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Protectionism is still evil

In a recent comment on Chinese exchange rate policies Paul Krugman comes close to call for US protectionist policies against China.

Until now we have luckily avoided trade war during the Great Recession. However, during the Great Depression the global crisis was made significantly worse by an escalation of protectionist policies around the world.

Barry Eichengreen and Douglas Irwin in their 2009 paper “The slide to protectionism in the great depression: who succumbed and why?” explains how there was a strong correlation between countries with failed monetary policies and countries which implemented protectionist polices.

Here is the abstract:

“The Great Depression was marked by protectionist trade policies and the breakdown of the multilateral trading system. But contrary to the presumption that all countries scrambled to raise trade barriers, there was substantial cross-country variation in the movement to protectionism. Specifically, countries that remained on the gold standard resorted to tariffs, import quotas, and exchange controls to a greater extent than countries that went off gold. Just as the gold standard constraint on monetary policy is critical to understanding macroeconomic developments in this period, national policies toward the exchange rate help explain changes in trade policy. This suggests that trade protection in the 1930s was less an instance of special interest politics run amok than second-best macroeconomic policy management when monetary and fiscal policies were constrained.”

Scott Sumner also has a comment on Paul Krugman’s China piece.

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Bill “the new Gipper” Woolsey’s interesting idea

Fellow Market Montarist Bill Woolsey has an interesting proposal. He suggests that the Federal Reserve should adopt a policy of targeting “growth rates of nominal GDP from Reagan’s 1983 and 1984 recovery from the recession of 1982”. Bill can hardly be said to be an inflationist as he is in fact is in favour of a long-term target of 3% yearly NGDP growth in the US (that would likely lead to 0-1% inflation over the longer run), but he nonetheless favours returning US NGDP to the pre-crisis trend through more aggressive easing in a transitory period.

But take a look at Bill’s proposal here.

If you want to know about the Great Recession read Robert Hetzel

For readers who are unfamiliar with Market Monetarism I have a number of pieces of research that I would recommend, but everybody should start out by reading Robert Hetzel’s excellent and truly thought provoking paper “Monetary Policy in the 2008–2009 Recession”

Here is the abstract:

“The recession that began with a cyclical peak in December 2007 originated in a combination of real shocks because of a fall in housing wealth and a fall in real income from an increase in energy prices. The most common explanation for the intensification of the recession that began in the late summer of 2008 is the propagation of these shocks through dysfunction in credit markets. The alternative explanation offered in this article emphasizes propagation through contractionary monetary policy. The first explanation stresses the importance of credit-market interventions (credit policy). The second emphasizes the importance of money creation (money-creation policy). According to Federal Open Market Committee (FOMC) Chairman William McChesney Martin, “The System should always be engaged in a ruthless examination of its past record” (FOMC Minutes, 11/26/68, 1,456).”

Hence, Hetzel’s view is that the 2008-9 recession primarily was a result of excessively tight US monetary policy. Scott Sumner puts forward the same story and here I would especially recommend reading “The Real Problem Was Nominal”.

Robert Hetzel has a book in the pipeline on the Great Recession. I am sure it will change the way we all look at events since 2008.

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