Friday, July 27, 2012

Inflation predictions are hard, especially about inflation

John Cochrane responds here to a Brad DeLong jibe about inflation predictions. To make a long story short, back in 2009 Cochrane predicted inflation, it hasn't happened yet, and DeLong made fun of Cochrane for that fact. Cochrane essentially has two responses:

1. The inflation prediction was (and is) a statement about risks, not a time-specific forecast.

2. The large federal debt and deficit mean that unless our economy grows rapidly, we must inflate, and hence a period of higher inflation is highly likely at some point.

Regarding Point 1, this is a very fair retort. Predictions are not necessarily forecasts. Saying "we are probably in a bubble that will burst sooner or later" is a different thing from saying "the bubble will burst at 10:36 A.M. next Thursday". I think people instinctively demand too many forecasts and not enough other kinds of predictions from macroeconomic models.

(Of course, when you make a vague prediction like "inflation is likely to come sooner or later," you don't get nearly as many smart-points for being right, because most things happen if you wait long enough. But if that sort of vague statement is the best we can do, it's the best we can do, and the poor forecasting power of existing macro models doesn't leave us with much.)

Regarding Point 2, it is not clear to me that this is true. Let me explain why:

A. If you have a high amount of debt but no deficit, you can pay it off without high inflation or rapid growth. It just takes a really long time. But it's perfectly possible.

B. A high deficit does not require either inflation or growth to go up in the future. Why? Because you can cut the deficit.

So, here's a perfectly possible scenario: We temporarily run a high deficit. Then we balance the budget after that. We have a bunch of debt. Growth remains slow and inflation remains low. Over time, we very slowly pay off the debt, without defaulting, growing faster, or causing higher inflation.

So I don't agree that our current debt and deficit, even in combination, imply that either inflation or fast growth is coming. We could just balance the budget.

Also, an unrelated point - which I am allowed to make, because This Is Blogs. Cochrane makes another statement that caught my eye:
Growth economics is unanimous: You get [fast] growth only from higher productivity, and from letting new innovative competitors dethrone established interests.
I'm not sure I agree with this (maybe I'm disagreeing with John, maybe with growth economics). The part about productivity is right. But the part about letting innovative competitors dethrone established interests? I'm skeptical. Look at Japan and Germany. Japan, I know, protects established corporate interests, to the point of tossing upstart entrepreneurs in jail. Germany I know less about, but I know that turnover among its big companies is quite low. But since 2000, both Germany and Japan have grown more strongly, in real per capita terms, than the U.S. And the U.S. grew rapidly in the 50s and 60s without nearly as much industrial disruption as we have today.

I don't think we know much for sure about the relationship between industrial disruption and productivity growth. It might be better sometimes and worse at other times.

Update: Brad DeLong responds, noting that markets never expected high inflation, in 2009 or since. someone who says inflation is a danger, DeLong claims, should provide a compelling reason why the universe of investors disagrees. He writes:

Thus, Noah, I really do not think it is "a fair retort" to say:
  • Risks of high inflation in 2009 were really really big!
  • TIPS in 2009 were really really undervalued!
  • Investors who were then holding TIPS had huge expected excess returns--and a return distribution with a large negative beta!
  • No, I have no explanation for why asset market prices then did not match fundamentals.
This is a point I've made before. And it's one reason why I don't agree with the predictions of Cochrane and other inflation-worriers. That said, I am not as strict as Brad about demanding that people provide compelling explanations for asset mispricings. Housing was mispriced in 2005 and 2006, and we don't really know why, though there are all kinds of explanations. Similarly, market opinions can shift quickly. So I stand by what I said; although I personally think a burst of high inflation is very unlikely over the next decade, if high inflation does come, Cochrane will look "smarter"...though the longer we have to wait for that inflation, the more likely it will be that Cochrane just got lucky.

Update 2: Paul Krugman discusses the distinction between conditional and unconditional predictions. But I think there are two other ways to categorize predictions that are relevant to this example. The first is definite vs. probabilistic predictions. A probabilistic prediction - "Based on events, I now think there's a 70% chance of high inflation within the next 3 years rather than a 30% chance" - is clearly weaker than a definite prediction, since probabilities can't be verified ex post in macro. But it's still a prediction. The other distinction is fixed-lag predictions vs. variable-lag predictions. A fixed-lag prediction is saying "I see you blowing air into that balloon, if you keep doing that it will pop within the next three seconds." A variable-lag prediction is "I see you blowing air into that balloon, if you keep doing that the likelihood of the balloon popping will continue to increase." The latter is weaker than the former because, again, likelihoods can't be verified ex post when there's no replication (as in macro). But it's still a prediction.

What I'm saying is that you can have a "pressure model" in your mind, where printing more and more money causes a higher and higher likelihood of high inflation, but the start of the inflation is still a random shock. This appears to be the sort of model that Cochrane has in mind, much like when Bob Shiller said "this is a housing bubble, the more prices go up, the higher the likelihood that they will experience a steep crash." It's harder to say whether the person making the prediction was smart or just lucky, even when the prediction comes to pass.


  1. Anonymous4:34 PM


    Interesting post.

    Balance the budget you say? How is that possible without either a) reduce spending or b) increase tax revenues? Which one of the two is more likely, given the current political climate?

    And secondly, on the innovative competitors point, here's Burton Klein:

    The degree of risk taking is determined by the robustness of dynamic competition, which mainly depends on the rate of entry of new firms. If entry into an industry is fairly steady, the game is likely to have the flavour of a highly competitive sport. When some firms in an industry concentrate on making significant advances that will bear fruit within several years, others must be concerned with making their long-run profits as large as possible, if they hope to survive. But after entry has been closed for a number of years, a tightly organised oligopoly will probably emerge in which firms will endeavour to make their environments highly predictable in order to make their environments highly predictable in order to make their short-run profits as large as possible.

    Don't you think the robustness or resilience in the sector (e.g, auto industry or finance) is reduced when there are bailouts and guarantees?

    1. Anonymous4:47 PM

      Growth can increase tax revenues all by itself. Krugman had a post today showing that most of the new deficit is a result of declining tax revenues. And, if the dems win the Senate (and perhaps the House) and actually hobble the filibuster, maybe we can have some investment that will produce that growth.

    2. Balance the budget you say? How is that possible without either a) reduce spending or b) increase tax revenues? Which one of the two is more likely, given the current political climate?

      That's a good question, and I'm not sure. My bet is some combination of both, maybe with 2/3 spending cuts, 1/3 tax increases. What was the mix in 1993?

    3. It's been done under two different (Democratic) presidents -- LBJ in 1969 and Clinton in the latter 90s. If Bush hadn't cut taxes and continued paying down what we owed, we'd have very little debt going into this financial crisis. But then, if Bush had figured out a way to pay for his two wars...and his drug plan...and if Glass-Stegal hadn't been crushed by both sides of the aisle, we'd have had a better chance of avoiding the crisis. Maybe. You can suppose anything, but that don't mean it would've been true.

      John Cochrane's problem is, he's always right, even when he's wrong. And he's been wrong a lot.

    4. Larry Headlund10:16 AM

      What was the mix in 1993?

      Roughly equal. The projections (against baseline, adjusted for inflation, CBO methodology, etc.) were $253B over four years in budget cuts and $241 over five years in revenue increases.

  2. Noah, on the unrelated point that caught my eye because I do growth, I think that the accelerated growth of Japan and Germany post WWII is a typical Solow convergence following the destruction of capital during the war. As we know, such fast growth resulting from capital accumulation is not sustainable in the long run, due to diminishing marginal returns. Now, Schumpeter viewed innovation as a firm's attempt to evade competition and achieve above-normal profits. I am not sure that this is the only factor. For example, in the case of durables, coming up with better vintages may be a way to get consumers to replace the old vintage faster than they otherwise would due to depreciation. However, it certainly is one factor. Of course, I agree with you that if the reallocation of resources is costly, society would be better served if the threat of dethroning, rather than actual dethroning, is what drives innovation. That threat seems to me to have increased with globalization and import-competition.

  3. Oops, I just saw that your reference in the 1950s and 1960s was re the US. I should really take more time to read. Please ignore the first four lines.

  4. Phil Koop5:18 PM

    1. "Making fun" - I do not think that phrase means what you think it means. Brad says "I cannot think of a single sentence in that passage that makes John Cochrane look half-intelligent." To me that sounds like a direct insult, not a gentle leg-pull.

    2. If you are going to expect smart points for identifying a risk that does not eventuate, you must at least provide plausible reasons why we should think the risk exists. John's story is some hand-waving about Darth Vader. Negative smart points.

    3. John does not just say that there is a risk of inflation, he says that there is no risk of "1932." Since "1932" is a moveable feast, I suppose John can argue that 1932 did not happen, but then the "not a prediction" argument cuts the other way. Anyway, vigorous steps were taken to avoid 1932 - that is a perfectly good explanation of why it never happened! John does not provide any reasons why this explanation is wrong.

    On balance, then, Brad's insult, though impolite, seems perfectly accurate and richly deserved.

    1. If you are going to expect smart points for identifying a risk that does not eventuate, you must at least provide plausible reasons why we should think the risk exists. John's story is some hand-waving about Darth Vader. Negative smart points.

      Well, if inflation does materialize soon, that will be plus smart points for John! Though less and less as time goes on and on, since pure probability makes it likely that we'll experience some period of inflation over some long time horizon.

    2. Anonymous11:11 AM

      Are you still holding out hope for this dire inflation to save face? Doubling down on your awful prediction (or should I say vague statement of risk) is never good form. The whole Euro zone is about to burst into flames in a CreditAnstalt2.0 event and you are still worried about inflation?

    3. Anonymous11:27 AM

      You get smart points for providing the plausible reason for risk, you get luck points for having an unsubstantiated fear come to pass. It's mid 2012, Cochrane's prediction of Fed induced inflation was made in 2009. He gets no smart points, and has at most 5 months to salvage a few luck points.

    4. Phil Koop4:49 PM

      Well, if inflation does materialize soon, that will be plus smart points for John!

      I disagree. Being right for the wrong reason isn't nearly as good - by a long, long way - as being wrong for the right reason. Only if the magically appearing inflation can be connected to Darth Vader will John have any smart points. Good luck with that.

  5. By deficit, do you mean total deficit, or primary deficit. But not if you mean primary deficit. A fair amount of confusion in these discussions comes from people not being clear which they are referring to. In either case, you are mistaken.

    A total deficit of d always converges to a debt-GDP ratio of d/g. In this sense, the correct claim is even stronger than the one you make: ANY deficit is sustainable forever, as long as growth is positive. However, if growth is slow, debt-GDP ratios and debt service payments may grow very large.

    On the other hand, a primary deficit (deficit exclusive of interest payments) of d_p converges to a debt-GDP ratio of d_p(1/(g-r)). So if the interest rate on the debt exceeds the growth rate of income, then given a positive initial debt, convergence to a finite debt-GDP ratio requires a primary *surplus*.

    1. I don't think we disagree...???

    2. OK, I shouldn't have said you were mistaken. I should have said that you could have been clearer.

    3. My point is that neither deficits nor debt nor both at once preclude an indefinite future of slow growth and low inflation. I did not give a complete explanation of how we expect long-term debt to behave, because I thought a counterexample sufficed.

    4. You leave out that the U.S. will need to start running a current account surplus if both the private sector and the public sector are curtailing demand and "saving" by paying down debt. Otherwise the economy enters into a cycle of Fisher-debt deflation contraction(see Greece and Spain now, Germany 1928-1932, Japan 1991-2012, and the U.S. 1930-32.)

      Japan has had close to 21 years now of low growth, low inflation (and frequently deflation), and high and growing Government deficits. In the long run I am sure they will experience inflation again. However, as Lord Keynes said, "in the long run we are all dead."

      I would love it if Cochrane and Taylor would proffer a model to explain it all based on their principles and preferences. At least Krugman has proffered a model and we can see how well it works or not. Cochrane and Taylor give us hand waving like Hayek gave Kahn in 1931:

      "Kahn asked Hayek the question: ‘Is it your view that if I went out tomorrow and bought a new overcoat, it would increase unemployment?’ Hayek: ‘Yes, but it would take a very long mathematical argument to explain why.’”

  6. (Sorry, that second sentence isn't supposed to be there.)

  7. "Regarding Point 1, this is a very fair retort."

    No - because he was making a statement intended to drive then current policy.

  8. Anonymous9:56 PM

    But Noah, even if we're charitable and accept your notion that Cochrane's inflation warning was "a statement about risk, not a time-specific forecast," don't DeLong and Krugman still come out way ahead?

    I mean, back in 2009, Cochrane gravely warned us that the risks we needed to be concerned about were inflation and a corresponding run on Treasury debt. Krugman and DeLong said that was the last risk we should be worried about, and the far bigger risk was that we'd end up mired in years and years of crippling unemployment with no end in sight. And guess what: the latter has turned out to be far more than a theoretical risk -- it's actually happened.

    So yes, a statement about risk is not a time-specific forecast. But when the risks you warn about turn into realities, it seems to me you have some claim of being right (whether this further entitles you to call your foes less than half intelligent is something I have no opinion about).

    1. But Noah, even if we're charitable and accept your notion that Cochrane's inflation warning was "a statement about risk, not a time-specific forecast," don't DeLong and Krugman still come out way ahead?

      Yes! For now. If inflation suddenly surges, the evaluation will have to change. Of course, the longer it is until that surge, the greater the chance that the surge was due not to the policy forces Cochrane claims, but to some exogenous shock.

    2. Noah, last time I looked at 18 USC 1346 it remained a crime for banks to give away their money. Accordingly, there is no scenario for inflation to suddenly emerge as a problem.

      Thus, anyone who claims that inflation presently is a problem, well frankly they are . . .

      It is not enough to claim that Banks have a lot of reserves. People don't. To come up with an inflation scenario one has to come up with some theory about how people are going to get money from banks.

      Your bright. Tell me the story you would tell a bank, today, to get a loan. There isn't one, for there is no demand. If you told a bank you could sell ice cream in St. Louis next week (predicted, 5 days at 105+) they would die laughing at you.

      Very assuredly, the banks are not going to lend to people until they sense and feel strong demand.

      If you are a commercial bank, what are the last words that you want to hear from the Fed: that it is fighting inflation, for the single greatest threat to loan pay is Fed tightening.

      Delong should have called Cochrane, Williamson, et al on the carpet even more. They are the ones who causing the uncertainty that matters in the current economy. Based on their statements, every time Bernanke testifies, every republican gets him to promise to take away the punch bowl, at about 8:15, even before most of the guests have arrived.

      Cochrane knows exactly what is is doing. He is a mouthpiece for the .1%. Really, someone should go to the library and razor out his publications.

    3. Anonymous11:26 AM

      Well said, Alexander Hamilton.

      Listen here. I am a conservative minded guy who doesn't fully buy into the idea that stimulus will just magically fix all of the economies ills. But I do know that DeLong et al did a hell of a lot better at talking about what was happening in real time than any economist who was worried about inflation these last three years. Had you guys been engineers or doctors, with licenses on the line, you guys should have lost yours for this failure. This isn't some statement of risk that might happen that had no effect on real people. The whole republican party has used what this Cochrane guy (and the other team republican hacks) and his talking puppets like you as an intellectual justification for fighting Obama every step of the way.

      For this, I personally will never forgive you people, and I hate that I have to share a country with you unamerican bastards.

    4. Anon

      I don't know if you are for me or against me.

      If you asked my POV, it would be very simple. I am Keynes +

      What does that mean.

      1. Keynes was opposed to periodic deficits. He thought the gov't, generally save times like these, ought to run a surplus. So do I.

      2. Keynes did not think that deficits, alone, would take us out of present circumstances. The how of public officials was likely more important to him than the $$$$. I suspect, if people roll over in their graves, that he has turned over several times over had badly Obama has handled the how.

      3. What I believe is breaking our backs is the cost of oil. See a paper by Stock and Watson (2012). My theory why everything in FUBAR is that, if Obama says "high oil prices," that he fears the Irans will blow up something or mine something. IOW, he is operating under a can't let the Iranians see us sweat theory. BTW, Oil is 50 times more expensive than in since 1973

      Good luck


    5. Anonymous1:00 AM

      I agree with a great deal of what you have to say. The venom I was spitting was directed mostly at "Economists" that Mark Thoma has dubbed "Austerians" or as Brad DeLong has labeled "Hacks working for Team Republican."

      I don't fully buy the idea that the only thing we have to do is stimulus spending (and I have seen that in recent weeks that Krugman and DeLong have been agreeing that their are structural fixes that must occur to get any recovery to take hold), but do realize that without it the economy is likely to collapse immediately (as I believe has played out in Europe).

      I do agree that Oil is very expensive, and it has forced my family to cut back on the things that we like to do (impacting my standard of living, which I don't particularly like), but the biggest cost increase thing is Health Care. That has basically increased drastically over the years, and cuts into my raises that I have received over the years. I think my family of five pay about 15000 per year on health care (with my employer paying the first 3/4's of the monthly premium), a much bigger percentage of my family income than all the gas that we pay (about 3600 per year, I would guess). And the increases in health care premiums that occur in the last five years easily drown out the cost increases in oil (at least in my family's budget).

      The only thing I think is different is that out of control cost increases (over the last 15 years) in 1) Oil/Energy; 2) Health Care; 3) Education; and 4) Housing (up until 2008) basically is what is breaking our backs.

    6. I am more focused on Oil than health care, because Oil is structurally, more of a tax. The $$$ go to foreign governments, overseas.

      Health $$$ stay here.

    7. The $$$ go to foreign governments, overseas.

      Health $$$ stay here.

      What major oil exporter runs their economy on dollars? The dollars come right back, either to buy American goods or financial assets. The problem is too much is going to the latter, which as you note is not helpful because the banks do not see lots of great untapped opportunities to loan. But this problem is no different than when spending results in large profits going to Wall Street and ending up in financial markets that way.

  9. Noah, isn't demand still too depressed for inflation to happen?

  10. Martin11:02 AM

    Delong responds by creating an url so long that you must see it to believe it:

  11. Anonymous1:47 PM

    The inflation Volcker worried about (and everyone worries about) is wage inflation that causes a wage-price spiral.

    To claim that we will see runaway inflation with unemployment sitting at 9 percent is JustPlainNuts. If we were doing loose monetary policy, QE, out of the box FedStimulus at FULL EMPLOYMENT, then there is an opportunity for a wage-price spiral. Greatly less than full employment? Workers feel lucky to have a job, they cannot find a higher paying job easily if at all and there is a big line of unemployed willing to do the same job for less $$$. Under these conditions, wage inflation is simply not possible (unless we are talking about the wages of CEOs who have gamed the system).

    Cochrane was simply blowing smoke. Cochrane offered no evidence and no model of wage inflation. None. There is a simple remedy for inflation. Raise taxes and raise interest rates while spending less.

    There should be consequences for so-called wise men who make predictions that turn out to be wrong that put millions of people out of work. Our country cannot afford to listen to people like Cochrane who has proven that he does not know what he is talking about. Cochrane, and others like him who have been WRONG about all the important economic policies of the past decade should be a pariah who is barred from the public discourse, only allowed to make predictions to the walls in the corner of a dark room where no one can hear them.

    jonny bakho

  12. Anonymous2:02 PM

    I guess the bottom line, aside from the issue of time-specific predictions vs. statements about risk vs. conditional predictions, is that Krugman/DeLong can offer a cogent explanation of WHY inflation and interest rates have not spiked as a result of policy over the last four years. Whereas Cochrane, if he has such an explanation, has at best done a very poor job of communicating it. That strikes me as a pretty big difference.

  13. Noah, this forced equanimity is unconscionably silly. For the past four years, (i) the John Cochranes of the universe have said that (a) efforts of fiscal and monetary stimulus were too big and (b) the result would be significant inflation and interest rates, while (ii) the Brad Delongs of the world have been saying (a) both sorts of stimulus were too small and (b) we should expect sluggish growth, persistent unemployment, and inflation and interest uncomfortably close to zero. The participants can and do quibble about the particulars of this debate where their predictions were most embarrassing (note the if! and the Fed is manipulating interest rates!), but in broad strokes, the Delongs of the universe were generally quite accurate about this fundamental point of macroeconomics, while the Cochranes were clearly, embarrassingly wrong on it.

    Why on earth you feel the need to come down between these two sides is beyond me. (Okay, there's a cartoon devil on my shoulder whispering "He doesn't yet know which university faculty he will have to suck up to next year," but I'd like to pretend that's not a real concern.)

    This is the basic public use of macroeconomics, to answer this question: What should policymakers do, and what will happen if they do? The distressing fact that the profession seems, to those policymakers, wildly divided on that question is what makes economics so frustrating to laymen. The profession needs more clarity, not obfuscation, yet this harping on minor threads to show that the people who were wrong were not, in fact, quite so wrong, exactly, if one squints enough---all of this is in service precisely to the wrong goal.

    ... and since you ask in the comment what the secret recipe for deficit reduction in the 90s, it's no secret at all. You need persistent growth to reduce deficits, because without that growth tax hikes won't generate nearly enough revenue, and austerity will be contractionary and counterproductive (just look at Britain). In the present environment, that means (i) stimulus now and (ii) consolidation when GDP is back on trend. Which is perfectly obvious to everyone who doesn't feel the need to ride to the defense of John #%*&(@*#( Cochrane.

    1. Anonymous12:25 PM

      I'm sure Noah is perfectly capable of explaining why he needs "to come down between these two sides." I'm somewhat sympathetic with his view--which is that he is more tolerant than most of "probabilistic predictions" (which I note are also commonly practiced by NOAA when they predict the weather)

      But I'll give you my guess-- based on our common experience of having studied a lot of physics--

      In the 19th century physics was based on predicting outcomes exactly-- however quantum mechanics has changed that so that practitioners feel perfectly comfortable with saying "there is a 70% chance that a future event will be T, and a 30% chance of "not T".
      Unfortunately in economics we only very rarely get to run the exact same experiment more than once. This does present an uncomfortable paradox for those trying to make probabilistic predictions of economic events.

  14. Anonymous3:06 PM

    The discussion of probabilistic predictions seems relevant to the KenPom Wars in NCAA basketball

  15. Orange143:23 PM

    I don't worry about the John Cochrane's of this world as they are largely irrelevant to my investment portfolio. I do, however, worry about dumb decisions made by Bill Gross of PIMCO who manages some of my retirement money and totally missed the great US Treasury bond appreciation in 2010-11 because he thought that interest rates were going to go up instead of down. These are the guys that should be ashamed of themselves as opposed to the inflation vigilantes who are clueless.

  16. Is it a prediction; is it this kind of prediction or that kind? That’s of importance only for settling wagers. What’s important is the policy you derive from that prediction. If the policies that Cochrane is recommending seem to be based on the assumption that inflation is imminent, does it really matter how hedged the actual prediction statements were?

  17. I'm starting to get your drift, Noah. So, if Cochrane had said the greatest risk we face as a nation is - shark attack!- we should not treat him as we would a schizo on the street. No, we should respect his larger perspective. Because a shark attack could emerge. It could be that while we have been daydreaming about the economy, sharks are massing at this very moment. That they might not attack now doesn't really mean that Cochrane was wrong about shark attack, and he will appear very very right (and well deserve his many plaudits as really one of the greatest bestest economic minds that a grad student on the market could ever hope to ever emulate ever!) if the shark attack eventually emerges.
    This is a very wise defense. It is a good thing to point out the shark attack condition. It will get you far.

  18. Noah, I have read and the back and forth about Cochrane.

    Your plan worked. By playing up to Cochrane you exposed him as the fraudster and intellectually propagandist that is his.

    Great job of throwing the dude under the bus, with all the fingerprints being on DeLong's keyboard

  19. Noah,

    You can now add to John Taylor, who Saturday wrote of "inflation."

    Harmful how? The Fed has effectively replaced large segments of the market with itself—it bought 77% of new federal debt in 2011. By doing so, it creates great uncertainty about the impact of its actions on inflation, the dollar and the economy. The very existence of quantitative easing as a policy tool creates uncertainty and volatility, as traders speculate on whether and when the Fed is going to intervene again. It’s bad for the U.S. stock market, which is supposed to reflect the earnings of corporations.

  20. And IIRC, John Taylor is yet another guy who's spent the past few years 'crying 'Fire!' in Noah's Flood'.

  21. A probabilistic prediction - "Based on events, I now think there's a 70% chance of high inflation within the next 3 years rather than a 30% chance" - is clearly weaker than a definite prediction, since probabilities can't be verified ex post in macro.

    How did you get 70%? Can you show your math? If you can give, not a statistical prediction, but a way of making statistical predictions, then it is verifiable with enough data, it just can't be verified in any single instance.

  22. All of this parsing of types of predictions is losing sight of the point. We are trying to make concrete policy decisions. Krugman/Delong's model suggests one course of action, while Cochrane's model suggests a different course of action. We can test these models based on how well they're able to predict events. Deflationistas (Krugman/Delong) have done well; Inflationistas (Cochrane, et. al.) have not.

    The bottom line is that Cochrane's "fear inflation" policy advice was very bad advice - the kind of bad advice that has and will continue to result in real human suffering. At this point, we're judging the models (and all they imply) on the basis of a substantial and growing body of evidence. And yes, it matters that Cochrane gave incredibly bad policy advice on the basis that we should fear inflation. Krugman in fact, predicted deflation, but he admitted he was wrong rather than getting all dodgy.

    Your parsing may be technically correct if we had a few centuries to sort this stuff out, but we don't. It really matters if deflation or inflation is the threat.

  23. Anonymous6:01 AM

    Let's remember that the "fear inflation" folk were opposing bigger US gov't spending, like wasted money on Solyndra.

    When Bush did fiscal stimulus, it was thru tax cuts, which resulted in the rich paying a higher percentage of tax collected, yet was falsely demonized by Krugman/DeLong Dems as tax cuts for the rich.

    Krugman wants the Dems to give millions of gov't stimulus to Dem semi-failed businessmen so they can probably waste it while making big donations to Dem politicians promising to spend more gov't money and increase taxes on those who are hard working, responsible, smart - and successful. If the Rate of Return on gov't investments (thru stimulus) is negative, how does spending/ wasting more create sustainable growth. It doesn't.

    Great note on predictions, and timing.
    In Dec 1996, Greenspan called it "irrational exuberance", but the bubble didn't pop until after YE2 in 2000/2001. And not in a day, but over a couple weeks/ months.

    In May, 2003, The Economist called it "house of cards"
    but the bubble started popping only after 2006.

    The reason Cochrane, and S. Palin & Taylor (among others) are wrong, is a reason Krugman doesn't focus on.
    "How much money" a person has is all of income, expected income, and Net Worth (perhaps also expected Net Worth). Few monetarists include Net Worth in their models, which for 40 years has been ok because it hasn't changed rapidly enough with enough magnitude to dominate interest rate changes.

    Starting about 2007, and especially after the 2008 crash, homeowners have been realizing that they've lost home equity net worth, so have been adjusting their spending patterns. We don't have to worry about QE II, or QE III, or Interest on Reserves (which should be set at 0), or even helicopter drops of money, until the housing market bottoms and house prices regain stability.

    The stimulus that would be most effective is tax cuts, and more tax cuts for middle income workers (like payroll tax cuts), and yes, a higher deficit and more 1% long term debt, until the productive workers re-establish an economy that is growing.

    Since Krugman/ DeLong want ever-growing gov't, even if the theoretical idea of more stimulus seems justified by the low threat of inflation, their desire for more gov't waste, er, spending, should be resisted. Their desire for higher taxes (on the rich! on anybody who has enough to offer workers a new job!) is the kind of class war we don't need.

    And the Dem support (with Bush and McCain) for gov't bailouts to the rich and irresponsible bankers who ARE to blame for finance bubble, make most Dems clear hypocrites.

    I predict low US inflation (<3%) for the next 2 years, but hope for more. The Taylor inflation target is easier to track than the Sumner NGDP, tho I'd slightly prefer the NGDP target of 5%.

    1. How can you be intellectually honest and make this statement:
      "When Bush did fiscal stimulus, it was thru tax cuts, which resulted in the rich paying a higher percentage of tax collected, yet was falsely demonized by Krugman/DeLong Dems as tax cuts for the rich."

      The rich pay a higher percentage of taxes because they have all the money. Here's a thought experiment to demonstrate 1) 1,000,000 poor people pay 20% taxes on the $1 they earn taxes collected - $200,000 2) The 2 very rich people in the country pay 20% taxes on the $1,000,000 each they earn taxes collected - $400,000. The rich pay most of the taxes but they are paying at the same rate - as it should be (unless you believe that the rich peoples money is somehow more deserving of not taxing) In fact it is more the case that the poor people's money has more value to them because they have to have enough to live on hence a progressive tax code.

  24. When I said in my previous comments -- that specifying predictions was useful only for settling wagers -- I didn't think you were going to take me so literally. And now you've gone and bet a whole pizza on Cochrane, hoping for a MineThatBird, I guess.

  25. sriram9:11 AM

    Seemed pretty strong for PK to call cochrane's argument numbskullian. This was in reference to his argument that monetary policy isn't that effective. What are your thoughts on that issue? Is it worrying that the economic debate is getting more acrimonious?

    1. "Seemed pretty strong for PK to call cochrane's argument numbskullian. This was in reference to his argument that monetary policy isn't that effective. What are your thoughts on that issue? Is it worrying that the economic debate is getting more acrimonious?"

      Lower bound, liquidity trap, etc. Krugman has given his reasons, again and again and again.

    2. Sriram5:17 AM

      I agree that PK has explained his view well. But I think JC’s article was talking about monetary policy not being effective at all times, not just in the current “liquidity trap” environment. Which I believe is what prompted PK to refer to him as a “numbskull”. I am with PK on this – but seems scary to see a Nobel laureate calling the professor of economics of a renowned institution a “numbskull”( his argument and not him to be precise) . My question was whether JC’s point was truly numbskullian and even if so, is it ok for the economic debate in the blogosphere to become so acrimonious?

  26. low probability high impact events are notoriously difficult to quantify, starting with the fact the data is limited. A nuclear reactor has a .5% chance of outage, but its hard to know if that's a 1 day event or 1 year event because component failures are random. If there is a "pressure model" if inflation (particularly if there is a threshold involved), the odds of us even having the amount of data we would need to quantify such a model (for the rational optimizing maximizer to even know what decision to make) are slim.

    Btw DeLong should be aware that there *are* NK models that generate step functions in the optimal fed funds rate as the economy emerges from the zero bound (i know this because he posted a link to one a while back). If such a step function does exist, you may be collecting some pizza. Overall, i'd say he mispriced the bet.

  27. Noah: "his appears to be the sort of model that Cochrane has in mind, much like when Bob Shiller said "this is a housing bubble, the more prices go up, the higher the likelihood that they will experience a steep crash." It's harder to say whether the person making the prediction was smart or just lucky, even when the prediction comes to pass. "

    IIRC, Bob said that because the Case-Shiller (sp?) index had strongly departed from historical trends, and was getting more extreme. IOW, he had some basis in reality for saying that.

  28. Anonymous4:20 AM

    About the same time as Cochrane made his inflation prediction, Krugman thought there was a "real possibility" of deflation. So one predicted inflation, one predicted deflation, and neither turned out. So why does Krugman get to say his model is more credible?