I have been down and out with a nasty flu in the last couple of days – as has the rest of Christensen household – so I am not really up for blogging. A bit of Googlenomics will tell you that I am not the only one with a flu in Denmark. See what Google Trends has to say about the issue here.
So you will have to excuse me – I am not really up for a lot of blogging. However, I anyway need to do a bit of PR for a couple of blog posts, which are critical (but friendly) of some of my posts.
First we start out with Bob Murphy. Bob wrote an excellent survey of why expansionary fiscal policy might not be expansionary at all and why fiscal austerity would not necessarily lead to a contraction in output. I wrote a post discussing this issue and while agreeing with Bob I claimed Bob ignored the importance. Now Bob has an excellent response to my post.
I my post I challenged Bob to find an example of “expansionary fiscal contraction” where NGDP growth was weak (monetary conditions were tight). Bob has this objection:
What do I mean? Well, suppose a new president (perhaps a fan of this blog) takes office in a small country and (a) cuts government spending by 30% in one year and income taxes by 15%, in absolute terms, and (b) abolishes the central bank and ties its currency to gold. A large budget deficit is transformed in one year into a modest surplus. Further suppose that my wacky Austrian views happen to be right–and Lars/Scott Sumner are utterly wrong. What happens?
Well, because I’m right (by stipulation), the real economy is just fine. There might be an initial period where the official unemployment rate in the country shoots through the roof, because workers have to move out of government (or government-subsidized) sectors, and into purely private sectors. But the big tax cuts and stability provided by the new gold standard, as well as the drop in government borrowing, lead to a fall in interest rates and a surge in private investment and job creation. Within 6 months, the unemployment rate is below the level at the start of the policy change. For the year, real GDP is up 8% when all is said and done, while consumer prices fall 2%.
Now I would look at this as a stunning refutation of Lars’ views, and a great counterexample. But he would look at the figures and say, “What do you mean Bob? Clearly maintaining aggregate expenditures was crucial for that giant reduction in government spending to work out. Nominal GDP rose 6% during the year, and interest rates fell. It was only the relatively loose monetary policy that offset the fiscal contraction.”
Does everybody see what I’m saying? Lars has defined “accommodative monetary policy” in such a way that I would have to find a government that simultaneously slashed spending while deliberately engineered massive price deflation. If the market monetarists are wrong, then it means a government could enact very tight restrictions on monetary inflation–perhaps going back on gold–and yet their own metric would classify that as “not tight” so long as the economy didn’t collapse. That is not a good way to think about these issues, especially since the very issue under dispute is whether the market monetarists are right
I am afraid Bob is right. I put together the challenge in a way that Bob would loose no matter what (I did not do that on purpose). Yes, I do doubt that the introduction of gold standard would do anything good to US growth (I in fact think it would be horribly negative), but Bob is right that if it had the impact that he describes then he would loose the argument with the Market Monetarists because we define monetary easing as an expansion in NGDP growth.
So I guess Bob and I will have to find a common framework in which we can figure out how to empirically test the Austrian versus the Market Monetarist view of fiscal policy. But that will be on a later time when I am not struggling with the flu. I am nonetheless grateful that Bob always is willing to engage in a gentlemanlike debate about important economic issues.
Talking about gentlemen. Here is Matt Nolan over at The Visible Hand in Economics:
Via James I saw this excellent post by Lars Christensen on why data revisions don’t matter for NGDP targeting. I think it shows how much traction that the NGDP people are getting, when critiques like this start to appear – and it is good they are making a concerted effort to answer them.
Now I’m not actually someone who thinks that NGDP targeting isn’t what should be done (at this point, I’m still in agreement with the 2011 version of myself) – I don’t think it is terribly far off, and it provides a rule which is the main thing, so if it was to become core policy I wouldn’t be terribly concerned.
Now data revisions. I think Christensen overstates how little they matter – even more than those who criticise NGDP targeting overstate how important it is. In truth, the revisions issue is an important one because we are LEVEL targeting, and LEVEL targeting makes policy history dependent. There are three real differences between flexible inflation targeting and NGDP targeting for a large economy, one of which is that point that NGDP targeting is level targeting and inflation targeting is growth rate targeting (for a small open economy, changes in tradeable good prices cause further issues – and I think NGDP doesn’t do this appropriately) … note, one other is the fact that NGDP targeting allows less discretion around the rule and an easier way to “judge” policy, something every economist outside of a central bank sees as a good thing … note the third is that one is anchoring expectations of price growth unrelated to the market place, one is ahchoring expectations of the level of nominal income unrelated to the market place – here we can ask “which one is more important for business and household decisions”.
Even though Matt disagrees with some of my points I am nonetheless happy that he raises these points (there are a lot more in the post than what I quote here). I think NGDP targeting proponents need to engage the critiques. We need to explain our case. I hope to get back to the specific points in Matt’s post later, but until then I hope my readers will drop by The Visible Hand in Economics and take a look at Matt’s post for yourself.
Back to bed…