Since 2009, Scott Sumner has been a big proponent of nominal GDP targeting. He sees nominal wages as slow to adjust and he has sketched a simple model, the musical chairs model, to explain why his policy should be adopted.
I am a new convert to these arguments. That is my loss. I had assumed, incorrectly, that
Scott was proposing that central banks should simply adjust the coefficients on
their interest rate policies, so called Taylor Rules, to raise the nominal
interest rate when nominal GDP growth is above target and to lower it when nominal
GDP growth is below target.I will refer to that variant of NGDP targeting, as
growth rate targeting. An alternative, NGDP level targeting, would make these interest
rate adjustments in response to deviations of nominal GDP from a target growth
path. For an elaboration of that view, see, for example, the article by Evan Koenig, Vice President of the Dallas Fed.
I have been teaching basic Keynesian economics this week to my undergraduate class and I have just completed a new book manuscript with the working title of Prosperity for All, that will be coming soon to a book
store near you. I am thus highly attuned to the debate over the connection between savings and investment. That debate resurfaced with a vengeance this morning on Twitter when Noah Smith and Jo Michell, among others, engaged in a sometimes testy exchange on the role of the State in promoting investment. Since that debate is at the core of Keynesian economics, and since my class is prepping for Monday’s midterm, this seems like a great opportunity to enlighten readers of all varieties on what Jo and Noah were on about.
There is much current angst on the difficult problem of how to escape a liquidity trap. Paul Krugman points out that in Japan, the ratio of debt to GDP is growing, leaving little room for a further tame fiscal expansion. He favors something more aggressive.
Tony Yates argues instead for a helicopter drop. Print money and give it to Japanese citizens. The benefit of that approach is that it does not leave the government with an increase in interest bearing debt. Simon Wren Lewis looks more closely at the technical aspects of this idea.
I'm glad to see that Olivier Blanchard and Yanis Varoufakis have come out in favor of my plan for People's QE.
The following passage is from How the Economy Works, (HTEW) page 151.
Economists are famous for hedging their bets. A typical response to the question of how to run fiscal policy might be: “On the one hand we should raise taxes but on the other we should balance the budget”. President Harry Truman who instituted the Council of Economic Advisors famously quipped; “give me a one-armed economist.”
Here's what I said about fiscal stimulus in HTEW.
A large fiscal stimulus may or may not be an important component of a recovery plan. My own view is that there is a better alternative to fiscal policy that I explain in [How the Economy Works, Chaper 11]. But if a fiscal policy is used it should take the form of a transfer payment to every domestic resident; not an increase in government expenditure.
Well ok, I didn't call it peoples QE. "Peoples QE", was coined by a speech writer for Jeremy Corbyn, the new leader of the Labour Party in the UK and its one of the less crazy parts of the Corbyn platform. Why do I believe that? Because I also believe something that may seem contradictory. Its time to get interest rates into positive territory. SOON. Quoting again from an impeccable source (HTEW page 152).
Here are my views on monetary policy. Short term interest rates should be increased as soon as feasible, because a positive interest rate is needed if a national central bank is effectively to control inflation. In future, central banks should use the interest rate for this purpose and not to prevent recessions.
Why do I favor a fiscal transfer, rather than currently popular bandwagon of infrastructure expenditure? Two reasons.
- Because the work of Christina and David Romer suggests that tax multipliers (and by implication, transfer multipliers) are big.
- Because I trust markets to decide how to allocate a fiscal stimulus more than I trust the government.
So: Raising interest rates is necessary to eventually raise inflation. I'm with the "neo-Fisherians" here. But an interest rate hike must be offset by some other expansionary policy to prevent the normalization of rates from creating a new recession. Here's what I said about that in HTEW.
But if a central bank raises the domestic interest rate without independently managing confidence, the result will be a drop in the value of the national stock market and a further deterioration in the real economy. To prevent this from happening, central banks need a second instrument.
So: Janet, Mark, Mario: yes: raise rates. Please. But give us QE too.
A couple of weeks ago, I had the pleasure of attending a very interesting conference at the Federal Reserve Bank of Saint Louis. The topic
of the conference was the relationship between income inequality and monetary policy, but the papers, more broadly, were all trying to cope with the intellectual problem of rebuilding monetary economics to incorporate the lessons of the Great Recession.
I discussed a fascinating paper, presented by Jim Bullard, joint with Costas Azariadis, Aarti Singh and Jacek Suda (ABSS). ABSS Built a 241 period overlapping generations model in which the people who inhabit the model are permitted to trade one period nominal bonds: but nothing else. They focused on one particular equilibrium of their model and they showed that, conditional on this equilibrium, a central bank can help the economy to function efficiently. Here is a link to the paper and here is a link to my discussion.
John Cochrane makes the case in the WSJ that everything is back to normal. Hunky Dory, rosy tinted, don’t panic, keep-calm-and-carry-on normal. He points out that inflation is under control. We have not entered a deflationary death-spiral and unemployment is back in reasonable territory.
Here is what John learned from the Great Recession.
The [QE] experiment was huge, and the lessons are clear. The economy is stable, not subject to Keynesian “spirals” requiring constant Fed intervention. And when reserves pay the same rate as bonds, banks do not care which one they hold. So even massive bond purchases do not cause inflation. Quantitative easing is like trading a $20 bill for $10 and $5 bills. How would that make anyone spend more money?
Simon Wren-Lewis has a nice post discussing Paul Romer’s critique of macro.
In Simon's words:
"It is hard to get academic macroeconomists trained since the 1980s to address [large scale Keynesian models] , because they have been taught that these models and techniques are fatally flawed because of the Lucas critique and identification problems."
"But DSGE models as a guide for policy are also fatally flawed because they are too simple. The unique property that DSGE models have is internal consistency."
"Take a DSGE model, and alter a few equations so that they fit the data much better, and you have what could be called a structural econometric model. It is internally inconsistent, but because it fits the data better it may be a better guide for policy."
