interest rates that people expect an excess supply of government debt in the near-future–if in fact looking out thirty years into the future via the term structure there is no sign that there will ever be any significant chance of an excess supply of government debt?

Ken Rogoff thinks that the answer is obvious: that you must then hit the economy on the head with the hammer of austerity to raise unemployment in order to guard against the threat of the invisible bond-market vigilantes, even though there is no sign of them–for, he says, they are invisible and silent as well. We must not try to infer expectations, probabilities, scenarios, and risks from market prices, but rather have St. Paul’s faith that austerity is necessary because of “the evidence of things not seen”.

The argument seems to be:

  1. We can’t trust financial markets that price the scenario in which people lose confidence in government finances at zero because financial markets are irrational–we cannot look at prices as indicators of when austerity might be appropriate, but must hit the economy on the head with the austerity brick and raise unemployment.

  2. Once interest rates rise as people lose confidence in government finances, it is then politically impossible for the government to run the primary surpluses needed–to cut spending and raise taxes–in order to service the debt without the implicit national bankruptcy of inflation

  3. Once interest rates rise as people lose confidence in government finances, it is not possible for the Bank of England to reduce the pound far enough to bring foreign-currency speculators who then expect the next bounce of the pound will be up into the market to reduce interest rates–or, at least, not possible without setting off an import price-driven inflationary spiral, and thus produce the implicit national bankruptcy of inflation.

  4. Greece! Argentina! You don’t want Britain to suffer the fate of Greece or Argentina, do you

Therefore, Rogoff argues, in order to guard against the possibility of a destructive fiscal dominance-inflation in the future, the Cameron-Osborne-Clegg government was wise to hit the British economy on the head with the austerity hammer and produce a longer, deeper, more destructive depression now.

Maybe the argument is really that the big policy mistake was made by Governor of the Bank of England–that Britain was in conditions of fiscal dominance, in which the Exchequer needed to balance the budget to preserve price stability and the Bank of England should have engaged in massive quantitative easing, aggressive forward interest- and exchange-rate guidance, and explicit raising of the inflation target in order to balance aggregate demand and potential supply, and that the unforgivable policy blunders were not Cameron-Osborne-Cleggs’ but King’s. But if that is what Rogoff means, it is not what he says.

So I am still left puzzled.

And so is Simon Wren-Lewis, who continues:

The argument here is all about insurance. The financial markets are unpredictable…. [What if] the Euro had collapsed[?] As Rogoff acknowledges, they might have run for cover into UK government debt, but… might have done the opposite…. The UK is not immune from the possibility of a debt crisis, so we needed to take out insurance against that possibility, and that insurance was austerity…. So let us agree that it was possible to imagine, particularly in 2010, that the markets might stop buying UK government debt. What does not follow is that austerity was an appropriate insurance policy….

Government needed to have a credible long term plan for debt sustainability…. I hope Rogoff would agree that in the absence of any risk coming from the financial markets, it is optimal to delay fiscal tightening until the recovery is almost complete. The academic literature is clear that, in the absence of default risk, debt adjustment should be very gradual, and that fiscal policy should not be pro-cyclical. So the insurance policy involves departing from this wisdom. This has a clear cost in terms of lost output, but an alleged potential benefit in reducing the chances of a debt crisis…. What the Rogoff piece does not address at all is that the UK already has an insurance policy, and it is called Quantitative Easing…. Rogoff says that, if the markets suddenly forsook UK government debt “UK leaders would have been forced to close massive budget deficits almost overnight.” With your own central bank this is not the case–you can print money instead…. We are talking about a government with a long-term feasible plan for debt sustainability, faced with an irrational market panic…. We never needed the much more costly, far inferior and potentially dubious additional insurance policy of austerity.

And so is Paul Krugman: Phantom Crises:

Simon Wren-Lewis is puzzled by a Ken Rogoff column that sorta-kinda defends Cameron’s austerity policies. His puzzlement, which I share, comes at several levels. But I want to focus on… Rogoff’s assertion that Britain could have faced a southern Europe-style crisis, with a loss of investor confidence driving up interest rates and plunging the economy into a deep slump. As I’ve written before, I just don’t see how this is supposed to happen in a country with its own currency that doesn’t have a lot of foreign currency debt–especially if the country is currently in a liquidity trap, with monetary policy constrained by the zero lower bound on interest rates. You would think, given how many warnings have been issued about this possibility, that someone would have written down a simple model of the mechanics, but I have yet to see anything of the sort…. Suppose that investors turn on your country for some reason… a decline in capital inflows at any given interest rate, so that the currency depreciates. If you have a lot of foreign-currency-denominated debt, this could actually shift IS left through balance-sheet effects, as we learned in the Asian crisis. But that’s not the case for Britain; clearly, IS shifts right. If LM doesn’t shift, the interest rate will rise, but only because the loss of investor confidence is actually, through depreciation, having an expansionary effect….

My point is that… [the] claim that loss of foreign confidence causes a contractionary rise in interest rates just doesn’t come out of anything like a standard model. If you want to claim that it will happen nonetheless, show me the model!…

Furthermore, as Wren-Lewis says, even if there is somehow a squeeze on long-term bonds, why can’t the central bank just buy them up? Yes, this is “printing money”–but when you’re in a liquidity trap, that doesn’t matter. (Alternatively, you can take a consolidated view of the government and central bank balance sheets, in which case what we’re effectively doing is refinancing at the zero short-term rate.)…

And Matthew C. Klein: Ken Rogoff’s Latest Bad Argument for Austerity:

It’s been more than three years since the U.K.’s coalition government began aggressively raising taxes and cutting spending in an effort to reduce its deficit. Many economists now agree that this program retarded the recovery, producing a slump worse than the Great Depression. Yet Harvard economist Kenneth Rogoff, in a column in the Financial Times, argues that those measures made sense as a form of insurance against the sort of crisis that has afflicted countries in the euro area such as Spain and Italy. His case has two parts, neither of which is convincing.

First, Rogoff implies that the U.K. was vulnerable to the same sorts of shocks that battered Spain and Italy…. The comparison is misleading, however. Unlike the 17 countries of the euro area, which share a single currency, the U.K. uses its own… totally different from the euro area….

Rogoff’s second point is that previous episodes of high indebtedness in the U.K. were special cases that should not inform today’s policy makers…. Rogoff dismisses the gradual repayment of the U.K.’s World War II-era debts because it was only made possible by persistent rapid inflation. That’s true, but Rogoff himself has repeatedly argued that the rich world needs more inflation, rather than less. In fact, at the bottom of his most recent column, Rogoff says that it was a mistake not to have pursued “even more aggressive monetary policy.”

Must-Read: Storify: Paul Krugman Is, I Think, Highly Likely to Be Correct on the Policy Irrelevance of the Risk Premium. The Mystery Is Why the Very Sharp Ken Rogoff Takes a Different View…

Posted on by Brad DeLong

Must-Read: Storify: Oh Noes! Paul Krugman Has Caught the Tweetstorm Disease!: “Paul Krugman Is, I Think, Highly Likely to Be Correct on the Policy Irrelevance of the Risk Premium. The Mystery Is Why the Very Sharp Ken Rogoff Takes a Different View…

Must-Read: Ken Rogoff (2015): Debt Supercycle, Not Secular Stagnation

Posted on by Brad DeLong

Must-Read: For a year and a half now I have been trying to understand what this passage means, especially the “in a world where regulation has sharply curtailed access for many smaller and riskier borrowers, low sovereign bond yields do not necessarily capture the broader ‘credit surface’ the global economy faces”. In a world in which n + g > rsafe, why isn’t issuing more safe debt, rolling it over forever, and spending the resources buying useful stuff not win-win ex ante for everyone? Who are supposed to be the losers from this, in the sense that acting on these price signals reduces well being because they are “distorted” and “do not necessarily capture the broader ‘credit surface’ the global economy faces”?

Ken Rogoff (2015): Debt Supercycle, Not Secular Stagnation: “Low real interest rates mask an elevated credit surface…

…What about the very low value of real interest rates? Low rates are often taken as prima facie by secular stagnation proponents, who argue that only a chronic demand deficiency could be responsible for steadily driving down the global real interest rate. The steady decline of real interest rates is certainly a puzzle, but there are a host of factors. First, we do not actually observe the true economic real interest rate; that would require a utility-based price index that is extremely difficult to construct in a world of rapid change in both the kinds of goods we consume and the way we consume them. My guess is that the true real interest rate is higher, and perhaps this bias is larger than usual. Correspondingly, true economic inflation is probably considerably lower than even the low measured values that central banks are struggling to raise.

Perhaps more importantly, in a world where regulation has sharply curtailed access for many smaller and riskier borrowers, low sovereign bond yields do not necessarily capture the broader ‘credit surface’ the global economy faces (Geanokoplos 2014). Whether by accident or design, banking and financial market regulation has hugely favoured low-risk borrowers (governments and cash-heavy corporates), knocking out other potential borrowers who might have competed up rates. Many of those who can borrow face higher collateral requirements. The elevated credit surface is partly due to inherent riskiness and slow growth in the post-Crisis economy, but policy has also played a large role. Many governments, particularly in Europe, have rammed down the throats of pension funds, banks, and insurance companies. Financial repression of this type not only effectively taxes middle-income savers and pensioners (who receive low rates of return on their savings) but also potential borrowers (especially middle-class consumers and small businesses), which these institutions might have financed to a greater extent if they were not required to be so overweight in government debt.

Surely global interest rates are also affected by the massive balance sheet expansions that most advanced-country central banks have engaged in. I don’t believe this is as important as the other effects I have discussed (even if most market participants would say the reverse). Global quantitative easing by advanced countries and sterilised intervention operations by emerging markets have also surely had a very large impact on bringing down market volatility measures.

The fact that global stock market indices have hit new peaks is certainly a problem for the secular stagnation theory, unless one believes that profit shares are going to rise massively further…

Must-read: Ken Rogoff: “The Fear Factor in Global Markets”

Posted on by Brad DeLong

Must-Read: This, by the very-sharp Ken Rogoff, seems to me to be simply wrong. If “the supply side, not lack of demand, is the real constraint in advanced economies” then we would live in a world in which inflation would be on a relatively-rapid upswing right now. Instead, we live in a world in which Global North central banks are persistently and continually failing to meet their rather-modest targets for inflation. If a fear of supply disruptions or supply lack were ruling markets, then people in markets would be heavily betting on an upsurge of inflation and we would see that. But we don’t. What am I missing here?

Ken Rogoff: The Fear Factor in Global Markets: “There are some parallels between today’s unease and market sentiment in the decade after World War II…

…In both cases, there was outsize demand for safe assets. (Of course, financial repression also played a big role after the war, with governments stuffing debt down private investors’ throats at below-market interest rates.)… People today need no reminding about how far and how fast equity markets can fall…. The idea is that investors become so worried about a recession, and that stocks drop so far, that bearish sentiment feeds back into the real economy through much lower spending, bringing on the feared downturn. They might be right, even if the markets overrate their own influence on the real economy. On the other hand, the fact that the US has managed to move forward despite global headwinds suggests that domestic demand is robust. But this doesn’t seem to impress markets….

The most convincing explanation… is… that markets are afraid that when external risks do emerge, politicians and policymakers will be ineffective in confronting them. Of all the weaknesses revealed by the financial crisis, policy paralysis has been the most profound. Some say that governments did not do enough to stoke demand. Although that is true, it is not the whole story. The biggest problem burdening the world today is most countries’ abject failure to implement structural reforms. With productivity growth at least temporarily stuck in low gear, and global population in long-term decline, the supply side, not lack of demand, is the real constraint in advanced economies…

Must-read: Ken Rogoff: “The Great Escape from China”

Posted on by Brad DeLong

Must-Read: Just how large is the Chinese elite’s potential demand for political risk insurance in the form of dollar assets underneath the U.S.’s legal umbrella anyway? The extremely-sharp Ken Rogoff

Ken Rogoff: The Great Escape from China: “The prospect of a major devaluation of China’s renminbi…

…has been hanging over global markets like the Sword of Damocles. No other source of policy uncertainty has been as destabilizing…. It might seem odd that a country running a $600 billion trade surplus in 2015 should be worried about currency weakness. But… slowing economic growth and a gradual relaxation of restrictions on investing abroad, has unleashed a torrent of capital outflows…. Private citizens are now allowed to take up to $50,000 per year out of the country. If just one of every 20 Chinese citizens exercised this option, China’s foreign-exchange reserves would be wiped out. At the same time, China’s cash-rich companies have been employing all sorts of devices to get money out…. Now that Chinese firms have bought up so many US and European companies, money laundering can even be done in-house…

Must-Read: Ken Rogoff: The Fed’s Communication Breakdown

Posted on by Brad DeLong

Must-Read: I guess I must be a foaming polemicist then :-)…

Ken Rogoff: The Fed’s Communication Breakdown: “Personally, I would probably err on the side of waiting longer…

…and accept the very high risk that, when inflation does rise, it will do so briskly, requiring a steeper path of interest-rate hikes later. But if the Fed goes that route, it needs to say clearly that it is deliberately risking an inflation overshoot. The case for waiting is that we really have no idea of what the equilibrium real (inflation-adjusted) policy interest rate is right now, and as such, need a clear signal on price growth before moving.

But only a foaming polemicist would deny that there is also a case for hiking rates sooner, as long as the Fed doesn’t throw random noise into the market by continuing to send spectacularly mixed signals about its beliefs and objectives. After all, the US economy is at or near full employment, and domestic demand is growing solidly…

I look at this graph:

A kink in the Phillips curve Equitable Growth

And I think: One always disagrees with the very sharp Ken Rogoff at one’s grave analytical peril…

But: Inflation expectations anchored at 2%/year, wage growth at 0%/year real, the prime-age employment-population ratio far below historical norms–that does not smell like an economy “at or near full employment” to me. And so I cannot see a “very high risk that, when inflation does rise, it will do so briskly”, or agree that “only a foaming polemicist would deny that there is also a case for hiking rates” not “sooner” but “right now”…

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