No Inflation In Texas: A Lesson There? We Miss Inspector Clouseau

A Benjamin Cole post

It is too bad in some regards that Richard “Inspector Clouseau” Fisher, the former president of the Federal Reserve Bank of Dallas, in no longer ensconced in that position. For one, he was always great copy. For seconds, he was one of the most infallible reverse indicators of Post War Era, and economic soothsayers could bet against a Fisherian proclamation with a rare calm.

Alack and alas, Fisher was replaced by Robert Kaplan in September, who so far seems content to avoid huge and regular public embarrassments.

Some may remember a jaw-dropping press conference Fisher held October 9, 2014 in the fair city of Dallas, where he proclaimed Texas wage inflation was a threat, soon to possibly envelop the nation—“there are concerns about getting it (wage growth) under control,” Fisher said. The former Dallas Fed Chief seemed especially agitated that wages were rising faster than prices, enough so to call reporters into his office.

BC Texas

Well, as we see from the chart above, inflation, even as measured by the CPI (which tends to overstate inflation), Dallas sunk into deflation after the Fisher proclamation. Sheesh, the CPI for Dallas was headed south even as Fisher spoke. The chart for Houston, the Lone Star state’s other big city, looks much the same.

A Serious Lesson?

Okay, taking potshots at Fat-Target Fisher is always good for a laugh, but is there a more-serious lesson in all of this? Probably. Texas boomed and did not suffer inflation.

Now, some will say, “Oh sure, but Texas can import labor, capital and services from surrounding states.”

But the U.S. imports goods, services, capital and labor from the world. More demand would result in more supply. See Texas. Besides, global supply lines are glutted with product and commodities.

If a seven-year national recovery, magnified in the red-hot energy state of Texas, results in deflation in Dallas, should the U.S. Federal Reserve continuously go weak at the knees whenever unemployment skates near 5%?

Probably not.

P.S. Housing

Fans of Kevin Erdmann, author of blog The Idiosyncratic Whisk, know that Dallas is what Erdmann defines as an open city, one in which housing can be readily built. Many of America’s largest and glamour cities, such as Los Angeles, San Francisco, New York, Boston, Seattle etc., have criminalized robust housing construction. Not only those cities, but surrounding suburbs and towns—building high-rise condos anywhere along the Southern California coast, from liberal Santa Monica to conservative Newport Beach, is not done.

The U.S. economy has structural impediments, and housing is a big one. Still, the Fed may wish to ponder if suffocating the national economy to avoid some housing inflation is a good trade-off.

On Fiscal policy and the ZLB (What´s he on about?)

A Mark Sadowski post

Evan Soltas writes on a theme that is much in vogue lately: “Fiscal Policy and the ZLB”:

I have been doing some reading for my undergraduate thesis, which looks at the role of credit-supply shocks in the Spain during its housing boom and bust, and I came across some interesting thoughts from Bob Hall. Commenting on research by Alan Auerbach and Yuriy Gorodnichenko, Hall makes some useful points that contradict a lot of the received wisdom about the efficacy of fiscal policy:

I conclude that the chapter uncovers a proposition of great importance in macroeconomics—that the response to government purchases is substantially greater in weak economies than in strong ones. The finding is a true challenge to current thinking. The first thing to clear away is that the finding has little to do with the current thought that the multiplier is much higher when the interest rate is at its lower bound of zero…Standard macro models have labor and product supply functions that are close to linear over the range of activity in the OECD post-1960 sample. The simple idea that output and employment are constrained at full employment is not reflected in any modern model that I know of. [Bolding is by me, not Hall.]

On the economics blogosphere, the “current thought” is also that, because monetary policy is in certain respects (that is, if only by social convention) constrained when the policy rate hits zero, fiscal policy becomes discontinuously powerful at the zero lower bound. Once the policy rate is a quarter of a percentage point, time to turn off fiscal policy, one might infer. Scott Sumner is one of the clearest and most persuasive exponents of this view—see here, for instance.

It turns out that the best evidence on fiscal policy does not support it. That conclusion is new to me, which is to say that I think I have written things that rely on that view, and I would now consider them to be wrong.


To be clear on what I mean here: First, it is a classic result that, when the efficacy of monetary policy is uncertain, it should not fully stabilize demand. Second, if the zero lower bound poses any restrictions on monetary policy, and it obviously does, if only in many indirect ways, then the appropriate amount of conservatism actually increases the risk of a future zero lower bound event rises, which is basically a function of the current policy rate. Fiscal multipliers are, as a result, well above zero when the policy rate is positive and decrease slowly and smoothly in the policy rate.

It makes sense if you think in terms of the fiscal multiplier being a measure of monetary policy incompetence. But just because monetary policymakers may be less than fully competent doesn’t mean that monetary policy is impotent.

Soltas’ reference to Scott Sumner needs explaining (perhaps even to Evan). When Scott says that the fiscal multiplier is zero above the zero lower bound he is not suggesting it is positive at the zero lower bound. Scott doesn’t believe in the liquidity trap, so when Scott says this what he is really saying is that even under the assumption of the existence of the liquidity trap, monetary policy makers should be held fully accountable for the level of nominal income away from the zero lower bound (as they clearly are now in the US). 

Seven years of US experience in steering nominal income without the use of the fed funds rate as the policy instrument should completely disabuse us of the existence of the liquidity trap. When you take into account the ability of monetary policy to offset fiscal policy, the fiscal multiplier is zero, even at the zero lower bound in interest rates.

The chart illustrates:

MS Comment

The FOMC & its Forecasts

The “Teal Book”:

Rest in peace, Green Book and Blue Book. The Federal Reserve‘s confidential briefing books that policymakers have used for decades received an overhaul for the Federal Open Market Committee meeting that begins today. The new document merges the two prior books, named for the color of their covers, into one: the Teal Book.

The “Teal book” is released with a five year-lag, just like the transcripts. We have now access to the December 2010 Teal Book or “Report to the FOMC on Economic Conditions and Monetary Policy

As you would expect, it´s a long (100 pages) document. What caught my eye was the “Long-Term Outlook” on page 32. The panel below sets out the Outlook (Forecast) for Real Output Growth, Unemployment Rate, Headline & Core PCE Inflation, Effective Federal Funds Rate and 10-year Government Bond Yield.

The growth rates are Q4/Q4 rates while for Unemployment, FF Rate and Bond Yield it´s the Q4 average for each year.

Teal Book_1

Teal Book_2

Two things caught my eye:

  1. The large forecast errors, mostly with the same sign
  2. The almost perfection of the unemployment rate forecast

Is there a worldview (model) consistent with those forecasts? A nice candidate would be a Phillips Curve worldview.

Imagine that the FOMC were pretty confident in their unemployment rate forecast. Via “Okun´s Law”, a falling unemployment rate would be consistent with a rising RGDP growth. Via the Phillips Curve, a falling unemployment rate would also be consistent with an initially very low inflation rate, especially a low core inflation rate unburdened by oil price increases (that were taking place at the time the forecasts were made), reflecting the initial extremely low utilization rate. Over time, inflation would rise to reflect labor market tightening.

With that, the policy rate (FF) would start to “normalize” and long-term bond yields would rise in accordance with both higher real growth and higher inflation.

The results, however, contradicted the worldview. Unemployment fell almost exactly as forecast. However, real growth never picked up. Initially, core inflation was much higher than expected and dropped significantly over time. The exact opposite of the FOMC´s forecast.

With no increase in real growth and with inflation far below “target”, policy “normalization” was not an option! That is, until the FOMC couldn´t hold itself any longer, raising the FF rate in December 2015.

Policy tightening, however, began much earlier, in mid-2014, with the start of Fed “talk” of raising rates. Not surprising that at that point commodity prices turned down and the dollar began to rise.

It´s way past the time the FOMC changes it´s “worldview”!

Update: Bullard says:

The U.S. central bank’s inflation and employment goals have essentially been met and it would be “prudent” to edge interest rates higher, St. Louis Fed President James Bullard said on Friday.

You could say they have (even with core inflation a bit below target). As you see from the forecasts made in 2010, the targets would have been “met” only with much higher rates. Maybe that´s why he uses the word “prudent”. Does he feel they were “lucky” to “meet” the targets with rates far below the ones “deemed” necessary originally?

Or does the outcome imply that interest rates are irrelevant? In that case, what would be the relevant monetary policy measure? What is the “alternative” policy measure indicating?

Mind your P’s and Q’s

A James Alexander post

I had an interesting exchange with inflation hawk Mike Ashton of Enduring Investments on Twitter .

He helped focus my mind on why MV=PQ is so useful. A couple of my recent posts have focused on the immeasurability of inflation and the consequent immeasurability of RGDP. And, therefore, the unsuitability of using either as a guide to monetary policy, especially a notional “gap” between an unmeasurable RGDP and a theoretical maximum, but still unmeasurable, RGDP.

Another way of thinking about the PQ part is that because P (or inflation) is unmeasurable Q (or Real Output) is also unmeasurable. This is because you can only derive Q by dividing it by the unmeasurable P, it cannot be observed directly.

We do know PQ (or NGDP) though as that is total actual sales (i.e. the value of the output), total income it generates and also the total expenditure on that output. All three methods of calculating NGDP (NGDP[O], NGDP[I] and NGDP[E]) should result in the same number.

Many people think that it is hard to observe V, but it is really simple (as Mark Sadowski has shown me several times), it is just V=PQ/M.

Many others say M is not observable. There is a bit of debate here, but not that much. Base Money is M, i.e. money that the central bank directly controls the quantity. Since we know NGDP (i.e. PQ) and we know M, we also know V.

MV=PQ helps a lot understand what is happening today

In the US at the moment Base Money is flat-lining and NGDP growing very slowly, hence V is only growing very slowly. At least V is growing. Markets were recently implying that V could start to fall as the Fed tightened monetary policy, but the heroic fightback of the Democrats against the hawks on the FOMC, and the Fedborg in general, has put a stop to that for now. Core CPI and Core PCEPI may be up to 2%, but who cares about all that “data” now? The Dems have an election to win.

In the Euro Area at the moment Base Money is growing strongly, NGDP quite slowly so V must be declining. Why is V declining in the Euro Area? Because of the inflexible, asymmetrical (i.e. not level-targeted) inflation ceiling threatens a monetary tightening anytime CPI, two years out, threatens to move towards 2%.

It is also because the Euro Area targeting CPI means that it is at least targeting an inflation 0.35% lower than the 2% of the Fed, which targets the PCE deflator that runs 0.35% below CPI. And in the US there is much wider use of hedonic adjustments, though still very limited. Thus not all 2% inflation (ceiling) targets are the same.

If only the Euro Area politicos and Eurocrats had an election with a Trump-like populist breathing down the neck of the Establishment, then we might see some action. Mmm. Maybe a risk not worth taking, although by its inaction the Eurocrats may end up with a Trump anyway. Deservedly so.

FOMC splits, and it is a good thing!

A James Alexander post

It had already been argued here last month that the FOMC looked like it was splitting judged by the January 2016 Minutes. We said that this was a good idea given the hopeless leadership from the Yellen/Fischer axis.

It has also been looking like William Dudley, newly reappointed as governor of the NY Fed, has been expressing the market views even more clearly. Letting markets set monetary policy is a good thing, the sum of all views and not just those of a few people sitting on a committee.

Well, it looks like the split has come to pass. The newswires were hot when Brainard gave a clearly dovish speech earlier this month the very same day as uber-hawk Fischer tried to claim that inflation was about to accelerate out of controlfour more hikes .

With hindsight, the particularly old school speech Fischer gave to the NABE looks to have been even more of a retirement speech than it read at the time. His disastrous “four more hikes” interview in early January has damaged his credibility beyond repair, his retirement cannot come too soon.

As we argued in February, especially after looking into Brainard’s biography she is a deeply political figure, very close to the Clintons. If Hilary is to win the election only a fool or an inflation hawk (they are often the same) would think that tightening monetary policy is a good thing. Just to be clear, Market Monetarists are hawks too, whenever nominal growth is persistently above trend.

If we are right and politics has split the FOMC then we are in for a really good spell of dovish monetary policy out of the Fed. Yellen’s comments today show either someone confused, covering up a split or secretly supportive of the splitters – and against the Fedborg and their “normalisation” mania (remember that).

She said nothing much had changed on fundamentals but the FOMC wanted to be more accommodative.

She said that the FOMC had declined to declare where the bias on risk was because some thought them balanced but some thought them to the downside (ie the splitters) – “there is no collective judgement in this statement … we declined to make a collective statement”.

She said that the things pushing up core CPI were volatile – but the normal view is that core excludes volatile items.

Who cares for now. Looser monetary policy in an environment of weakening NGDP growth has to be a good thing.

The splitters need to build on their success by shifting focus to NGDP Growth targets and away from targeting, unmeasurable, inflation.

Central Banks are never to blame. That´s as true if inflation is too high/rising or too low/falling!

That´s what I gather from this Dean Baker piece in Beat the Press:

A Washington Post piece on the Fed and the presidential elections told readers:

“A strong economy tends to boost the party currently in power, which is why President Nixon installed confidante Arthur Burns as head of the Fed in 1970, urging him to keep interest rates low to stoke the job market. The result was a decade of runaway inflation that was tamed only by a painful recession.”

This is a very strong and implausible claim. The inflation in the 1970s was fueled in large part by two huge rises in the price of oil. The first was associated with an OPEC oil embargo directed against the United States, which led to a quadrupling in the price of oil between 1973 and 1974. The second was associated with the Iranian revolution, which essentially stopped Iran’s oil exports. At the time, Iran was the world’s second largest oil exporter. There was also a sharp surge in food prices associated with massive sales of wheat to the Soviet Union in 1973.

I refer the reader to Robert Hetzel´s classic article “Arthur Burns and Inflation”:

How did Burns view macroeconomic policy as an economist? Most generally, Burns had a credit view of monetary policy. That is, monetary policy worked through its influence on the credit market. However, monetary policy was only one factor affecting credit markets. At times, in its influence on inflation, monetary policy could be overwhelmed by other factors.

More specifically, Burns had a real or nonmonetary view of inflation. That is, inflation could arise from a variety of sources other than just money. He believed that a central bank could cause inflation by monetizing government deficits but did not attribute inflation to that source in the early 1970s. Instead, he attributed it to the exercise of monopoly power by unions and large corporations.

If conventional monetary policy weapons were powerless to deal with these forces, then perhaps direct controls might work. Accordingly, President Nixon imposed wage and price controls August 15, 1971. The experience with such constraints offered a tailor-made experiment of Burns’s views.

The controls worked as intended in that they held down wage growth and the price increases of large corporations (see Kosters [1975]). Nevertheless, inflation rose to double digits by the end of 1973. So Burns attributed inflation to special factors, such as increases in food prices due to poor harvests and in oil prices due to the restriction of oil production. However, special factors are by nature one-time events. In 1974, inflation should have fallen as the effect of these one-time events dissipated, but it remained at double-digit levels that year. Burns then blamed inflation on government deficits. Although those deficits were small in 1973 and 1974, Burns was able to make them look larger by adding in the lending of government-sponsored enterprises like the Federal National Mortgage Association.

For Burns, the source of inflation changed regularly. He believed this view only reflected the complexity of a changing world. As a consequence, he did not have a model of inflation that could be contradicted by experience.

The chart gives an illuminating overview

  1. Inflation began to rise long before the oil shock of 1973. The effect of Nixon´s price controls is evident.
  2. Who can say that a large part of the decision of oil producers (dominated by Saudi Arabia) to restrain supply and increase prices was not a reaction to (a) the persistent rise in US inflation which began in 1965, given that oil was priced in dollars and (b) to the strong dollar depreciation that took place after Nixon closed the gold window in August 1971?

Dean Baker Burns_1

Note that both PCE Headline and PCE Core (which excludes food and energy) rose in tandem throughout the 1970s.

This, for example, does not happen during 2003-08 when there was an oil shock of comparable magnitude to the one in the 1970s. Note, especially, that headline inflation climbs somewhat and fluctuates to the beat of oil prices, while core inflation remains low and stable. That´s a very different picture from the 1970s. Who´s responsible?

Quite likely the Fed, who, under Volker and Greenspan had learned that inflation is a monetary phenomenon and that the Fed controls it through its control of nominal spending (NGDP) growth.

The chart below shows the behavior of NGDP growth.

Dean Baker Burns_2

Trending up during the “Great Inflation”, pulled down during the “Volcker Adjustment”, nominal stability during the “Great Moderation” which was lost under Bernanke, giving rise to the “Great Recession”.

Interesting bit:

Burns had a “credit view” of monetary policy. Presided over the “Great Inflation”.

Bernanke also had a credit view of monetary policy. Presided over the “Great Recession”

What´s Yellen´s view? Apparently a “Phillips Curve view” of monetary policy. The “GR” is still ongoing, maybe she´ll contribute to deepen it!

Needed, a central banker with a “monetary view” of monetary policy!

Output Gap targeting is voodoo economics too

A James Alexander post

We have already outlined why inflation targeting is voodoo economics. The juxtaposition of two articles in Saturday’s FT (which I pay for in hard copy, but are behind a paywall) neatly illustrate why targeting NGDP expectations is so important. Debt is nominal but you need nominal growth to pay it back. Especially if you have a smaller nominal economy than expected you will have problems with that debt – and much else besides.

We had already issued an alert about George Osborne’s likely problem from not targeting NGDP growth, and so it comes to pass as the FT reported: 

Paul Johnson, director of the Institute for Fiscal Studies, says the bad news on nominal GDP is much more serious for the public finances than the small headline reductions in real growth forecasts. “The cash coming into the exchequer will be lower, and . . . freezing benefits and increasing pay by just 1 per cent turn out to be less of a real [spending] cut than intended,” Mr Johnson says.

With £18bn knocked off the level of nominal GDP, standard calculations would suggest that if the chancellor kept policy unchanged, this would feed through to a cut in tax revenues of about £9bn every year, enough to wipe out the projected surplus in 2019-20.

The last Labour government learnt how quickly public finances can deteriorate when nominal GDP undershoots. Julian McCrae, deputy director of the Institute for Government, recalls that when he was in the prime minister’s strategy unit in 2008, “we kept nominal [public] spending the same, but that meant huge increases in real terms”.

The second article reported a new and important study that showed why targeting either inflation as the Bank of England says it targets, or real GDP as it actually does, is so dangerous. They also illustrate that while the Output Gap is a valid concept it is unmeasurable, so targeting it is a form of voodoo economics, just like inflation-targeting.

Essentially, because inflation is not measurable, real (inflation-adjusted) output is not measurable either. And thus the output gap between actual real output and “theoretically optimal” real output is just pie in the sky too. All we have is total nominal output (or income or expenditure). Real measures of output (income or expenditure) are just not good enough quality given the challenges of correctly calculating an inflation index with which to deflate actual, nominal, figures to the supposedly underlying real, ones.

An important new survey

Support for this view, as reported by the FT, has come from the recently released exhaustive review into UK economic statistics conducted by Charles Bean The review makes many excellent points. Some opponents of NGDP Targeting, and even some sympathisers, dislike the idea because of the supposedly more often revised NGDP figures. We have dealt with those very weak, lacking-knowledge, criticisms already.

Bean goes through some of the obvious points about the lack of hedonic adjustments in the price indices. Even in the US hedonics is not that widely used. And as I have explained, without a transparent, specific, index for quality adjustments the inflation index itself does not really make sense.

A  choice section is where the high cost of making hedonic adjustments is cited by the UK’s Office of National Statistics (ONS) as a reason for not doing them. So we just have to live with highly unsatisfactory data instead. Or rather we have to live with the awful consequences of a wrong-headed pursuit of wrong numbers by central banks, ie inflation-targeting.

JA Gap Vodoo The section on the lack of any quality adjustments to services is equally damning.

Quality change is not unique to physical goods. Non-tangible characteristics, such as service reliability, effectiveness, or customer satisfaction can vary over time, which means that the quality will not be constant. However, quantifying movements in quality without clearly defined characteristics can nevertheless prove conceptually much more difficult when compared to physical goods.

To be fair, an additional area of challenge to GDP measurement as whole, not just to the deflators comes from intra-firm transactions by multi-nationals, usually with an eye to minimising tax burdens, but other issues can drive these too such as regulatory arbitrage by banks.

This section explored two potential rationales for inter-subsidiary transfers, redomiciling and intellectual property transactions. But these issues are not exhaustive and the challenges from intra-MNE transfers are more diverse. Transfer pricing can also be used to distort non-intellectual property transfers and debt can be shifted around the arms of a company creating distortions through interest rate payments.

Continued integration of global markets is expected to perpetuate the trend to greater foreign asset ownership – of both foreign ownership of UK assets and UK ownership of foreign assets. Therefore intra-MNE transactions of the sort discussed above may increase, worsening potential statistical measurement problems.

These issues make the Ireland and Luxemburg GDP number particularly hard to compile and, frankly, to believe. It is no wonder that these two developed countries are always the last to be accepted by EuroStat into the Euro Area GDP calculations, if at all.

The genuine challenges of measuring actual or nominal GDP should be recognised. Market Monetarists believe nominal stable growth in NGDP is all important to prevent downturns becoming dangerous, unemployment-creating recessions, due to the sticky wages problem. Targeting nominal growth expectations, and keeping those stable is thus far superior to targeting actual NGDP growth. This is partly because it is inevitably backward-looking, but also due to these genuine issues on measurement. If mistakes are made in NGDP looking back, it won’t matter, bygones are bygones.

And it must be so much worse to target things as hard to grasp and calculate as either Real GDP or its ugly sister, inflation. This is to say nothing of which inflation measure to target – either its very overestimated form the CPI (HICP in Europe) or its merely overestimated form the GDP Deflator as in the US.

The  pursuit of the “Output Gap” as voodoo – or worse than voodoo

And then on top of all this pile of uncertainty is added a theoretical amount of real output that economists claim they think should be produced. OK, I understand the concept.

But what to make of pursuing the difference between a theoretically amount of optimal real output and the essentially unmeasurable amount of real output? The pursuit of the output gap or, more colloquially, “slack”.

The dolls used in voodoo are real dolls, but they have no actual physical link with the people they are supposed to represent. Sticking pins in the dolls will not harm the individual. Unfortunately, pursuing unmeasurable concepts like “slack” or “inflation” could well harm people. In some sense, targeting the output gap or inflation is worse than voodoo. Medical doctors first have to take the Socratic Oath: do no harm. If only inflation hawks and slack-hunters took the same vow.

It is, of course, absolutely right that the gap or slack should be minimised but how anyone can have any confidence in the number is beyond belief. Hundreds, perhaps thousands or PhD theses and articles have been written on such an impossible to actually quantify number. What a waste of effort!

Just target nominal growth expectations and avoid sticky-wages caused unemployment and recession. Then leave it to the non-monetary experts, the politicians and the public to argue about what is really going on, ex-inflation and how to make things better if necessary. But please don’t get distracted from the main task of providing nominal stability.

“Die Hard”

It´s not about Bruce Willis´ John McLane character but about the ZLB.


The International Monetary Fund, having just downgraded its forecast for global growth, warned the assembled G20 attendees that yet another downgrade was pending. Despite this, all that emerged from the meeting was an anodyne statement about pursuing structural reforms and avoiding beggar-thy-neighbour policies.

Once again, monetary policy was left – to use the now-familiar phrase – as the only game in town. Central banks have kept interest rates low for the better part of eight years. They have experimented with quantitative easing. In their latest contortion, they have moved real interest rates into negative territory.

The motivation is sound: someone needs to do something to keep the world economy afloat, and central banks are the only agents capable of acting. The problem is that monetary policy is approaching exhaustion. It is not clear that interest rates can be depressed much further.

The solution is straightforward. It is to fix the problem of deficient demand not by attempting to further loosen monetary conditions, but by boosting public spending.

Brad DeLong:

At the zero lower bound on safe nominal short-term interest rates, an expansionary fiscal policy impetus of d percent of current GDP will:

  1. raise current output by (μ)d,
  2. raise future output by (φμ)d, and
  3. raise the debt to GDP ratio by a proportional amount ΔD = (1 – μτ – μφ)d,

where μ is the Keynesian multiplier, τ is the tax rate, and φ is the hysteresis coefficient.

It will then require a commitment of (r-g)ΔD percent of future output the service the additional debt, where r is the real interest rate on government debt and g is the growth rate of the economy. The debt service can be raised through explicit and fiscal deadweight loss-inducing taxation, through inflation–a tax on outside money balances accompanied by disruption of the unit of account–or through financial repression–a tax on the banking system but also imposes financial distortions.

That is the simple arithmetic of expansionary fiscal policy in a liquidity trap.

The question of whether and how much expansionary fiscal policy a government facing a liquidity trap should engage and then becomes a technocratic one of calculating uncertain benefits and uncertain costs.

Larry Summers:

Today’s risks of embedded low inflation tilting towards deflation and of secular stagnation in output growth are at least as serious as the inflation problem of the 1970s. They too will require shifts in policy paradigms if they are to be resolved.

In all likelihood the important elements will be a combination of fiscal expansion drawing on the opportunity created by super low rates and, in extremis, further experimentation with unconventional monetary policies.

Krugman (3 years ago):

I’ve often argued on this blog and in the column that now is a particularly bad time to cut spending, because unlike in normal times, the adverse effects on demand can’t be offset by cutting interest rates. One way to highlight the point is to compare where we are now with a historical episode: the fairly large cuts in federal purchases of goods and services that took place in the early 1990s, as the US military shrank with the end of the Cold War. Here’s federal consumption and investment spending as a share of potential GDP (blue, left scale) versus the Fed funds rate (red, right scale):

Die Hard_1

The Fed could and did cut rates, helping to cushion the impact of spending cuts. It can’t do anything like this now, because the Fed funds rate has already been cut more or less to zero in an attempt to fight the effects of financial crisis.

Austerity right now is a really, really bad idea.

They all “forget” that monetary policy is the “Bruce McLane” in this story. Larry Summers evokes monetary policy experimentation “in extremis”! But that´s the present situation, when everyone else has “given up” on it!

The charts below indicate, contra Krugman (and all ZLB advocates), that it was monetary policy as defined by NGDP growth, not interest rates, that allowed RGDP growth to come back robustly from the 1990/91 recession, even while government expenditures was being crushed.

Die Hard_2

At present, tight monetary policy (despite extremely low interest rates), even if accompanied by relatively (to the 1990s) high government expenditures, is what keeps real growth compressed!

Draghi; the pedal to the metal is fine but he needs to get out of first gear

A James Alexander post

Mr Draghi is like a car driver who has his foot pressed down hard on the accelerator (the instruments, QE, -ve rates, TLRTO, etc, etc) but hasn’t taken the car out of first gear, or maybe second (the inflation ceiling).

The measures announced today were all in line or better than expected in terms of instruments. and the markets liked it. He had managed to surpass already high expectations.

But, dear oh dear, he messed up when talking about the future. ‘No more rate cuts until the facts change’. The trouble is the facts NOW are not so great. Ruling out further easing unless the facts change is not what the market wanted to hear. If the facts stay the same, more action will be needed.

His aides rushed him a mid-meeting restatement of his position, but it just sowed more confusion. “The facts” seemed to transmogrify into the ECBs expectations of future facts, i.e. their forecasts not playing out as expected. So no big change, maybe.

That said, I was already well disappointed before the markets turned tail, they might have done so even without the confusing guidance given in the Q&A.

I like to monitor how soon in each press conference statement he raises the dead hand of the inflation ceiling, and it was a recent record – in the second paragraph came the reiteration of the ECB’s epitaph: “close to, but below, 2%”. Even worse was to follow, he reiterated it a second time in his official statement. It was that bad.

For the first time in a while one of the journalists managed a decent question rather than just asking incredibly dull stuff on technical details. A French guy asked whether the inflation target was symmetrical. Draghi froze, recovered himself, and said that it was. I think. Though others thought not. Who really knows. And then he froze again, looking physically sick. He didn’t elaborate and none of the other useless bunch of journalists in the room asked for more.

He seems scared of discussing what he calls the inflation target/mandate/epitaph of “close to, but below 2%”.

It’s hard to know why it is such an untouchable area. Is he really frightened that it might suddenly un-anchor inflation expectations and lead to hyperinflation? Is he worried about the reaction of Europe’s unelected (by Europe) “leader”, Mrs Merkel? She is powerful, witness the mass migration she triggered when making refugee policy for Europe on the hoof.

Anyway, while Draghi refuses to change to a higher gear, the car will move incredibly slowly despite wasting immense amounts of fuel with the accelerator pressed down to the metal.

This conclusion:

“We are reaching the limits of monetary policy, and that is causing markets a headache,” said Mark Dowding, senior portfolio manager at BlueBay Asset Management.

Is plain wrong. The markets reversal between Draghi´s announcement and the press conference is the clearest example of the power of monetary policy, for good or evil!


Sizing up how the average American voter feels about the economy for a room packed with Ph.D. economists is a tough job.

Charles Cook, editor and publisher of The Cook Political Report, took a shot Tuesday at the National Association for Business Economics policy conference in Washington.

“The recession ended, what five years ago?” he said. A murmur of “seven” rose from the crowd. (The recession ended in June 2009.) Mr. Cook continued with his point: “And you talk to most Americans and they think we’re still in recession.”

That´s because a depressed economy feels much like an economy in an unending recession!