For several months I've wanted to write a post titled something like "The absolute epic crushing devastation of the inflationista worldview". But I didn't get around to it, and that is a good thing, because Matt O'Brien does it much better than I ever could. And Paul Krugman, who has basically made a sport of slaying inflationistas, chimes in, differentiating between several levels of inflationista derp. The Inflationista Hall of Shame includes New Classical economists, Austrians, conservative politicians, some Wall Street macro types, faceless European institutions, and Niall Ferguson.
Of course it isn't just people in the popular press warning about "the bond bubble", inflation, and "all this money printing". Every Wall Street guy I hang out with in New York seems to think the same thing. "We had the Tech Bubble...we had the Housing Bubble...and I tell you what," confided a stockbroker friend to me over dinner two weeks ago, "I think right now we're in the Central Bank Bubble." To which I of course replied, "If everyone thinks it's a bubble, why doesn't it pop?"
But anyway, the question is no longer whether the inflationistas have a good point. They do not. At some point in the infinite future there will almost certainly be a period of inflation, but any theories or worldviews that kept confidently predicting inflation between 2008-2013 have now been falsified by events.
So the question is: Why do people continue to profess those same inflationista views?
So the question is: Why do people continue to profess those same inflationista views?
I think the answer is probably different for different groups of inflationistas. For New Classical economists like Steve Williamson (Update: After an email exchange, I'm thinking that I wasn't being fair to Steve; it appears that he was merely taking the results of this model a bit too literally), it's probably just a case of investment in, and commitment to, their own theoretical paradigm. Inflation happened in the 70s, and New Classical theory won lots of plaudits because it seemed to explain what was going on. Lots of guys have made their careers working in that paradigm. To admit that the theory only "explained" the 70s, but not the current situation, would be to say "My career has been spent working with theories that are mostly wrong." Theoretically there should be no shame in such an admission; Tycho Brahe was a truly great astronomer even if his model of the solar system was wrong. The "Hall of Shame" doesn't need to actually involve real shame. But in the real world, everyone defends their paradigm with daggers drawn.
For "Austrians", we have to make a distinction between Austrian economists like Bob Murphy and "Wall Street Austrians" like Peter Schiff who cite Austrian ideas as justification for their investment decisions. The former are defending their (mostly dead) econ research paradigm. The latter, though, are probably more cynical. Guys like Schiff make their millions selling investors (mostly rich middle-aged guys) newsletters and managing their money for a hefty fee. Schiff has to convince his investors that he understands economics better than all the academics, and that this allows him to make macro predictions that will beat the market. Warnings about inflation plays well with the middle-aged rich conservative dudes who remember the 70s and identify easy money with liberalism. So that's basically an affinity con.
The hedge fund and other Wall Street guys have basically been explained by Brad DeLong. They made some "widowmaker" macro trades, and took a loss, and they're pissed. The Fed forced them to concede that it has the power to keep interest rates low without causing inflation, but they still feel like they should have been right, because dammit, they knew the fundamentals, and the Fed cheated!
As for Europeans, I'm not sure. It might be the past experience of Weimar hyperinflation - remember that wheelbarrow full of cash! - or something having to do with the politics of debtor and creditor nations in the Eurozone. Or just stuffy bureaucratic institutional culture. Anyway, I freely admit that my understanding of Europeans is severely limited.
And as for conservative hucksters like Niall Ferguson and Erick Erickson, well, asking why those guys say anything they say is just a waste of time. Just do the sensible healthy thing, and ridicule them.
(Update: Paul Krugman points out another category of inflationistas: non-New Classical economists politically aligned with the Republican Party, such as Michael Boskin, Allan Meltzer, Martin Feldstein, and John Taylor. For these guys, Krugman says, it's all political. They perceive expansionary stabilization policy as wise and prudent when a Republican is in the White House, but as liberal folly when the president is a Democrat. This seems reasonable to me. Remember that John Taylor wrote that deficit spending exploded under Carter, when actually it was under Reagan.)
(Update: Paul Krugman points out another category of inflationistas: non-New Classical economists politically aligned with the Republican Party, such as Michael Boskin, Allan Meltzer, Martin Feldstein, and John Taylor. For these guys, Krugman says, it's all political. They perceive expansionary stabilization policy as wise and prudent when a Republican is in the White House, but as liberal folly when the president is a Democrat. This seems reasonable to me. Remember that John Taylor wrote that deficit spending exploded under Carter, when actually it was under Reagan.)
So to sum up, there are three main reasons for predicting inflation, in defiance of both market expectations and recent past experience. These are 1. Commitment to a research paradigm, 2. Emotive expressions of political and personal anger, and 3. Cynical affinity manipulation. None of these things is likely to respond to any amount of data in the short term. None of them depends on correctly predicting or understanding Extant Reality. They are, rather, artifacts of a different kind of reality than the kind that moves the planets in their orbit, lands men on the Moon, and propels cannonballs in nice parabolic arcs into the walls of Constantinople. They are artifacts of Tribal Reality, the kind of reality created by human beings repeating the same words back and forth to each other in order to confirm membership in a group. The war between Extant Reality and Tribal Reality has been raging for millennia, and it will not be resolved by a few years of low inflation.
"As for Europeans, I'm not sure. It might be the past experience of Weimar hyperinflation - remember that wheelbarrow full of cash! - or something having to do with the politics of debtor and creditor nations in the Eurozone. Or just stuffy bureaucratic institutional culture. Anyway, I freely admit that my understanding of Europeans is severely limited."
ReplyDeleteIn the past year I was fortunate to have a long running dialogue with commenters from the Netherlands and Germany. I was flat out told that Northern European macroeconomics is completely different from the rest of the planet’s, and that they don’t teach anything about aggregate demand there.
I asked a German commenter what principles of macroeconomics textbook was most commonly used where he lived, and he said Mankiw (it was Southern Germany). I had him read the section on the AD-AS model and the factors affecting AD (e.g. monetary and fiscal policy). He was shocked to discover that what German economists were saying was totally contradicted by an elementary macroeconomics textbook.
One key to understanding the extraordinary weirdness of European macroeconomics is Walter Euken. In the 1930s, Euken founded a school of economics at the University of Freiburg that came to be known as Ordoliberalism. Ordoliberalism combines a commitment to free markets with a belief in big government, but its primary concern is economic stability.
A German obsession with economic stability is probably understandable in a country that suffered the experience of hyperinflation in the 1920s, deflation and depression in the 1930s, followed by the abuses of state power by the Nazis, which led to a highly destructive and nearly complete economic collapse upon their defeat and occupation at the end of WW II.
But the odd thing to me is how easily the Ordoliberal economic philosophy has come to dominate the rest of Europe, in particular Southern Europe. From my experience Italians and Spaniards are just as dismissive of aggregate demand stimulus as the Dutch and the Germans, if not more so. If you engage them in a discussion about the situation in their countries it quickly devolves into a bizarre display of national self-loathing. All of the problems in their countries it seems are the fault of their poor institutions, or even their inferior cultures. If you try and convince them using quantitative empirical evidence that it is simply a demand side problem they will correct you, insisting that it is mostly a supply side problem: their inefficient tax systems, regulations, labor markets, corruption, poor work ethics etc.
And I’m beginning to wonder if there has been some atrophy in the knowledge of macroeconomic stabilization policy in the eurozone simply due to the foundation of the European monetary system. For example, the Dutch guilder was effectively pegged to the mark from 1983 until the creation of the euro. Thus it’s been at least 30 years since the Netherlands has had an independent economic policy.
It’s almost as though Europe is the Darkest Continent in this Dark Age of Macroeconomics, and that they insist on rediscovering everything they once knew in the hardest and most painfully self-flagellating way possible.
See this is why I don't even try to understand Europeans...
DeleteInteresting.
DeleteI only have experience with the French university eco system and I can guarantee you that Keynes (and Marx...) was taught there.
In the 81 to 83, we had a (back then) new Socialist government try fiscal stimulus to get out of the late 70s crisis. Of course, it didn't end up well and, in 83, the still Socialist government pivoted to a steady, conservative eco management style, not moving much on any given front.
As far as I can tell, the French are still doing that. In terms of discourse, the Right does talk mostly Supply side (too much tax, labour market liberalisation...) and the Left mostly left-ish (redistribution) but no one actually does anything except managing the day to day business...
http://www.ft.com/intl/cms/s/0/91ea6aaa-7720-11df-ba79-00144feabdc0.html
DeleteExplains it all.
Plus you must remember that Germany basically has been running a trade surplus for ever. Germany has a high savings rate and relies on exports to keep aggegate demand up.
Thanks for the link, interesting stuff.
DeleteBTW, my own take on the issue: http://theredbanker.blogspot.com/2013/03/austerity-vs-stimulus-solutions-to-our.html and, for a more political pov of the French situation: http://theredbanker.blogspot.com/2012/10/the-fundamental-issue-of-french-politics.html
Mark I talk for Italy. NOTHING and I say NOTHING is similar to Ordoliberalism. Nothing is similar to every theory that has "liberalism" at all.
DeleteWe are, de facto, a socialist country. As France is.
North Europe is VERY different from here, that's why they don't wanna "help" us (S. countries).
U don't understand Europeans because u don't know how Europe is. Its the same with PK. He talks about Europe as he is talking about USA but they are totally different.
Come to Italy, see how we use our taxes, how is the public spending (http://rebelekonomist.blogspot.com/ it's in italian, but I think with google translate u can understand it) and then we can start to talk seriously
To understand a bit about how the ECB thinks, a good start I think is Jörg Bibow :
Deletehttp://128.118.178.162/eps/mhet/papers/0405/0405005.pdf
As pointed out in the paper, European monetary institutions do not comply with the principles of ordoliberalism. Rather it is a case of central banks displacing democratic governments from economic policy making.
Ordoliberalism bases on the concept of Tinbergen's Assignments, that one policy variable shall just have one entity which is responsible for it. Since many economists and politicians see these strict lines becomming blurred in the last couple of decades, they demand a strict reversion of this process and for everybody to stick to the rules. That is the reason we have the counterproductive fiscal compact, austerity ("pay for your sins" > which are really Germany's underinvestment sins) and Mrs. Merkel getting advise from lawyers in 99% of the time.
DeleteI can't speak for the Germans, but here in the Netherlands, macro is just the standard American curriculum, not completely weird nor different from the rest of the planet at all. Undergraduate is the standard AS-AD, national accounts, Keynes, IS-LM, Philips curve and stuff. Basically, Mankiw (or Fischer and Dornbusch in my case 15 years ago). Graduate level is just Romer, chapter by chapter.
DeleteThere is no outsized obsession with stability or inflation AFAICT. (Inflation in the Netherlands has been higher than EZ-average/ECB-target for quite some time now, but apart from the usual grumbles from Joe Sixpack, the quickly rising unemployment and the imploding housing sector are seen as a much bigger problems.)
Academic economists are very much raised in the American/British tradition (mostly because they all want to publish in America/British journals). For the public (and most politicians), textbook economics (even if they remember anything more than Keynes = government spending in recessions) don't matter at all. The Accepted Wisdom is simply that (in the mid- to long term), balanced budgets are good, and that Southern Europe is full of corrupt and spendthrift types.
Things might be turning around though, since another round of austerity due this fall, is starting to get pretty uncomfortable for many households.
If everyone thinks it's a bubble, why doesn't it pop?
DeleteI'm not going to argue that we have a Central Bank Bubble (I don't even know what that would mean), but I don't buy this as a decisive counterargument. Not everyone believes it's a bubble, and even if they did people can, and often do, continue to invest in things they know to be bubbles.
Lars
Damn, that was supposed to be a freestanding comment, not a reply to Mark.
DeleteInteresting, but I think Europeans =/= ECB. The ECB has the periphery to deal with, and thus needs the inflation bogeyman to stave off demands that they monetize the periphery's unsustainable spending. It's a credibility problem -- they can't even get them to cut spending to 2007 leves, and every broken "no more bailouts!" promise makes a race to the bottom more attractive.
DeleteSo instead, it's recession for all!
@Frederic Mari,
Delete"I only have experience with the French university eco system and I can guarantee you that Keynes (and Marx...) was taught there."
And I'll almost guarantee that they still are. But ask a reasonably well informed French non-economist if they think that aggregate demand is part of the economic curriculum in France and they will probably scoff at the notion.
@reason,
"Explains it all."
Actually it misses it by a country mile.
When small countries need to stimulate demand the first thing they usually think about is exchange rate policy not competitiveness. Policies to encourage competitiveness are of variable effectiveness and suffer from enourmous lags. It's far simpler, easier and immediate to depreciate your currency.
The eurozone has a pegged currency or a "dollarisation" mindset. As I pointed out the Netherlands hasn't had an independent economic policy in 30 years. If you take away monetary and fiscal policy pretty much all you have left is competitiveness as a policy tool. That isn't true of the vast majority of small countries.
"Plus you must remember that Germany basically has been running a trade surplus for ever. Germany has a high savings rate and relies on exports to keep aggegate demand up."
Germany has only been consistently running a trade surplus since 1993 and they only got consistently large in 2002. And prior to 1986 West Germany perpetually ran trade deficits, so evidently my definition of "forever" is somewhat longer than yours.
The problem with the current German approach is that we can't all run trade surpluses at the same time unless we start exporting to the Mars. And ultimately the real key to maintaining trade surpluses is in policies to crush domestic demand which isn't a very smart strategy when a large portion of your currency area is in a depression.
@Mattia Poletti (Rebel Ekonomist),
I read some of your posts. My off-the-cuff response is your posts are mostly gnawing on the edges and not really addressing the central problem of the eurozone which is a lack of aggregate demand.
I realize there are a lot of institutional impediments that prevent both monetary and fiscal stimulus in the eurozone but in order for those impediments to be addressed more Europeans need to start talking about the urgent need for aggregate demand stimulus (after all, it's in your textbooks, right?) and all I see are the same old competitiveness/structural proposals from the right and redistributionist proposals from the left which is enourmously depressing.
And you might find the following survey of Italian economists interesting:
http://www.cide.info/conf/2009/iceee2009_submission_156.pdf
Methodologically about a third of Italian economists describe themselves as "Eclectic" and 17% as "No specific method". Among those that identify with a school of thought by far the most common is "Neo-Classical/Mainstream" (18%). Only 4% classified themselves as "Marxist/Sraffrian/Neo-Marxist".
@anonymous,
Jörg Bibow's paper is very interesting but I'm not really persuaded. As the paper points out, even Milton Friedman was opposed to Central Bank Independence (CBI) as Bibow defines it. The fact remains that the Bundesbank reeks of Ordoliberalism and German central bankers can't utter a single sentence without expressing one of its easy nostrums.
So... you oppose exports to Mars! Global autarkist!
DeleteThe problem with arguing with the German worldview is that in most ways they have one of the most successful and well balanced social and political economies on the planet. Almost alone among the major western nations they have preserved a major manufacturing base that accounts for about 23% of their GDP versus 11% for the Anglo Saxons; their social safety net and public infrastructure is a model to which we could all aspire as are their public finances; they avoid costly military adventurism like the plague; and are the dominant economy in greater European continent. They're not perfect but it's hard to argue with success.
Delete@Brummagem Joe,
Delete1) Manufacturing has been a declining share of world GDP since at least 1970:
http://emerging.uschamber.com/blog/2012/03/manufacturing%E2%80%99s-declining-share-gdp
Arguing that a nation is successful on the basis of their manufacturing share of output is gradually becoming almost as silly as arguing it on the basis of their agricultural share of output.
2) There's a certain hypocrisy in maintaining one's social safety net and public infrastructure while nudging others into dismantle's theirs, no? For example, according to the European Commission's Annual Macro-Economic (AMECO) database from 2007-12 Germany has increased its real general government gross fixed investment by 4.5%, but Ireland and Spain have had to reduce theirs by 59.0% each.
And this was not meant to single Germany out for criticism, only to try and explain how European institutions, particularly eurozone ones, have become so "inflationista" in outlook. Yes, Germany's economic philosophy is working relatively well for Germany (right now). The problem is that it is not doing any good for anybody else.
@Mark You wrong, Ordoliberalism is not "a free market with a belief in big government"
DeleteIt's actually very far from that, the "Ordoliberalism" is a belief in combination of free market and a very limited government intervention they believe in that the government doesn't have to involve in the economy. but there's is a little difference they believe in a few subsidies and loose money the "German Miracle" is a clear example of Ordoliberalist policies in action. Yes they're the ideological fathers of "The Chicado School of Economics" = Neoliberalism = Conservatism.
Mark
DeleteI think you confuse trade balance with current account. Of course Germany always had surpluses from trade. The current account surplus basically results/resulted from massive capital ourflows that are/were the consequence of unfortunate accidents (costs of unification ==> indebted housholds/firms ==> rising costs of capital due to the euro). In contrast this benefitted countries like Spain and Ireland in the 2000s.
And now, how should Ireland and Spain finance their government investment given their foreign debt, negative investment position and rising costs of capital?
@anonymous,
DeletePerhaps instead of "a commitment to free markets with a belief in big government" I should have said "a commitment to free markets with a belief in strong government".
The emphasis on stability is in fact what distinguishes Ordoliberalism from other forms of Neoliberalism. The Chicago School of Economics is far closer to Classical Liberalism in spirit than is Ordoliberalism. In fact Ludwig von Mises pejoratively described Ordoliberalism as "ordo-interventionism" (Page 20):
"...Ludwig von Mises, on the other hand, became equally critical of the neoliberals around Rüstow.67 ‘Ordo liberalism,’ as the neoliberal theory became known in Germany, amounted to not much more than ‘ordo interventionism,’ Mises complained. In Human Action, Mises’ opus magnum, he deals with the fallacies of such Third Way policies in unambiguous words:
"[A]ll these advocates of a middle-of-the-road policy emphasize with the same vigour that they reject Manchesterism and laissez-faire liberalism. It is necessary, they say, that the state interfere with the market phenomena whenever and wherever the ‘free play of the economic forces’ results in conditions that appear as ‘socially’ undesirable ... That means the market is free as long as it does precisely what the government wants it to do. It is ‘free’ to do what the authorities consider to be the ‘right’ things, but not to do what they consider the ‘wrong’ things; the decision concerning what is right and what is wrong rests with the government. Thus the doctrine and the practice of interventionism ultimately tend to abandon what originally distinguished them from outright socialism and to adopt entirely the principles of totalitarian allround planning.68"
In the quotes of Mises and Rüstow we see reflected a schism of liberalism: To Rüstow, old school liberals like Mises were dangerous extremists; to Mises, neoliberals were not much better than totalitarian socialists. In any case, neoliberalism as a concept was clearly established as something quite different from the ‘free market radicalism’ with which it is usually associated today. Neoliberalism, from Rüstow’s 1932 speech to the Colloque Walter Lippmann of 1938, had been the attempt to formulate an anti-capitalist, anti-communist, but half-socialist Third Way..."
http://www.ort.edu.uy/facs/boletininternacionales/contenidos/68/neoliberalism68.pdf
And self-described German adherents of Ordoliberalism have casually described it to me as a "big government" philosophy, perhaps to distinguish it from the laissez-faire tendencies of contemporary American conservatism and libertarianism.
@anonymous,
Delete"I think you confuse trade balance with current account. Of course Germany always had surpluses from trade."
I was getting my numbers from FRED which in turn gets theirs from the OECD:
http://research.stlouisfed.org/fred2/graph/?graph_id=108325&category_id=0
However the OECD's figures include East Germany before East and West were unified.
So yes, according to AMECO, West Germany had a trade surplus every year on data going back to 1960 with the sole exception of 1980.
"And now, how should Ireland and Spain finance their government investment given their foreign debt, negative investment position and rising costs of capital?"
Under the current system that's not possible of course. But simply telling them to be more like Germany isn't much of a solution either is it?
Mark A. Sadowski, with all due respect, I don't know where you pulled that one from. As far as I know, it is pure rubbish.
DeleteOf course Northerners know about AD and about Keynesian stimulus. Actually, from where I write (Portugal), the main economics schools all teach and preach Keynesianism. In fact, Samuelson's Macroeconomics was the leading reference a couple of decades ago, with a bold reinforcement of the 'USSR surpassing the USA in the 80s' prediction thingy. Nowadays, we use Charles Wyplosz and Soskice, two well known New-Keynesians.
I am a supply-side economist and trust me, it was tough arguing with people that know nothing else other than AS/AD and IS/LM. Making sense of the ABCT, even if you disregard Austrian economics, was completely impossible to them. They are absolutely framed by Keynesian economics.
So no, it's not true that Europeans don't know about aggregate demand. Furthermore, again looking at Portugal, it is a clear case of inefficiencies propelled by the gov. Public consumption sky-rocketed, unproductive public investment amounted (we have enough high ways to go from Portugal to India. That's 9000Km for a country that's only 700Km tall and 450Km wide). We have been draining resources from the productive side of the economy and letting the Gov waste them.
And furthermore, the response to the 2007-2008 banking crisis was a general counter-cyclical fiscal policy in the EMU, with all countries showing extremely large fiscal deficits. Portugal, along with Ireland and Greece, was the champ. -9.5% and -10% in 2009-2010. Did it work? Of course not. The shock was mostly from the supply side and so it only hid the problem for a while. Consumer confidence decreased and families started deleveraging. Those fiscal deficits solved nothing, gave origin to millions again wasted (all public schools were subject to construction work of no less than 10M €/per school — it was not investment in Education but rather in senseless concrete. Our schools have now olympic swimming pools but we continue to be laggards in the PISA tests. The result: the level of public debt doubled between 2007 and 2011.
So much for your Keynesian recipe.
The Chicago School of Economics supported the same policies than the Freiburg School. I remember Milton Friedman was neoliberal (of the new style) and he always defends laissez-faire system and today the most radical neoliberals or ultra-conservatives don't release that their policies are more close to be ordoliberal than austrian.
DeleteThe Neoliberals of today support government subsidy programs like the voucher system, privatize the pension system (They usually cited the success of the Chilean Pension System)
Funny: The Moderate Conservatives of the 1920s (Keynes) now are known as "liberals" and the Moderate half-socialist "Ordoliberalism" now known as the radicals laissez-faire theorists.
@Mario,
Delete"Mark A. Sadowski, with all due respect, I don't know where you pulled that one from. As far as I know, it is pure rubbish."
If so, ironically you're helping prove my point. You're the only person from Portugal who has replied to me so far and you reportedly believe Portugal's economic problems are purely supply side in nature. Where are the Portuguese who believe that Portugal's economic problems are demand side in nature?
Look, my point is that the macroeconomics that is taught in European universities is by large the same as everywhere else. And yet European economists and laypersons act as though aggregate demand stimulus is exotic or quaint when in fact it is right there in their textbooks.
"Making sense of the ABCT, even if you disregard Austrian economics, was completely impossible to them. They are absolutely framed by Keynesian economics."
I'm sure there are very few adherents of ABCT in Portugal, as there are throughout Europe. But from my perspective despite using Keynesian terminology and concepts European economists have a remarkable ability to avoid following their models through to their logical conclusions.
"Furthermore, again looking at Portugal, it is a clear case of inefficiencies propelled by the gov. Public consumption sky-rocketed, unproductive public investment amounted (we have enough high ways to go from Portugal to India. That's 9000Km for a country that's only 700Km tall and 450Km wide). We have been draining resources from the productive side of the economy and letting the Gov waste them."
I don't know where you're pulling that road mileage figure from. The two most conventional ways of making international comparisons in road networks are "motorways" (limited-access, divided high-speed road networks) and "total road network". According to the OECD, Portugal has 2,647 km of motorways. Portugal ranks sixth in the EU in terms of motorways per square kilometer behind Germany, BENELUX and Denmark. Portugal has 82,900 km in total road networks which ranks it 15th in terms of total road network per square kilometer in the 27 member EU, so is below the median EU member.
So I gather you're objecting to the motorway network and yes that's a lot of motorway given Portugal's population density. But Portugal ranks sixth among OECD members of the EU in terms of passenger-km per km of total road network behind Italy, Spain, the UK, Germany and the Netherlands (Page 20 Figure 3.5):
http://search.oecd.org/officialdocuments/publicdisplaydocumentpdf/?cote=ECO/WKP(2013)8&docLanguage=En
So the Portuguese use their roads, and I imagine the construction of an extensive motorway system was a means of relieving congestion.
More generally, does Portugal spend a lot on infrastructure?
According to Eurostat, Portugal's general government gross fixed capital formation averaged 3.4% of GDP over 1999-2012 which ranks it 12th in the EU and only just above the median ratio of 3.2%. And in 2012 Portugal's spending on public infrastructure fell to 1.8% of GDP which now ranks it sixth from the bottom in the EU:
http://epp.eurostat.ec.europa.eu/tgm/table.do?tab=table&init=1&language=en&pcode=tec00022&plugin=1
@Mario,
Delete"And furthermore, the response to the 2007-2008 banking crisis was a general counter-cyclical fiscal policy in the EMU, with all countries showing extremely large fiscal deficits. Portugal, along with Ireland and Greece, was the champ. -9.5% and -10% in 2009-2010. Did it work? Of course not. The shock was mostly from the supply side and so it only hid the problem for a while. Consumer confidence decreased and families started deleveraging. Those fiscal deficits solved nothing, gave origin to millions again wasted (all public schools were subject to construction work of no less than 10M €/per school — it was not investment in Education but rather in senseless concrete. Our schools have now olympic swimming pools but we continue to be laggards in the PISA tests. The result: the level of public debt doubled between 2007 and 2011."
Portugal's fiscal stimulus in response to the Great Recession, the Investment and Employment Initiative (IEI), also consisted of spending designed to more generally boost economic activity and exports, raise social protection and employment, and promote renewable energy and energy efficiency, so it wasn't just about pools for schools. Total spending came to 1.3 billion euro or 0.8% of GDP (pages 12-13):
https://aquila.iseg.utl.pt/aquila/getFile.do?method=getFile&fileId=289336&contentContextPath_PATH=/departamentos/ec/lateral/menu-working-papers/nova-serie/2012&_request_checksum_=e6e2ad9af8cfb4d7b93426f72da06269ac2b1dcf
Among OECD members of the EU, as a percent of GDP, this was the smallest fiscal stimulus with the exception of France (0.6%), Italy (balanced tax and spending changes), Greece (no fiscal stimulus at all) and Ireland (fiscal consolidation equal to 4.4% of GDP (page 110 Table 3.1):
http://www.oecd.org/eco/outlook/42421337.pdf
On the other hand, according to the April 2013 IMF Fiscal Monitor, Portugal decreased its general government cyclically adjusted primary balance (CAPB) by 5.2% of potential GDP in 2009 so there is evidence that there was far more discretionary fiscal stimulus than that which was contained in Portugal's IEI. But nevertheless a substantial amount of the increased fiscal deficit was simply related to the severity of the recession (decreased revenues and increased spending on social protections).
http://www.imf.org/external/pubs/ft/fm/2013/01/fmindex.htm
And this was all more than reversed in 2011 when the CAPB was increased by 7.0% of potential GDP. In fact Portugal has tightened its fiscal policy stance more by this measure over 2010-2013 than any European country with the sole exception of Greece.
In short, if there was much fiscal stimulus, it only lasted during 2009-10 and was completely reversed in 2011.
And more to the point, if Portugal's problems are purely of a supply side nature how do you explain that Portugal's implicit GDP price deflator (which measures the price of production) showed year on year deflation during 2012Q1, 2012Q2 and 2012Q3:
https://research.stlouisfed.org/fred2/graph/?graph_id=128194&category_id=0
And that nominal GDP (not real GDP) has fallen over 5% since 2008:
http://research.stlouisfed.org/fred2/series/PRTGDPNQDSMEI
"You're the only person from Portugal who has replied to me so far and you reportedly believe Portugal's economic problems are purely supply side in nature."
DeleteThat is a sample bias. It seems that not many portuguese economists read Noah or refrain from commenting, although I can triple guarantee you that most of them read PK and go nuts everytime he utters one single word.
Of all the economists I know in Portugal, most of them, with a few notable exceptions, are Post or New Keynesian.
"And yet European economists and laypersons act as though aggregate demand stimulus is exotic or quaint when in fact it is right there in their textbooks."
I don't think that's the issue. We're quite aware of aggregate demand issues and a lot of economists in Portugal have been pressing for more consumption. In fact, a lot of them signed a document called "Economists for Public Expenditure" in 2009.
But fortunately that there are still some of us left that attempt to see more than the aggregate demand realm and have long realised that Portugal has been living on consumption and credit for the last decade, loosing pace with the rest of Europe. Our exports are of the homogeneous, price-driven type, which leads to a race to the bottom, our trade balance hasn't seen a surplus for over 15 years.
I've exposed this in my blog. Feel free to use Google Translate.
http://www.ocomite.org/2013/03/18/estrutura-da-economia-portuguesa/
http://www.ocomite.org/2013/03/19/estrutura-da-economia-portuguesa-parte-2/
"According to Eurostat, Portugal's general government gross fixed capital formation averaged 3.4% of GDP over 1999-2012 which ranks it 12th in the EU and only just above the median ratio of 3.2%. And in 2012 Portugal's spending on public infrastructure fell to 1.8% of GDP which now ranks it sixth from the bottom in the EU:"
Statistics lie. Or, at least, they hide the whole truth. A lot of investment projects like highways were financed by the private sector and do not show up on gov FCF since payments are annualised. Eurostat has been changing the rules so that projects of up to 5 years have to be accounted as public investment but not the whole of it is already featured on book-keeping accounts.
"Among OECD members of the EU, as a percent of GDP, this was the smallest fiscal stimulus with the exception of France (0.6%), Italy (balanced tax and spending changes), Greece (no fiscal stimulus at all) and Ireland (fiscal consolidation equal to 4.4% of GDP (page 110 Table 3.1):"
Not true. From the Eurostat you can clearly see that Portugal featured the 3rd biggest fiscal deficit in 2009 and 2010, right after Ireland, which had to bailout banks, and Greece, which is, well, Greece.
http://www.google.com/publicdata/explore?ds=ds22a34krhq5p_&ctype=l&strail=false&bcs=d&nselm=h&met_y=edp_b9_pc_gdp&scale_y=lin&ind_y=false&rdim=country_group&idim=country_group:eu:non-eu&idim=country:pt:fr:el:de&ifdim=country_group&ind=false
"And this was all more than reversed in 2011 when the CAPB was increased by 7.0% of potential GDP. In fact Portugal has tightened its fiscal policy stance more by this measure over 2010-2013 than any European country with the sole exception of Greece. "
DeleteOf course it has. Our debt level has doubled and, guess what, investors weren't that happy with the prospects of unsustainability so they started selling bonds like crazy, raising the interest rates and putting us out of the markets. We are under intervention and subject to a MoU that finally obliges us to proceed with a fiscal consolidation.
"n short, if there was much fiscal stimulus, it only lasted during 2009-10 and was completely reversed in 2011."
Of course, because it solved nothing. We do not have a demand problem. Actually, consumption per GDP was one of the highest in EMU countries, around 70%/GDP, made possible by foreign credit. In fact, the least of our problems was lack of demand. Our trade balance had been negative for a decade (it finally inverted due to a contraction of imports)
"And more to the point, if Portugal's problems are purely of a supply side nature how do you explain that Portugal's implicit GDP price deflator (which measures the price of production) showed year on year deflation during 2012Q1, 2012Q2 and 2012Q3:"
Because all sectors of the economy are deleveraging at once. Gov, families and companies. Also that caused a decrease in consumption which was to be expected but cannot be confused with an AD issue. In fact, we had too much consumption for what we were producing.
Let me develop on this sentence:
Delete"Also that caused a decrease in consumption which was to be expected but cannot be confused with an AD issue"
What I mean is, the decrease in consumption, by itself, is not an aggregate demand issue IF consumption had been considerably higher than its long term rate, which was clearly the case. A decrease in the AD is only worrisome if it goes below its equilibrium rate. If it hadn't been for foreign credit, we would never be able to keep such massive consumption per GDP ratios.
In other words, if it weren't the 2007-2008 banking crisis, something else would trigger a sovereign debt crisis. In fact, if we were on a flexible exchange rate, we would have faced a currency crisis a long time ago. The Euro only backloaded the required AS adjustment towards a more competitive and export-oriented economy.
@Mario,
Delete"That is a sample bias. It seems that not many portuguese economists read Noah or refrain from commenting, although I can triple guarantee you that most of them read PK and go nuts everytime he utters one single word."
I read Krugman's blog and comment section and I can't say I've noticed too many Portuguese economists commenting there but the same general bias of European commenters against aggregate demand stimulus exists there as here. It makes absolutely no difference.
"Of all the economists I know in Portugal, most of them, with a few notable exceptions, are Post or New Keynesian."
I imagine the distribution of Portuguese economists by method is somewhat similar to that of Italian economists as described in this survey:
http://www.cide.info/conf/2009/iceee2009_submission_156.pdf
Methodologically about a third of Italian economists describe themselves as "Eclectic" and 17% as "No specific method". Among those that identify with a school of thought by far the most common is "Neo-Classical/Mainstream" (18%) followed by "Post-Keynesian" (11%) and "Neo-Keynesian" (8%). Only one (0%) classified him or herself as "Austrian".
"I don't think that's the issue. We're quite aware of aggregate demand issues and a lot of economists in Portugal have been pressing for more consumption. In fact, a lot of them signed a document called "Economists for Public Expenditure" in 2009."
Public expenditure consists of both consumption *and* investment. Furthermore I can find absolutely no evidence of a Portuguese document called "Economists for Public Expenditure" in 2009 (I used Google translate).
"Statistics lie. Or, at least, they hide the whole truth. A lot of investment projects like highways were financed by the private sector and do not show up on gov FCF since payments are annualised. Eurostat has been changing the rules so that projects of up to 5 years have to be accounted as public investment but not the whole of it is already featured on book-keeping accounts."
If there is a problem with Eurostat methodology then this supposed downward bias would apply equally to all EU members so it is extremely unlikely that this explains why Portugal's public investment is not significantly higher than the rest of the EU's.
"Not true. From the Eurostat you can clearly see that Portugal featured the 3rd biggest fiscal deficit in 2009 and 2010, right after Ireland, which had to bailout banks, and Greece, which is, well, Greece."
If you're an economist, even an ABCT economist, then surely you realize there is an important distinction between a "fiscal stimulus" and a "fiscal deficit". The cost to Portugal of the "Investment and Employment Initiative" ("Iniciativa para o Investimento e o emprego") came to only 0.8% of GDP as the two sources I referenced above verify. Moreover this same figure crops up in a number of sources available in Portuguese such as this one:
http://ec.europa.eu/economy_finance/economic_governance/sgp/pdf/20_scps/2008-09/01_programme/pt_2009-01-30_sp_pt.pdf
"Of course, because it solved nothing. We do not have a demand problem. Actually, consumption per GDP was one of the highest in EMU countries, around 70%/GDP, made possible by foreign credit. In fact, the least of our problems was lack of demand. Our trade balance had been negative for a decade (it finally inverted due to a contraction of imports)"
DeleteTo be technical, aggregate demand (AD) is nominal GDP (NGDP) when inventory levels are static (i.e. nominal Final Sales of Domestic Product). Thus for all intents and purposes AD is virtually identical to NGDP. Thus AD not only includes consumption, it also includes investment, government spending and net exports as well. Furthermore, since it includes net exports, imports actually subtract from AD. However, a decline in domestic demand may often lead to an improvement in the trade balance as you imply.
"Because all sectors of the economy are deleveraging at once. Gov, families and companies. Also that caused a decrease in consumption which was to be expected but cannot be confused with an AD issue. In fact, we had too much consumption for what we were producing."
Deleveraging is purely a demand side issue as it affects the level of spending on final goods and services and not the level of output that is supplied by firms at various potential price levels. Moreover given an upwardly sloped short run AS curve and a downwardly sloped AD curve there is no coherent way that a shift in the AS curve can cause deflation *and* a decrease in real output.
http://1.bp.blogspot.com/_JqNx8yXnFE8/SxlWoq_PI8I/AAAAAAAABCg/7y9VXIleCrs/s320/Tabarrok-Cowen+ADAS.JPG
"I imagine the distribution of Portuguese economists by method is somewhat similar to that of Italian economists as described in this survey:"
DeletePlease, don't. Otherwise I will claim that the distribution of cactus in the USA is somewhat similar to that of Canada, since both countries are in North America. Your argument doesn't hold simply because we are both latins and localted in southern Europe. Although, to the best of my knowledge, no such study exists to Portugal, my experience with the three leading schools in Portugal, namely FEP, U Nova and ISEG is that the majority aligns itself with Keynesian economics and their frame of mind is always in terms of IS/LM, AS/AD and Mundell-Flemming. The farthest they go with neo classics is perhaps, including the Taylor rule in IS-PC-MR.
"Public expenditure consists of both consumption *and* investment. Furthermore I can find absolutely no evidence of a Portuguese document called "Economists for Public Expenditure" in 2009 (I used Google translate)."
It was a manifest and it is available here.
http://blogoexisto.blogspot.pt/2009/06/o-debate-deve-ser-centrado-em.html
Fortunately that, very recently, another handful of economists signed one manifest advising for the reduction of public expenditure.
http://sol.sapo.pt/inicio/Economia/Interior.aspx?content_id=72325
"If there is a problem with Eurostat methodology then this supposed downward bias would apply equally to all EU members so it is extremely unlikely that this explains why Portugal's public investment is not significantly higher than the rest of the EU's."
It applies with the greatest impact on those countries trying to trick and downplay the Eurostat, like Greece did (advised by Goldman Sachs) and, lo and behold, Portugal. The northerners go by the book.
"If you're an economist, even an ABCT economist, then surely you realize there is an important distinction between a "fiscal stimulus" and a "fiscal deficit". The cost to Portugal of the "Investment and Employment Initiative" ("Iniciativa para o Investimento e o emprego") came to only 0.8% of GDP as the two sources I referenced above verify. Moreover this same figure crops up in a number of sources available in Portuguese such as this one:"
First off, as you certainly know, there's no such thing as an ABCT economist. It's an Austrian business cycle theory and the point of talking about it was simply to show to you that most of the economists in Portugal are not even aware of such thing. They only know about NK AS/AD, Samuelson's accelerator-multiplier and a little bit of RBC, of which they usually disregard as useless (my lecturer laughed in a sarcastic way when talking about it).
Secondly, what you are talking about is the QREN program, which only accounts for the subsidies given to private companies which is a really small part of the story. And most of it is not with no expected return, only a small share.
http://www.qren.pt/np4/1413.html
If you decompose the public deficit for those years, you will see that only in 2009 did the tax revenue decrease and in 2010 it actually increased to its biggest value ever.
http://pordata.pt/en/Portugal/Public+Administration+expenditure++revenue+and+public+deficit-809
Moreover, if you decompose public expenditure for those two years, you will see a considerable increase of investment in concrete for schools, which I ought not to consider investment in Education, redundant high ways, bailing out banks that were not insolvent due to the subprime crisis (our banks weren't exposed) but rather due to sheer corruption (cf. BPN) and in social transfers.
So, very roughly, the fiscal deficit for the years of 2009-2010 is a good proxy to fiscal stimulus. Oh, and they decreased VAT by 1%, which they reverted one year afterwards.
"Deleveraging is purely a demand side issue as it affects the level of spending on final goods and services and not the level of output that is supplied by firms at various potential price levels. Moreover given an upwardly sloped short run AS curve and a downwardly sloped AD curve there is no coherent way that a shift in the AS curve can cause deflation *and* a decrease in real output. "
DeleteThe decrease in aggregate demand was a consequence, not a cause, that's why your analysis doesn't fit the events. One of the reasons being that prices weren't so sticky at all — in order to compensate for the lack of customers, companies started decreasing their margins and prices to become more competitive. In fact, I personally know of no company that raised prices at the beggining of the year, something that used to happen. Expect for high tech capital and other imported goods, non-transactable goods and services saw a massive decrease in prices, as well as a considerable drop in output, both nominal and real.
You advocate for more orthodoxy following Keynesian models. From what I gather from this conversation, it seems like more of a handicap to me.
Mario,
Delete"Please, don't. Otherwise I will claim that the distribution of cactus in the USA is somewhat similar to that of Canada, since both countries are in North America. Your argument doesn't hold simply because we are both latins and localted in southern Europe."
Canadians will deny it of course but there are a lot of similarities in terms of the distribution of economists by methodology in both countries.
My general impression is that Europe in general has a lot more New Classical economists than are found in the US, and in fact the US' New Classical economists tend to be confined to the Great Lakes region and they will often deny that such a school of economics even exists. Europe also has a lot of Post Keynesians whereas in the US that school tends to be clustered in only a few departments. However, whereas New Keynesian economics is clearly dominant in the US, it is far from dominant in Europe.
"It was a manifest and it is available here."
Well, it's a good job you showed me the link because I would never have been able to find that manifesto otherwise. In contrast this manifesto that also came out in June 2009 and was signed by some thirty odd top Portuguese economists saying no to high speed rail and other public investments was very easy to find:
http://static.publico.pt/docs/economia/apelo_economistas.pdf
"It applies with the greatest impact on those countries trying to trick and downplay the Eurostat, like Greece did (advised by Goldman Sachs) and, lo and behold, Portugal. The northerners go by the book."
Naturally there is no way of verifying this claim.
"First off, as you certainly know, there's no such thing as an ABCT economist. It's an Austrian business cycle theory and the point of talking about it was simply to show to you that most of the economists in Portugal are not even aware of such thing."
Well there are a number of American economists who describe themselves as of the "Austrian economics" school and "Austrians" are clustered in much the same way Post Keynesians are here (albeit different schools of course). And I understand it is much rarer in Europe but it still exists.
Mario,
Delete"Secondly, what you are talking about is the QREN program, which only accounts for the subsidies given to private companies which is a really small part of the story. And most of it is not with no expected return, only a small share.
The 0.8% of GDP "Investment and Employment Initiative" (IEI) was the only *discretionary fiscal stimulus* that Portugal did in response to the Great Recession. Period. End of story.
"If you decompose the public deficit for those years, you will see that only in 2009 did the tax revenue decrease and in 2010 it actually increased to its biggest value ever."
You'll also notice that expenditures grew at an average rate of 4.8% in 2000-08, which admittedly was faster than the 3.8% average rate of growth of nominal GDP. Over 2009 and 2010 expenditures grew faster than normal but by 2011 they were below trend and by 2012 they were only 1.7% larger in nominal terms than they were four years earlier.
"Moreover, if you decompose public expenditure for those two years, you will see a considerable increase of investment in concrete for schools, which I ought not to consider investment in Education, redundant high ways, bailing out banks that were not insolvent due to the subprime crisis (our banks weren't exposed) but rather due to sheer corruption (cf. BPN) and in social transfers."
General government gross fixed capital formation increased from 5,059.4 million euro in 2008 to 5,060.3 million euro in 2009 or an increase of only 900,000 euros in nominal terms. The amount spent on renovating secondary schools under the 2009 fiscal stimulus came to about 300 million euro, or less than a quarter of the 1.3 billion euro total amount of the discretionary fiscal stimulus, and less than 0.2% of GDP.
"So, very roughly, the fiscal deficit for the years of 2009-2010 is a good proxy to fiscal stimulus. Oh, and they decreased VAT by 1%, which they reverted one year afterwards."
First of all the VAT decrease was announced in March 2008 long before anyone knew Portugal was in recession, so it could not possibly have been part of any fiscal policy response to the recession. Second, the VAT decrease became effective in July 2008, and as you note was reversed in July 2010. Third, total VAT revenue came to 11.7 billion euro in 2009 or 7.0% of GDP. Thus the amount of lost revenue due to the VAT decrease was probably trivial at best, and only accounts for a small fraction of the decreased revenue that occurred in 2009.
To claim that the entire deficit in 2009 and 2010 (10.2% and 9.8% of GDP respectively) was due to a fiscal stimulus is simply absurd given Portugal already had a general government deficit of 3.2% and 3.7% of GDP in 2007 and 2008, and that Portugal's real GDP declined by 2.9% from 2008 to 2009. The decline in real GDP in 2009, and the relatively slow recovery in 2010 (real GDP grew by 1.8%), by themselves explain the huge shortfall in revenue in 2009 and 2010, and expenditures necessarily increased as unemployment rose to over 12%. Thus the increase in the deficit in 2009 and 2010 is almost entirely accounted for by the recession and only a tiny proportion can be explained by discretionary fiscal policy moves on the part of the government.
Mario,
Delete"The decrease in aggregate demand was a consequence, not a cause, that's why your analysis doesn't fit the events. One of the reasons being that prices weren't so sticky at all — in order to compensate for the lack of customers, companies started decreasing their margins and prices to become more competitive. In fact, I personally know of no company that raised prices at the beggining of the year, something that used to happen. Expect for high tech capital and other imported goods, non-transactable goods and services saw a massive decrease in prices, as well as a considerable drop in output, both nominal and real."
All of this is extremely consistent with a leftward shift in the aggregate demand (AD) curve given an upwardly sloped aggregate supply (AS) curve. On the other hand there is simply no coherent way that a shift in the AS curve can cause disinflation *and* a decrease in real output given an downwardly sloped AD curve.
"And I’m beginning to wonder if there has been some atrophy in the knowledge of macroeconomic stabilization policy in the eurozone simply due to the foundation of the European monetary system. For example, the Dutch guilder was effectively pegged to the mark from 1983 until the creation of the euro. Thus it’s been at least 30 years since the Netherlands has had an independent economic policy."
DeleteYesyes, the Dutch should definitely be considered Neanderthals when it comes to monetary policy. Duisenberg had nothing to do with monetary policy in Europe between 1998 and 2003.
I'm curious who came up with the idea of putting Bernanke in charge at the FED, because I don't think Georgia State has had an independent monetary policy EVER. For that matter, I don't think any American can reasonably qualify to be a policy maker (judging by your standards)
@Anonymous,
Delete"Yesyes, the Dutch should definitely be considered Neanderthals when it comes to monetary policy. Duisenberg had nothing to do with monetary policy in Europe between 1998 and 2003."
A Neanderthal likely never possessed any knowledge to atrophy. A much better analogy is Theodoric of York who, practicing medicine in European Dark Ages, thought bloodletting was the appropriate treatment no matter what the ailment.
http://www.nbc.com/saturday-night-live/video/theodoric-of-york/n8661/
Wim Duisenberg is good example of what I am talking about. Duisenberg, served as the Dutch Minister of Finance in the 1970s, and as the President of the Central Bank of the Netherlands in the 1980s and 1990s, and evidently was the last Dutch economist to possess any knowledge of macroeconomic stabilization policy.
Alas, Duisenberg died in 2005. Who are the faces of Dutch fiscal and monetary policy making today? Dijsselbloem and Knot (aka "Dieselbomb and Knothead").
"Jeroen Dijsselbloem has been pilloried for his remarks following the conclusion of a deal with Cyprus. But is the assault just self-interested finance apologists (like, presumably, me) appalled at having their snouts removed from the public trough? Or are digs about his qualifications proving justified?"
http://pawelmorski.com/2013/03/27/europe-no-need-to-worry-the-fires-downstairs/
"European Central Bank Governing Council member Klaas Knot said on Friday there was "little wrong" with Eurogroup chair Jeroen Dijsselbloem's recipe for dealing with future euro zone banking crises, a newspaper reported.
Dijsselbloem, the head of the euro zone's finance ministers and like Knot a Dutchman, said on Monday the rescue program agreed for Cyprus - the first to impose a levy on bank deposits - would serve as a model for future crises.
Those comments - which Dijsselbloem later rowed back on -prompted a market selloff and led two other ECB policymakers, including executive board member Benoit Coeure, to say on Tuesday that Cyprus was a unique case.
But Knot, who sits on the bank's main decision-making body, said: "There is little wrong with Dijsselbloem's remarks."
http://www.reuters.com/article/2013/03/29/us-eurozone-cyprus-ecb-knot-idUSBRE92S05P20130329
Anonymous:
Delete"I'm curious who came up with the idea of putting Bernanke in charge at the FED, because I don't think Georgia State has had an independent monetary policy EVER. For that matter, I don't think any American can reasonably qualify to be a policy maker (judging by your standards)"
How is it that the American monetary union has managed to preserve the knowledge of macroeconomic stabilization policy while the European monetary union has not?
Probably because:
1) The Fed has a monetary policy which at least pays lip service to the output gap via its "maximum employment" mandate. In contrast the ECB has a single minded focus on Inflation Targeting (IT), which in turn is supported by the European Commission's Output Gap Working Group, who's sole mission is evidently to prove that there is no such thing as an output gap, or as less than full employment, in all of Europe.
2) The US has a true fiscal union (i.e. automatic fiscal transfer mechanisms) which, thanks to Peter Kenen, Optimum Currency Area Theory (OCA) established was an important attribute of any currency union all the way back in 1969. The European idea of a fiscal union is the Stability and Growth Pact (SGP), which has an Orwellian name (it really should be called the Instability and Depression Pact), and fundamentally is really a pledge to remain completely fiscally divided.
3) The US has an authentic banking union (i.e. a single supervisory mechanism, a common resolution structure and a shared deposit insurance). In Europe they jointly agreed to raise the deposit insurance limits in the wake of the 2008 financial crisis, despite the fact that in several countries (e.g. Belgium, Cyprus, France, Ireland, Luxembourg, Malta, etc.) the assets of a single bank (sometimes more than one) are larger than the entire GDP of the country where it (they) is (are) incorporated, and thus it was really a completely empty gesture.
This helps to explain why, when the Fed was wrapping up QE2 (the ECB has never done even one euro of QE), the ECB instead was raising the Main Refinancing Operations (MRO) rate not once, but twice, in April and July 2011 to 1.50% setting off the next round of sovereign debt crises.
I guess this is also what happens when your central bank president (Trichet) is a mining engineer rather than a monetary economist.
"On the other hand there is simply no coherent way that a shift in the AS curve can cause disinflation *and* a decrease in real output given an downwardly sloped AD curve."
DeleteThe AS curve shifted leftwards and, as a consequence (and not a cause) of the deleveraging imposed on us due to the rising yields of the treasury bonds and credit default swaps over German bonds, so did the AD curve shift downward. But the AD curve shifted because it had been supported by credit (take a look at the evolution of private and public credit, especially the sky-rocketing public debt).
Even within an AS/AD framework the Portuguese problem can be explained: our consumption had been propelled by credit for years. The moment you have to pay for it — such moment has come — please start deleveraging, less disposable income due to servicing debts, less consumption and investment, a contraction in AD. There's no way around this. The Austrians know it perfectly well. Upon such a boom caused by massive credit, there's no way around saving more and paying for debts. That's exactly what's been happening.
"The US has a true fiscal union (i.e. automatic fiscal transfer mechanisms) which, thanks to Peter Kenen, Optimum Currency Area Theory (OCA)"
DeleteThanks to Mundell, you mean.
Regarding the Euro, the monetary union was an economic mistake as it was built over such a fragile system. A lot of economists warned about the cultural and social barriers to employment relocation and the lack of fiscal transfers, including Mundell. Also, small countries like Portugal lost of ability of absorbing asymmetric shocks through a self-adjusting currency. On the other hand, I feel safer not having our policy makers playing levers with monetary policy and money printing as they are fairly incompetent.
Unfortunately, the real adjustments required to regain competitiveness are hard to attain.
@Mário Amorim Lopes,
Delete"The AS curve shifted leftwards and, as a consequence (and not a cause) of the deleveraging imposed on us due to the rising yields of the treasury bonds and credit default swaps over German bonds, so did the AD curve shift downward. But the AD curve shifted because it had been supported by credit (take a look at the evolution of private and public credit, especially the sky-rocketing public debt)."
The first decline in real GDP occured in 2008Q1. Year on year inflation as measured by the implicit GDP deflator had been trending down since 2007Q1 and was only 1.8% in 2008Q1 so clearly it was a decrease in AD which caused the recession, not a decrease in AS since that would have led to an increase in inflation.
The spread between Portuguese bonds nf German bonds was less than 30 basis points prior to that. It increased to 166 basis points by March 2009 before falling to 58 basis points by November 2009. The spread then rose more or less steadily before reaching its peak of 1203 basis points in January 2012:
http://thefaintofheart.files.wordpress.com/2013/06/sadowski3_9.png
The point is of course that Portugal's bond spreads rose *after* the recession started, a recession that was itself caused by a decrease in AD.
Furthermore gross general government debt only rose by more than 10% of GDP in 2009, 2010, 2011 and 2012, or after the recession started. In fact the biggest increase occured in 2012 when it rose from 108% to 123% of GDP or an increase of 15% of GDP. This was more than the entire increase in public debt from 54% of GDP in 2002 to 68% of GDP in 2007:
http://www.imf.org/external/pubs/ft/weo/2013/01/weodata/weorept.aspx?sy=1999&ey=2013&scsm=1&ssd=1&sort=country&ds=.&br=1&c=182&s=GGXWDG_NGDP&grp=0&a=&pr.x=54&pr.y=10
"Even within an AS/AD framework the Portuguese problem can be explained: our consumption had been propelled by credit for years. The moment you have to pay for it — such moment has come — please start deleveraging, less disposable income due to servicing debts, less consumption and investment, a contraction in AD. There's no way around this. The Austrians know it perfectly well. Upon such a boom caused by massive credit, there's no way around saving more and paying for debts. That's exactly what's been happening."
The fact that Portugal was borrowing prior to the recession is irrelevant. There are two ways of reducing leverage. one way is to simply pay down the debt, which could take years if not decades. The other way is to increase nominal GDP. Given nominal GDP was actually 4% smaller in 2012 than in 2008 and Portugal's nominal GDP had grown at an average rate of 3.8% annually from 2000-08, this means Portugal's nominal GDP was 20% smaller than it might have been had it continued to grow at that rate. If that alone had happened public debt would only have been 98% of GDP instead of 123% of GDP. Moreover tax revenue likely would have been much greater meaning public debt would have been smaller still.
Nominal growth is a much better way of reducing leverage.
@Mário Amorim Lopes,
Delete"Thanks to Mundell, you mean."
No, I mean thanks to Peter Kenen.
Robert Mundell's paper on Optimal Currency Area Theory ("A Theory of Optimum Currency Areas". American Economic Review 51 (4): 657–665, 1961) was probably the first paper on the subject, but it stressed labor mobility. That is, you don’t need as much policy independence if unemployed workers can move to where the jobs are.
Peter Kenen's chapter ("The Theory of Optimum Currency Areas: An Eclectic View", in Mundell and Swoboda (eds), Monetary Problems of the International Economy, Chicago University Press, 1969) stressed fiscal integration. That is, if countries or regions share common budgets for major programs, there will be a lot of automatic compensation for asymmetric shocks.
"Regarding the Euro, the monetary union was an economic mistake as it was built over such a fragile system. A lot of economists warned about the cultural and social barriers to employment relocation and the lack of fiscal transfers, including Mundell."
Actually Robert Mundell warned about lack of labor mobility, not the lack of fiscal transfers. In fact he still does not believe in the need for fiscal transfers:
"He dismisses the claims of critics who say that the euro was a mistake because Europe is not a fiscal union. “Very few countries in the world have a fiscal union. It would be almost impossible for a large country to have a complete fiscal union. Canada and the United States do not.”"
http://opinion.financialpost.com/2012/06/08/robert-mundell-euro-is-here-to-stay/
In my opinion it is Kenen, not Mundell, who is the best guide to problems in the eurozone right now. In fact labor mobility within the eurozone is actually worsening the economic situation, making the euro even less viable. The high rates of emigration among young people in the eurozone's hardest hit countries, which is not surprising when you consider the levels of youth unemployment, are reducing the future tax bases needed to sustain the the retirement programs in those countries.
The combination of relatively high labor mobility with a complete lack of currency area fiscal integration is proving to be a disaster.
"Also, small countries like Portugal lost of ability of absorbing asymmetric shocks through a self-adjusting currency. On the other hand, I feel safer not having our policy makers playing levers with monetary policy and money printing as they are fairly incompetent."
I'm sorry you have so little regard for your own policymakers. It seems quite obvious to me that the ECB has done far worse.
"Unfortunately, the real adjustments required to regain competitiveness are hard to attain."
Nominal adjustments through an authentic rules based monetary policy would be far easier to attain.
Several things seem to have got jumbled up here.
DeleteFirst, Marx and Keynes are taught in economics degrees all over Europe, but:
-- not everyone takes a degree in economics;
-- Marx is usually taught as part of Economic History;
-- Keynes is misunderstood by most, including several comments in this thread;
Frederic: I'm French and never took an economics class. As you know the best students are channelled to the engineering degrees. I learned all my economics in the UK where I went afterwards, not in France. None of my French relatives have ever taken a class about Keynes, and most have never heard of him. My British relatives (cousins, uncles,etc.) can talk about Keynes for hours, even though they may misunderstanding his "message." So big, big difference there.
Take any (and I do mean any) of our French presidents. Name one who has taken a class in economics. (De Gaulle, Pompidou, Mitterrand, Chirac, Sarkozy: any economics 101 there? I don't think so). By contrast, consider any UK prime minister. Most graduate in PPE from Oxford (Philosophy, Politics, Economics).
And lastly, Keynes misunderstood: I mean, comments on this thread show that many don't even understand that that there are two sides to a trade, hence the "demand" and "supply" sides. In the long run, the demand is clearly the side that shapes the direction of things (without demand for oil, no-one would dig so deep, etc.). In the medium run, the supply side matters more (distortions are costly). In the short run, it depends on what just happened. Sometime you've had a very large shock that has disturbed the system so much that very large changes in prices are required to get back to an equilibrium, and as the prices don't change fast enough the quantity has to give, and once the quantity has given, price changes can become perverse: Keynes.
I have described it in an abstract way on purpose: if you can make sense of the previous paragraph, then you understand Keynes, otherwise you need to read him or, better still, read Krugman's blog.
"Warnings about inflation plays well with the middle-aged rich conservative dudes who remember the 70s and identify easy money with liberalism."
ReplyDeleteWhat do they really remember? The oil shock? First the embargo, then OPEC raising the prices? Industry investing in newer, more energy-efficient equipment, turning an oil shortage into an oil glut? Inflation being fought by raising interest rates to astronomical levels, inducing recession, then ending recession by lowering rates back down to normal levels?
I don't think so (I have to infer what they think because I'm long past middle age and not rich). I think what they remember is the constant refrain that the inflation was being caused by wage demands and was finally crushed by decimating the workers. And they loved it! Afterward Volcker referred to how he put fear in the hearts of "the traumatized workforce" by spilling so much "blood."
DeleteLyndon B Johnson launched a War on Poverty which produced a hefty 4% GDP per capita growth each year (IIRC only Roosevelt has done better). This also happened to press unemployment below it's natural levels which sparked wage inflation. Of course, from our perspective 3% inflation is not so bad but used to the low low inflation of the Gold Standard that seemed like a minor crisis at the time. Republicans have ever since tried to denigrate LBJ's economic accomplishments by saying he gave birth to the inflation monster that took off under Nixon. That sort of ignores Nixon's irresponsible actions that allowed the inflation monster to grow. The only thing conservatives seem to have learned from Nixon's time is that price controls don't work, nevermind that Nixon sabotaged the price control agency while telling Fed President Burns to keep interest rates low, because hey, price controls will keep inflation in check. Nixon was opposed to controls but was happy to essentially jawbone inflation down until he was re-elected, while hopefully making America love him with high growth though easy money policies. Well, he did get re-elected even though inflation jumped up again during the campaign. After the re-election they could have tamped down on it, but then the oil-crisis happened and pushed inflation into the double digits.
DeleteNice point there. In fact 3% inflation is a good thing.
DeleteRegading the Nixon/Ford/Carter-era inflation mess:
There was a major crop failure in Russia, followed by the first oil crisis, followed by wage & price controls, followed by the second oil crisis.
In an economy entirely dependent on food and oil, the prices of grain and oil are going to feed through into everything and create cost-push inflation, and there's no way around it, no way except engineering a recession (which is a bad choice).
I contend that (apart from the price-control induced mess, which was its own thing and a really big mess) this was cost-push inflation.
BTW, reading Matt O'Brien, I've always thought that inflation fears were overdone but I am not as convinced as him that stagflation is not a real possibility (I mean, if inflation is 1 to 2% and wages are stagnating or going down - i.e. between 0 and minus 2% for the bottom 50% or even 75% of the income distribution - is it not already a stagflation of sort?).
ReplyDeleteAlso, I think 'financial stability' might indeed be an admission of defeat but the recent turmoil at the announcement of tapering off QE purchases shows, imho, that no one really knows what are the fundamentals anymore and the markets may well over-react/panic/get destabilized at the slightest hint that it's no longer 'business as usual'...
What is Mark talking about? I did my business undergrad in Portugal with plenty of classes on macro, micro, etc. All my textbooks where American. I've never hear of Ordoliberalism...
ReplyDeleteSuppose one believed:
ReplyDelete1. The size of central banks' balance sheets is unsustainably large.
2. The only thing that prevents those unsustainably large balance sheets causing a big inflation is a bubble in the demand for central bank liabilities.
3. Eventually that bubble will burst, and when it does there will be a big inflation...
4. ...unless central banks reduce their balance sheets (and/or raise interest on reserves) when it does burst, (as I think they probably will, and BTW they only increased their balance sheets in the first place *because* there was a bubble in the demand for their liabilities).
I think that 1,2,3,4 are a sensible set of beliefs. But leave out 4 (or replace my "probably will" with "probably won't"), and you have an inflationista.
If the price of GM stock is a true random walk, and the price today is $10.00, and I predict "At some point, GM stock will hit $7.50", my prediction is guaranteed to come true given a long enough time horizon, and yet $7.50 is not the optimal forecast for the price at any future time t.
DeleteNoah; true. But suppose the price of GM stock were composed of 2 components: a random walk; a quadrupling if a roulette wheel came up zero. Someone who believed in that roulette wheel component would believe something genuinely different from someone else who didn't. And there is presumably some way to test between the two hypotheses. (It's a bit like the Peso problem.)
Delete(Actually, "dropping by 25%" would be better in my above comment than "quadrupling", to keep my metaphor the same as yours.)
DeleteAnd BTW, for those of us who believe the problem is a shortage of AD, and who want to increase expected inflation (expected NGDP would be better, but never mind), the inflationistas are our friends. Just as long as they don't get their hands on the policy levers. The whole point of monetary policy communication at the ZLB is to create more inflationistas! We should be cheering them on, and saying "Yes, you do have a point!"
DeleteDefine 'large' and 'unsustainable'... Why do you say it's large? Why do you say it's unsustainable?
DeleteDefine 'eventually the bubble will burst'.
I mean, I don't entirely disagree - The B/S of CB/the Fed got large. At 'some point', they'll have to reduce it - when the economy gets better.
What are the chances of the economy getting brutally and suddenly better?
About nil? Sounds right to me...
Frederic: IIRC, the US Fed's balance sheet as a ratio to NGDP is about double what it normally has been historically? Whatever. But if I am right about the "double" bit, "large" means "around a doubling of the price level, relative to trend".
DeleteThe "when" bit is the tricky bit, because that depends so much on the Fed's announced policy and communications. If the Fed were stupid enough, it could keep the bubble going at least as long as the BoJ has kept its recession going (until now?). I think the US economy is starting to recover now. I could be wrong though. And if the Fed says something really stupid, I will be wrong. The probability of recovery is an increasing function of the difference between inflationista sentiment in the general public and inflationista sentiment in the Fed. ("The Fed is creating inflation!" minus "We at the Fed need to stop creating inflation!")
I'm a lot more optimistic than you though. I think there's around a 50% chance
Nick:
DeleteWhat you need to do is to make a time-sensitive prediction. If the stochastic driver of a random walk has support over all possible realizations, then it is certain that given a long enough delay we will see a 25% decline over a time interval of any chosen length, even with no roulette wheel.
And this may in fact be an analogy that is too generous to the inflationistas. Suppose I have a theory that says that if I put a Brazilian flag in front of my house for N days, a giant purple chicken will magically appear and shit platinum bricks all over my front yard. When I fly my flag for N days and no chicken is forthcoming, I simply revise my theory such that N --> 2N. Thus my theory is never disproven. How long must we experience low inflation before we expect people to reject theories that say that "money-printing causes inflation"?
Anyway, the inflationistas are NOT our friends. All their dire warnings have bounced off the market, which still says it expects low low inflation for many years. But the inflationistas may have had some influence on policymakers at the Fed, causing them to "taper" early, etc. So, nice attempt to be cute, but the reality is that inflationistas are likely to push inflation expectations - and inflation - lower rather than higher.
So why do the inflationistas have so little influence on market prices. I thought they were all rich? Evidently not rich enough. I propose massive regressive distribution to make them even richer so they will make big enough bets to move markets.
DeleteThe reserve component of the Fed's balance sheet has nothing to do with the "demand for money" in the monetarist sense, since reserves are yielding more than short term bonds. Only if there's a yield penalty of holding money can the quantity be considered a measure of money demand.
DeleteThe currency component has increased (as a % of GDP) also, but that is complicated by the fact that the USD is used outside the US. It's not clear that currency inside the US has increased.
It seems to me that all you economic/finance types have made this discussion more technical than it needs to be.
DeleteWhat possible reason is there for believe the inverse of Nick's #4?
It's one thing to think there will be frictions or challenges for the Fed to shrink its balance sheet, but to believe that it either won't (given its substantially demonstrated commitment to staying below its inflation target) or entirely can't seems pretty unreasonable to me.
There appears to be a coordination problem within the cheering classes. I personally am exhausted at the fed yelling "Hold that line, hold that line." Would everyone, but the inflatonistas please be quiet, so that we can observe the results of their enthusiasm.
DeleteI think "unsustainably large balance sheet" is a problematic assumption when a central bank can buy every asset in existence.
Delete"Frederic: IIRC, the US Fed's balance sheet as a ratio to NGDP is about double what it normally has been historically?"
Mark Sadowski posted on this a little while back, the Fed balance sheet has been higher than this in the past.
Really though, everyone seems to be missing the relevant point here re QE: the Fed is fighting its own target. Expectations uber alles -- the 2% target is still much, much more important than anything the Fed does in the short term, because it implies it will all be unwound anyway. The only guy who can beat up Short Term Chuck Norris is Long Term Chuck Norris.
I'll toss a theory in your general direction on the European affinity for Inflationism. It's derived from an observation of Krugman's on Currency Area Theory as relates to the Gold Standard/Free Silver debate of yore: Basically that prior to the New Deal, during the Long Depression, the Dollarzone was like the Eurozone now. Debt deflation in the peripheral states was feeding relative stability and prosperity in the more developed. (Logically, internal Current Account imbalances in favor of the wealthier areas of the US must still be endemic and only partially offset by the redistributive effects of the Federal taxation versus spending, otherwise the cumulative effect of all that Federal largesse on the poorer states ought to have made them a lot less poor, oughtn't it?)
ReplyDeleteIf we accept that the Euro has stacked the economic deck in favor of the more developed member states via the systemic current account imbalance, then it follows that Germany and the Benelux usual suspects are doing relatively alright in the crisis... which they are. While the PIIGS states are being raped, which they are.
What we have here then is a self-serving rationalization.
The Northerners are seeing that they are prospering and are being presented with two narratives:
1) This has nothing whatsoever to do with our virtues or the vices of the PIIGS citizens, it's a structural problem caused by the Euro. We need to either run up inflation zone-wide or implement a Fiscal Union to offset the imbalance.
2) We deserve our current prosperity because we're virtuous and the PIIGS are reaping the reward of their profligacy. There's nothing whatsoever wrong with us.
Which do you think they're gonna pick?
That hypothesis doesn't quite fit reality because:
Delete(A) The Northerners are NOT prospering and can SEE that they are not prospering. Even in Germany, "Haartz IV" is being protested as people complain about dropping wages and worsening work conditions.
So let's amend your hypothesis and make it "The *0.1%*, the *elite*, can see that they are prospering and are being presented with two narratives:..."
and then I think you have a good hypothesis.
The word bubble is rather inflammatory. It's a tautology that there is a surge in demand for CB liabilities, but a large increase in demand isn't always and everywhere a bubble. It certainly isn't usefully described by the word bubble in as much as bubble has a popular definition (even if the meaning is lacking any rigor and precision) which clearly is not in any way satisfied by the increase in CB liabilities.
ReplyDeleteIt seems pretty clear CBs are simply trying to clear the market and with the ZLB have to find creative ways to push down the price to the point the market clears.
The size of the balance sheet has close to zero implication for future inflation relative to any other point in CB activity. The likelihood that CBs have rates too low or policy too loose in the future, and do so for such an extended period of time that the output gap collapses and a wage spiral begins and expectations for long-term inflation get pushed dramatically higher on the view that CBs will continue to be stupid incompetent and wrong for years into the future. And that this would happen while the overwhelming political pressure is to be conservative and deflationary with both fiscal and monetary policy, is frankly a view that is not worth contorting oneself to offer a sensible set of beliefs to support.
It's very simple, inflationistas are politically motivated, any association with their views and reasonable macro assumptions is strictly coincidental.
In my opinion.
To present Bob Murphy as a leading figure of the Austrian school is misleading, b/c there isn't one "Austrian" school--there are two main wings today: the Mises Institute and GMU. The former is strongly influenced by Rothbard (and his inflation fears), and the latter is not.
ReplyDeleteWhy do people continue to profess those same inflationista views?
Answer (at least for Mises Institute Austrians): Rothbard.
http://www.economist.com/blogs/democracyinamerica/2011/07/free-marketeers-and-inflation
"Although sophisticated Austrian-school monetary economists such as George Selgin and Larry White defend rule-based inflation-targeting policies not all that different from Mr Sumner's neo-monetarist nominal GDP-targeting rule, the ghost of Murray Rothbard looms much larger on the free-market right."
A number of people have told me this. But I have seen nothing and read nothing from the GMU Austrians. So I will continue to behave as if the Mises Institute defines Austrian thinking until the GMU Austrians speak up and make their voices heard.
DeleteThe leading academic figure at the Mises Institue on money is Joe Salerno, professor at Pace University (which doesn't even have a graduate econ program). While I don't totally believe that "school prestige = credibility," I find it hard to see why Salerno's views should be given more prominence (if only to criticize them) over the ideas of Selgin and White, who have taught at mainstream departments such as NYU, UGA, and GMU.
Delete"I have seen nothing and read nothing from the GMU Austrians."
Good starting points are Freebanking.org and Coordinationproblem.org
Also, Selgin's "Theory of Free Banking" (Free Kindle download)
http://oll.libertyfund.org/?option=com_staticxt&staticfile=show.php%3Ftitle=2307
This is recent: http://mercatus.org/sites/default/files/Horwitz_MonetaryPolicy_v2.pdf
Delete"So I will continue to behave as if the Mises Institute defines Austrian thinking until the GMU Austrians speak up and make their voices heard."
DeleteThese people publish all the time. The above amounts to, "I will continue to act as if the Mises Institute defines Austrian economics because they are the only Austrians I bother to read."
And see this:
Deletehttp://www.freebanking.org/2013/07/13/what-we-have-done-for-you-lately/
The above amounts to, "I will continue to act as if the Mises Institute defines Austrian economics because they are the only Austrians I bother to read."
DeleteCorrect!
Has the Fed been a failure? Journal of Macroeconomics, Volume 34, Issue 3, September 2012, Pages 569-596
DeleteGeorge Selgin, William D. Lastrapes, Lawrence H.
Did Hayek and Robbins Deepen the Great Depression? LAWRENCE H. WHITE.Journal of Money, Credit and Banking
Volume 40, Issue 4, pages 751–768, June 2008
I would loosely describe "GMU Austrians" as instead the "the free banking wing of the modern Austrian school of money/macro."
Here is a list of Selgin's publications:
http://scholar.google.com/citations?sortby=pubdate&hl=en&user=BDizRnMAAAAJ&view_op=list_works
With the Austrians, part of the problem is semantic. They usually use the term "inflation" to mean an increase the money supply. So they will call inflation in situations in which there are no corresponding changes in the price level. And to the extent they do focus on prices the libertarian/free market right also lodges a lot of complaints about measurement.
ReplyDeleteAlso, the popular notion that QE-style operations must be inflationary owes a lot to the manner in which those operations are presented in the media, even by their supporters. The fact that Fed financial asset purchases really are purchases conducted via auction, that over time drain about as much money from the private sector as they inject, is lost in the routine presentation of QE as "pouring money into the economy".
Even QE supporters usually present one of the goals of QE to be higher inflation. They do look at the data, and so are frequently disappointed that the desired inflation hasn't occurred. But it's not surprising that for people who do not spend their time looking at econometric data, they have assumed that since the Fed is carrying out policies that economists claim are inflation boosters, that inflation must be occurring.
With the Austrians, part of the problem is semantic. They usually use the term "inflation" to mean an increase the money supply.
DeleteAnd when I say "A giant purple chicken that shits platinum bricks", I actually mean "a grande cappucino from Starbucks". SEE? Just a semantic problem!!
Armen Alchian (not an Austrian) also made a case for asset prices to be included in measurements of inflation.
Delete"The analysis in this paper bases a price index on the Fisherian tradition of a proper definition of intertemporal consumption and leads to the conclusion that a price index used to measure inflation must include asset prices."
"If monetary impulses are transmitted to the real sector of the economy by producing transient changes in the relative prices of service flows and assets... then the commonly used, incomplete, current flow price indices provide biased short-run measures of changes in 'the purchasing power of money.' "
http://www.jstor.org/discover/10.2307/1991070?uid=3739616&uid=2&uid=4&uid=3739256&sid=21102515658877
Yes, there is a case to include those. But they have not yet been included. So no weaseling out!
DeleteThe issue isn't QE, it's expansionary policy versus standing pat or tightening. QE is unconventional expansionary policy.
DeleteKrugman mentions the famous 2010 letter signed by Republicans of all varieties criticizing the Fed and QE2. The Chamber of Commerce wasn't on board.
"However, the letter was more moderate in tone than recent complaints voiced by other Republican critics, like Representatives Mike Pence of Indiana, the chairman of the House Republican Conference, and Kevin Brady of Texas, who is in line to lead a subcommittee on trade.
By contrast, in the Fed’s corner on Wednesday was Thomas J. Donohue, president of the United States Chamber of Commerce, which poured money into the midterm campaigns to defeat Democrats.
"The Fed has over many, many, many years been particularly helpful to this government and to this country in dealing with financial crises, and by the way, they always make money on it," Mr. Donohue told reporters, referring to the fact that the Fed each year turns over to the government the profit it makes as a byproduct of its investments. "We’re hopeful that the Fed’s judgments turn out to be very positive for job creation and economic expansion.""
http://www.nytimes.com/2010/11/18/business/economy/18fed.html?ref=ben_s_bernanke&_r=0
"Yes, there is a case to include those. But they have not yet been included. So no weaseling out!"
DeleteSo if the measure is wrong, it still the correct judge of theories?!
The "GMU Austrians," or "free banking wing of modern Austrian money/macro" as I prefer to call it, tends to define inflation in the standard way--an increase in the price level. They might be slightly more sensitive to identifying this with any particular statistical measure of the price level, the prices of consumer goods and services only, or especially with changes in the CPI or CEP.
Delete"They are, rather, artifacts of a different kind of reality than the kind that moves the planets in their orbit, lands men on the Moon, and propels cannonballs in nice parabolic arcs into the walls of Constantinople. They are artifacts of Tribal Reality,..."
ReplyDelete- That is fucking golden. Thank you.
This post is a beautifully rendered example of why latent tribalism is responsible for so much of human suffering in these modern times. Probably what DeLong seeks/hints at here: http://bit.ly/1agF6UM
ReplyDeleteRepeat. Anon's "Thank you".
"A new scientific truth does not triumph by convincing its opponents and making them see the light, but rather because its opponents eventually die, and a new generation grows up that is familiar with it." - Max Planck
ReplyDeletePsychologists have a name for this behavior: motivated reasoning.
ReplyDeleteBut for these economists who have been trained to think honestly about problems, the more appropriate name is "intellectual dishonesty", and we ought to be using it more often.
Peter schiff been consistently wrong about everything. We're in another goldilocks economy of forever rising stocks and tame inflation. 5 years later we'll still be reading the same failed prediction, much like today.
ReplyDeleteThe more interesting question is: why does the ECB act as though they believe it? After all, they're forcing a totally unnecessary recession onto Europe. And therein lies a hint of the problem in the U.S. -- the ECB wouldn't be running this policy if the periphery weren't insolvent, they can't be seen as printing bailout money while the Germans reap inflation without benefit.
ReplyDelete"For these guys, Krugman says, it's all political."
Whoa! Careful Noah, I'm not sure the Internet can handle that much irony. Projection by Krugman (who also admitted being wrong about inflation when he predicted GOP policies would create it) notwithstanding, the GOP still fears inflation for a big honking reason that Democrats are a lot more skeptical of -- the prospect of monetizing unsustainable sovereign entitlement spending.
That said, the GOP are generally wrong (though some like Kudlow are coming around to MM) because the Plank curve is very steep and the long-term Fed target has so much credibility now that even QE doesn't move the needle much.
Hopefully, pretty soon the GOP will figure out the best way to avoid fiscal expansion is to adopt monetary offset theory and then we can all agree to target stable NGDP growth even if we have serious disagreements about the ideal size of government.
Hi Noah,
ReplyDeleteIn the paragraph where you mention my name, you seem to be describing someone else. A neoclassical economist tied to what worked for the 1970s and not inclined to think about our current situation. Not me at all. Obviously you haven't been reading my work - i.e. the real work, not what's written in blogs.
Steve
I might have been confusing you with Stephen Williamson the Scottish shipping magnate... ;-)
DeleteWait, so your research was not inspired and motivated by the paradigm established by Lucas, Sargent, Prescott, Wallace, etc.?
"the" paradigm?
DeleteOK, I was prompting you so I could walk you through this, but I'm impatient, so I'll just cut to the chase. It wasn't like Lucas, Prescott, Sargent, and Wallace worked in a vacuum, that they all shared the same ideas, or that there was, or is, any one paradigm. And, relative to me, those guys are an older generation, not to mention that they're giants, and I'm not. So, the people who influenced me, primarily, were: Mark Gertler, Rao Aiyagari, Neil Wallace, Bruce Smith, Doug Diamond, J. Stiglitz, Rob Townsend, Bob Lucas, Ed Prescott, Scott Freeman, Jeremy Greenwood, Peter Howitt, Narayana Kocherlakota, Randy Wright, and Nobu Kiyotaki. I'm pretty far from any neoclassical paradigm, whatever that is, in the same sense that a Diamond-Dybvig model does not look much like Brock-Mirman.
DeleteOh, well that clears it up. Thanks.
DeleteFunny thing, life, as you get older, you can see things more quickly, more clearly; you can often separate the effort from the effortless. Is someone listing copious minutia merely as a ruse to lay down evidence of his breadth of knowledge or because he is actually on a quest for truth, questioning his own knowledge, intrigued by the thought that these authorities bring something substantial to the quest? Better yet, is insecurity something he’s trying to hide (usually none too well) or is he up front about his insecurity and appealing to authority only because he just doesn’t think anything else would be appropriate or better?
Seriously, I mean this in a non-pejorative way, you should go back and spend more of your time defending the other cretins of your tribe like Mankiw.
"the" paradigm?
DeleteNot a Kuhn fan? :-/
I'm pretty far from any neoclassical paradigm, whatever that is, in the same sense that a Diamond-Dybvig model does not look much like Brock-Mirman.
Hmm, maybe I was conflating you with Randy Wright, who complained to me at the AEA meeting that "What happened to tastes and technology (in business cycle theory)?" Anyway, you should have come to the reception!!
But in any case, you've certainly been quite down on New Keynesian models, and you've warned that QE would cause lots of inflation while being of dubious real economic benefit, so I guess I just kind of assumed...
"so I guess I just kind of assumed..."
DeleteIt's pretty clear that most of what you do is kinda sorta by assumption.
It's pretty clear that most of what you do is kinda sorta by assumption.
DeleteI should be an economist!
But more to the point...about 16 months ago you predicted considerable inflation. I asked why you predicted this when expected inflation, as indicated by market prices for TIPS, were low. You wrote, in this very comment section, that your understanding of economic theory gave you insights that the market as a whole did not possess, that led you to predict higher inflation. In light of the failure of higher inflation to materialize, have you re-evaluated the theories to which you earlier referred? Or was the time horizon on your prediction more than 16 months?
DeleteSee the value of a bet? BTW, while Noah might have been led astray by assumptions, I really really would like a reply from Prof. Williamson on that one... :D
Delete...tapping foot...
DeleteWhy would anyone with insights into markets as a whole waste time writing a blog or doing academic economics? Altruism?
DeleteI would also like to hear a response from Prof Williamson regarding his inflation prediction. It seems Noah's main point is being ignored. In March 2012, Williamson specifically said, "At this point, the FOMC has boxed itself in, and I can't see any other future scenario than more inflation in the future. How much? I don't know. 5% or 6% by the end of the year?"
Deletehttp://newmonetarism.blogspot.com/2012/03/inflation.html
CPI ended up being 1.7% for 2012.
I just love the arrogance of some silly "trained economist" thinking he can predict the future.
DeleteParticularly interest rates.
I was at a seminar once where Halbert White gave a paper on predicting interest rates. My Chicago-trained thesis advisor stopped him after about 30 minutes and asked him if he knew the Einstein joke.
White did not.
My advisor gave a long rendition of the joke, which involves Einstein meeting five people with progresively lower IQs and matching a conversation topic to each IQ. The last one, at a submoron IQ, inspires Einstein to ask, "Ah! So where are interest rates headed?"
For what it's worth, and as an expert on Austrian derp I think Peter Schiff really believes the Austrian stuff he spews. He — like many other people on Wall Street — gets clients out of appearing confident, not out of actually beating the market.
ReplyDeleteIt's possible to be truly confident based on your past ability to get investors, while not even thinking about whether your confidence is justified in terms of the underlying value proposition.
DeleteAny PUA knows this. I'm sure Schiff does too.
Tough to get inflation with so much money sitting in bonds globally. This narrows the yield curve which makes banks lend less and thus, less inflation. Fiscal expansion would solve this and IMO, 2009-10 was doing this job. But they quit early and the yield curve imploded. Frankly, I find the FED's move of "operation twist" to be a bit "conspiratorial". Why they claim it was for further inflation, that move was anti-inflationary and frankly pro-savers. This tells me the invester class, not the bankers are ruling FED decisions right now. A flat spread like we have, is prone to saving and balance sheet repair for the wealthy. Most of the sell off in bonds was due to Japan and Abe's fiscal expansion(more than the monetary expansion which wasn't that impressive)..............no surprise eh for the first wave. The current one looks domestic. IMO, the FED gave up on fiscal expansion and decided to help the invester class repair their balance sheets. So, thus came "Operation Twist" and to sell it, they lied about it. Now that the balance sheet is repaired, the FED buys up short term government debt(QE3) Q2 durables take off, suggesting recovery is nearing and the sideways moves are over.
ReplyDeleteMore money has to get out into circulation and QE does not do that. Selgin is like the anti-Schiff. He blames the central bank for excessively tight monetary policy and thinks abolishing it with a "free banking" system would end that............Schiff, Ron Paul and Von Mises head just exploded.
Hi Noah,
ReplyDeleteYour posts always irritate me in the beginning, but then I remember that when I was your age I was probably even more arrogant than you, so I smile. Two quick questions, please, before I respond on my blog:
(1) If someone in 2005 told you he thought there was a housing bubble, would it have been a good response for you to have said, "If everybody thinks there's a housing bubble, why doesn't it pop?"
(2) If Peter Schiff in the fall of 2008 knew the future path of consumer prices with certainty, are you saying he would have made less money from his clients, had he deviated from saying what he in fact said?
Your posts always irritate me in the beginning, but then I remember that when I was your age I was probably even more arrogant than you, so I smile.
DeleteCome on, you're not that old. ;-)
(1) If someone in 2005 told you he thought there was a housing bubble, would it have been a good response for you to have said, "If everybody thinks there's a housing bubble, why doesn't it pop?"
Sure it would be. Yes, there are some models in which everyone knows the bubble is a bubble but it still doesn't pop. That's a possibility. But most explanations for bubbles rely on some subset of the populace not knowing it's a bubble. So while it might be possible for everyone to recognize a bubble, it seems less likely than the case where only some people do. In 2005 you had a lot of people who didn't recognize the bubble, and some who did.
(2) If Peter Schiff in the fall of 2008 knew the future path of consumer prices with certainty, are you saying he would have made less money from his clients, had he deviated from saying what he in fact said?
I'm not sure I understand this question. But I have a feeling that if I did understand it, my answer would be "I have no idea."
Noah, I'm still puzzled by your position. You're simultaneously criticizing your stockbroker friend for defying "the market"--i.e. he holds a minority view--and then you come back and say he can't be right, because if "everybody" thought like him, there would be a contradiction. Why can't your stockbroker friend simply hold a true belief shared by only, say, 20% of the people? I don't see how you've dealt with that.
DeleteRegarding Schiff, you claimed he doesn't actually believe his own predictions and rhetoric, he's just doing it to fleece rich white old dudes. So I'm asking, you think that if Schiff had known with certainty in 2008 what the next 5 years will hold, he would have said the exact same things about QE etc., since otherwise he wouldn't have made as much from old white rich dudes?
Noah, I'm still puzzled by your position. You're simultaneously criticizing your stockbroker friend for defying "the market"--i.e. he holds a minority view--and then you come back and say he can't be right, because if "everybody" thought like him, there would be a contradiction. Why can't your stockbroker friend simply hold a true belief shared by only, say, 20% of the people? I don't see how you've dealt with that.
DeleteOh. I guess I should have clarified the context of my teasing him. Which is that he also asserted that "everyone realizes" that it's bubble, and is just waiting for the end of QE to sell.
So I'm asking, you think that if Schiff had known with certainty in 2008 what the next 5 years will hold, he would have said the exact same things about QE etc., since otherwise he wouldn't have made as much from old white rich dudes?
Well not necessarily, because with perfect foresight there would be even better ways to make money...
This is like pulling teeth. OK Noah, let's say you encountered someone in 2005 claiming there was a housing bubble, but who did *not* add, "And everybody knows it." Would it have been good to dismiss such a person with your argument about bubbles instantly popping?
DeleteThen, regarding Schiff, if you agree one can make more money off investors with an accurate model of price movements, then why are you saying he doesn't actually believe his public forecasts?
Would it have been good to dismiss such a person with your argument about bubbles instantly popping?
DeleteThe people who called the housing bubble in '05 were proven correct by events. The people yammering about bond bubbles are the same people who were yammering about inflation.
Also--just to indulge this kind of silly hypothetical--if Schiff had perfect foresight he'd be an idiot to share that information with the public and ruin his informational advantage.
This is like pulling teeth.
DeleteI'm guessing you have never actually pulled a tooth...it goes very quickly.
OK Noah, let's say you encountered someone in 2005 claiming there was a housing bubble, but who did *not* add, "And everybody knows it." Would it have been good to dismiss such a person with your argument about bubbles instantly popping?
Not to dismiss the person, but the question of why the bubble has not yet popped is always a crucial one. Suppose I believe that there is a bubble, and that I have a minority worldview. Why is my worldview a minority? On what points do I disagree with the majority? And might the majority have a good reason to believe as they do?
If you don't think carefully about those things, you're just being overconfident.
Then, regarding Schiff, if you agree one can make more money off investors with an accurate model of price movements
I agree to no such thing! First of all, in my answer above, I did not say "make money off investors". I said "make money". If I know with certainty what the stock market will do this year because a magic fairy told me so, I can make lots of money by betting on that move. But I probably won't be able to convince investors of this opportunity, since they will be very skeptical of the notion of the magic fairy, and will not believe that I really have the information that I have. Suppose that the investors are very receptive to the idea that stocks will go down, and not very receptive to the idea that stocks will go up; hence, if I tell them stocks will go down, I can get them to give me their money, and earn fat fees. But if I bet on stocks going up (which I know will happen because of the fairy), the investors will withdraw their money. So the question then becomes: Can I make more money betting my own money on the stock market rise that I know will happen, or fleecing investors for fees?
I KNOW you're smart enough to understand this. Just sit and think about it carefully and you'll get it.
Second of all, you use the word "accurate", but you do not quantify this. How accurate is accurate? Suppose I believe that there is a 52% chance that stocks will go up and a 48% chance they will go down, but that investors are much more receptive to the idea that stocks will go down. If I sell investors on a bearish story and take their fees and bet on a stock price decline, am I fleecing them? Sure, my point estimate is for stocks to go up. But my confidence interval is very wide. I think there is an almost 50% chance that stocks will, in fact, go down. And I'm very sure that I can get fees by telling the bearish story.
then why are you saying he doesn't actually believe his public forecasts?
I'm not sure what you mean by the phrase "doesn't actually believe". I think he probably overstates his confidence in his worldview, and in the predictions generated by that worldview, in order to woo investors.
On the matter of bubbles, while there are many models for generating these, some rational, some mixed rational/irrational, and some purely irrational, there are three observable patterns of bubbles (not counting stationary ones such as for fiat money): rise followed by crash immediately after peak (see oil prices in 2008), rise followed by roughly symmetric decline and no hard crash (see housing prices since 1998), and a rise followed by a period of decline with a hard crash coming later.
ReplyDeleteSo, Noah, part of the problem with your initial argument has to do with what you mean by "pop." Is that a peak or a crash? So, we may indeed have a bond bubble, and the spike in interest rates since the latest BB press conference may well have marked the passage of the peak, arguably a "pop," even if there is no hard crash later.
Just to really pin this, bringing in the most important of those third types, did the stock market "pop" in October 2007 when it peaked or in September 2008 when it (finally) crashed hard?
DeleteBTW, you are basically right about the inflationistas, and it is pathetic to watch those who have made all these wild forecasts of inflation so strongly now wriggling around trying to justify themselves on what they did.
ReplyDeleteIn that regard let me comment on the difference between the LvMI group vs the GMU group among the Austrians. While the former have tended to be more hyperventilatory about possibly immanent hyperinflation, the latter have tended to be far more cautious about such forecasts, even if some have at times joined the chorus at least somewhat. So, Larry White supports free banking backed by a gold standard, arguing it will restrain inflation, but he has been cautious about declaring that hyperinflation is about to hit as have most others at GMU.
BTW, for those who define inflation as an increase in the money supply, the last few years have not been all that "inflationary." The really odd thing about what has gone on in the monetary system has been how a massive increase in the Fed balance sheet has not resulted in a remotely similar increase in the money supply itself. It has been increasing at a higher rate more recently, but in general, those forecasting some massive increase in inflation due to money supply growing excessively have generally failed to notice that money supply has not exploded. If and when it does, then maybe some of these folks will get their chance.
I remember that comment by Williamson, that he knew inflation was coming because he was a trained economist.
ReplyDeleteDidn't Williamson also say that economics was much harder than brain surgery?
"Didn't Williamson also say that economics was much harder than brain surgery?"
DeleteIn medicine they have mortality and morbidity review, where they look at what went wrong, and try to fix it. No such thing in economics. If there was one, the inflationistas would be facing some organized heat.
Perhaps some concepts from religious studies could prove useful. The Republican Party more and more looks like a weird apocalyptic sect that continues harping about some soon-to-happen disastrous event - "repent, for the end is near". For them, great moral issues surround inflation, their portrayal of government as a bogeyman, and a fear that we have lost our way from the path of righteousness, where rational agency would deliver us from all evil if only markets were truly set “free” again, as in some mythical past.
ReplyDeleteAny cursory look at economic indicators since their so-called Reagan Revolution speaks the lie to their belief structure. This enrages them and causes them to double down on their beliefs, much like an apocalyptic sect is sometimes wont to.
Since the Boskin March 2009 editorial, with Dividends, the DJIA is up 165%, and the S&P 500 up 171%
ReplyDeleteDo they BELIEVE what they say? Yes. In the same way that religious nuts BELIEVE that Jesus Christ is coming to rapture them.
ReplyDeleteYou could instead ask: when they say that there will be inflation, do they really THINK that? No. They're not thinking at all. Their belief is a thoughtless, logic-free, evidence-free belief.
WNY-WJ said that religious studies is the correct way to understand the inflationistas -- he or she is correct.
Hi,
ReplyDeletea german here... and I'd like to reply to Mark's comments on Ordoliberalism.
It is true that Ordoliberalism is still a force in Germany. I realized that when I read a book by former chancellor Helmut Schmidt (he studied economics). The book was a very long dialogue with the current candidate of the Social Democratic Party Peer Steinbrück and they agreed that at the time of Schmidt's active career, he was a finance minister in the 70s, the whole bureaucracy was ruled by ordoliberals. Schmidt described himself as a Keynesian. But: His administration (1974-1982) was probably the only truly non-ordoliberal administration in Germany's history. I assume that Merkel (who has no economic background...well... a marxist one) is advised by the old ordoliberal bureaucracy. The center of that ideology is the german Bundesbank, which is the model of the ECB.
Still, something needs to be explained: the role of the government in Ordoliberalism is fairly strong. The government creates the institutions and watches over them to keep them working. It is corporatist. The workers have strong unions, the industry has strong representation. Labor can play an active part in corporate governance by the concept of "Mitbestimmung". There is a whole network of institutions to ensure inner peace. This is not a maximization of only your own utility, but of the society as a whole.
I'd still say that the german welfare state is relatively strong, and that's why Germany can afford to keep wages (too?) low. The institution of the welfare state here is an active instrument to keep the order. This tradition dates back to Bismarck who introduced the welfare state to keep the socialists from taking control.
Today, it seems to me that Germany looks at Southern Europe, sees budget deficits and demands to shrink them, but it forgets that the automatic stabilizers are much weaker there. It assumes that they are as strong there as they are in Germany but that is not the case. Yes, workers in southern europe have high wages, get lots of benefits, the public sector might be too big.... but if the people lose their jobs, the welfare state does not catch them as quickly. I guess this is why demand collapsed stronger than the European institutions expected.
Sorry, and something else, I'm a graduate student of Economics at the Free University of Berlin. We know Keynes, we are very well-grounded in Anglo-American economics. Though I guess that we're closer to Barro and Lucas of the 70s and 80s, than to, say Michael Woodford. And if I may say so, we are closer to Ricardo than to Adam Smith. Some of it might be that the pure neoclassical models are easier to solve. Also, microeconomics are emphasized more than macroeconomics. But the sentiment among the students is still fairly Keynesian, there are courses on asymmetric information, on energy economics and externalities, Int. trade policy (taxes are not always bad!) and more.
DeleteI have some sympathy for inflationist views out of the following considerations:
ReplyDelete1. the central bank, at bottom, always has the ability to counteract deflation through monetary expansion; all it takes is sufficient resolve; whether there is sufficient resolve is never a long term issue (if things stay bad long enough, they develop resolve), but short term
2. bad economic developments affect not just actual output but also potential output negatively (e.g. through hysteresis); this can give rise to inflationary pressure over and above those that the Fed can suppress without diminishing nominal GDP growth
3. if a sufficiently bad effect on potential output is delivered by shocks, there comes a point at which the federal government is rendered insolvent at the non-inflationary nominal GDP trend causing the Fed to forgo its inflation mandate
The problem with this is number 1. Short term, deflation is the issue. Long term inflation can become the issue, but this may be very far off. Inflationists have lost the short term round of the battle, imo, but we'll see who laughs last.