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The Case against Fiscal Stimulus

ResponsiblyIrresponsible
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3/27/2015 8:02:51 AM
Posted: 1 year ago
I promised someone I would explain this position -- that fiscal stimulus is completely useless, unless it acts as an end in itself, rather than a means to an end -- but never got around to it until now.

*Warning: This is a rant, and much of it builds toward fiscal stimulus by the end. Bear with me until then.*

First, a few clarifications.

1. When I say fiscal stimulus, I'm referring to demand-side stimulus. This could take the form of either a tax cut or a spending program -- though the former tends to be beneficial for its supply-side impacts -- but requires, as a general rule, some sort of budget deficit.

2. Demand shocks are extremely important. I'm not an Austrian or a New Classical. I know that wages and prices are sticky in the short run, and thus AD shortfalls reduce employment.

3. This only applies to countries, like the U.S., which have an independent monetary policy. I'm less likely to critique, say, fiscal stimulus in the eurozone currency union where 19 countries share a monetary policy, and thus stimulus in the torn periphery is deleterious to, say, Germany, Austria, the Netherlands, etc.

4. The only time even Keynesians support any sort of fiscal stimulus is when interest rates are pinned at the zero lower bound -- what they brand a "liquidity trap," whereby the LM curve is perfectly flat and insensitive to changes in the interest rate, resulting in the impotence of monetary policy, as cash and bonds are near-perfect substitutes. I think this characterization is not only wrong, but as Rick Mishkin put it, highly dangerous -- and the past six years serve as the best possible refutation of this imaginable.

5. If we're at the zero lower bound, all else equal, fiscal stimulus *will* boost RGDP and NGDP. Never once have I denied this, *but* I'm arguing that, assuming appropriate monetary policy, it cannot and will not shift the AD curve more than monetary policy already would have.

6. Ricardian Equivalence -- the idea that higher budget deficits cause people to save more, and thus put off hiring and investment -- is not my primary argument. It's a fine argument that factors into the cost-benefit analysis, but I'm making the case not that fiscal stimulus is ipso facto harmful, but that it's a wash -- and lackluster relative to the alternative of monetary stimulus.

7. The only valid counter-argument that I think has any merit at all is pragmatism: you could argue, for instance, that the Fed will not be pursuing appropriate policy, but instead will factor in ex-ante lags and treat its inflation target as an inflation ceiling -- whereby, if it comes within a range of, say, 20 or 30 basis points, it declares "mission accomplished." I am in fact assuming that the Fed cares about price stability *and* maximum sustainable employment. For our purposes, let's pretend that Charles Evans, Paul Krugman, Larry Summers, or Narayana Kocherlakota are running the Fed -- or at least that their thought process isn't seen as so "fringe." Of course, they happen to be right.

So, the tl;dr is that we're assuming that we're in a terrible recession. The Fed responded, cutting its short-term benchmark interest rate to zero, and yet we're still in a slump, markets haven't substantially moved, inflation and NGDP expectations are in the toilet, financial frictions have increased, etc.

Now, in the classical model, there's no reason to fret: wages and prices are perfectly flexible. In other words, demand falls, and wages and prices follow. Only nominal variables changed, meaning that output does not. In this model, the only factors inhibiting employment are (1) people opting for leisure over work due to dissatisfaction with the prevailing wage and (2) supply-side factors.

This model, endorsed by many Austrian school and Chicago economists, is positively bonkers. This isn't just my opinion, but contrary to even the most basic textbook macro models -- we know that wages and prices are sticky in the short run, and tend to become flexible as "labor markets clear." In other words, if we do nothing and wait it out, we should expect markets to self-correct. Heaven knows how long that will take, and it may require a Depression-era scenario or widespread starvation to un-stick the wage. This itself is why you'll often hear Greg Mankiw and others argue that monetary policy ought to target the stickiest wage -- i.e., the industry least resilient to demand shocks. It's also why labor-market reforms that makes wages more flexible are beneficial during normal times, though questionable at the ZLB.

However, this mechanism breaks down when nominal interest rates reach zero. Why? The paradox of flexibility. I won't go into depth about the particular model or what in the world a kinked demand curve is supposed to look like, but basically, when nominal rates hit zero, a rise in inflation means a reduction in real interest rates: this tends to induce firms and consumers to spend more, which is obviously necessary and beneficial amid a demand shortfall. But, the flip side is also true: a fall in inflation means a fall in real interest rates, which tends to reduce spending. In other words, if we allow wages and prices to fall, we end up with a self-reinforcing deflationary spiral whereby reductions in inflation -- expected and realized -- raise real rates, reduce inflation again, etc.

Now, are the Keynesians right -- is the Fed pushing on strings? Not even close. This position is highly deceptive and dangerous, and discounts the past six years of monetary policy which was the essence of why the U.S. economy isn't currently experiencing a self-reinforcing deflationary spiral, a la Japan.

What can the Fed do when interest rates hit zero? Several things. First, it can promise to maintain interest rates where they are for an extended period of time. Long-term rates are based in part on a weighed average of short rates, so shifting the expected liftoff date (observed, for instance, in FFR futures contracts) would tend to reduce long-term rates and induce investment. Second, it can buy long-term bonds to reinforce its commitment to a future low-rates policy and directly reduce term premia on long-term bonds. Third, it can purchase currencies in the foreign exchange market, thus reducing the USD's exchange value and bolstering exports -- though the aforementioned policies, and particularly the expectation of future loose money, will have this effect *without* direct ForEx intervention. Fourth, it can act as a "lender of last resorts" to provide liquidity at times of financial stress -- though this facility, unfortunately, was gutted in Title XI of the Dodd-Frank Act.

The best way to magnify this effect is by making a credible commitment to being irresponsible. There's a great deal of research on this I won't get into, but the proposal that I'm advocating, which augments much of that work, is to commit to a higher future level of nominal spending -- or, more specifically, returning nominal spending to trend, compensating for lower-than-trend spending growth amidst the recession. The Fed's role is to maintain nominal spending growing at about 5 percent -- depending on how seriously you take secular stagnation.

Now, the moment we've all been waiting for: why can't fiscal stimulus be a useful tool to get us there? For several reasons. One, if the Fed is maintaining nominal spending at 5 percent growth per year, why do you need fiscal stimulus? It's only going to cause the Fed to either be more contractionary or expansionary, but can't move the AD curve further. Any fiscal multiplier above 0 is a measure of Fed incompetence. Second, why would you want a costly stimulus when the Fed can do it at no cost -- and it's more reversible? This is where Ricardian Equivalence comes into play. Third, the Fed, not Congress, controls overall demand -- thus, only the Fed can magnify policy impacts by influencing market expectations.
~ResponsiblyIrresponsible

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3/27/2015 8:10:31 AM
Posted: 1 year ago
For some reason, the end of this was cut off:

tl;dr:

VTL Fiscal Stimulus. To the dustbin of history with you, where every other egregiously bad idea has gone.
~ResponsiblyIrresponsible

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slo1
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3/27/2015 8:25:26 AM
Posted: 1 year ago
"The Fed's role is to maintain nominal spending growing at about 5 percent"

The Fed can only influence nominal spending by lowering the interest rates. How can it maintain nominal spending at any rate especially in a situation such as the Great Recession when nominal spending on labor did not rebound thus consumer spending did not rebound? Since it can only indirectly affect nominal spending, it had to pull out a new thing of buying mortgages out of its hat to help prop up the real estate market to reduce that drag on the market. It still was not a traditional rebound to a recession.

There are so many factors involved that there never is a single lever to pull when it comes to managing an economy. There is even a time and place for gov spending/deficits as long as done responsibly.
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3/27/2015 8:38:01 AM
Posted: 1 year ago
At 3/27/2015 8:25:26 AM, slo1 wrote:
"The Fed's role is to maintain nominal spending growing at about 5 percent"

The Fed can only influence nominal spending by lowering the interest rates.

That's not true at all -- and that's the entire case I've been making. Short rates have been pinned at zero since December 2008, and that itself didn't stop the Fed from pursuing an even more expansionary policy. Long rates are infinitely more important than short rates when it comes to influencing business and household decisions, and those are predicated on *market expectations*--the signalling channel--which is particularly prominent at the ZLB. Not to mention, interest rates by themselves are a terrible gauge of the stance of monetary policy.

Not to mention, nominal spending *is* the Fed's dual mandate. Your statement suggests that, after rates hit zero, monetary policy is completely impotent -- which is 100% untrue and in fact dangerous.

How can it maintain nominal spending at any rate especially in a situation such as the Great Recession when nominal spending on labor did not rebound thus consumer spending did not rebound?

This is....precisely the point I was making -- demand shocks matter, and maintaining nominal spending is of the utmost importance.

First, it could've prevented nominal spending from falling in the first place. It probably could've ameliorated subprime, but that's another story. From 2008: Q1, the Fed allowed nominal spending to plummet significantly. Further, it allowed real rates to rise and the dollar to appreciate, and even after Lehman fell, it was focused on *past* inflation rather than inflation forecasts -- the former was at 2 percent, the latter was far lower. I'm suggesting that the Fed should focus on keeping market forecasts of nominal GDP at about 5 percent.

Second, if it actually screwed up and allowed nominal spending to plummet, it can pursue all of the aforementioned tools from my first post -- particularly an NGDP level target at about 5 percent.

Since it can only indirectly affect nominal spending, it had to pull out a new thing of buying mortgages out of its hat to help prop up the real estate market to reduce that drag on the market. It still was not a traditional rebound to a recession.

You're suggesting that the Fed has already pursued my proposal in the form of QE -- buying MBS securities. That isn't the case. QE could in fact be *part* of what I'm suggesting, but is by no means an end in itself. We know from empirical work that QE is only effective insofar as the expected path of the short rate is communicated -- i.e., insofar as it bolsters forward guidance. That's where the level target comes into play -- which was a proposal the Fed hasn't even entertained. Not only that, but markets see the 2 percent inflation target as a ceiling -- why else would the Fed be willing to raise rates later this year when it doesn't expect to hit its target until, at the least, 2017?

The proposal is, effectively, to allow inflation to become countercyclical -- if or when the economy tanks, an NGDP target would be a de-facto increase in the inflation target. If we stabilize NGDP at 5 percent and preempt volatility, we're good. By no means must that entail an *actual* increase in the inflation target, since (1) much of that growth will likely be real and (2) the ratio of RGDP to inflation is determined not by the Fed, but by the elasticity of the AS curve. If the Fed maintains nominal spending, irrespective of the composition of PY, it's done its jobs.

There are so many factors involved that there never is a single lever to pull when it comes to managing an economy.

This is extremely vague, and it sounds great on paper to people who are uninformed, but it just isn't the case. I'm talking about demand shocks -- demand is NGDP, or nominal spending. By maintaining nominal spending, which the Fed has the power and ability to do if it so wished, we are, technically, "pulling a single lever." If the downturn were driven by the supply-side, as it was in 1973, we'd be having a totally different argument about the role for monetary policy.

There is even a time and place for gov spending/deficits as long as done responsibly.

No, there is not -- assuming, once again, appropriate monetary policy, which can accomplish everything fiscal stimulus can accomplish, but only (1) faster; (2) at lower (read: no) cost; and (3) much more effective.
~ResponsiblyIrresponsible

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slo1
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3/27/2015 9:02:01 AM
Posted: 1 year ago
At 3/27/2015 8:38:01 AM, ResponsiblyIrresponsible wrote:
At 3/27/2015 8:25:26 AM, slo1 wrote:
"The Fed's role is to maintain nominal spending growing at about 5 percent"

The Fed can only influence nominal spending by lowering the interest rates.

That's not true at all -- and that's the entire case I've been making. Short rates have been pinned at zero since December 2008, and that itself didn't stop the Fed from pursuing an even more expansionary policy. Long rates are infinitely more important than short rates when it comes to influencing business and household decisions, and those are predicated on *market expectations*--the signalling channel--which is particularly prominent at the ZLB. Not to mention, interest rates by themselves are a terrible gauge of the stance of monetary policy.

Not to mention, nominal spending *is* the Fed's dual mandate. Your statement suggests that, after rates hit zero, monetary policy is completely impotent -- which is 100% untrue and in fact dangerous.

It surely is not a liner relationship. Japan had this very same problem for decades, interest rates below zero, yet they could not increase nominal spending if their lives depended upon it. Interest rate is not the only factor involved with generating economic growth.

How can it maintain nominal spending at any rate especially in a situation such as the Great Recession when nominal spending on labor did not rebound thus consumer spending did not rebound?

This is....precisely the point I was making -- demand shocks matter, and maintaining nominal spending is of the utmost importance.

First, it could've prevented nominal spending from falling in the first place. It probably could've ameliorated subprime, but that's another story. From 2008: Q1, the Fed allowed nominal spending to plummet significantly. Further, it allowed real rates to rise and the dollar to appreciate, and even after Lehman fell, it was focused on *past* inflation rather than inflation forecasts -- the former was at 2 percent, the latter was far lower. I'm suggesting that the Fed should focus on keeping market forecasts of nominal GDP at about 5 percent.

The Fed's tool kit to impact the economy is all through techniques which have indirect impacts upon spending. If they had the ability to keep nominal GDP at 5 percent within reasonable inflation, they by all means would do it. Unfortunately there is an army of companies and individuals who collective behaviors get in the middle of those plans.

Second, if it actually screwed up and allowed nominal spending to plummet, it can pursue all of the aforementioned tools from my first post -- particularly an NGDP level target at about 5 percent.

At what inflation rate are you willing to maintain to keep NGDP at 5 percent?

Since it can only indirectly affect nominal spending, it had to pull out a new thing of buying mortgages out of its hat to help prop up the real estate market to reduce that drag on the market. It still was not a traditional rebound to a recession.

You're suggesting that the Fed has already pursued my proposal in the form of QE -- buying MBS securities. That isn't the case. QE could in fact be *part* of what I'm suggesting, but is by no means an end in itself. We know from empirical work that QE is only effective insofar as the expected path of the short rate is communicated -- i.e., insofar as it bolsters forward guidance. That's where the level target comes into play -- which was a proposal the Fed hasn't even entertained. Not only that, but markets see the 2 percent inflation target as a ceiling -- why else would the Fed be willing to raise rates later this year when it doesn't expect to hit its target until, at the least, 2017?

The proposal is, effectively, to allow inflation to become countercyclical -- if or when the economy tanks, an NGDP target would be a de-facto increase in the inflation target. If we stabilize NGDP at 5 percent and preempt volatility, we're good. By no means must that entail an *actual* increase in the inflation target, since (1) much of that growth will likely be real and (2) the ratio of RGDP to inflation is determined not by the Fed, but by the elasticity of the AS curve. If the Fed maintains nominal spending, irrespective of the composition of PY, it's done its jobs.

It can't maintain nominal spending. The Fed only sets rates on the overnight lending rate between banks and the rate banks get on their deposits in the Fed. Quantitative easing is a process which manipulates the interest rates of gov debt which in turn influences the rates which consumers and businesses get to borrow money at. Our Fed had pumped out trillions of dollars into the economy via quantitative easing which in turn had lowered rates and infused capital to be used in the economy, but yet we did not see the nominal spending rate increase. They basically flooded the market with money from a printing press and we did not even see inflation increase to many a gold bugs chagrin.

The Great Recession proves that the Fed does not have the tools needed to keep nominal GDP at 5 percent. Could you imagine the level of deflation despite 3 or 4 trillion $ of quantitative easing if the gov had a balanced budget. We would have been in a depression despite record low interest rates.

There are so many factors involved that there never is a single lever to pull when it comes to managing an economy.

This is extremely vague, and it sounds great on paper to people who are uninformed, but it just isn't the case. I'm talking about demand shocks -- demand is NGDP, or nominal spending. By maintaining nominal spending, which the Fed has the power and ability to do if it so wished, we are, technically, "pulling a single lever." If the downturn were driven by the supply-side, as it was in 1973, we'd be having a totally different argument about the role for monetary policy.

There is even a time and place for gov spending/deficits as long as done responsibly.

No, there is not -- assuming, once again, appropriate monetary policy, which can accomplish everything fiscal stimulus can accomplish, but only (1) faster; (2) at lower (read: no) cost; and (3) much more effective.

There is indeed a place for gov spending in managing an economy and the Great Recession is the poster child for that as traditional methods the Fed uses has come up woefully short.
ResponsiblyIrresponsible
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3/27/2015 10:34:39 AM
Posted: 1 year ago
At 3/27/2015 9:02:01 AM, slo1 wrote:
It surely is not a liner relationship. Japan had this very same problem for decades, interest rates below zero, yet they could not increase nominal spending if their lives depended upon it. Interest rate is not the only factor involved with generating economic growth.

That's precisely what I said, thought that runs directly counter to your earlier remarks.

In the case of Japan -- and Gauti Eggertsson from Brown has written about this extensively -- is that, even though the BOJ doubled the monetary base, the public expected deflation because the BOJ did not make a credible commitment to maintaining accommodation, or to maintaining nominal spending moving forward. It was expected -- and it followed through -- that it would withdraw accommodation as soon as deflationary pressures subsided. Expectations are key, and this is the crux of my argument: expectations matter, and monetary policy *can* gain traction at the ZLB, obviating the need for fiscal stimulus.

The Fed's tool kit to impact the economy is all through techniques which have indirect impacts upon spending.

Sure. So? It can inject reserves into the system or make loans to financial institutions which result in future spending. You're saying this as though it's some profound point, when in reality it's not, unless you actually think that investors are going to hold onto base money *if* the central bank is promising that future nominal spending, and thus the future price level, will be higher.

If they had the ability to keep nominal GDP at 5 percent within reasonable inflation, they by all means would do it.

Totally wrong -- and you admitted this earlier on the BOJ. As I explained in my earlier post, the Fed, currently, is marching toward liftoff later this year when headline PCE inflation is not only below target, but embarrassingly so -- 3 tenths of 1 percent, relative to a 2 percent target.

Further, as I explained earlier, the Fed *does not* have a level target; it has not promised to do anything necessary to maintain trend NGDP growth. The communication policy simply isn't there -- and it began paying interest on reserves back in October 2008. So even if you buy that interest rates are the sole determinant of the stance of policy -- they're not -- this policy adopted amid the crisis, the purpose of which was to prevent money market rates from tanking any further, was ipso facto contractionary.

Unfortunately there is an army of companies and individuals who collective behaviors get in the middle of those plans.

This hardly makes any sense. I first interpreted this as an argument that lobbying obviates optimal monetary policy -- which is obviously absurd in the case of an independent central bank. Then, you could be saying that people and businesses may react irrationally to Fed policy. Even if I accepted that, you would need to actually make a case that markets are so utterly inefficient that expansionary Fed policy hasn't the ability to move them such that those effects spill over into other sectors. As recent history shows -- even in the case of terrible communication, like the 2013 "Taper Tantrum" -- financial markets respond relatively efficiently.

At what inflation rate are you willing to maintain to keep NGDP at 5 percent?

At whatever is necessary -- the aggregate, not the composition, is what matters. I'd rather have 6 percent inflation if RGDP growth is at -1, then RGDP growth at -1 and outright deflation. Not to mention, as I also noted earlier, an implicit higher inflation target tends to increase RGDP, though this composition is determined on the supply side of the economy, not by the Fed.

It can't maintain nominal spending. The Fed only sets rates on the overnight lending rate between banks and the rate banks get on their deposits in the Fed.

This is so completely and hopelessly wrong, because you just conceded earlier that it bought a bunch of mortgage-backed securities to push down long rates. Further, I explained in my first post -- that clearly you either haven't read, or failed to comprehend -- how the Fed can provide further accommodation at the zero lower bound, which is precisely what it's been doing. The most obvious way it does so is impacting long-term interest rates by promising to maintain the fed funds rate at low levels for an "extended period" or something of that nature. Ben Bernanke gave a great speech on that in 2013, if you're interested, and Lars Svensson, Paul Krugman, Gauti Eggertsson, and Mike Woodford have researched and written about this extensively.

Quantitative easing is a process which manipulates the interest rates of gov debt which in turn influences the rates which consumers and businesses get to borrow money at.

I know what QE is, so repeating it back to me doesn't create some veil of credibility. Unsurprisingly, you missed the signalling channel, which is precisely what matters and what is missing from your analysis. QE *signals* a willingness to accept looser money, which bears on market expectations and thus, itself, drives investment and consumption activity.

Our Fed had pumped out trillions of dollars into the economy via quantitative easing which in turn had lowered rates and infused capital to be used in the economy, but yet we did not see the nominal spending rate increase.

Completely false. Have you even looked at NGDP data? It's been rebounding significantly in recent years. There's research on this to the effect that -- and there are many estimates, and these are conservative -- that had it not been for LSAP's, inflation would be 50 basis points lower and the unemployment rate 125 basis points higher.

They basically flooded the market with money from a printing press and we did not even see inflation increase to many a gold bugs chagrin.

It did increase. We had outright deflation via the headline index in 2009, and now we don't. We didn't see hyperinflation because you can throw a bunch of money into the system at zero rates without much inflationary outcome, but that is *not* a sign of the impotence of monetary policy--but only of the incompetence of the Fed to actually pursue the policy proposed by Ben Bernanke in the 1990s for Japan. His (price-level targeting) is slightly different from mine, but it's the same general principle.

The Great Recession proves that the Fed does not have the tools needed to keep nominal GDP at 5 percent.

Also nonsense -- it's proof that allowing NGDP to plummet, and then not doing enough about it is particularly deleterious. You have for some reason this idea that the Fed used every tool at its disposal amid the crisis, and it just couldn't gain any traction. That's totally wrong, for the reasons I've explained:

(1) It didn't began to expand its balance sheet until October 2008 -- NGDP began to fall in early 2008.

(2) It implemented IOR in October 2008, which was ipso facto contractionary.

(3) If you actually were to look at its Treasury purchases relative to inflation -- and David Beckworth has a great piece on this -- you'd see that the Fed pulled back on its asset purchases right around times when inflation edged up near 2 percent. In other words, the target is a ceiling.

(4) No level target

(5) Extremely tight money in 2008, generally -- allowed NGDP to fall, real rates to rise, dollar to appreciate, ignored market forecasts and labor-market rigidities, etc.

I'm out of space, but I'll respond to the rest of your post in a minute.
~ResponsiblyIrresponsible

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3/27/2015 10:39:42 AM
Posted: 1 year ago
Could you imagine the level of deflation despite 3 or 4 trillion $ of quantitative easing if the gov had a balanced budget. We would have been in a depression despite record low interest rates.

When did I advocate for a balance budget? It's best you not conflate issues. Nowhere did I suggest that the budget ought to always be balanced -- but only that *stimulus*, like the 2009 ARA, is useless relative to appropriate monetary policy. Budget deficits do not immediately translate to stimulus spending, because the main cause is a depressed economy. If you actually wanted a stimulus to match the longevity of the crisis by itself -- Mike Woodford's argument -- then you'd need, per Krugman's estimate, a stimulus about three times the size it was. Do you want that? Because I don't -- I think it would raise expectations of future taxes considerably, and would complicate the long-run budget outlook far more than if we just used monetary policy.

Also, the most significant flaw in your logic is your ceteris-paribus line of thinking. My entire argument, which you've clearly missed, is that monetary policy offsets fiscal policy. Even *if* we had a balanced budget -- note that this is not my proposal, and you won't find that strawman anywhere in my post -- the Fed would be even more aggressive in easing policy to offset the headwind of fiscal austerity, so even *that* wouldn't result in deflation. In fact, it may even be expansionary because (1) there's a longer-term commitment to accommodation which was lacking amid the recent crisis and (2) expectations of futures taxes decline, which itself bolsters investment.

There is indeed a place for gov spending in managing an economy and the Great Recession is the poster child for that as traditional methods the Fed uses has come up woefully short.

You completely dodged everything that I've written in response to your point. Asserting doesn't make it so. I've already responded to your claim that the Fed has come up "woefully short" with the context you clearly missed, so I don't feel the need to repeat myself.
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slo1
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3/27/2015 11:59:53 AM
Posted: 1 year ago
At 3/27/2015 10:39:42 AM, ResponsiblyIrresponsible wrote:
Could you imagine the level of deflation despite 3 or 4 trillion $ of quantitative easing if the gov had a balanced budget. We would have been in a depression despite record low interest rates.

When did I advocate for a balance budget? It's best you not conflate issues. Nowhere did I suggest that the budget ought to always be balanced -- but only that *stimulus*, like the 2009 ARA, is useless relative to appropriate monetary policy. Budget deficits do not immediately translate to stimulus spending, because the main cause is a depressed economy. If you actually wanted a stimulus to match the longevity of the crisis by itself -- Mike Woodford's argument -- then you'd need, per Krugman's estimate, a stimulus about three times the size it was. Do you want that? Because I don't -- I think it would raise expectations of future taxes considerably, and would complicate the long-run budget outlook far more than if we just used monetary policy.

Also, the most significant flaw in your logic is your ceteris-paribus line of thinking. My entire argument, which you've clearly missed, is that monetary policy offsets fiscal policy. Even *if* we had a balanced budget -- note that this is not my proposal, and you won't find that strawman anywhere in my post -- the Fed would be even more aggressive in easing policy to offset the headwind of fiscal austerity, so even *that* wouldn't result in deflation. In fact, it may even be expansionary because (1) there's a longer-term commitment to accommodation which was lacking amid the recent crisis and (2) expectations of futures taxes decline, which itself bolsters investment.

I must have missed something. All I know is that the Fed threw something like 4 trillion dollars of money into the money supply with the intent of creating liquidity while also using their twist program to keep interest rates low and they were unable to hit their inflation targets and had years of deflationary risk because the tools they use and you are advocating are not effective enough to.

Look forward 10 years. Exactly how does the fed unwind that level of bond purchases especially when it is almost certain we will have another recession in the next 10 years. There is a limit to how much bonds and mortgages the Fed can purchase without causing hyper inflation.

The simple fact is that the Federal, State, & local governments are huge contributers to spending and economic activity. You can't ignore them when it comes to fiscal planning.

The fed can control the overnight lending rate bank charges, the rate depositors receive on fed bank deposits, and they can buy or sell bonds (Gov and Mortgage) on the open market. They can do more things such as set reserve requirements for banks, but they don't mess with that stuff.

You are trying to tell me that it is possible to stick NGDP to 5% plus or minus 2% buy just using those three tools?

If you, are I am calling you out on such silly notions.

There is indeed a place for gov spending in managing an economy and the Great Recession is the poster child for that as traditional methods the Fed uses has come up woefully short.

You completely dodged everything that I've written in response to your point. Asserting doesn't make it so. I've already responded to your claim that the Fed has come up "woefully short" with the context you clearly missed, so I don't feel the need to repeat myself.
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3/27/2015 12:58:16 PM
Posted: 1 year ago
At 3/27/2015 11:59:53 AM, slo1 wrote:
I must have missed something. All I know is that the Fed threw something like 4 trillion dollars of money into the money supply with the intent of creating liquidity while also using their twist program to keep interest rates low and they were unable to hit their inflation targets and had years of deflationary risk because the tools they use and you are advocating are not effective enough to.

They created about $4 trillion in base money, yes, but most of was held by banks as excessive reserves or by investors as cash -- the money multiplier, which represents a ratio of increases in M1 per dollar increase in base money, was (and is) actually below 1. Further, the velocity of money -- since when we discuss NGDP, we really mean M * V -- is at historic lows, which obviously explains why we didn't get inflation.

Twist was a bit different, but was essentially another QE: the Fed sold $400 billion in short-term Treasuries and bought $400 billion in long-term Treasuries. That would, generally, apply upward pressure on the short end of the yield curve and downward pressure on the long end - though short rates are pinned at zero by the large balance sheet, so the impact was reducing long rates, for which there is evidence it actually accomplished rather well.

I wouldn't say "years of deflationary" risk. There was deflation in 2009 -- but nothing of the sort since. Inflation bottomed out and began to rise steadily, though obviously it remains below target. Actual QE did to some extent reinforce a long-term commitment and re-anchored inflationary expectations -- at least in the long term -- at around 2 percent, which is crucial to actually achieving 2 percent.

That said, you're fundamentally missing the point. What the Fed did was inadequate -- both of us agree. Where you're completely and totally wrong is making the leap to "the tools you're advocating are ineffective." That couldn't be any further from the truth, because I'm actually looking at what the end goal is -- nominal GDP -- rather than a flawed gauge, inflation, or the gauge you mentioned, the monetary base, or even interest rates. Further, I already pointed out a multiplicity of things the Fed did or didn't do in my last post -- which I suggest you look at for my position on this -- that were wrong. There's no basis for that type of non sequitur.

Look forward 10 years. Exactly how does the fed unwind that level of bond purchases especially when it is almost certain we will have another recession in the next 10 years. There is a limit to how much bonds and mortgages the Fed can purchase without causing hyper inflation.

First, it's not "almost certain" that we'll have another recession in 10 years. Heck, recessions were a lot more frequent prior to 1980, though we've had 5 since. Not to mention, recessions result, generally, from a shortfall in AD -- if the Fed followed my proposal, this wouldn't be an issue.

Second, unwinding isn't the least bit difficult for several reasons: (1) the Fed is a credible inflation fighter, and has been since the Volcker era, so expectations of inflation are well-anchored; (2) there are a number of liquidity drainage operations -- i.e., Term Deposit Facility -- that are readily available to drain excessive reserves; and (3) the Fed *knows* how to fight inflation because it's done so before -- the risk is in doing nothing and having deflation, a la the Depression, or a self-reinforcing death spiral, a la Japan. Not to mention, it's extremely easy to unwind the balance sheet in the same way the Fed accumulated assets, but backwards: first, it can stop reinvesting principle payments and allow its assets to mature, and then sell X billion per month, monitoring of course the impact on interest rates and inflation expectations. It's actually an extremely easy process.

Your point on hyperinflation is also wrong, because (1) when did approaching said limit?; (2) see the points on velocity and the weak M1 multiplier; (3) even if some amount of assets caused inflation to increase, that need not lead to hyperinflation -- which results from countries, like Zimbabwe, with debts nominally denominated in different currencies and thus needing to print to finance expenditures. That obviously isn't the case here.

The simple fact is that the Federal, State, & local governments are huge contributers to spending and economic activity. You can't ignore them when it comes to fiscal planning.

First, this is an is/ought fallacy.

Second, when did I deny this? When did I say to "ignore" them? This is another strawman. I'm saying that *stimulus* ought to emerge from the Fed, not from budget deficits. It's a question not of whether we ought to gut government spending at all levels -- see my response to your strawman on a balanced budget -- but whether we would actively *increase* spending, which I'm saying the federal government need not do if the Fed is doing its job. In the case that it is, fiscal policy becomes muted in terms of its impact on demand.

The fed can control the overnight lending rate bank charges, the rate depositors receive on fed bank deposits, and they can buy or sell bonds (Gov and Mortgage) on the open market. They can do more things such as set reserve requirements for banks, but they don't mess with that stuff.

Clearly, I'm fully aware of all of this stuff, so why you felt the need to tell me this, while at the same time failing to use your post space to respond to the rest of my points, says a lot. Yes, and the Fed can do a heck of a lot than that.

You are trying to tell me that it is possible to stick NGDP to 5% plus or minus 2% buy just using those three tools?

No, I'm not -- there's a lot more (signalling channel, forward guidance, communication) that I've been stressing in every single one of my posts, but you have completely ignored even in your analysis here, likely because you don't understand them. I even took the time to mention how this would work and how QE -- and even the mechanism by which the Fed adjusts the benchmark short rate -- requires communication.

If you, are I am calling you out on such silly notions.

I'm not -- you just can't read, chose not to read, or didn't understand what I wrote, and thus you chose to strawman what I said by substituting what you think I said for what I actually said.

I find it hilarious, also, that you think you're in any place to "call me out." You haven't engaged a single point I've made fairly or honestly, nor have you made a single credible argument -- and you even dropped the bulk of what I've said in response to you. The idea that you could possibly call me out, or prove me wrong, or even honestly challenge anything I've said is a ludicrous notion. You're doing nothing more than exposing your ignorance for all to see.

There is indeed a place for gov spending in managing an economy and the Great Recession is the poster child for that as traditional methods the Fed uses has come up woefully short.

You completely dodged everything that I've written in response to your point. Asserting doesn't make it so. I've already responded to your claim that the Fed has come up "woefully short" with the context you clearly missed, so I don't feel the need to repeat myself.

Like, for instance, what I wrote above -- you didn't respond to this, even though you repeated the same outright lie that "the Fed has come up woefully short." I said, even in my last post, that you dodged my response, yet you continued to do so! Some call out. If this is a call out, I wish it could happen more often -- it's like a good work out for me, and I think, if you actually take the time to listen, you'll learn a lot.
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slo1
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3/27/2015 1:57:34 PM
Posted: 1 year ago
OK let's go through your proposal:

1. First, it can promise to maintain interest rates where they are for an extended period of time.

They do that and have done that. They meet 8 times a year to discuss interest rates and the market analyzes each and every word the Fed says. They also put out targets as to how long they think rates will remain, often years down the road.

2. Second, it can buy long-term bonds to reinforce its commitment to a future low-rates policy and directly reduce term premia on long-term bonds.

They do that and have done that to the tunes of trillions.

3. Third, it can purchase currencies in the foreign exchange market, thus reducing the USD's exchange value and bolstering exports -- though the aforementioned policies, and particularly the expectation of future loose money, will have this effect *without* direct ForEx intervention.

They don't do this and I'm not even certain they can do this level of currency manipulation. They do liquidity swaps with other country's central banks, but that is to solve liquidity issues rather than devalue the dollar. This is another technique Japan likes to do.

4. Fourth, it can act as a "lender of last resorts" to provide liquidity at times of financial stress -- though this facility, unfortunately, was gutted in Title XI of the Dodd-Frank Act.

The Fed gave over $2 trillion of loans to various companies and institution in 2008 as a lender of last resort. (Frank Dodd may have put restrictions such as emergency lending needs to be approved by the Sec of Treasury, but it surely did not eliminate the Fed as lender of last resort. In fact it expands Fed power by allowing to regulate and stress test institutions deemed critical to overall economy such as large banks.)

Again you are not advocating anything new other than manipulating foreign currency markets to lower value of the dollar. I may have said that the Feds techniques were ineffective the last post which was not quite what I meant. It was effective in that it help us avoid a huge disaster However, it was ineffective getting to your 5% target because again once more, these tools alone are not enough to get businesses and consumers spending at a rate (aka velocity) needed to hit those targes. Sometimes gov stimulus is needed to help tie things over until monetary policy techniques can have their effect. Even if you argue the value of gov stimulus is not that valuable, it surely does not cause increased deflation when coupled with monetary policy.

One thing I have to admit, you are an economist through and through by obfuscating the entire process. Last thing to say again is that the untypical rebound from the Great Recession is proof positive that you can not hit the target of hitting ngdp of 5% using the monetary policy schemes you outlayed.

PS. I have not taken you to task for commenting that -1% gdp and 6% inflation to equal ngdp of 5% is a worthy target for the Fed. That is just absurd because it implies supply side issues such as too high cost of borrowing to enable expansion.
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3/27/2015 2:25:02 PM
Posted: 1 year ago
At 3/27/2015 1:57:34 PM, slo1 wrote:

1. First, it can promise to maintain interest rates where they are for an extended period of time.

They do that and have done that. They meet 8 times a year to discuss interest rates and the market analyzes each and every word the Fed says. They also put out targets as to how long they think rates will remain, often years down the road.

Agreed -- but interest rates are a terrible gauge of the stance of monetary policy *and* the Fed has screwed this up a multiplicity of times, including signalling even now that it'll move later this year in spite of bitterly low inflation; screwing up in 2013 by claiming that "considerable time equals about six months"; failing to expand the balance sheet until October 2008 or even drop the target range to 0 until December; signalling liftoff in May-June 2013; unwinding asset purchases too early, etc. Much of that was actually *due* to the 2009 stimulus.

So, yes, they've generally followed this one, though again, interest rates are a terrible gauge of the stance of monetary policy. For instance, we had high rates but really loose money in the 1970s, but low rates, and really tight money, in the 1930s.

2. Second, it can buy long-term bonds to reinforce its commitment to a future low-rates policy and directly reduce term premia on long-term bonds.

They do that and have done that to the tunes of trillions.

They don't do it anymore -- they stopped in October. And, as I pointed out, they would stop as soon as they begin to approach their inflation target, reinforcing the idea that it's a ceiling. And, of course, they have the wrong target, banks are holding reserves, investors currency, the velocity of money is low, etc. This goes hand-and-hand with communication: overly hawkish communication policy would preclude dovish QE purchases. So, yes, these helped -- a lot -- but they were inadequate.

3. Third, it can purchase currencies in the foreign exchange market, thus reducing the USD's exchange value and bolstering exports -- though the aforementioned policies, and particularly the expectation of future loose money, will have this effect *without* direct ForEx intervention.

They don't do this and I'm not even certain they can do this level of currency manipulation. They do liquidity swaps with other country's central banks, but that is to solve liquidity issues rather than devalue the dollar. This is another technique Japan likes to do.

This is true, though they are legally allowed to do it -- it would just be extremely unpopular. But the point was, if they're following a loose enough policy, they should depreciate the dollar. That wasn't the case in 2008--the exchange rate value of the dollar, in fact, didn't fall until much later.

4. Fourth, it can act as a "lender of last resorts" to provide liquidity at times of financial stress -- though this facility, unfortunately, was gutted in Title XI of the Dodd-Frank Act.

The Fed gave over $2 trillion of loans to various companies and institution in 2008 as a lender of last resort.

True -- and that's the main reason we're not in a Depression.

(Frank Dodd may have put restrictions such as emergency lending needs to be approved by the Sec of Treasury, but it surely did not eliminate the Fed as lender of last resort. In fact it expands Fed power by allowing to regulate and stress test institutions deemed critical to overall economy such as large banks.)

No, this is false -- and stress tests are entirely separable from the "lender of last resort" facility, and it's best you not conflate the two.

Indeed, the Fed can still technically lend to institutions, but Dodd-Frank prevents it from loaning to *insolvent* institutions. The problem is.....that's the point -- would you rather Congress do it? Elizabeth Warren wants to restrict this even further by setting up a limited time frame for lending.

Again you are not advocating anything new other than manipulating foreign currency markets to lower value of the dollar.

You need to read my damn posts, because this is completely untrue. I want the Fed to credibly commit to doing "whatever it takes" -- harkens back to Mario Draghi -- to return NGDP to its pre-recession trend, and then do it, which would likely include eliminating IOR and implementing more aggressive QE. The signalling channel, and targeting market forecasts of NGDP growth, is the crux of my proposal -- and is completely different from what the Fed has been doing.

I also never advocated direct forex intervention -- again, a failure in your reading comprehension. I said it's an option, and it probably would've beat letting the dollar appreciate in 2008. It's another tool in the tool box, but is unnecessary assuming proper accommodation.

I may have said that the Feds techniques were ineffective the last post which was not quite what I meant.

You said it several times -- and that the recession demonstrates the inadequacy of monetary policy. But I'm glad that you're conceding on this very crucial point.

It was effective in that it help us avoid a huge disaster

Agreed -- and it continues to avert a disaster. Look at the opposite scenario: rates were low during the Depression, and the Fed continued to tighten the money supply, allow monetary aggregates to fall, and even doubled reserve requirements from 1936-1937. It didn't do any of that this time, which is obviously progress.

However, it was ineffective getting to your 5% target because again once more, these tools alone are not enough to get businesses and consumers spending at a rate (aka velocity) needed to hit those targes.

Yes, because you keep ignoring the most important tool: the signalling channel. I don't know what I need to do to impress on you that market expectations are what actually matter, and the Fed has the power and the credibility to readily influence them.

Sometimes gov stimulus is needed to help tie things over until monetary policy techniques can have their effect.

No, it's not -- and it actually, in much the same way as it did in 2009, prevents the Fed from being as accommodative as it would've been, which subverts the long-term commitment needed to move market expectations. And, not to mention, there's the supply-side implications that don't appear with monetary policy, but do with fiscal.

Even if you argue the value of gov stimulus is not that valuable, it surely does not cause increased deflation when coupled with monetary policy.

I never said it did -- I said it was ineffective at producing *inflation.*

One thing I have to admit, you are an economist through and through by obfuscating the entire process.

Lol.

Where have I done that? I've broken it down for you step by step. It isn't my fault that you didn't understand and, instead of asking for clarification, chose to pontificate and to strawman.

Last thing to say again is that the untypical rebound from the Great Recession is proof positive that you can not hit the target of hitting ngdp of 5% using the monetary policy schemes you outlayed.

There it is again -- you're making the same nonsensical point.

No, you're completely wrong, because "the schemes I've outlined" haven't been implemented by the Fed yet. I told you what they did, and what I'd do, and pointed out what I would've done differently. You may want to scroll up.

I'll respond to the last comment in a second.
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ResponsiblyIrresponsible
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3/27/2015 2:29:04 PM
Posted: 1 year ago
PS. I have not taken you to task for commenting that -1% gdp and 6% inflation to equal ngdp of 5% is a worthy target for the Fed.

First you "called me out" and now you're "taking me to task." I love this -- is that a fancy way of saying, "getting your rear handed to you by someone considerably more knowledgeable, all while feebly strawmanning and refusing to engage his points?" I think that's a better characterization.

Again, you misunderstood what I wrote -- I said this was preferable to allowing *deflation* amid negative RGDP growth, that the composition is determined by the supply side of the economy -- not by monetary policy -- *and* that committing to maintain nominal spending would increase not just inflation, but real growth. Not to mention, if nominal GDP doesn't fall, real variables -- employment -- don't fall. Volatility is what matters, and my proposal prevents that. Again, read and think before you reply. Hammering home the same point repeatedly is really getting tiring.

That is just absurd because it implies supply side issues such as too high cost of borrowing to enable expansion.

Nonsense -- completely and utter nonsense. Nominal rates would tend to rise, but real rates -- the actual cost of borrowing -- would remain unchanged. That's called money illusion, my friend.
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slo1
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3/27/2015 2:40:53 PM
Posted: 1 year ago
At 3/27/2015 2:25:02 PM, ResponsiblyIrresponsible wrote:
At 3/27/2015 1:57:34 PM, slo1 wrote:

You are driving me nuts here, lol. The best I can gather is that you disagree with the timing of monetary policy. I think you mentioned that the Fed signalling tightening policy (aka stopping or reducing buying bonds/mortgages on the open market) is too early because we are not at a 5% NGDP.

What is stopping from monetary policy causing an overshoot of inflation targets if they use NGDP as the sole indicator of when to take actions?

You also mention that Federal Stimulus hindered the Feds actions. What proof do you have that the Fed held back on easing or emergency loans because of the stimulus?
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3/27/2015 2:56:04 PM
Posted: 1 year ago
At 3/27/2015 2:40:53 PM, slo1 wrote:
At 3/27/2015 2:25:02 PM, ResponsiblyIrresponsible wrote:
At 3/27/2015 1:57:34 PM, slo1 wrote:


You are driving me nuts here, lol.

Likewise! Which is peculiar, because I generally agree with you on this stuff.

The best I can gather is that you disagree with the timing of monetary policy.

It isn't just that, though I do think the Fed should be more aggressive, and had it been targeting market-based measures of NGDP expectations, it would've been, and we wouldn't be in such a pickle right now where lower trend growth, elevated excess reserves, and elevated long-term unemployment are actually issues. That they are is a sign of failure.

I think you mentioned that the Fed signalling tightening policy (aka stopping or reducing buying bonds/mortgages on the open market) is too early because we are not at a 5% NGDP.

I think that's a fair assessment, yes, though I don't think we necessarily need to wait until we actually hit 5 in order to taper -- but just significantly closer to it, or at least until market-based NGDP expectations hit around 5.

Moreover, I don't want to simply hit 5 and then let it go. I want to target a level of NGDP consistent with 5 percent growth in the long run. For instance, NGDP fell 9 percent below trend from mid-2008 to mid-2009. A level target compensates for lower-than-trend growth with higher-than-trend growth. That's the crux of my proposal, and one of the main reasons I think -- and trust -- that had the Fed adopted something similar, it would be able to credibly impact market expectations and thus move nominal spending, with or without gobs of QE: to me, QE is really only a demonstration of a commitment to loose policy. It does tend to reduce long rates, which is helpful and may induce refinancing and so forth -- and a large balance sheet itself holds down rates -- but I don't think interest rates are a proper gauge of the policy stance, so I don't think it is by any means a be-all, end-all.

What is stopping from monetary policy causing an overshoot of inflation targets if they use NGDP as the sole indicator of when to take actions?

It very well could, and if it does so in the short run, I'm less concerned because the goal ought to stabilizing the aggregate. In the longer run, provided that inflation expectations are anchored at around 2 percent, we would expect to see RGDP growth at 3 and inflation at 2 -- but this composition, again, is determined by the supply side of the economy, which is another reason I think stimulus is misguided, because it tends to increase expectations of future taxes.

You also mention that Federal Stimulus hindered the Feds actions. What proof do you have that the Fed held back on easing or emergency loans because of the stimulus?

It's speculation, sure, and it hinges on the expectation that the Fed would actually pursue appropriate policy irrespective of a stimulus.

But I can tell you for certain that it was the case, just logically, by looking at language in the Fed's statements. In the beginning, they discuss the current state of the economy, and you'll often see, prior to the last year or so, "fiscal policy is a drag on growth." If fiscal policy is a headwind, you expect the Fed to be more aggressive, and vice versa if it's a tailwind.

My point was, you probably think the stimulus was necessary -- and I think some demand stimulus was needed. The Fed's objective is to maintain maximum employment, so in the case where stimulus is needed, it's natural that it would've provided that, barring some egregious failure in leadership that I don't think is indicative of Ben Bernanke. Had the Fed failed to do that, it's credibility would have been destroyed because it's often a scapegoat of poor economic outcomes.
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3/27/2015 3:28:05 PM
Posted: 1 year ago
At 3/27/2015 2:40:53 PM, slo1 wrote:
At 3/27/2015 2:25:02 PM, ResponsiblyIrresponsible wrote:
At 3/27/2015 1:57:34 PM, slo1 wrote:


You are driving me nuts here, lol. The best I can gather is that you disagree with the timing of monetary policy. I think you mentioned that the Fed signalling tightening policy (aka stopping or reducing buying bonds/mortgages on the open market) is too early because we are not at a 5% NGDP.

What is stopping from monetary policy causing an overshoot of inflation targets if they use NGDP as the sole indicator of when to take actions?

You also mention that Federal Stimulus hindered the Feds actions. What proof do you have that the Fed held back on easing or emergency loans because of the stimulus?

Here's a short paper which makes the case pretty well: https://www0.gsb.columbia.edu...
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twocupcakes
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3/29/2015 9:38:42 AM
Posted: 1 year ago

4. The only time even Keynesians support any sort of fiscal stimulus is when interest rates are pinned at the zero lower bound -- what they brand a "liquidity trap," whereby the LM curve is perfectly flat and insensitive to changes in the interest rate, resulting in the impotence of monetary policy, as cash and bonds are near-perfect substitutes. I think this characterization is not only wrong, but as Rick Mishkin put it, highly dangerous -- and the past six years serve as the best possible refutation of this imaginable.

The USA had a better recovery than Europe, as the USA had more Fiscal stimulus. If the past 6 years is your best evidence than there really is no evidence at all.

https://www.youtube.com...

Mishkin takes bribes that influences his research and then tries to cover it up. (Not that this is meaningful or anything. I just did not see an argument in this paragraph, you just mentioned Mishkins name, so I thought I would post this vid about him)

5. If we're at the zero lower bound, all else equal, fiscal stimulus *will* boost RGDP and NGDP. Never once have I denied this, *but* I'm arguing that, assuming appropriate monetary policy, it cannot and will not shift the AD curve more than monetary policy already would have.

6. Ricardian Equivalence -- the idea that higher budget deficits cause people to save more, and thus put off hiring and investment -- is not my primary argument. It's a fine argument that factors into the cost-benefit analysis, but I'm making the case not that fiscal stimulus is ipso facto harmful, but that it's a wash -- and lackluster relative to the alternative of monetary stimulus.

7. The only valid counter-argument that I think has any merit at all is pragmatism: you could argue, for instance, that the Fed will not be pursuing appropriate policy, but instead will factor in ex-ante lags and treat its inflation target as an inflation ceiling -- whereby, if it comes within a range of, say, 20 or 30 basis points, it declares "mission accomplished." I am in fact assuming that the Fed cares about price stability *and* maximum sustainable employment. For our purposes, let's pretend that Charles Evans, Paul Krugman, Larry Summers, or Narayana Kocherlakota are running the Fed -- or at least that their thought process isn't seen as so "fringe." Of course, they happen to be right.

So, the tl;dr is that we're assuming that we're in a terrible recession. The Fed responded, cutting its short-term benchmark interest rate to zero, and yet we're still in a slump, markets haven't substantially moved, inflation and NGDP expectations are in the toilet, financial frictions have increased, etc.

Now, in the classical model, there's no reason to fret: wages and prices are perfectly flexible. In other words, demand falls, and wages and prices follow. Only nominal variables changed, meaning that output does not. In this model, the only factors inhibiting employment are (1) people opting for leisure over work due to dissatisfaction with the prevailing wage and (2) supply-side factors.

This model, endorsed by many Austrian school and Chicago economists, is positively bonkers. This isn't just my opinion, but contrary to even the most basic textbook macro models -- we know that wages and prices are sticky in the short run, and tend to become flexible as "labor markets clear." In other words, if we do nothing and wait it out, we should expect markets to self-correct. Heaven knows how long that will take, and it may require a Depression-era scenario or widespread starvation to un-stick the wage. This itself is why you'll often hear Greg Mankiw and others argue that monetary policy ought to target the stickiest wage -- i.e., the industry least resilient to demand shocks. It's also why labor-market reforms that makes wages more flexible are beneficial during normal times, though questionable at the ZLB.

However, this mechanism breaks down when nominal interest rates reach zero. Why? The paradox of flexibility. I won't go into depth about the particular model or what in the world a kinked demand curve is supposed to look like, but basically, when nominal rates hit zero, a rise in inflation means a reduction in real interest rates: this tends to induce firms and consumers to spend more, which is obviously necessary and beneficial amid a demand shortfall. But, the flip side is also true: a fall in inflation means a fall in real interest rates, which tends to reduce spending. In other words, if we allow wages and prices to fall, we end up with a self-reinforcing deflationary spiral whereby reductions in inflation -- expected and realized -- raise real rates, reduce inflation again, etc.

Now, are the Keynesians right -- is the Fed pushing on strings? Not even close. This position is highly deceptive and dangerous, and discounts the past six years of monetary policy which was the essence of why the U.S. economy isn't currently experiencing a self-reinforcing deflationary spiral, a la Japan.

What can the Fed do when interest rates hit zero? Several things. First, it can promise to maintain interest rates where they are for an extended period of time. Long-term rates are based in part on a weighed average of short rates, so shifting the expected liftoff date (observed, for instance, in FFR futures contracts) would tend to reduce long-term rates and induce investment. Second, it can buy long-term bonds to reinforce its commitment to a future low-rates policy and directly reduce term premia on long-term bonds. Third, it can purchase currencies in the foreign exchange market, thus reducing the USD's exchange value and bolstering exports -- though the aforementioned policies, and particularly the expectation of future loose money, will have this effect *without* direct ForEx intervention. Fourth, it can act as a "lender of last resorts" to provide liquidity at times of financial stress -- though this facility, unfortunately, was gutted in Title XI of the Dodd-Frank Act.

The best way to magnify this effect is by making a credible commitment to being irresponsible. There's a great deal of research on this I won't get into, but the proposal that I'm advocating, which augments much of that work, is to commit to a higher future level of nominal spending -- or, more specifically, returning nominal spending to trend, compensating for lower-than-trend spending growth amidst the recession. The Fed's role is to maintain nominal spending growing at about 5 percent -- depending on how seriously you take secular stagnation.

Now, the moment we've all been waiting for: why can't fiscal stimulus be a useful tool to get us there? For several reasons. One, if the Fed is maintaining nominal spending at 5 percent growth per year, why do you need fiscal stimulus? It's only going to cause the Fed to either be more contractionary or expansionary, but can't move the AD curve further. Any fiscal multiplier above 0 is a measure of Fed incompetence. Second, why would you want a costly stimulus when the Fed can do it at no cost -- and it's more reversible? This is where Ricardian Equivalence comes into play. Third, the Fed, not Congress, controls overall de

You agree that Fiscal Stimulus works. At the zero bound interest rates, monetary policy is useless. The other remedies you provided have drawbacks. Promising to maintain interest rates for a long period of time can lock the central bank into a stupid policy if circumstances change. Future interest rates are already affected by the current rate and will be low already. I would say a negative interest may work, but that would freak people out. Spending seems like a very effective way to cure a recesion.
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3/29/2015 9:58:58 AM
Posted: 1 year ago
At 3/29/2015 9:38:42 AM, twocupcakes wrote:
The USA had a better recovery than Europe, as the USA had more Fiscal stimulus. If the past 6 years is your best evidence than there really is no evidence at all.

https://www.youtube.com...

First, that's post-hoc ergo propter hoc.

Second, you'll note that I made a clear demarcation between countries with independent monetary policies and those without, and I even explicitly mentioned Europe.

Third, this *does not* vindicate fiscal stimulus; the ECB had and still has a significantly overly tight monetary policy, and that itself has been the issue. Had it been more expansionary earlier, fiscal stimulus would be irrelevant. Further, the eurozone economy has been improving rather considerably as recent, after the ECB initiated QE -- which only further proves my point: bank lending is up, the euro fell about 20 percent, etc.

You agree that Fiscal Stimulus works.

Wrong -- I said it can boost RGDP and NGDP, unless offset by monetary policy, and that if it works, it's a sign of Fed incompetence. I said that demand shocks are important, and that fiscal stimulus could serve as a way, at the ZLB, to stimulate demand, but it is highly lackluster relative to available alternatives.

At the zero bound interest rates, monetary policy is useless.

This is so completely and hopelessly wrong it's absurd, and it's almost as though you didn't even read my post, or anything that I've written, or read the slightest bit of economic news as recent.

If monetary policy were useless, why did financial markets -- globally -- respond so adversely in June 2013 when they thought the Fed was going to lift accommodation? Further, why are markets clinging to the Fed's every word when it comes to normalizing policy? You're so hopelessly wrong it's absurd, and I've explained *thoroughly* -- and even Paul Krugman agrees with me -- that monetary policy can be potent at the ZLB, through the transmission mechanisms I've described earlier.

Here's a good paper by Rick Mishkin which makes that case: https://www0.gsb.columbia.edu...

The other remedies you provided have drawbacks.

And fiscal stimulus doesn't? This is a ludicrous argument, because the "drawbacks" of fiscal stimulus exceed those of any viable alternative.

Promising to maintain interest rates for a long period of time can lock the central bank into a stupid policy if circumstances change.

First of all, this is wrong -- the policy isn't binding unless the central bank *makes* it binding. It shouldn't set any form of date-based guidance, and should rather emphasize -- as it has -- that it's data dependent: that it will make a long-term commitment to policy accommodation, but will adjust as situations change.

Second, I've been emphasizing, even in past communications with you, that an interest-rate policy target is the exact wrong way to go. Tell me what's binding about promising to maintain nominal spending at 5 percent, because I fail to see it.

The Fed can lift rates in a second, and that will immediately ripple through financial markets. The idea that the risk is trying to reverse policy is ludicrous, when fiscal stimulus is so much harder to actually adverse.

Future interest rates are already affected by the current rate and will be low already.

Future interest rates? No, not at all. Long-term interest rates quoted as of this day are dependent on a weighted average of expected short rates. If the short rate goes up, long rates on new debt will also tend to go up.

I would say a negative interest may work, but that would freak people out.

I generally agree with this -- the market-clearing rate may in fact be negative, and the ZLB isn't nearly as binding as people think, but that's a separate discussion, though it seems to have worked in Europe and Australia.

Spending seems like a very effective way to cure a recesion.

Yes, it is -- but that totally misses the question of who ultimately does the spending. If the Fed is committed to maximum sustainable employment and stable prices, ceteris paribus, it will respond in such a way so as to ensure....maximum employment and stable prices. If fiscal policy emerges as a tailwind, the Fed says, "Okay, cool, the economy is far better than we thought -- a long-term commitment is no longer needed." In other words, it tempers the degree of accommodation it provides. You can apply the same logic if fiscal authorities were to drastically cut spending.
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3/29/2015 10:05:34 AM
Posted: 1 year ago
At 3/29/2015 9:38:42 AM, twocupcakes wrote:

Here's a great paper on the 2013 Taper Tantrum, which itself is a refutation of the notion that monetary policy loses its traction at the ZLB:

http://www.imf.org...

Here's a paper on the impact of QE at the ZLB:

http://www.federalreserve.gov...
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3/29/2015 10:11:15 AM
Posted: 1 year ago
At 3/29/2015 9:38:42 AM, twocupcakes wrote:
Mishkin takes bribes that influences his research and then tries to cover it up. (Not that this is meaningful or anything. I just did not see an argument in this paragraph, you just mentioned Mishkins name, so I thought I would post this vid about him)

I just saw that now. That is complete and utter nonsense, and not only is that hit piece (which I've seen) disingenuous, but it's nothing more than an ad-hominem attack that doesn't even engage Mishkin's arguments, which happen to be completely correct. Focus on the substance, not the personal attacks.
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3/29/2015 10:13:17 AM
Posted: 1 year ago
For anyone else who buys this "monetary policy doesn't work at the ZLB," see this piece by Scott Sumner, which makes the case far bette than I could:

http://www.themoneyillusion.com...
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3/29/2015 11:17:19 AM
Posted: 1 year ago
At 3/29/2015 10:11:15 AM, ResponsiblyIrresponsible wrote:
At 3/29/2015 9:38:42 AM, twocupcakes wrote:
Mishkin takes bribes that influences his research and then tries to cover it up. (Not that this is meaningful or anything. I just did not see an argument in this paragraph, you just mentioned Mishkins name, so I thought I would post this vid about him)


I just saw that now. That is complete and utter nonsense, and not only is that hit piece (which I've seen) disingenuous, but it's nothing more than an ad-hominem attack that doesn't even engage Mishkin's arguments, which happen to be completely correct. Focus on the substance, not the personal attacks.

I mentioned that this has nothing to do with the issue. But, in the paragraph I responded to you gave no argument. You just said you just mentioned Mishkin's name so that is all I had to work with.

Mishkin got paid a lot of money and wrote how stabe icelands financial system was. Iceland financial system completely blew up and Mishkin was clearly wrong or corrupt. Further, Mishkin changed the title on his CV from "Financial Stability in Iceland" to Financial Instability in Iceland" I think he is both corrupt and stupid.

(Again, I realize this is aa ad -hominem attack. Yet, there was no argument given in your paragraph just Mishkin's name. I do not think Mishkin has a very reputable name)
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3/29/2015 11:23:20 AM
Posted: 1 year ago
At 3/29/2015 11:17:19 AM, twocupcakes wrote:
I mentioned that this has nothing to do with the issue. But, in the paragraph I responded to you gave no argument. You just said you just mentioned Mishkin's name so that is all I had to work with.

But the implicit suggestion that the research by him which I linked to earlier in this thread was a subject of bribery. Obviously that isn't true -- if there was no such suggestion, there wouldn't have been much of a need to even reference him, because the only context in which he was mentioned was his research and writings as late on the financial crisis and why monetary policy can in fact be effective -- and how it has been.

Mishkin got paid a lot of money and wrote how stabe icelands financial system was. Iceland financial system completely blew up and Mishkin was clearly wrong or corrupt. Further, Mishkin changed the title on his CV from "Financial Stability in Iceland" to Financial Instability in Iceland" I think he is both corrupt and stupid.

None of this topical, or the slightest bit true. It was clearly an unfair attack piece, but even if it were true -- even if he were corrupt, which he isn't -- this wouldn't make him stupid or his arguments null and void.

(Again, I realize this is aa ad -hominem attack. Yet, there was no argument given in your paragraph just Mishkin's name. I do not think Mishkin has a very reputable name)

There was an argument when I mentioned Mishkin. I referenced him first by agreeing him that the idea that monetary policy is impotent at the ZLB is not only wrong, but dangerous. Second, I cited a paper by him which makes the point -- on page 1, he quotes Paul Krugman and explains the impact of financial frictions. It's a phenomenal read, and I highly suggest it, because it may be pivotal at ameliorating your confusion.

He does have a reputable name. His textbooks are by far the most popular in the economics profession -- particularly his money and banking text, which has a few wonderful gems I've been arguing in this very thread:

(1) that the short-term nominal interest rate is a terrible gauge of the stance of monetary policy

(2) monetary policy can still be highly effective at the ZLB.

Further, he discusses this at length in his book, and his research, and justifies these opinions with facts and examples -- which is far more than what you've done.
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3/29/2015 11:39:14 AM
Posted: 1 year ago
And, to the charges, here's Mishkin's response:

"I would have been pleased to discuss these later developments in Iceland"s economy in more detail with the filmmaker " had he given me a chance. We might have also discussed why the financial crisis occurred, and why policymakers and the economics profession (myself included) did not fully recognize the inadequacies of prudential regulation and supervision of the financial system in advanced economies. Instead, the filmmaker made insinuations that I didn"t disclose that I was compensated for the study " even though he learned the precise amount of the fee in a 2006 from a public disclosure that I made. Even odder, a big deal was made of an inconsistency in my curriculum vita, where the title of the Iceland study first appeared in 2006 with the phrase "Financial Instability" and later as "Financial Stability" (the accurate language). I had discovered and corrected this typo long before the interview."
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3/29/2015 11:57:39 AM
Posted: 1 year ago
At 3/29/2015 9:58:58 AM, ResponsiblyIrresponsible wrote:
At 3/29/2015 9:38:42 AM, twocupcakes wrote:
The USA had a better recovery than Europe, as the USA had more Fiscal stimulus. If the past 6 years is your best evidence than there really is no evidence at all.

https://www.youtube.com...

First, that's post-hoc ergo propter hoc.

Well, what evidence do you have that the past 6 years show fiscal stimulus is ineffective (and how is it the best?)? How did the Fiscal Stimulus hurt the USA and lack of Fiscal Stimulus hurt Europe. You see that the USA had a better recovery. If not the stimulus, what helped the USA?

Second, you'll note that I made a clear demarcation between countries with independent monetary policies and those without, and I even explicitly mentioned Europe.

I saw this. But the USA had a stimulus and it helped. I agree that Europe should use Fiscal stimulus.

Third, this *does not* vindicate fiscal stimulus; the ECB had and still has a significantly overly tight monetary policy, and that itself has been the issue. Had it been more expansionary earlier, fiscal stimulus would be irrelevant. Further, the eurozone economy has been improving rather considerably as recent, after the ECB initiated QE -- which only further proves my point: bank lending is up, the euro fell about 20 percent, etc.

The recovery was much slower than in the USA. I am not arguing that an economy will never recover without stimulus, just that it is faster with stimulus. How does Europe recovering much after the USA prove your point?

You agree that Fiscal Stimulus works.

Wrong -- I said it can boost RGDP and NGDP, unless offset by monetary policy, and that if it works, it's a sign of Fed incompetence. I said that demand shocks are important, and that fiscal stimulus could serve as a way, at the ZLB, to stimulate demand, but it is highly lackluster relative to available alternatives.

At the zero bound interest rates, monetary policy is useless.

This is so completely and hopelessly wrong it's absurd, and it's almost as though you didn't even read my post, or anything that I've written, or read the slightest bit of economic news as recent.

If monetary policy were useless, why did financial markets -- globally -- respond so adversely in June 2013 when they thought the Fed was going to lift accommodation? Further, why are markets clinging to the Fed's every word when it comes to normalizing policy? You're so hopelessly wrong it's absurd, and I've explained *thoroughly* -- and even Paul Krugman agrees with me -- that monetary policy can be potent at the ZLB, through the transmission mechanisms I've described earlier.

Expansionary policy is useless not raising rates. If you mean raising rates by lifting accommodation, that makes sense. If people think interest rates are rising it makes sense for financial markets to respond.

Here's a good paper by Rick Mishkin which makes that case: https://www0.gsb.columbia.edu...

I'd rather argue with you than Mishkin.
The other remedies you provided have drawbacks.

And fiscal stimulus doesn't? This is a ludicrous argument, because the "drawbacks" of fiscal stimulus exceed those of any viable alternative.

The drawback of stimulus is debt. Yet, stimulus in a recesion will affect the long term Debt to GDP ration positively
.
Promising to maintain interest rates for a long period of time can lock the central bank into a stupid policy if circumstances change.

First of all, this is wrong -- the policy isn't binding unless the central bank *makes* it binding. It shouldn't set any form of date-based guidance, and should rather emphasize -- as it has -- that it's data dependent: that it will make a long-term commitment to policy accommodation, but will adjust as situations change.

If the Fed promises to keep interest rates low than does not they lose credibility. Losing credibility can cause inflation/hyper inflation. I would rather take on some more debt (which will be beneficial to the debt/GDP Ratio) than have the CB lose credibility.

Second, I've been emphasizing, even in past communications with you, that an interest-rate policy target is the exact wrong way to go. Tell me what's binding about promising to maintain nominal spending at 5 percent, because I fail to see it.

Well, the USA currently targets interest rates so that in the current environment it committing to interest rates in binding.

I would prob have to learn more about targeting nominal GDP to respond correctly but I'd have to think it would be somewhat binding. How does targeting nominal GDP get around this?

The Fed can lift rates in a second, and that will immediately ripple through financial markets. The idea that the risk is trying to reverse policy is ludicrous, when fiscal stimulus is so much harder to actually adverse.

I agree the Fed can raise interest rates at 0%...they just can't lower them.


Future interest rates? No, not at all. Long-term interest rates quoted as of this day are dependent on a weighted average of expected short rates. If the short rate goes up, long rates on new debt will also tend to go up.

I agree

I would say a negative interest may work, but that would freak people out.

I generally agree with this -- the market-clearing rate may in fact be negative, and the ZLB isn't nearly as binding as people think, but that's a separate discussion, though it seems to have worked in Europe and Australia.

Spending seems like a very effective way to cure a recesion.

Yes, it is -- but that totally misses the question of who ultimately does the spending. If the Fed is committed to maximum sustainable employment and stable prices, ceteris paribus, it will respond in such a way so as to ensure....maximum employment and stable prices. If fiscal policy emerges as a tailwind, the Fed says, "Okay, cool, the economy is far better than we thought -- a long-term commitment is no longer needed." In other words, it tempers the degree of accommodation it provides. You can apply the same logic if fiscal authorities were to drastically cut spending.

I fail to see why this is a problem and what is so problematic about spending to fix a recession.
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3/29/2015 12:00:44 PM
Posted: 1 year ago
At 3/29/2015 11:39:14 AM, ResponsiblyIrresponsible wrote:
And, to the charges, here's Mishkin's response:

"I would have been pleased to discuss these later developments in Iceland"s economy in more detail with the filmmaker " had he given me a chance. We might have also discussed why the financial crisis occurred, and why policymakers and the economics profession (myself included) did not fully recognize the inadequacies of prudential regulation and supervision of the financial system in advanced economies. Instead, the filmmaker made insinuations that I didn"t disclose that I was compensated for the study " even though he learned the precise amount of the fee in a 2006 from a public disclosure that I made. Even odder, a big deal was made of an inconsistency in my curriculum vita, where the title of the Iceland study first appeared in 2006 with the phrase "Financial Instability" and later as "Financial Stability" (the accurate language). I had discovered and corrected this typo long before the interview."

Okay, let's say it was a genuine typo and him being paid did not influence his research.

Then, he was dead wrong about iceland. Why should I listen to his future prediction of what might work if he was so wrong in the past?
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3/29/2015 12:06:51 PM
Posted: 1 year ago
At 3/29/2015 12:00:44 PM, twocupcakes wrote:
Okay, let's say it was a genuine typo and him being paid did not influence his research.

So, let's assume reality. Gotcha.

Then, he was dead wrong about iceland.

If you read his piece -- and I don't think you have -- you'd see that he listed a number of predictions he made that were correct.

Why should I listen to his future prediction of what might work if he was so wrong in the past?

Almost everyone -- even Janet Yellen, who predicted imbalances in the housing sector -- was wrong. Further, Mishkin actually used this instance of having been wrong to write extensively -- and much of his work is in financial crises -- about why it went wrong and what can be done in the future to ameliorate the crisis. At the time of the crisis, almost no one actually knew or understand what in the world CDO's or CDO cube's or whatever actually were or did -- but now they do, and this is a time more important than ever to actually listen to expert opinions, among which is Rick Mishkin.

It's hard to criticize Mishkin when you haven't actually read any of his work, even though I've linked you to much of it in this very thread.
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3/29/2015 12:07:32 PM
Posted: 1 year ago
At 3/29/2015 11:23:20 AM, ResponsiblyIrresponsible wrote:
At 3/29/2015 11:17:19 AM, twocupcakes wrote:
I mentioned that this has nothing to do with the issue. But, in the paragraph I responded to you gave no argument. You just said you just mentioned Mishkin's name so that is all I had to work with.

But the implicit suggestion that the research by him which I linked to earlier in this thread was a subject of bribery. Obviously that isn't true -- if there was no such suggestion, there wouldn't have been much of a need to even reference him, because the only context in which he was mentioned was his research and writings as late on the financial crisis and why monetary policy can in fact be effective -- and how it has been.

Mishkin got paid a lot of money and wrote how stabe icelands financial system was. Iceland financial system completely blew up and Mishkin was clearly wrong or corrupt. Further, Mishkin changed the title on his CV from "Financial Stability in Iceland" to Financial Instability in Iceland" I think he is both corrupt and stupid.

None of this topical, or the slightest bit true. It was clearly an unfair attack piece, but even if it were true -- even if he were corrupt, which he isn't -- this wouldn't make him stupid or his arguments null and void.

(Again, I realize this is aa ad -hominem attack. Yet, there was no argument given in your paragraph just Mishkin's name. I do not think Mishkin has a very reputable name)

There was an argument when I mentioned Mishkin. I referenced him first by agreeing him that the idea that monetary policy is impotent at the ZLB is not only wrong, but dangerous. Second, I cited a paper by him which makes the point -- on page 1, he quotes Paul Krugman and explains the impact of financial frictions. It's a phenomenal read, and I highly suggest it, because it may be pivotal at ameliorating your confusion.

He does have a reputable name. His textbooks are by far the most popular in the economics profession -- particularly his money and banking text, which has a few wonderful gems I've been arguing in this very thread:

(1) that the short-term nominal interest rate is a terrible gauge of the stance of monetary policy

(2) monetary policy can still be highly effective at the ZLB.


Further, he discusses this at length in his book, and his research, and justifies these opinions with facts and examples -- which is far more than what you've done.

I have and have read his money and banking book.

Okay, let's say he does not take bribes and is not corrupt. In that case he is just completely wrong about Iceland.

He wrote a paper about how stable Iceland right before Iceland was one of the countries hit hardest by the recession. If he is not corrupt, than his predictions cannot be taken seriously.
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3/29/2015 12:10:14 PM
Posted: 1 year ago
At 3/29/2015 12:07:32 PM, twocupcakes wrote:
I have and have read his money and banking book.

And yet you still think monetary policy at the ZLB is useless?

I'm responding to your last post as we speak, btw.

He wrote a paper about how stable Iceland right before Iceland was one of the countries hit hardest by the recession.

Two years in advance, and many of his predictions were correct -- though *no one* saw it coming. He actually explained in his piece why he was wrong, and how Iceland had developed since then. You truly can't muster much more than an ad-hominem attacks. Focus on the substance.

If he is not corrupt, than his predictions cannot be taken seriously.

This is also totally wrong -- though you'll note that, when I've cited Mishkin in this thread, I was focusing on his research and the evidence he provided for said conclusions, not his *predictions.* These are points that are well-accepted in the economics profession, and if you actually read his text as you claim, you should be aware of these.
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3/29/2015 12:11:54 PM
Posted: 1 year ago
At 3/29/2015 12:06:51 PM, ResponsiblyIrresponsible wrote:
At 3/29/2015 12:00:44 PM, twocupcakes wrote:
Okay, let's say it was a genuine typo and him being paid did not influence his research.

So, let's assume reality. Gotcha.

Only he knows for sure what he did. I have my suspicions.

Then, he was dead wrong about iceland.

If you read his piece -- and I don't think you have -- you'd see that he listed a number of predictions he made that were correct.

Why should I listen to his future prediction of what might work if he was so wrong in the past?

Almost everyone -- even Janet Yellen, who predicted imbalances in the housing sector -- was wrong. Further, Mishkin actually used this instance of having been wrong to write extensively -- and much of his work is in financial crises -- about why it went wrong and what can be done in the future to ameliorate the crisis. At the time of the crisis, almost no one actually knew or understand what in the world CDO's or CDO cube's or whatever actually were or did -- but now they do, and this is a time more important than ever to actually listen to expert opinions, among which is Rick Mishkin

Ohh he got some of his Iceland Prediction correct?

Did he his main prediction correct? Was the title of his paper "Financial Stability in Iceland" correct. He did conclude that Iceland was very stable right before Iceland system blew up in epic proportions. Did he get than once right?

It's hard to criticize Mishkin when you haven't actually read any of his work, even though I've linked you to much of it in this very thread.

I have read his money and banking text. I may have read some of his stuff in the past. I tend to recall idea and concepts and forget names.