Paul Krugman and ‘reality TV economics’

I have been thinking a lot about whether to write this blog post or not because by doing so I will get involved in what I am trying to criticize – the emergence of what we could term ‘reality TV economics’.

Even those of us who hate reality TV know about the Kardashians – not because we go looking for news of the reality TV family, but because the media around the world would write so much about the family that it is impossible not to come across “news” of the family. In fact every country in the world has a “Kardashian” – somebody who is only famous because they are famous. They are not famous because of their intellectual capacities or because they have been successful in business or sports. In fact many reality stars are reality stars because they have failed in what they aspired to do in the first place. Just think about the number of failed actors who today have their own reality TV show, but who are also unable to get an acting job. When your agent stops calling you will try to get your own reality TV show – it is unemployment insurance for Hollywood actors.

One of the things that makes reality TV stars “interesting” is that they will do and say outrageous things. It seems like there is a genuine demand for this kind of thing. I must say I personally hate it and I try not to watch any form of reality TV, but it is not going away. In fact it seems like we are getting more and more of it every year. I am tempted to say it is market failure, but growing up in Scandinavia I have tried purely government run TV. I prefer bad reality TV to that.

Is Paul Krugman the Kim Kardashian of economics?

Unfortunately the reality TV phenomenon is spreading to the field of economics – or at least to economics blogs. The best example of this trend is Paul Krugman. He is surely the Kim Kardashian of the economic blogosphere.

The fact that Paul Krugman won the Nobel Prize in economics in 2008 is not what makes him a “popular” economist. In fact most people don’t even have a clue about what research he did to get his well-deserved Nobel Prize. Krugman is famous for being Krugman – not for being a great trade theorist (he is). I find that extremely unfortunate, but you can only blame Paul Krugman for that.

Like the Kardashians Paul Krugman’s business model is to say outrageous things. That has made him extremely popular among leftists around the world and hated by many on the right. Lately he has succeeded in stirring up trouble by trashing both Milton Friedman and Friedrich Hayek and belittling their contributions to economics and to the public discourse on economics.

I don’t even want to comment on Krugman’s comments on Friedman and Hayek other than saying that he has succeeded in his mission to provoke. However, his attempt to discredit two of the greatest economic minds of the last 100 years will not be successful. In 50 years nobody will read Krugman’s slanderous attacks on these two great economists, but economic students will certainly still study Hayek and Friedman. I would also hope that they will read Krugman’s contributions to trade theory and to “new economic geography”, but that is much less likely.

The unfortunate Krugman-industry

I do not read Paul Krugman’s blog regularly. The reason is that nine out of ten blog posts are about telling the readers how stupid other economists and policy makers are and how clever Paul Krugman is. That is not interesting for somebody truly interested in economics. However, I would also say that in 10% of his blog posts he demonstrates how truly great an economist he really is and these articles I always enjoy reading – both when I agree and when I disagree.

So be it. It is his choice to write in the way he wants and as far as I can see his business model has made him a very wealthy man so I can understand that he maintains this reality TV style. The fact that he is in the process of likely also destroying his intellectual legacy is another thing. I used to have respect for Paul Krugman the economist, but I have no respect for his tribalist slander of fellow economists. This is not a question about whether I agree with him or not. It is a matter of style.

What I, however, think is more critical about this is the emergence of a Krugman-industry. Hence, it is unquestionable that Krugman’s New York Times blog is the most popular economics blog in the world (mainly because it is about American political tribalism rather than economics). No economist in the world has more followers on Twitter (he is, however, nobody compared to Kim Kardashian who has 18 million followers on Twitter). The popularity of Krugman means that you can get some of that popularity – in the blogosphere measured by hits on your blog – if Krugman says you are a great guy and or that you are an idiot. In fact there is a large industry providing services to Krugman haters.

This means that if you want to greatly increase the traffic on your blog you try to be mentioned by Krugman on his blog (and no that is not what I am trying to do here…). This is what makes Krugman interesting to his fellow bloggers – whether Keynesian, socialist, Marxist, Monetarist, Conservative or Austrian – and I guess this is the reason why so many bloggers like to write about Krugman. For some it has become their business model to cheerlead for Krugman and for others the business model is to badmouth him. No matter what they are generally not contributing to economic discourse, but are rather becoming part of the ever increasing industry of ‘reality TV economics’.

I am no saint. I would love to get millions of hits on my blog and I have often been tempted to go down the path of reality TV economics (and have done it from time to time) and I know that the likelihood that one of my posts will get a lot of hits increases dramatically if I slander a fellow economist or call a policy maker an idiot (that is easy). Saying that Paul Krugman is the Kim Kardashian of economics is surely likely to increase the traffic on my blog a lot more than when I write about monetary policy in Angola. I just hope it was different.

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“Everything reminds Paul Krugman of the GOP. Everything reminds me of sex, but I try to keep it out of my papers.”

This is Paul Krugman:

Actually, before I get there, a word about self-styled conservative “market monetarists”: guys, have you noticed who your real policy enemies are? People like me, Brad DeLong, etc. are skeptical about the Fed’s ability to offset the effects of fiscal austerity, but we do want it to try. The furious academic opposition to quantitative easing is instead coming from moderate conservative macroeconomists, notably Taylor and Feldstein. So your problem isn’t just that the GOP’s effective leader on economic issues gets his macro from Francisco D’Anconia; it’s that even the not-so-silly wing of the party is dead set against what you consider reform.

When I read Krugman’s comment I came to think about what Robert Solow once said about Milton Friedman:

“Everything reminds Milton Friedman of the money supply. Everything reminds me of sex, but I try to keep it out of my papers.”

Paul Krugman undoubtedly is an extremely clever economist and when he actually writes about economics – rather than about obsessing about the US Republican party – he can be very interesting to read.

Unfortunately he is no better than the people on the right in US politics he so hates. It seems like every issue he writes about has to involve the Republican Party. Frankly speaking I find that extremely boring and massively counterproductive.

Personally I refuse to participate in the tribalism advocated by Paul Krugman. I do not judge economists and their views on whether they are affiliated with the Republican party or the Democrat party in the US. I find these affiliations utterly irrelevant.

It is of course correct that Market Monetarists tend to agree with Keynesians like Krugman and Brad DeLong that the main economic problem  in the US, Japan and the euro zone right now is weak aggregate demand (we would say weak NGDP growth). None of ever denied that. However, we equally agree with John Taylor that monetary policy should be rule based and we agree with Allan Meltzer (at least the ‘old’ Meltzer) that monetary policy is highly potent. That is as least as important – or maybe even more important – when it comes to policy advocacy.

Furthermore, as particularly Scott Sumner often has argued that Paul Krugman has been extremely inconsistent on his view of monetary policy – sometimes he seems to that there is no role for monetary policy (he seems as obsessed with the imaginary liquidity trap as he is with the GOP) and sometimes he thinks monetary easing is great and will work. Or said in another way – we tend to agree the New Keynesian Krugman, but have no time for the paleo-Keynesian Krugman.

Finally would you all stop calling Market Monetarists “conservative”. As far as I know most of the Market Monetarist bloggers are either apolitical or think of themselves as libertarian or classical liberal. I am certainly no conservative – neither was Hayek nor was Friedman.

PS Josh Barro might be to “blame” to this discussion. It is probably this comment that triggered Krugman’s response:

“But while market monetarism is the shining success of the conservative reform movement, it also points to trouble for the reformists. We have had zero success in convincing Republican elected officials that easy money is ever a good idea. The Republican party has gotten, if anything, more rabidly afraid of inflation and more flirtatious with the idea of returning to a gold standard. The 2012 Republican National Convention adopted a platform calling for a “commission to investigate possible ways to set a fixed value for the dollar.”

PPS I feel that this blog post might have been a complete waste of time writing so I hope that I at least have not wasted your time as well.

PPPS Scott also comments on Krugman as do Dilbert:

186605.strip

 

BIS is fearful of bubbles, but is not always right (remember the gold standard?)

I think there is a bubble in bubble fears. This is particularly the the case for central bankers and institutional monetary institutions.

Here  in the Telegraph:

The two watchdogs launched broadsides against central bank largess last week. The BIS — the forum of central banks — was particularly blunt, seeming to imply that quantitative easing “does not work”.

Critics say this risks undermining the credibility of radical measures when more may yet be needed. They fear central banks could repeat the mistake made in 1937 when the Federal Reserve lost its nerve and tightened too soon, tipping America back into depression.

And here is my response in the same article:

“The BIS and the IMF are deeply misguided and risk doing the world a grave disservice. The biggest threat right now is irrational fear of bubbles among central banks,” said Lars Christensen 

Particularly the advise of BIS is taken to be very important as the general perception is that the BIS “got it right” prior to the crisis – the fact that it got it mostly wrong over the past five year apparently is less important. Paul Krugman has some not too kind words about BIS – or the Sadomonetarists of Basel as Krugman calls the institution headquartered in Switzerland:

I guess we can check the record here and see just how prescient the BIS was. What I do recall, however … is that the BIS has spent years warning about the dangers of low interest rates. Except that a couple of years back it was telling a completely different story about why we needed to raise rates; you see, the big danger was of imminent inflation…

…In fact, inflation is running below target just about everywhere. You might therefore think that the BIS would step back a bit and reconsider both its policy recommendations and the framework it uses to derive those recommendations.

I can, however, do better than Krugman. BIS’ Sadomonetarist tendencies date back more than five years. This is from BIS’ third annual report publish in May 1933:

“For the Bank for International Settlements, the year has been an eventful one, during which, while the volume of its ordinary banking business has necessarily been curtailed by the general falling off of international financial transactions and the continued departure from gold of more and more currencies, culminating in the defection of the American dollar, nevertheless the scope of its general activities has steadily broadened in sound directions. The widening of activities, aside from normal growth in developing new contacts, has been the consequence, primarily, of a year replete with international conferences, and, also, of the rapid extension of chaotic conditions in the international monetary system. In view of all the events which have occurred, the Bank’s Board of Directors determined to define the position of the Bank on the fundamental currency problems facing the world and it unanimously expressed the opinion, after due deliberation, that in the last analysis “the gold standard remains the best available monetary mechanism” and that it is consequently desirable to prepare all the necessary measures for its international reestablishment.”

And this is what I earlier had to say about that report:

Take a look at the report. The whole thing is outrageous – the world is falling apart and it is written very much as it is all business as usual. More and more countries are leaving the the gold standard and there had been massive bank runs across Europe and a number of countries in Europe had defaulted in 1932 (including Greece and Hungary!) Hitler had just become chancellor in Germany.

And then the report state: ”the gold standard remains the best available monetary mechanism”! It makes you wonder how anybody can reach such a conclusion and in hindsight obviously today’s economic historians will say that it was a collective psychosis – central bankers were suffering from some kind of irrational “gold standard mentality” that led them to insanely damaging conclusions, which brought deflation, depression and war to Europe.

Unfortunately BIS’ view haven’t changed much since 1933. Should we listen to the Sadomonetarists in Basel today?

Bob Murphy on Minimum wages and a textbook graph to illustrate it

One of the unfortunate consequences of this crisis is increased political backing for “reforms” that have negative impact on aggregate supply. In the US in the 1930s it was the horrible National Industrial Recovery Act (NIRA) and in today’s US it is higher minimum wages. I find it incredible that anybody seriously would question the negative supply side consequences of higher minimum wages. This is not a political issue, but a simple question of understanding the laws of supply and demand.

Anyway Bob Murphy explains it well in this Youtube video.

Of course you can also just look at a standard textbook graph. It should be pretty easy to understand.

Minimum wage

W eq is the equilibrium wage that would emerge in an unregulated labour market with no minimum wage. In such a market employment would be N eq.

W min is the minimum wage, which is higher than the equilibrium wage (W eq). In such a world the demand for labour will be only N2, while the supply of labour will be N1. The difference between the N2 and N1 obviously is the level of unemployment caused by the minimum wage.

You really don’t need anything else than that to understand this issue…Or as Paul Krugman once said:

“So what are the effects of increasing minimum wages? Any Econ 101 student can tell you the answer: The higher wage reduces the quantity of labor demanded, and hence leads to unemployment.”

PS Paul Krugman apparently no longer thinks that a higher minimum wage increases unemployment, but I will leave that to David Henderson to explain.

The trillion dollar coin is an utterly idiotic idea

Following US political debate these days is like following a bad parody of a third world banana republic and even though I the deepest respect for Americans and US in general I must say it is hard not to agree with those Europeans that shake their heads these days and say “they are stupid those Americans”. Well, it is not the Americans – it is their politicians and you could say a similar thing about Europe.

The latest banana republic gimmick is the suggestion that the US Treasury should use a legal loophole to print a trillion dollar coin in the event that the US congressional majority – that’s the Republicans – would refuse to increase the so-called debt celling.

The idea in my view is completely ludicrous and it is incredible that anybody seriously would even contemplate such an idea. Anyway, is Nobel Prize winning economist Paul Krugman:

“It’s easy to make sententious remarks to the effect that we shouldn’t look for gimmicks, we should sit down like serious people and deal with our problems realistically. That may sound reasonable — if you’ve been living in a cave for the past four years.Given the realities of our political situation, and in particular the mixture of ruthlessness and craziness that now characterizes House Republicans, it’s just ridiculous — far more ridiculous than the notion of the coin.

So if the 14th amendment solution — simply declaring that the debt ceiling is unconstitutional — isn’t workable, go with the coin.”

Nobel Prize or not Krugman is wrong – as he so often is.

First, of all there is no reason to think that the US government would have to default on it’s public debt just because the debt ceiling is not increased. The monthly debt servicing costs in the US is significantly smaller than the US government’s total monthly tax revenues. It might be that the US Treasury would have to stop paying out salaries to US Congressmen and stop buying new military hardware for a while – neither would be a major lose – but the tax revenues would easily cover  the debt servicing costs. That of course do not mean that I suggest that the debt ceiling should not be increased – that is US party political shenanigans that I simply don’t even want to comment on. However, it is wrong to suggest that the US government would automatically default if the debt ceiling is not increased.

Lars, wouldn’t a 1 trillion dollar coin be monetary easing? So it most be good?

What I really want to discuss is the Market Monetarist perspective on this discussion. Yes, Market Monetarists have for the past four years argued that US monetary policy has been overly tight and the reason the US recovery has been so relatively weak is the that Federal Reserve has had too tight monetary policy. That has led Market Monetarists like myself and other to call for monetary easing from the Federal Reserve.

However, at the core of Market Monetarist thinking is not the call for monetary easing and no Market Monetarist has ever said that monetary easing is the cure of all evils. Rather at the centre of Market Monetarist thinking is the call for a rule based monetary policy. An easing of monetary policy based on a trillion dollar coin is probably the most discretionary and least rule based monetary (and fiscal) idea anybody have come up with over the past four years.

Yes, Market Monetarists are certainly skeptical about central bankers ability to conduct monetary policy in a proper fashion, but that certainly do not mean that we think US politicians and bureaucrats in the US Treasury would do a better job. Far from it!

I would even go further – I don’t necessarily think that the US economy needs more quantitative easing IF the Federal Reserve started conducting monetary policy based on a transparent monetary rule like NGDP level targeting. Furthermore, if I would have to chose between an NGDP level target or a massive ramping up of quantitative easing within a discretionary framework then there is no doubt that I would choose the rule based framework. Market Monetarists are not the monetary version of discretionary Krugmanian fiscal policy.

Concluding, the trillion dollar coin idea is stupid. It is stupid because it banana republic “economic” policy based on the worst political motives without any foundation in the rule of law and a general rules based framework.

The fact is that the US government faces serious fiscal challenges. The US public debt level needs to be reduced and even if the Federal Reserve pushed back NGDP to its pre-crisis trend level I believe there would be a significant need for fiscal consolidation. There is no getting around it – debt ceiling or not, trillion dollar coin or not – fiscal policy will have to be tightened sooner or later. And if you need idea about what to cut I have some ideas about that as well (see here).

It is simple mamanomics – you can’t continue spending more money than you have. It might be that certain US policy makers would be happy if their mom raised their weekly allowances, but would they also be happy if their mom prostituted herself to do that?

PS there is no party politics in what I am saying – I have the same lack of respect for both main political parties in the US as do most Americans.

PPS Scott Sumner and Tyler Cowen also comment on the trillion dollar coin – for some reason the two gentlemen are slightly more diplomatic than I am. Josh Hendrickson, however, is as clear on the issue as I am – Josh has two posts on the trillion dollar coin. See here and here.

PPPS If you think there is a lot of James Buchanan and Friedrich Hayek in this post then I have achieved what I want to achieve. After all Friedman and Schwartz’s “Monetary History” is not the only book I read.

Update: Both Steve Horwitz and George Selgin comment on the trillion dollar coin – not surprisingly I have no reason to disagree with the two gentlemen.

Paul Krugman warns against fiscal stimulus

This is Paul Krugman on the effectiveness on fiscal policy and why fiscal “stimulus” will in fact not be stimulative:

“The US is currently engaged in the largest peacetime fiscal stimulus in history, with a budget deficit of around 10 percent of GDP. And this stimulus is working in the narrow sense that it has headed off the imminent risk of a deflationary spiral, and generated some economic growth. On the other hand, deficits this size cannot be continued over the long haul; USA now has Italian (or Belgian) levels of internal debt, together with large implicit liabilities associated with its awkward demographics. So the current strategy can work in the larger sense only if it succeeds in jump-starting the economy, in eventually generating a self-sustaining recovery that persists even after the stimulus is phased out.

Is this likely? The phrase “self-sustaining recovery” trips lightly off the tongue of economic officials; but it is in fact a remarkably exotic idea. The purpose of this note is to expose this hidden exoticism – to show that anyone who believes that temporary fiscal stimulus will produce sustained recovery is implicitly endorsing a rather fancy economic model, the sort of model that finance ministries would under normal circumstances regard as implausible and disreputable…

…What continues to amaze me is this: USA’s current strategy of massive, unsustainable deficit spending in the hopes that this will somehow generate a self-sustained recovery is currently regarded as the orthodox, sensible thing to do – even though it can be justified only by exotic stories about multiple equilibria, the sort of thing you would imagine only a professor could believe. Meanwhile further steps on monetary policy – the sort of thing you would advocate if you believed in a more conventional, boring model, one in which the problem is simply a question of the savings-investment balance – are rejected as dangerously radical and unbecoming of a dignified economy.”

Wauw! What is this? What happened to the keynesian Krugman? Isn’t he calling for fiscal easing anymore? Well yes, but I am cheating here. This is Paul Krugman, but it is not today’s Paul Krugman. This is Paul Krugman in 1999 – and he is talking about Japan and not the US. I simply replaced “Japan” with “the US” in the Krugman quote above.

Read the entire article here.

HT Tyler Cowen and Vaidas Urba.

Market Monetarism vs Krugmanism

Here is an interesting comment from ‘JJA’ over at Scott Sumner’s blog:

“Scott, I have enjoyed reading your blog. As a practitioner (firm level decisions regarding export related efforts) I find you (and other market monetarists, especially Christensen and Nunes) very understandable and convincing. But… But I find Krugman and DeLong very understandable and convincing also… From my micro-level point of view it seems to be the case that both sides are right, but something is missing in-between.

Well, I am not an economist, but I think that I see NGDP as the ultimate aim in order to manage stable and prosperous economy. At the same time I see the importance of fiscal activity (from the state or whatever public body), and that is at the same time when I think that the monetary policy is the most important part of the situation. But I feel that monetary policy alone is not enough in order to achieve good results in a reasonable time. Therefore fiscal.

From my practical point of view, both market monetarists and old-style keynesians seem to be right at the same time. It may be that I am mad or something vital is missing from our understanding of economics.

But in any case, I just make decisions in practice. By the way, I am from the Eurozone (unfortunately).”

I think JJA raises a number of interesting questions about the similarities between Market Monetarism and “Krugmanism”. Yes, Krugman has endorsed NGDP level targeting as do Market Monetarists. However, just because we share the policy recommendation (and I am not sure we really do…) that does not mean that our theoretical thinking is close.

I do fundamentally think that Keynesians (including Krugman) and Market Monetarists (and old style Monetarists) are quite far away from each other theoretically.

I have three earlier posts that might clarify this:

On our macro/micro foundation: How I would like to teach Econ 101

On why we don’t think fiscal policy is effective. There is no such thing as fiscal policy

On why we favour a RULES based monetary policy: NGDP targeting is not a Keynesian business cycle policy

These three posts should make it clear what the key theoretical differences between Market Monetarists and Keynesians are.

That said, for the US and the euro zone Market Monetarists and New Keynesians (at least Krugman, DeLong and Romer) agree that monetary easing is warranted and that this could be done within the framework of NGDP level targeting. That said, Market Monetarists do not want to “fix” the economy and unlike keynesians we do not think that the problems are real, but rather nominal. The crisis is a result of a monetary policy mistakes rather than a “market failure”.

In regard to fiscal policy I might add that Market Monetarists probably are less concerned about the general fiscal troubles in the US and the euro zone than many “establishment” economists (and particularly European policy makers). David Beckworth have a number of good posts on this issue (See for example here). We agree that the present fiscal path is unsound in both the US and the euro zone, but if we get monetary policy right (target the NGDP level of the pre-crisis trend) then that would reduce the fiscal stress very significantly – not to speaking of reducing banking problems. Get monetary policy right and then the European and US banking problems and the fiscal policy problems will become manageable (on an overall level).

That said, Market Monetarists do in general not think that fiscal policy on its own can increase nominal spending in the economy so even though we think that fiscal policy should not be a major concern if monetary policy is “right” we also don’t think it is useful to spend a lot of time trying to “stimulate” the economy with fiscal measures. The only role we see for fiscal policy is to ensure long-term productivity growth and growth in the labour supply, but that is certainly not what Paul Krugman has in mind.

Christensen’s “postmodernist mind fuck”

I have now been blogging since early October last year and I truly enjoy it. Most of my readers seem to be happy about what I write and I believe that most of my readers and commentators are quite Market Monetarist sympathies. However, there is one exception – lefty blogger Mike Sax. Yes, I called him lefty – I don’t think Mike would not disagree with this (if he called me a libertarian that would not make me angry either…). Mike is actually reading the Market Monetarist blogs and I think he pretty much understands what we are talking about. I will readily acknowledge that despite the fact that I probably disagree with 99% of what he has to say about economics and monetary theory.

Today I ran into a comment Mike wrote a couple a days ago about the debate about fiscal policy between on the one side the New Keynesian (Old Keynesians??) and on the other side the Market Monetarists  (and John Cochrane). Even though Mike is extremely critical of  my views I actually had quite a lot of fun reading it.

Here is Mike Sax (and yes, believe it or not the name of his blog is “Diary of a Republican Hater”…):

“If you want to get the endgame of this whole market monetarist phenomenon I say put down Scott Sumner and check out Lars Christensen. His post is called simply Market Monetarist, and indeed the very name of market monetarism is actually his coinage rather than Scott.

During the interminable tangent-a rather amusing three ring circus that Sumner led-Lars wrote a post called “There is no such thing as fiscal policy.” This is a pretty radical attack on fiscal policy. From Cochrane claiming that fiscal policy can’t work-till his bout face today-and Sumner saying it can never be as effective as monetary policy in reviving demand-we have Lars claiming it simply doesn’t exist.

Whoa! I guess if it doesn’t even exist we can’t use it. Ever. It’s another postmodernist mind fuck evidently. What are Cochrane and Christensen going to say to each other now? I will suggest that if you want to make any sense of market monetarism read Lars. You get it much more concisely and to the point if nothing else.

Now here is his point. In a barter economy, he tells us, there can be no fiscal stimulus. Why is this? Because, “As there is no money we can not talk about sticky prices and wages. In a barter economy you have to produce to consume. Hence, there is no such thing as recessions in a barter economy and hence no excess capacity and no unemployment. Therefore there is no need for Keynesian style fiscal policy to “boost” demand.”

Fiscal policy can redistribute income but not effect demand.

“in a barter economy fiscal policy is a purely redistributional exercise, but it will have no impact on “aggregate demand”

http://marketmonetarist.com/2012/01/18/there-is-no-such-thing-as-fiscal-policy/

Ok but maybe the title of this post is wrong. It shouldn’t say there is no such thing as fiscal policy just fiscal stimulus.

The reason we believe that fiscal policy can impact demand is because of money illusion.

“for fiscal policy to influence aggregate demand we need to introduce money and sticky prices and wages in our model. This in my view demonstrates the first problem with the Keynesian thinking about fiscal policy. Keynesians do often not realise that money is completely key to how they make fiscal policy have an impact on aggregate demand.”

What NGDP targeting is meant to do is to take away money illusion by taking away this misleading effect of the velocity of money.

“Under NGDP level targeting M*V will be fixed or grow at a fixed rate. That means that we is basically back in the Arrow-Debreu world and any increase in G must lead to a similar drop in D as M*V is fixed.”

The goal of NGDP targeting therefore as Sumner, Lars, David Glasner, et al, conceive it is a return to in effect a barter economy. Money is therefore for them kind of like the root of all evil or at least original sin. Like for old fashioned philosophers appearance was the veil that led us to misapprehend true existence, so for the market monetarists, money is the veil that makes us misapprehend the truth of the economy.

Yet Lars does admit that fiscal stimulus can work or seem to work due the the Circe of money.

“lets say that the central bank is just an agent for the government and that any increase in G is fully funded by an increase in the money supply (M). Then an increase in G will lead to a similar increase in nominal income M*V. With this monetary policy reaction function “fiscal policy” is highly efficient. There is, however, just one problem. This is not really fiscal policy as the increase in nominal GDP is caused by the increase in M. The impact on nominal income would have been exactly the same if M had been increased and G had been kept constant – then the entire adjustment on the right hand side of (3) would then just have increased D.”

Yeah let’s say that. Actually I think this accurately describes the actual historical record of the Fed between the time of Marriner Eccles and the 1970 when Milton Friedman started whispering sweet nothings in Nixon’s ear.

To be sure Christensen claims that this effect is still misleading as it’s the printed money-monetary policy-that does the real heavy lifting. It would have been exactly the same had the supply of money been increased and government spending been kept constant.

In a way these claims by Lars actually straddles the line with MMTers who do actually argue that it makes no difference whether the Fed or Treasury prints the money but where they go from here is obviously more or less diametrically opposed to what the MMers do with it. The Market Monetarists vs. The Modern Monetary Theorists… Talk about a battle royale.

Again though Lars should call this “There is no such thing as fiscal stimulus.” It seems to me though that even if you believe that fiscal stimulus is a fiction it may nevertheless have proved to be as the belief in God once was.

For what’s curious is during the time we believed fiscal stimulus we had the Keynesian era. Since we gave it up we have had an anti-Keynesian era. During this anti-K ear we have seen the wages of median Americans stagnate. Is this all coincidence? What do you think?

In any case Sumner’s oft repeated argument that the fiscal multiplier is roughly zero because any fiscal stimulus will be followed by monetary tightening according to Lars depends on the policy of the Fed. It wasn’t true during the Keynesian ear. However in this anti inflation era, post Volcker and of the Taylor Rule-the much lauded Great Moderation-it is true of how the Fed has in fact acted. This doesn’t prove that fiscal stimulus doesn’t work but rather the Fed is off the rails and probably could use the kind of reforms Barney Frank wanted for it. Namely not ending the Fed as Ron Paul says but rather ending its “independence.””

Frankly speaking, Mike of course have no clue about economics, but he is 100% right – I should of course have said that there is no such thing as fiscal stimulus (and not policy), but then he would have had nothing to write about. Mike don’t know this, but I hate everything “postmodernist” so he succeed with his low blow.

Anyway, let me say it again fiscal policy is not important. People like Paul Krugman (and Mike Sax) think that we need massive fiscal stimulus to take us out of the slump in Europe and the US and some think (for example European policy makers) think that the only solution is fiscal austerity. I think both parties are wrong – lets fix monetary policy and then we don’t have to worry (too much) about fiscal policy (other than balancing the government budgets in the medium to long run…). This is why I find it so utterly borrowing to discuss fiscal policy…

PS Mike mentions Battle Royal…he is unaware that that is my favourite Japanese movie.

There is no such thing as fiscal policy – and that goes for Japan as well

Scott Sumner has a comment on Japan’s ”lost decades” and the importance of fiscal policy in Japan. Scott acknowledges based on comments from Paul Krugman and Tim Duy that in fact Japan has not had two lost decades. Scott also discusses whether fiscal policy has been helpful in reviving growth in the past decade in Japan.

I have written a number of comments on Japan (see here, here and here).

I have two main conclusions in these comments:

1)   Japan only had one “lost decade” and not two. The 1990s obviously was a disaster, but over the past decade Japan has grown in line with other large developed economies when real GDP growth is adjust for population growth. (And yes, 2008 was a disaster in Japan as well).

2)   Monetary policy is at the centre of these developments. Once the Bank of Japan introduced Quantitative Easing Japan pulled out of the slump (Until BoJ once again in 2007 gave up QE and allowed Japan to slip back to deflation). Se especially my post “Japan shows QE works”.

This graph of GDP/capita in the G7 proves the first point.

Second my method of decomposition of demand and supply inflation – the so-called Quasi-Real Price Index - shows that once Bank of Japan in 2001 introduced QE Japanese demand deflation eased and from 2004 to 2007 the deflation in Japan only reflected supply deflation while demand inflation was slightly positive or zero. This coincided with Japanese growth being revived. The graph below illustrates this.

Obviously the Bank of Japan’s policies during the past decades have been far from optimal, but the experience clearly shows that monetary policy is very powerful and even BoJ’s meagre QE program was enough to at least bring back growth to the Japanese economy.

Furthermore, it is clear that Japan’s extremely weak fiscal position to a large extent can be explained by the fact that BoJ de facto has been targeting 0% NGDP growth rather than for example 3% or 5% NGDP growth. I basically don’t think that there is a problem with a 0% NGDP growth path target if you start out with a totally unleveraged economy – one can hardly say Japan did that. The problem is that BoJ changed its de facto NGDP target during the 1990s. As a result public debt ratios exploded. This is similar to what we see in Europe today.

So yes, it is obvious that Japan can’t not afford “fiscal stimulus” – as it today is the case for the euro zone countries. But that discussion in my view is totally irrelevant! As I recently argued, there is no such thing as fiscal policy in the sense Keynesians claim. Only monetary policy can impact nominal spending and I strongly believe that fiscal policy has very little impact on the Japanese growth pattern over the last two decades.

Above I have basically added nothing new to the discussion about Japan’s lost decade (not decades!) and fiscal and monetary policy in Japan, but since Scott brought up the issue I thought it was an opportunity to remind my readers (including Scott) that I think that the Japanese story is pretty simple, but also that it is wrong that we keep on talking about Japan’s lost decades. The Japanese story tells us basically nothing new about fiscal policy (but reminds us that debt ratios explode when NGDP drops), but the experience shows that monetary policy is terribly important.

——–

PS I feel pretty sure that if the Bank of Japan and the ECB tomorrow announced that they would target an increase in NGDP of 10 or 15% over the coming two years and thereafter would target a 4% NGDP growth path then all talk of “lost decades”, the New Normal and fiscal crisis would disappear very fast. Well, the same would of course be true for the US.

Japan shows that QE works

I am getting a bit worried – it has happened again! I agree with Paul Krugman about something or rather this time around it is actually Krugman that agrees with me.

In a couple of posts (see here and here) I have argued that the Japanese deflation story is more complicated than both economists and journalists often assume.

In my latest post (“Did Japan have a productivity norm?”I argued that the deflation over the past decade has been less harmful than the deflation of the 1990s. The reason is that the deflation of the 2000s (prior to 2008) primarily was a result of positive supply shocks, while the deflation of in 1990s primarily was a result of much more damaging demand deflation. I based this conclusion on my decomposition of inflation (or rather deflation) on my Quasi-Real Price Index.

Here is Krugman:

“A number of readers have asked me for an evaluation of Eamonn Fingleton’s article about Japan. Is Japan doing as well as he says?

Well, no — but his point about the overstatement of Japan’s decline is right…

…The real Japan issue is that a lot of its slow growth has to do with demography. According to OECD numbers, in 1990 there were 86 million Japanese between the ages of 15 and 64; by 2007, that was down to 83 million. Meanwhile, the US working-age population rose from 164 million to 202 million.”

This is exactly my view. In terms of GDP per capita growth Japan has basically done as good (or maybe rather as badly) other large industrialised countries such as Germany and the US.

This is pretty simple to illustrate with a graph GDP/capita for the G7 countries since 1980 (Index 2001=100).

(UPDATE: JP Koning has a related graph here)

A clear picture emerges. Japan was a star performer in 1980s. The 1990s clearly was a lost decade, while Japan in the past decade has performed more or less in line with the other G7 countries. In fact there is only one G7 country with a “lost decade” over the paste 10 years and that is Italy.

Quantitative easing ended Japan’s lost decade

Milton Friedman famously blamed the Bank of Japan for the lost decade in 1990s and as my previous post on Japan demonstrated there is no doubt at all that monetary policy was highly deflationary in 1990s and that undoubtedly is the key reason for Japan’s lost decade (See my graph from the previous post).

In 1998 Milton Friedman argued that Japan could pull out of the crisis and deflation by easing monetary policy by expanding the money supply – that is what we today call Quantitative Easing (QE).

Here is Friedman:

“The surest road to a healthy economic recovery is to increase the rate of monetary growth, to shift from tight money to easier money, to a rate of monetary growth closer to that which prevailed in the golden 1980s but without again overdoing it. That would make much-needed financial and economic reforms far easier to achieve.

Defenders of the Bank of Japan will say, “How? The bank has already cut its discount rate to 0.5 percent. What more can it do to increase the quantity of money?”

The answer is straightforward: The Bank of Japan can buy government bonds on the open market, paying for them with either currency or deposits at the Bank of Japan, what economists call high-powered money. Most of the proceeds will end up in commercial banks, adding to their reserves and enabling them to expand their liabilities by loans and open market purchases. But whether they do so or not, the money supply will increase.

There is no limit to the extent to which the Bank of Japan can increase the money supply if it wishes to do so. Higher monetary growth will have the same effect as always. After a year or so, the economy will expand more rapidly; output will grow, and after another delay, inflation will increase moderately. A return to the conditions of the late 1980s would rejuvenate Japan and help shore up the rest of Asia.”

(Yes, it sounds an awful lot like Scott Sumner…or rather Scott learned from Friedman)

In early 2001 the Bank of Japan finally decided to listen to the advise of Milton Friedman and as the graph clearly shows this is when Japan started to emerge from the lost decade and when real GDP/capita started to grow in line with the other G7 (well, Italy was falling behind…).

The actions of the Bank of Japan after 2001 are certainly not perfect and one can clearly question how the BoJ implemented QE, but I think it is pretty clearly that even BoJ’s half-hearted monetary easing did the job and pull Japan out of the depression. In that regard it should be noted that headline inflation remained negative after 2001, but as I have shown in my previous post Bank of Japan managed to end demand deflation (while supply deflation persisted).

And yes, yes the Bank of Japan of course should have introduces much clearer nominal target (preferably a NGDP level target) and yes Japan has once again gone back to demand deflation after the Bank of Japan ended QE in 2007. But that does not change that the little the BoJ actually did was enough to get Japan growing again.

The “New Normal” is a monetary – not a real – phenomenon

I think a very important conclusion can be drawn from the Japanese experience. There is no such thing as the “New Normal” where deleveraging necessitates decades of no growth. Japan only had one and not two lost decades. Once the BoJ acted to end demand deflation the economy recovered.

Unfortunately the Bank of Japan seems to have moved back to the sins of 1990s – as have the Federal Reserve and the ECB. We can avoid a global lost decade if these central banks learn the lesson from Japan – both the good and the bad.

HT JP Koning

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