Scott Sumners’ new book: The Midas Paradox – Buy it now!

For years my friend Scott Sumner has been working on his book on the Great Depression. It has taken some time to get it out,  but now it will soon be available (December).

The book The Midas Paradox: Financial Markets, Government Policy Shocks, and the Great Depression published by the Independent Institute can be preorder from Amazon now. See here (US) and here (Europe/UK). Needless to say I have already ordered the book.

This is the official book description:

Economic historians have made great progress in unraveling the causes of the Great Depression, but not until Scott Sumner came along has anyone explained the multitude of twists and turns the economy took. In The Midas Paradox: Financial Markets, Government Policy Shocks, and the Great Depression, Sumner offers his magnum opus-the first book to comprehensively explain both monetary and non-monetary causes of that cataclysm.

Drawing on financial market data and contemporaneous news stories, Sumner shows that the Great Depression is ultimately a story of incredibly bad policymaking-by central bankers, legislators, and two presidents-especially mistakes related to monetary policy and wage rates. He also shows that macroeconomic thought has long been captive to a false narrative that continues to misguide policymakers in their quixotic quest to promote robust and sustainable economic growth.

The Midas Paradox is a landmark treatise that solves mysteries that have long perplexed economic historians, and corrects misconceptions about the true causes, consequences, and cures of macroeconomic instability. Like Milton Friedman and Anna J. Schwartz’s A Monetary History of the United States, 1867-1960, it is one of those rare books destined to shape all future research on the subject.

What I particularly like about the book – yes, I have read it – is that it re-tells the story of the Great Depression by combining financial market data and news stories from the time of the Great Depression. I very much think of this as the Market Monetarist method of analyzing economic, financial and monetary events.

By studying the signals from the markets we can essentially decompose if the economy has been hit by nominal/monetary or real shocks and if we combine this with information from the media about different events we can find the source of these shocks. It takes Christina (and David) Romer’s method of analyzing monetary shocks to a new level so to speak. This is exactly what Scott skillfully does in The Midas Paradox.

So I strongly recommend to buy Scott Sumners’ The Midas Paradox: Financial Markets, Government Policy Shocks, and the Great Depression.

Sunday notes – Three working papers and three prediction markets

It is Sunday morning and I really shouldn’t be blogging, but I just have time to share a couple of working papers with you.

First on the list yet another great paper from my friend Bob Hetzel at the Richmond Fed – “A Comparison of Greece and Germany: Lessons for the Eurozone?”

Here is the abstract:

During the Great Recession and its aftermath, the economic performance of Greece and Germany diverged sharply with persistent high unemployment in Greece and low unemployment in Germany. A common explanation for this divergence is the assumption of an unsustainable level of debt in Greece in the years after the formation of the Eurozone while Germany maintained fiscal discipline. This paper reviews the experience of Greece and Germany since the creation of the Eurozone. The review points to the importance of monetary factors, especially the intensification of the recession in Greece starting in 2011 derived from the price-specie flow mechanism described by David Hume.

It is incredible that Bob continues to write great and insightful papers on monetary matters and this paper is no exception. By the way Bob is celebrating 40 years at the Richmond Fed this year.

Second (and third) are two papers by Andrew Jalil. First a paper he has co-authored with Gisela Rua“Inflation Expectations and Recovery from the Depression in 1933: Evidence from the Narrative Record”.

Here is the abstract:

This paper uses the historical narrative record to determine whether inflation expectations shifted during the second quarter of 1933, precisely as the recovery from the Great Depression took hold. First, by examining the historical news record and the forecasts of contemporary business analysts, we show that inflation expectations increased dramatically. Second, using an event-studies approach, we identify the impact on financial markets of the key events that shifted inflation expectations. Third, we gather new evidence—both quantitative and narrative—that indicates that the shift in inflation expectations played a causal role in stimulating the recovery.

It is clear to see both the influence of Christina Romer and Barry Eichengreen in the paper, but mostly I am reminded of Scott Sumner‘s unpublished book on the Great Depression.

I very much like the narrative approach to analysis of “monetary events” where you combine news from for example newspapers or magazines (or these days Google Trends) with the financial market reaction to such news – an approach utilized both in this great paper and in Scott’s Great Depression book.

Such approach captures the impact of expectations in the monetary transmission mechanism much better than traditional econometric studies of monetary policy shocks. As Scott Sumner often has argued – monetary policy works with longer and variable leads – as a consequence it might not make sense to look at present money base and money supply growth or interest rates. Instead we should be looking at expectations of changes in monetary policy. By combining newsflow from the media with information from financial markets we can do that.

The conclusion from the Jalil-Rua paper by the way very much is that monetary policy can be highly potent and that expectations are key for the transmission of monetary shocks.

Marcus Nunes, David Glasner and Mark Thoma also comment on the Jalil-Rua paper.

The other Jalil paper is a paper – Comparing tax and spending multipliers: It is all about controlling for monetary policy – from 2012 that I discovered when Googling Jalil. It is at least as interesting as his paper with Rua and it is on the topic of fiscal austerity and the importance of the monetary policy regime for the size of fiscal multipliers.

Here is the abstract:

This paper derives empirical estimates for tax and spending multipliers. To deal with endogeneity concerns, I employ a large sample of fiscal consolidations identified through the narrative approach. To control for monetary policy, I study the output effects of fiscal consolidations in countries where monetary authorities are constrained in their ability to counteract shocks because they are in either a monetary union (and hence, lack an independent central bank) or a liquidity trap. My results suggest that for fiscal consolidations, the tax multiplier is larger than the spending multiplier. My estimates indicate that whereas the tax multiplier is roughly 3—similar to the recent estimates derived by Romer and Romer (2010), the spending multiplier is close to zero. A number of caveats accompany these results, however.

You really shouldn’t be surprised by these empirical results if you have been reading market monetarist blogs as we – the market monetarists – have for a long time been arguing that if the central bank is targeting either inflation or nominal GDP (essentially aggregate demand) then there will be full monetary offset of fiscal austerity.The so-called fiscal cliff in the US in 2013 is a good example. Here fiscal austerity was fully offset by the expectation of monetary easing from the Federal Reserve.

This of course is really not different from the results in a standard New Keynesian model even though self-styled “Keynesians” often fails to recognise this. But don’t just blame Keynesians – often self-styled anti-Keynesians also fail to appreciate the importance of the monetary regime for the impact of fiscal policy.

More challenging of standard Keynesian thinking is in fact that Jalil shows that even when we don’t have monetary offset the public spending multiplier appears to be close to zero, while there is a strongly negative tax multiplier. That means that governments should rely on spending cuts rather than on tax hikes when doing austerity.

And finally I should note this Sunday that Hypermind has launched a couple of new prediction markets that should be of interest to most people in the finanial markets. The new markets are a U.S. presidential election prediction market and one on whether we will see Grexit in 2015 and one on whether EUR/USD will hit parity.

Enjoy the reminder of the weekend – tomorrow I am heading to Poland for a couple speaking engagements. I think I will be spreading a rather upbeat message on the Polish economy.


If you want to hear me speak about these topics or other related topics don’t hesitate to contact my speaker agency Specialist Speakers – e-mail: or

Hitler’s Highways and UK monetary policy – two interesting working papers

The last couple of months have been quite busy for me with a lot of traveling and particularly the Ukrainian crisis has taken a lot of time so I have not had enough time – or energy – to blog. But don’t worry – I hope that I soon will be back to getting more blog posts out every week. After all as long as we have central banks monetary policy failure is a given and I love to blog about it – even when it makes me very angry.

I had really been planing to write something about Thomas Piketty’s book Capital in the Twenty-First Century. I got it in the mail a couple of days ago, but frankly speaking I can’t really concentrate on reading the book – and I must also admit that his many references to Karl Marx does not make the book more enjoyable (to me at least).

So instead this blog post is an attempt to get over my minor writer’s block by writing a bit about two very interesting working papers I came across while sitting in Stockholm airport earlier today.

The first one is a rather brilliant application of econometrics in the study of German political-economic history. The name of paper is “Highway to Hitler” by Nico Voigtländer and Hans‐Joachim Voth.

This is the abstract:

Can infrastructure investment win “hearts and minds”? We analyze a famous case in the early stages of dictatorship – the building of the motorway network in Nazi Germany. The Autobahn was one of the most important projects of the Hitler government. It was intended to reduce unemployment, and was widely used for propaganda purposes. We examine its role in increasing support for the NS regime by analyzing new data on motorway construction and the 1934 plebiscite, which gave Hitler great powers as head of state. Our results suggest that road building was highly effective, reducing opposition to the nascent Nazi regime.

Extremely interesting…read it!

The second paper is on monetary policy – it is a working paper – The macroeconomic effects of monetary policy: a new measure for the United Kingdom – from the Bank of England by James Cloyne and Patrick Hürtgen.

Here is the abstract:

This paper estimates the effects of monetary policy on the UK economy based on a new, extensive real-time forecast data set. Employing the Romer–Romer identification approach we first construct a new measure of monetary policy innovations for the UK economy. We find that a 1 percentage point increase in the policy rate reduces output by up to 0.6% and inflation by up to 1.0 percentage point after two to three years. Our approach resolves the price puzzle for the United Kingdom and we show that forecasts are crucial for this result. Finally, we show that the response of policy after the initial innovation is crucial for interpreting estimates of the effect of monetary policy. We can then reconcile differences across empirical specifications, with the wider vector autoregression literature and between our United Kingdom results and the larger narrative estimates for the United States.

I think that the method Cloyne and Hürtgen use to study the macroeconomic impact of monetary policy shocks is exactly the right method to use. I have always had a lot of sympathy for the so-called narrative method pioneered by Christina and David Romer in 2004. Cloyne and Hürtgen’s paper is inspired by the Romers’ approach.

This is from the summary of the paper:

Identifying the effects of changes in monetary policy requires confronting at least three technical challenges. First, monetary policy instruments, interest rates, and other macroeconomic variables are determined simultaneously as policymakers both respond to macroeconomic fluctuations and intend their decisions to affect the economy. Second, policymakers are likely to react to expected future economic conditions as well as current and past information. Third, policymakers base their decisions on “real-time” data (that available at the time), not the ex-post (revised) data often used in empirical studies.

A major advantage of the Romer and Romer approach is that we can directly tackle all three of these empirical challenges. First, we need to disentangle cyclical movements in short-term market interest rates from policymakers’ intended changes in the policy target rate. A particular advantage of studying the United Kingdom is that the Bank of England’s policy rate, Bank Rate, is the intended policy target rate. We therefore do not need to construct the implied policy target  rate from central bank minutes as in Romer and Romer did. As a second step, the target rate series is purged of discretionary policy changes that were responding to information about changes in the macroeconomy. This may include real-time data and forecasts that determine the policy reaction to anticipated economic conditions.

Yes, (market) monetarists might say that we should not focus (exclusively) on interest rates, but the authors are nonetheless right to do it in the case of Bank of England as the interest rate has been the key policy “instrument” (actually an intermediate target) for the BoE in the period studied in the paper.

I think we can draw two very clear conclusions from the paper. 1) We should think of monetary policy shocks are deviations from the central banks’ announced rule/reaction function and we cannot say monetary policy is easy is interest rates are low. Monetary policy is only easy if the key policy rate is lower than what it should be according to the policy rule. 2) Monetary policy is extremely potent.

I should, however, also say I missed two things in the paper. 1) The paper only looks at the period until 2007. It would have been extremely interesting to see what happened in 2008. My expectation would be that the method used in the paper would reveal that the British economy was hit by a major negative monetary policy shock in 2008. The BoE failed. 2) I would have loved to see the method applied to “unconventional” monetary policy (I hate that term!) – has BoE continued a clearly defined rule after 2007? I think not…

Enjoy both of these rather brilliant working papers…

Christina Romer is also in love with Milton Friedman

Our friend  has an interesting quote from Christina Romer on The Daily Beast:

When you asked me for my list of books, I debated about whether to put The General Theory by John Maynard Keynes on the list. The General Theory is an incredibly important book, but it’s basically a theoretical explanation of how aggregate demand could affect output. It was Friedman and Schwartz who provided the empirical evidence that supported the theory. That’s why A Monetary History went to the top of my list.

Christina Romer is of course totally right – Friedman was right about the Great Depression. Because Romer read Friedman she also fully well understand the monetary reasons for the Great Recession.

Noah continues:

It is a testament to Friedman’s scholarship that his work holds up so well.

Now if only conservatives can admit that if Friedman was alive, he would support having the Federal Reserve be much more active in working to speed up the economic recovery.

Noah is one of the few conservative commentators in the US to consistently come out in support of Market Monetarist positions. Keep up the good job Noah!
PS See my earlier post on Christina Romer’s support of NGDP targeting here.
UPDATE: As one of my regular commentators Cthorm notes market monetarists are not calling of “active” monetary policy. We are opposed to “discretionary” and “activist” monetary policy. We want monetary policy to be rule based. I explained that that often. This my latest post on that issue here.
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