On 2/26, Miles Kimball wrote a Quartz column called "What Paul Krugman got wrong about Italy's economy", in which he said this:
In the last few days, while the US political debate centers on ways to deal with burgeoning debt, UK government debt has been downgraded and investors are demanding much higher yields on Italian debt in the wake of the Italian election results (paywall). As concerns about national credit ratings push economies around the world toward austerity–government spending cuts and tax hikes–some commentators are still calling for economic stimulus at any cost. Joe Weisenthal wrote that David Cameron must spend more money in order to save the British economy. Paul Krugman wrote in “Austerity, Italian Style” that austerity policies simply don’t work. The downside of their prescription of more spending—and perhaps lower taxes—is that it would add to the United Kingdom’s and to Italy’s national debt. And national debt beyond a certain point can be very costly in terms of economic growth, as renowned economists Carmen Reinhart, Vincent Reinhart, and Kenneth Rogoff convincingly show in their National Bureau of Economic Research Working Paper “Debt Overhangs, Past and Present.”
Where do the United Kingdom and Italy stand in relation to the 90% debt to GDP ratio Reinhart, Reinhart and Rogoff identify as a threshold for trouble? (It is important to realize that their 90% threshold is in terms of gross government debt. That is, it does not net out holdings by other government agencies.)Paul Krugman responded thus:
[T]o my great disappointment all I found was yet another invocation of the Reinhart-Rogoff claim that bad things happen when debt goes about 90 percent of GDP.
Look, this is just not an established result. It’s a correlation; but it could just as well reflect a pathway from slow growth to high debt, or from third factors like political and institutional dysfunction to both slow growth and high debt...
So why do people imagine that this is a definitive result? That’s obvious. R-R on debt got picked up eagerly by deficit scolds, because it said what they wanted to hear...
Is Reinhart-Rogoff itself a zombie? Not quite — it could still be true, although I don’t think so. But the idea that the 90 percent threshold is a definite result, established beyond question, is very much a zombie idea, one that has been killed repeatedly but just won’t stay down.
So who is right?
Krugman has a good point: The "90%" thing is not well established; it is obviously just Reinhart and Rogoff eyeballing some sparse uncontrolled cross-country data and throwing out an off-the-cuff figure that got big play precisely because it was simple and (to deficit scolds) appealing. The 90% number alone is not a justification for worrying about debt.
However, Krugman did fail to notice one interesting point. When discussing a paper by Greenlaw et al. (which makes an "80%" claim similar to R&R's "90%" claim) in an earlier post, he noted a very interesting pattern:
Even the quickest look at the data suggests that there’s something to this argument; for example, taking data from the paper itself, and dividing the countries into euro and non-euro, we get a scatterplot like this:
It’s not just Japan, off at the far right, that looks different; Canada, the UK and the US, the three red squares along the middle bottom, also seem to have borrowing costs well below what euro-area experience might have suggested.
Furthermore, the experience since mid-2012, in which the ECB drove spreads down sharply after it signaled its willingness to head off self-fulfilling liquidity crises — which can’t happen to countries with their own currencies – also suggests that the own-currency issue is crucial.So we have a good theoretical reason to believe that eurozone countries - which don't have their own currencies - are very different animals from countries like the U.S. and UK. In other words, there probably is a good reason to worry about Italy's debt levels.
Of course, Miles misses this too, and lumps own-country borrowers in with eurozone borrowers.
But I feel that this argument over debt levels is mostly a distraction. The important thing, which is being overlooked, is that Miles has come up with a really interesting policy tool to increase the amount of stimulus per unit of debt incurred. That tool is Federal Lines of Credit, or FLOCs - basically, the idea that government should lend people money directly.
FLOCs have a distinct advantage. They avoid the problem - which everyone acknowledges - that people tend to pocket and save their stimulus checks, thus canceling out the effect of the stimulus while running up government debt. FLOCs only dish out money if people are going to spend it; hence, they get more stimulus "bang" for every debt "buck". Even if we aren't worried about debt at all, FLOCs seem like a good deal, compared to just mailing out checks.
However, I do have some skepticism about FLOCs. First of all, there is the idea that much of the "deleveraging" we see in "balance sheet recessions" may be due to behavioral effects, not to rational responses to a debt-deflation situation. People may just switch between "borrow mode" and "save mode". In that case, offering them the chance to take on extra debt is not going to do much. Second, and more importantly, I worry that FLOCs might draw money away from infrastructure spending and other government investment, which I think is an even more potent method of stimulus; govt. investment, like FLOC money, is guaranteed to be spent at least once, but unlike FLOCs it can increase public good provision, which is a supply-side benefit.
(Note: Mike Konczal has addressed Miles' proposal, and has a lot of problems with it.)
That said, I think the FLOC idea is an interesting one. Why have most stimulus advocates ignored it? My guess is that this is about politics. In an ideal world, pure technocrats (like Miles) would advise politicians in an honest, forthright fashion as to what was best for the country, and the politicians would take the technocrats' advice. In the real world, it rarely works that way. For every technocrat who just wants to increase efficiency, there's a hundred hacks and politicos who are only thinking about distributional issues - grabbing a bigger slice of the pie. These hacks are very willing to use oversimplified narratives and dubious sound bytes to embed their ideas in the public mind. And that kind of thing really seems to be effective.
This means that politics' response to policy is highly nonlinear - give the enemy an inch, and they take a mile. It also means the response is highly path-dependent; precedent matters.
So Krugman et al. may be ignoring FLOCs and other stimulus engineering tricks because of political concerns. If they concede for a moment that debt is scary, it will just shift the Overton Window toward Republican types who are deeply opposed to any sort of stimulus, and would oppose Miles' FLOCs just as lustily as they opposed the ARRA.
In other words, finding optimal, first-best technocratic solutions might be far less important than simply embedding "AUSTERITY = BAD!!!" in the public consciousness.
In Mike Grunwald's book The New New Deal he discusses how at one point the administration was considering a policy like federal lines of credit but scrapped it. (I actually forget if the plan was for government prepaid debit cards or credit cards) Their concern was that if people used the money for something like porn it would look really embarrassing later on. Obviously this kind of makes your point, but I guess that would be the political concern.
Austerity is bad - or can you find an example where austerity pursued at the ZLB has had a beneficial effect on a country's economy?ReplyDelete
I think those two professors really talked past each other. Each of them was just piling over their pet peeves and neither tried to give the benefit of the doubt to the other.ReplyDelete
Krugman focused on his favorite Mundell-Fleming implications about fixed and flexible exchange rate and the need to "End this Depression Now!" ignoring everything Kimball wrote and Kimball just wanted to linkbait by dissing Krugman on something that which there is no disagreement (that excessive public debt can be excessive) so that he could plug in his FLOC bit.
Anyway they agree on the big thing - we are in a paradox of thrift, not enough spending situation. And that just isn't accepted as a fact by the majority of the public anywhere.
I don't like the idea of the government as big, bad repo man. And if it decides to be nice, people will just default anyway removing it's purpose.ReplyDelete
More on it (and the poison of path-dependence) here:
Noah, if you figure out how to convince people that "AUSTERITY = BAD!!!", you probably deserve some kind of prize.
Even if the people who receive the FLOC spend it, the company that sells the product on which the money was spend might end up saving it, or the employees of that company might.ReplyDelete
what came immediate to mind was that "money is fungable". Why wouldn't this money just be offset by changes in other money. I guess the assumption here is that the problem is a credit crunch. I'm rather on the side that thinks this is a oops - my retirement kitty looks desperately short. Being able to borrow more for less doesn't solve this. Getting some no strings attached cash from the government does. And yes - the government can IN PRINCIPAL - finance this by printing money in some fashion or another (at least with the co-operation of the central bank) so adding to the debt is optional.
"Italy is big enough to bring down the eurozone if mishandled. It is also the one Club Med country with enough fundamental strengths to leave EMU and devalue, if it concludes that would be the least painful way to restore 35pc of lost competitiveness against Germany since the launch of the euro.
It has low private debt and €9 trillion of private wealth. Its total debt level is 265pc of GDP, lower than in France, Holland, the UK, the US or Japan.
Its budget is near primary balance, and so is its International Investment Position, in contrast to Spain and Portugal. It could in theory return to the lira without facing a funding crisis, and this may be the only way to avoid a crisis if the ECB withdraws support. Any attempt to force Italy to knuckle down risks backfiring disastrously for EMU creditors."
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A comment and a question...ReplyDelete
At the risk of falling into a bestiary trope :) folks looking at it from the MMT perspective have been shouting from the rooftops about the own-country vs eurozone borrower distinction since forever.
So, on FLOCs, is it possible to reconcile the idea of a loan-as-stimulus with the narrative of aggregate demand being undermined by household deleveraging? It seems that the latter would have to be rejected outright to embrace the former.
So, on FLOCs, is it possible to reconcile the idea of a loan-as-stimulus with the narrative of aggregate demand being undermined by household deleveraging? It seems that the latter would have to be rejected outright to embrace the former.Delete
This was exactly my point when I wrote:
"First of all, there is the idea that much of the "deleveraging" we see in "balance sheet recessions" may be due to behavioral effects, not to rational responses to a debt-deflation situation. People may just switch between "borrow mode" and "save mode". In that case, offering them the chance to take on extra debt is not going to do much."
Italy has significant gold reserves. It is conceivable that it could successfully issue long bonds with a low coupon but coupled with a call option on the gold. Investors might find a bond with a thirty year term redeemable at any time in gold at a strike price of, say, 2,500 euros per oz. (or some other number materially above the current gold price) an attractive inflation/gold hedge. The gold would have to be physically secured in the hands of a credible third party outside of Italy.ReplyDelete
"..the problem - which everyone acknowledges - that people tend to pocket and save their stimulus checks, thus canceling out the effect of the stimulus while running up government debt."ReplyDelete
Whoa, whoa, whoa, whoa there, Noah! Is that the sort of thing like all that other stuff "everyone knows" (Bigfoot Isreal, Brown Recluses live everywhere and will Kill You Dead, You can get pregnant from thinking about sex, etc.)? Or is there real and clear information to support that claim? Given that many of us out here are juggling bills, carrying too much debt already and have no savings to speak of, and have been like this since about 2001, I'd be more than surprised if that was accurate. I'm not saying that there can't be people who behave like that, but I would assume that they would be the people who are already secure, and there are a lot fewer of them than there were five years ago. There're a whole bunch of us out here who can't afford to use a stimulus check for anything except stimulus. Many of us are trapped in a descending spiral where we can't afford to maintain something until it breaks, when we pay more to get it replaced (or do without - difficult with heating in the winter, or hot water), and then get further in the hole, forcing us to delay necessary maintenance on other things. We're hoping that things will improve before disaster strikes, and I mean that quite literally. Sorry to focus on such a limited point, but that hit uncomfortably close to home. I detested the payroll tax holiday, since it was clearly intended to whack the Social Security funding, but it was better than a kick in the head, and it was presumably simpler and less expensive to implement than a check-cutting operation. The heel of a loaf is better than none.
Noah forgot about marginal propensity to consume.Delete
Given that many of us out here are juggling bills, carrying too much debt already and have no savings to speak of, and have been like this since about 2001, I'd be more than surprised if that was accurate.Delete
Well, if you have a lot of high interest-rate debt, and someone hands you a check, what you should do is use it to pay down your debt, while keeping your consumption the same.
And in fact, in aggregate, this is exactly what people did do:
(see section II)
But if instead of mailing a check, you use the stimulus money to build a road, then the same amount of money goes into people's pockets, plus we have a road! That's why the govt. expenditure multiplier is higher than the tax/transfer/rebate multiplier.
Noah forgot about marginal propensity to consume.
I can't see the picture! I am completely lost if there is no picture! Is the post about grapes? German cars? I don't know...ReplyDelete
It is about sportsball players. Soccer maybe? White shirt team pushing against red shirt team.Delete
The picture is of a rugby union scrum. The #9 ("scrum-half") in the red is putting the ball in between the two teams, and the red and white teams both try to snag the ball with their feet out of the middle and push it back to where the #8 is.Delete
Not sure why Noah picked it though.
What? About an effete yurpeen sports? Are they sexy? I hope they are!Delete
Anyway, anyone got an idea - because I am really, really uninformed about these things - how these alleged doomsdebt thresholds can be rendered plausible? I see that the Greenlaw paper also cites the IMF threshold, but noting that impact on growth depends on if you come from high debt or go there. Now, why are there such thresholds? And why should they be where they are? There must be a reason, after all...
Yep. One thing Rush taught me... If you can get a significant portion of the population to say in everyday conversation the word "democrat" like it was something they had to spit out... like it was something that literally left a bad taste in their mouth... Then you will have done more to advance the cause of the GOP than all of the studies, papers and information produced by all of the right wing academics... EVER.ReplyDelete
( I can always tell a "ditto head" by the way they talk. Ever notice ? )
As a political force for change...I think mockery is underestimated. Mockery must be met with mockery. Most of all... the opposition's core positions must be mocked endlessly.
I really think that a large part of the recent Lib/Dem success has been do to a resurgence in Dems willing to be dicks about/tward repub/cons in every day life.
What took the dems so long to fight rude with rude? I know this will bother righties and may be nothing more than my own bias showing... but I do believe, generally, that for Dems to be jerks about politics we have to have some actual INFO to back up our bile. But repubs on the other hand will be A-holes based on general principles they perceive to be threatened. All the right needs is a demagogue Rush, we need a Professor Krugman.
So... a large part of what is effective politics, mockery , is far easier for the repubcons.
Where would me and my fellow dems be with out America's Professor... Paul Krugman ?
Biden showed how to do it. More Democrats should be willing to laugh in Ryan's, Boehner's, Cantor's etc. faces when they start talking nonsense.Delete
This is my first visit to your blog! But I admire the precious time and effort you put into it,especially into interesting articles you share here. Thankyou very much and keep up the good work.ReplyDelete
If people don't spend out of tax rebates enough, and FLOCS are flawed because we're in a deleveraging cycle, then how about a govt issued credit card that doesn't have to be paid back, but can only be used if you spend it on something?ReplyDelete
You would need an expiration date. Use it or lose it . Holding on to a "credit" card that does not have to be paid back is savings.Delete
Sure, fine, add the expiration date.Delete
Doesn't matter if you add an expiration date. Money is fungible, so they'd just spend the card on groceries, and save the money they would have spent on the groceries (either as actual savings or as reducing debt). Net result is little or no additional consumption, and therefore not much stimulus effect.Delete
Redwood Rhiadra, You are right.Delete
But... what if they had to spend it on something they did not need ? Small appliances ? I don't know.
Cash for clunkers did work. Do you have an angle that might work ?
Miles' proposal seems interesting but there are indeed quite a lot of issues which needs to be addressed not only economical, but political as well.
I have read the post of FLOCs proposal in Miles' blog, from the details of the post (I don't know where to read the detailed proposal if there is one), other than the issue you've raised about whether if people will borrow or not in a recession, whether if it'll suck money out from other government spending such as infrastructure investment, and issues pointed out by other comments on whether if there will be any expiry and default options; there are issues such as:
1. The payback period
2. The interest rate on the loan
3. The ability of the government to afford the lending if it doesn't print money given that tax revenue is less than 20% of GDP
4. Political problem which is related to the above 3 points due to the new relationship between the government and its citizen which is a creditor and a debtor. I'll leave it to you to expand on your thinking on how problematic this can become.
MFW the end of this article:ReplyDelete
Thank you Mr. Smith.
"...finding optimal, first-best technocratic solutions might be far less important than simply embedding "AUSTERITY = BAD!!!" in the public consciousness."ReplyDelete
In Related news...
"Krugman Tells AlterNet: Progressives Worry Too Much About Being 'Respectable'
Excerpt... Krugman : "I will say, [conservatives] have a remarkable shortage of guys who are actually competent on the economics...
First thing: You do need a network and, obviously, progressives are never going to have the kind of lavishly funded, Koch-fueled media operation that the right has, and we’re never going to have the same kind of message discipline. That said, it’s actually gotten a lot better [on the progressive side]. I look at the extent to which the pushback against nonsense stuff takes place, and the way a coherent message comes out on behalf of good stuff; it’s much better now. I’ve been in my second career now since 2000, and it was hopeless 10 years ago; it’s now much more evenly balanced.
One thing that’s really true, though, is that progressives, they still spend a lot of time trying to appease, trying to sound moderate and reasonable."