Tag: Macroeconomics

Must-read: John Maynard Keynes (1923): “A Tract on Monetary Reform”

Posted on by Brad DeLong

Must-Read: John Maynard Keynes (1923): A Tract on Monetary Reform: “One is often warned that a scientific treatment of currency questions…

…is possible because the banking world is intellectually incapable of understanding its own problems…. I do not believe it…. If the new ideas… are sound and right, I do not doubt that sooner or later they will prevail. I dedicate this book, humbly and without permission, to the Governors and Court of the Bank of England, who now and for there future has a much more difficult and anxious task entrusted to them than in former days…

[…]

It is not safe or fair to combine the social organization developed during the nineteenth century (and still retained) with a laisser-faire policy towards the value of money…. we must make it a prime object of deliberate State policy that the standard of value… be kept stale… adjusting in other ways the redistribution of the national wealth if… inheritance and… accumulation have drained too great a proportion… into the spending control of the inactive….

We see… rising prices and falling prices each have their characteristic disadvantage…. Inflation… means Injustice to individuals… particularly to investors: and is therefore unfavorable to saving [and investment in capital]…. Deflation… is… disastrous to employment…. Inflation is unjust and Deflation is inexpedient. Of the two perhaps Deflation is, if we rule out exaggerated inflations such as that of Germany, the worse; because it is worse, in an impoverished world, to provoke unemployment than to disappoint the rentier.

But it is not necessary that we should weigh one evil against the other. It is easier to agree that both are evils to be shunned. The Individualistic Capitalism of to-day, precisely because it entrusts saving to the individual investor and production to the individual employer, presumes a stable measuring-rod of value, and cannot be efficient–perhaps cannot survive–without one.

?For these grave causes we must free ourselves from the deep distrust which exists against allowing the regulation of the standard of value to be the subject of deliberate decision…

On the definition of a “liquidity trap”

Posted on by Brad DeLong

I am going to split hairs with Robert Waldmann here…

Robert writes:

Robert Waldmann: The USA is not in a liquidity trap any more: “The output gap can be [estimated] by attempting to measure slack directly…

…The ratio of employment to prime age (25-54) population… is very low…. The ratio of vacant jobs to employment is very high, the quit rate is normal and real wages have begun to grow. The pattern is very confusing… it is possible for the same person to reach very different conclusions on different days….

[But] we [do not] need to estimate the output gap to predict the Fed’s response to fiscal stimulus…. The Fed Open Market Committee (FOMC) has… made it very clear that they are considering further rate increases. It could not be more clear that markedly reduced unemployment will convince them to raise interest rates. The US economy is not at the zero lower bound anymore. This just means that the FOMC no longer wishes it could achieve a negative federal funds rate…. This is a statement about what the FOMC will do not what it should do…

Let me disagree with Robert.

Whether or not the short-term safe nominal interest rate that the central bank controls is zero or not, an economy is in a liquidity trap when:

  • even a zero interest rate is not sufficient to raise planned expenditure to the level of full-employment output.

The central bank could be pegging the Fed Funds rate at 5%, and the economy would still be in a liquidity trap if even a 0% rate was insufficient to restore full employment.

Now there is disagreement about whether the U.S. economy is in a liquidity trap right now. The Federal Reserve doesn’t think so: the Federal Reserve thinks the current short-term safe nominal Wicksellian neutral interest rate is 0.25%. But I think that the Federal Reserve is wrong. And if the Federal Reserve is wrong–if the short-term safe nominal Wicksellian neutral interest rate is still less than zero–the economy is still in a liquidity trap, even though the Federal Reserve does not think that it is.

This bears on the question of whether expansionary fiscal policy is a good thing or not. If indeed the economy still is in a liquidity trap, the Federal Reserve will learn–in which case expansionary fiscal policy now will be beneficial, as it will save them from the consequences of their current mistakes as they learn and adjust. If the economy is not in a liquidity trap, expansionary fiscal policy will still raise the neutral interest rate–and so provide the Federal Reserve with more sea-room and a much better chance of avoiding another zero lower-bound catastrophe when the next adverse macroeconomic shock hits.

To say: “Because the Fed has raised the Fed Funds rate above zero, we are no longer in a liquidity trap, and expansionary fiscal policy no longer has a point” is, I think, to fundamentally mis-analyze the situation…

Must-read: George W. Evans and Bruce McGough: Interest Rate Pegs in New Keynesian Models

Posted on by Brad DeLong

Must-Read: Barrel. Fish. Gun:

George W. Evans and Bruce McGough: Interest Rate Pegs in New Keynesian Models: “John Cochrane asks: Do higher interest rates raise or lower inflation?’…

…We find that pegging the interest rate at a higher level will induce instability and most likely lead to falling inflation and output over time. Eventually, this will precipitate a change of policy…

Must-read: Oscar Jorda, Moritz Schularick, and Alan M. Taylor: “Macrofinancial History and the New Business Cycle Facts”

Posted on by Brad DeLong

Must-Read: Oscar Jorda, Moritz Schularick, and Alan M. Taylor: Macrofinancial History and the New Business Cycle Facts: “In the era of modern finance…

…a century-long near-stable ratio of credit to GDP gave way to increasing financialization and surging leverage in advanced economies in the last forty years. This “financial hockey stick” coincides with shifts in foundational macroeconomic relationships beyond the widely-noted return of macroeconomic fragility and crisis risk. Leverage is correlated with central business cycle moments. We document an extensive set of such moments based on a decade-long international and historical data collection effort. More financialized economies exhibit somewhat less real volatility but lower growth, more tail risk, and tighter real-real and real- financial correlations. International real and financial cycles also cohere more strongly. The new stylized facts we document should prove fertile ground for the development of a newer generation of macroeconomic models with a prominent role for financial factors.

Must-Read: Larry Summers: Four Common-Sense Ideas for Economic Growth

Posted on by Brad DeLong

Must-Read: Larry Summers: Four Common-Sense Ideas for Economic Growth: “Since the summer of 2009, the US economy has grown at about 2 percent…

…The 10-year interest rate at the end of trading today [February 18, 2016] was just a bit below 1.8 percent…. We are having trouble achieving… a 2 percent inflation…. This is the judgment of a market that thinks that the Fed is not going to do anything like what it says it’s going to do…. The real interest rate is at least a kind of measure of the certainty equivalent of the productivity of capital. If the market is saying that’s below 1 percent, that has to be of concern as well. [And] the Fed has been substantially too optimistic in its one-year-ahead forecast every year for the last six….

What should be done?… First, there is an overwhelming case in the United States for expanded public infrastructure investment…. Yt the rate of infrastructure investment is lower now than it’s been anytime since 1947. If you take depreciation out, federal infrastructure investment is negative…. Second, we should increase support for private investment in infrastructure…. With respect to private investment, tax reform is critical…. Third, we should grow our effective labor force…. What we do to educate our workforce matters. What we do to incentivize our workforce—through the design of our social safety net, and through disability insurance—matters. What we do to change our immigration policies—particularly our immigration policies on highly skilled workers—matters….

Fourth, our financial system requires continuing attention… the 1987 crash, the 1990 real-estate bubble, the S&L crash, the Mexican financial crisis, the Asian financial crisis, the internet bubble, Enron, and then the Great Recession of 2008. On average, a crisis every three years for the last 30 years. That surely has taken a toll on growth. At the same time, because pendulums swing, at a time of substantial unemployment, a large number of middle-class Americans are not able to get mortgages today with reasonable down payments. It appears, though the matter is in some dispute, that there are significant impediments in the flow of capital to small businesses as well. Financial reform, labor-force support, stimulus to private investment, increases in public investment—this stuff is not rocket science. Most of it operates on both the demand side and the supply side….

If all you care about is that we’ve got an excessive federal debt, the most important determinant of the debt-to-GDP ratio in 2030 is how rapidly the economy grows between now and then. If what you care about is American national security, the most important determinant of how much we are respected and how much influence we have in the world is how well our economy performs. If what you care about is inequality and poverty, the most important determinant of the employment prospects of the poor is how rapidly the economy is growing…

Must-read: Nick Rowe et al.: The Leijonhufvud Tradition

Posted on by Brad DeLong

Must-Read: Nick Rowe et al.: The Leijonhufvud Tradition:

Must-read: Tamim Bayoumi and Joseph E. Gagnon: “Time to Be Bold, Mr. Kuroda”

Posted on by Brad DeLong

Must-Read: Tamim Bayoumi and Joseph E. Gagnon: Time to Be Bold, Mr. Kuroda: “The surprise decision by the Bank of Japan (BOJ) last Thursday to leave policies essentially unchanged…

…while downgrading the growth and inflation forecasts has unnerved markets…. Markets needed a surprise, but this one was in the wrong direction. What is required is a bold initiative rather than renewed paralysis…. Strong, decisive policy action is needed—and soon—to convince markets the BOJ is still determined to achieve 2 percent inflation. With 10-year government bond yields now below zero, the most effective option is to ramp up purchases of other assets. Currently, the BOJ is buying about 0.5 percent of outstanding equities per year. Raising the rate of purchase to 10 percent would herald a major break with the past, pushing up equity prices and encouraging consumption and investment through higher household wealth and lower cost of capital.

Must-read: Gary Gorton: “The History and Economics of Safe Assets”

Posted on by Brad DeLong

Must-Read: Gary B. Gorton: The History and Economics of Safe Assets: “Safe assets play a critical role in an(y) economy…

…A ‘safe asset’ is an asset that is (almost always) valued at face value without expensive and prolonged analysis. That is, by design there is no benefit to producing (private) information about its value. And this is common knowledge. Consequently, agents need not fear adverse selection when buying or selling safe assets. Safe assets can easily be used to exchange for goods or services or to exchange for another asset. These short-term safe assets are money or money-like. A long-term safe asset can store value over time or be used as collateral. Human history can be written in terms of the search for and production of safe assets. But, the most prevalent, privately-produced short-term safe assets—bank debt, are subject to runs and this has important implications for macroeconomics and for monetary policy.

Must-read: Michael Heise: “The Case Against Helicopter Money”

Posted on by Brad DeLong

Must-Read: Michael Heise does not seem to understand that central banks’ comprehensive assets include the ability to tax banks by raising reserve requirements:

Michael Heise: The Case Against Helicopter Money: “Helicopter drops would arrive in the form of lump-sum payments to households or consumption vouchers for everybody, funded exclusively by central banks…

…This… would reduce the central bank’s equity capital…. Proponents defend this approach by claiming that central banks are subject to special accounting rules that could be adjusted as needed…. Proponents… today include… Ben Bernanke and Adair Turner….

Distributing largesse… would have dangerous systemic consequences…. Policymakers would be tempted to… [avoid] difficult structural reforms… [and] would raise expectations… that central banks and governments would always step in to smooth out credit bubbles and mitigate their consequences…. Add to that the impact of the depletion of valuation reserves and the risk of negative equity–developments that could undermine the credibility of central banks and thus of currencies–and it seems clear that helicopter drops should, at least for now, remain firmly in the realm of academic debate.

Must-read: Narayana Kocherlakota: “The World Needs More U.S. Government Debt”

Posted on by Brad DeLong

Must-Read: Narayana Kocherlakota: The World Needs More U.S. Government Debt: “Are government-imposed restrictions holding back the U.S. economy?…

…In a way, yes: The federal government is causing great harm by failing to issue enough debt.

The U.S. generates more income than any other country, and will keep doing so for many years to come. The federal government can generate a lot of revenue by taxing this income — a power that puts it in a unique position to issue the kind of extremely safe bonds that are in great demand among the world’s investors. How is the U.S. government wielding its power? Not well. The yield on a 20-year inflation-protected Treasury bond, at just over 0.5 percent, is nearly two full percentage points lower than it was 10 years ago. This means that the price is near record highs, suggesting that the U.S. government’s supply of such safe investments is falling far short of demand. In other words, we’re starving the world of desperately needed financial safety. To some, the idea that the U.S. government isn’t issuing enough debt may seem counterintuitive — after all, federal debt outstanding has more than doubled over the past 10 years. But scarcity is not about supply alone. In the wake of the financial crisis, households and businesses are demanding more safe assets to protect themselves against sudden downturns. Similarly, regulators are requiring banks to hold more safe assets. Market prices tell us that the government needs to produce more safety in order to meet this increased demand. The scarcity of safety creates hardships for people and businesses…