From Edward Lambert, responding to Romer’s recent talk:
“I would love to support continued aggressive policy to bring the economy back to full employment, but the social cost of inequality is sickening. And if stopping this disease means putting the economy back into a recession, then so be it.”
My good friend Becky Hargrove comments:
Looks like Piketty is giving some folks new confidence!
Edward Lambert goes on:
It is like re-breaking a bone to set it straight. If the re-breaking of a bone is not done, the bone won’t work correctly in the future. It is proper medicine. You will be better off going through the moment of extra pain.
My prescription is to re-break the economic bone which has not set correctly, and this time let’s be aggressive in setting straight better wages and labor share from the start.
The idea of re-breaking the economy may sound crazy to you, but the methods of medicine have a greater wisdom than what I see currently among economists. The Volcker recession was good medicine. It had a wisdom to re-break the economy to correct inflation. Current day economists seem squeamish about an economic correction, even if it was to correct mistakes.
Let me zoom in on his Volcker wisdom.
As recounted by William Barnett in his book “Getting it wrong:How faulty monetary statistics undermine the Fed, the financial system, and the economy” (pages 102-104):
Following the inflationary 1970s, Paul Volcker, as chairman of the Federal Reserve Board, decided to bring inflation under control by decreasing the rate of growth of the money supply…The policy succeeded in ending the escalating inflation of the 1970s. but was followed by a recession. That recession, widely viewed as having been particularly deep, was not intended. The existence of widespread three-year negotiated wage contracts was viewed as precluding a sudden decrease in the money growth rate…As a result the Fed´s decision was to decrease from the high double-digit growth rates…and then gradually decrease toward the intended long-run growth rates of about 4 or 5 percent growth rate.
And Barnett explains (my adaptation):
The chart reveals the cause of the unintended recession. The rates of growth of the Divisia monetary aggregate was much lower than the rate of growth of the official simple-sum aggregate which was the official target of policy. With the Divisia growth so much lower the result was an unintended negative shock of substantially greater magnitude than intended. A deep recession resulted.
In other words, if you are set in “breaking bones”, make sure you´ll break the right ones and, please, use the right instruments!
HT Becky Hargrove
Historinhas 
You recommend Barnett’s book?
Brendan, wholeheartedly. It has two parts. Part 1 in plain english with great tidbits added and part 2 the math behind the indices construction.
Is the graph labelled correctly?
Lorenzo, Thanks for signalling my mess-up! I´ve corrected.
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You refer to my post above, but let me just give a link…
http://www.pbs.org/wgbh/commandingheights/shared/minitext/ufd_reaganomics_full.html
Read the first two interviews that talk about Reagan and Volcker. They knew there would be a recession. But they had the backbone to maintain Volcker’s policy, while risking political backlash. In the end, ratings rose for Reagan and the battle against inflation had been won. Would you have had the backbone to create such a recession?
Edward
As the transcript from Barnett (who as an economist at the Special Studies Section of the Board of Governors (an elite and independent group, since disbanded) shows and the interviews you sent attest (although there were others who wanted to ‘clamp down’ on the Fed (https://thefaintofheart.wordpress.com/2012/04/27/back-in-1984-donald-regan-treasury-secretary-was-all-for-restricting-the-fed%C2%B4s-independence/) they were set to break the bone of inflation. It wasn´t the recession that was unexpected but it´s magnitude was certainly not expected or intended..
Hi Marcus,
But even if the recession’s magnitude was not foreseen, they did not back down. The patient screamed more than they expected, but they reset the bone with even greater resolve.
But did you see fast the rebound was? Today we seem to wish the bone remains cracked!
Edward Lambert:
“As it is, Christina Romer is telling us not to fear an economic correction as long as its recovery is done correctly. It is like re-breaking a bone to set it straight. If the re-breaking of a bone is not done, the bone won’t work correctly in the future. It is proper medicine. You will be better off going through the moment of extra pain…My prescription is to re-break the economic bone which has not set correctly, and this time let’s be aggressive in setting straight better wages and labor share from the start. The idea of re-breaking the economy may sound crazy to you, but the methods of medicine have a greater wisdom than what I see currently among economists.”
If you listen to Christina Romer’s speech (Edward has a fondness for posting videos rather than papers, precisely because I believe he hopes no one will take the time to view them) she says in her list of strategies:
“Avoid crises if possible.”
“End crises quickly if they do happen.”
“Use monetary and fiscal policy aggressively.”
and
“Avoid self-inflicted wounds.”
This is exactly counter to Edward Lambert’s perscription of re-breaking the economy.
One key to understanding Edward Lambert’s views is that he considers himself to be a follower of “Institutional Economics”. Paul Krugman had this to say about Institutional Economics recently:
http://krugman.blogs.nytimes.com/2014/03/26/dare-to-be-silly/
“…Before I turn to Syll’s critique, let me summarize my understanding of one of the great turning points in the practice of economics – the turn away from institutional economics in the 1940s and 1950s. Until that time, institutional economics – generally taking the form of long, discursive books rich in historical detail – had been a strong presence in U.S. thought. But then came Samuelson and associates, and models took over.
Why did this happen? It wasn’t, as some might imagine, about free-market ideology: Samuelson started with Keynesian macro (or “Keynesian” macro, if you feel the urge to claim that the master meant something different), and in fact faced a fierce campaign by right-wingers to keep his work out of the schools. No, what happened was the Great Depression.
Think about it. Here we had an utter catastrophe, and people wanted answers: how could this happen, what can we do? Institutional economics replied, in effect, by saying “Clearly what is happening is a complex process with deep historical roots. We need to address those complexities. It would be foolish to expect easy answers.” Meanwhile, American Keynesians said, “We have inadequate demand. Increase government spending!”…”
So you see, indifference to adequate aggregate demand stimulus has apparently always been a key feature of Institutional Economics.
Some other keys to understanding Edward Lambert’s economic views:
1) His model of “Effective Demand” misappropriates its name chiefly from Keynes, but also from Michal Kalecki. In Lambert’s model, labor share of income acts as a constraint on employment and capacity utilization which he terms the “effective demand limit”. But if you actually read Keynes’ General Theory (Chapter 3) you’ll find that “effective demand” is simply the intersection point between the aggregate demand and aggregate supply curves. Keynes argues that effective demand can be increased through monetary stimulus and public works projects. Similarly, Kalecki argues that effective demand can be increased through aggregate demand stimulus. This of course runs completely counter to Lambert’s claim that effective demand is a limit to employment and capacity utilization against which aggregate demand stimulus is totally ineffective.
2) Edward Lamberts’ model of “Effective Demand” is originally derived from the work of Boddy and Crotty (1975), Boddy (2007) and Goldstein (1986, 1996). Rather than link all three I’ll simply link the most recent paper:
Click to access Boddy_Crotty.pdf
Boddy shows through careful examination of the research evidence that labor share of income can be described as a function of employment and industrial capacity utilization. Once again Lambert perverts this, this time by inverting cause and effect. In his model, employment and capacity utilization are functions of the labor share of income. The fact that this runs counter to his own sources and a large body of research evidence seems to be of no concern to him, since he is not interested in the truth, only in advancing his own model of “Effective Demand”.
3) If you examine his blog posts, you’ll find that Edward Lambert’s main public policy perscription is the reduction of aggregate demand stimulus, specifically by ending QE and raising interest rates. Given what we know from the research evidence, this is exactly the opposite of what should be done if one’s goal were to raise labor share of income, as Lambert repeatedly claims.
I have a hard time reconciling all of this with the idea that Lambert’s intentions are good and that it is his thinking that is simply muddled. How can one so blatantly misapprehend Keynes and Kalecki, or Boddy, Crotty and Goldstein? There is something seriously amiss here.
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Marcus,
It is strange what I see…
I wrote a post about Scott Sumner saying that your post here was wonderful… Scott wrote this…
“Marcus Nunes has a wonderful new post that directed me…”
Then I quoted your article.
But then Scott wrote this comment on my blog…
“You are even more clueless than I thought. You claim I think the Volcker recession was unintended, but then the body of your post quotes Nunes making that claim. Bizarre, even by Angry Bear standards.”
I think Scott is distancing himself from your article after saying it was wonderful.
Again, what was unintended was the MAGNITUDE.