Scott Sumner: interest rates and monetary policy (Mishkin forgotten, again)

Reacting to some confusion in the comments, Scott Sumner wrote Further comments on interest rates and monetary policy

People are still confused about my views on monetary policy and interest rates.  First of all, no one should assume that they understand what I’ve said in the past on these issues.  This stuff is very nuanced, very counterintuitive, and I’m not a very talented writer.  So let’s try to first see what is actually true, and then think about what I’ve said:

1.  Interest rates are not a reliable indicator of monetary policy.  I’ve said that 100 times.

2.  NGDP growth is a reliable indicator of monetary policy.  I’ve said that 100 times.

{snip lots of important details}

To summarize:

1.  Over long periods of time long term bond yields do tend to track GDP growth (and levels) pretty well.  So I’m likely to have made some generalizations in that area equating low rates and tight money.  Japan still has tight money! They have low expected NGDP growth.  And they still have low rates.

2.  As far as the immediate market reaction to monetary announcements, I’ve always argued that it is highly unpredictable, but that there are certain principles that seem useful.  An announcement likely to dramatically change the future path of policy is more likely to lead to a ‘perverse’ reaction in bond yields, than would a one-time injection of money.  I wish I could say more, but I’m often just as confused as you are.

{snip lots more important discussion]

As you might expect there is much discussion following Scott’s post – where prof. Sumner commented as follows – this is the point of my post (excerpted)

(…) I’ve often said (and so did Arnold Kling) that much of my thesis is nothing but the NK dogma we’ve been teaching our grad students for 20 years (before 2008):

1. Zero fiscal multiplier.

2. Monetary policy drives NGDP

3. Low rates don ‘t mean easy money.

4. Highly expansionary monetary policy is likely to raise long term rates.

5. Fed is never out of ammo, even when rates are zero.

So why did I start blogging? BECAUSE ALMOST THE ENTIRE ECONOMICS PROFESSION SUDDENLY SEEMED TO FORGET WHAT WAS IN MISHKIN’S TEXTBOOK IN EARLY 2009. That’s why I got into blogging. But yes, nothing new here. There are other aspects of MM that are genuinely new, but not the fact that easy money can raise rates.


What really happened in Cyprus: My interview with Athanasios Orphanides, former central bank governor

Greg Ip, at The Economist, closes with this Q&A:

What will the implications be for Europe and the stabilization of the euro zone?

This is similar to the blunder in Deauville with PSI that injected credit risk into sovereign government debt. The governments have created risk in what before last week were considered perfectly safe deposits. This is going to have a chilling effect on deposits in any bank in a country perceived to be weak. This will mean the cost of funding will increase in the periphery of Europe and as a result, the cost of financing for businesses and households will increase. That will add to the divergences we already have and make the recession in the periphery of Europe deeper than it already is. This is really a disaster for European economic management as a whole

This is by far the best explanation of what has happened in Europe. Read the whole thing.


Fed NGDP targeting would greatly increase global financial stability

Lars Christensen compares NGDPLT to ‘Adaptive’ policy – these excerpts will hopefully motivate you to read the complete Christensen essay: 

(…) Lets look at two different hypothetical US monetary policy settings. First what we could call an ‘adaptive’ monetary policy rule and second on a strict NGDP targeting rule.

‘Adaptive’ monetary policy – a recipe for disaster 

By an adaptive monetary policy I mean a policy where the central bank will allow ‘outside’ factors to determine or at least greatly influence US monetary conditions and hence the Fed would not offset shocks to money velocity.

(…) under an ‘adaptive’ monetary policy the Fed is effective allowing external financial shocks to become a tightening of US monetary conditions. The consequence every time that this is happening is not only a negative shock to US economic activity, but also increased financial distress – as in 2008 and 2011.

As the Fed is a ‘global monetary superpower’ a tightening of US monetary conditions by default leads to a tightening of global monetary conditions due to the dollar’s role as an international reserve currency and due to the fact that many central banks around the world are either pegging their currencies to the dollar or at least are ‘shadowing’ US monetary policy.

In that sense a negative financial shock from Europe will be ‘escalated’ as the fed conducts monetary policy in an adaptive way and fails to offset negative velocity shocks.

This also means that under an ‘adaptive’ policy regime the risk of contagion from one country’s crisis to another is greatly increased. This obviously is what we saw in 2008-9.

NGDP targeting greatly increases global financial stability

If the Fed on the other hand pursues a strict NGDP level targeting regime the story is very different.

Lets again take the case of an European sovereign default. The shock again – initially – makes investors run for safe assets. That is causing the US dollar to strengthen, which is pushing down US money velocity (money demand is increasing relative to the money supply). However, as the Fed is operating a strict NGDP targeting regime it would ‘automatically’ offset the decrease in velocity by increasing the money base (and indirectly the money supply) to keep NGDP expectations ‘on track’. Under a futures based NGDP targeting regime this would be completely automatic and ‘market determined’.

Hence, a financial shock from an euro zone sovereign default would leave no major impact on US NGDP and therefore likely not on US prices and real economic activity as Fed policy automatically would counteract the shock to US money-velocity.(…) 

Finally and most importantly the financial markets would under a system of a credible Fed NGDP target figure all this out on their own. That would mean that investors would not necessarily run for safe assets in the event of an euro zone country defaulting – or some other major financial shock happening – as investors would know that the supply of the dollar effectively would be ‘elastic’. Any increase in dollar demand would be meet by a one-to-one increase in the dollar supply (an increase in the US money base). Hence, the likelihood of a ‘global financial panic’ (for lack of a better term) is massively reduced as investors will not be lead to fear that we will ‘run out of dollar’ – as was the case in 2008.

 Read the whole thing – I have filed for reference.

A simple point about capital controls

More on Capital controls via Tyler Cowen

John Dizard writes:

Capital controls turn into trade controls, as the locals attempt to find ways to turn hard assets or non-banking services into foreign exchange. At some price, for example, you can buy a boat in Cyprus with post-haircut, capital-controlled local deposits, sail it to Lebanon, and then sell it for real, usable money. The same with antiques, jewellery, or anything else you can think of. Even capital goods such as fork lifts can be motored off in the middle of the night.

Here is a long Cardiff Garcia post on capital controls, excellent throughout.  From Garcia, there is also this:

Reinhardt, Rogoff and Maduff did a meta-analysis in 2011 on prior studies of capital controls. The only uncontroversially (though mildly) successful use of controls on outflows they found was Malaysia in the aftermath of the Asian financial crisis. Even then, the controls were accompanied by aggressive counter-cyclical spending, bans on short-selling the currency and trading it offshore, and defending the ringgit against speculators by fixing it to the dollar.

One wonders – did the Eurogroup read Reinhardt, Rogoff and Maduff?

Fed Watch: Do Capital Controls Mean Cyprus Has Already Left the Eurozone?

(…)  If I can spend my dollar in Oregon but not in California, it is really the same dollar? I think not.

 Is this how the Eurozone experiment will end? Not with a formal “exit,” but with a return to banking dominated by national boundaries and enforced by capital controls? No longer a true common currency, but a dozen currencies sharing the same name, each with a different value?

There will be another banking crisis in Europe (just as a bank will fail in some US state) and depositors are now aware that they are fair game in any crisis response, so capital flight will intensify at an earlier stage in the crisis. As may have been noted, European policymakers find rapid crisis resolution to be something of a challenge, thus accelerated capital flight will necessitate a more rapid imposition of capital controls in the future – and with each round of capital controls, a new sub-euro will be born.

Bottom Line: Europe’s response to the Cyprus situation will have long-lasting impacts on the Eurozone experiment itself, none of the good. Indeed, the imposition of capital controls should lead one to wonder if the “solution” to Cyprus is effectively an exit from the Eurozone is everything but name. And don’t forget that the crisis also threatens to destabilize the region geopolitcally. I don’t think that “disaster” is too strong a word in this case.

Looks like the answer is yes – but the EU elites don’t have to formally recognize the exit.

Filter Bubbles Versus Viral Memes: Why We Have More Common Ground than Ever Before

Adam Gurri writing for The Ümlaut :  Adam argues that the meme of The Filter Bubble doesn’t square with his experience (i.e., theories of Internet echo chambers). We don’t square with the “filter bubble” either. Adam closes with this:

(…) I don’t care about most of the stories that go viral, and I would prefer to ignore them entirely. It used to be that random extreme events—unrepresentative of the larger reality—would dominate the news cycle. Now, they also dominate online conversations.

Although I take great pains to avoid the story of the moment, in the end there’s only so much I can do while choosing to remain online. And the benefits of using the Internet are worth the costs, even if I do have to tolerate a lot of pointless common ground.

I have no interest in the daily news cycle, unless it involves alien invasion, or an impending asteroid strike on our part of the ocean. But our selection of Twitter and RSS feeds doesn’t follow the pattern Adam experiences – being mostly academics and scientists, they are too diverse to “harmonize” or jabber on some topical TV news theme. OTOH, the diversity means that we are likely to see signals if there is something developing that we would want to know about – e.g., a repricing of Spanish debt.

Chuck Norris beats Wolfgang Schäuble

Here's excerpts from a recent post by market monetarist Lars Christensen:

So far it is has been a remarkable week in the global financial markets. The ’deposit grab’ in Cyprus undoubtedly has shocked international investors and confidence in the ability of euro zone policy makers has dropped to an all-time low.

Despite of the ‘Cyprus shock’ global stock markets continue to climb higher – yes, yes we have seen a little more volatility, but the overall picture is that of a continued global stock market rally. That is surely remarkable when one takes into account the scale of the policy blunder committed by the EU in Cyprus and the likely long-lasting damage done to the confidence in EU policy makers.

I therefore think it is fair to conclude that so far Chuck Norris has beaten German Finance Minister Wolfgang Schäuble. Or said, in another way the Chuck Norris effect has been at work all week and that has clearly been a key reason why we have not (yet?) seen global-wide or even European-wide contagion from the disaster in Cyprus.

Just to remind my readers – the Chuck Norris effect of course is the effect that monetary policy not only works through expanding the money base, but also through guiding expectations.

When I early this week expressed my worries (or rather mostly my anger) over the EU’s handling of the situation in Cyprus a fixed income trader who is a colleague of mine comforted me by saying “Lars, you have now for half a year been saying that the Fed and the Bank of Japan are more or less doing the right thing so shouldn’t we expect the Fed and BoJ to offset any shock from the euro zone?” (I am paraphrasing a little – after all we were talking on a trading floor)

The message from the trader was clear. Yes, the EU is making a mess of things, but with the Bernanke-Evans rule in place and the Bank of Japan’s newfound commitment to a 2% inflation target we should expect that any shock from the euro zone to the US and Japanese economies would be ‘offset’ by the Fed and the BoJ by stepping up quantitative easing.

Read more


Econtalk: Russ Roberts interviews Peter Boettke on “Living Economics”

Recently I enjoyed the Econtalk interview with Peter Boettke. Russ Roberts talks to Peter about his book, Living Economics. Boettke argues for embracing the tradition of Smith and Hayek in both teaching and research, arguing that economics took a wrong turn when it began to look more like a branch of applied mathematics. He sees spontaneous order as the central principle for understanding and teaching economics.

I learned quite a bit from the interview – it gives a 30,000 ft. overview of how economic thought developed during the 20th century. It makes it very clear how narrow is the currently popular “mainstream” perspective – how different it is from what Roberts/Boettke call “mainline economics” – the Smith, Hayek foundations of economic thinking.

Tyler Cowen: moral imperatives for expanding immigration

I thought this segment of prof. Cowen’s NYT op-Ed was brilliant:

(…) Michael Clemens, a senior fellow at the Center for Global Development in Washington, quantified these gains in a 2011 paper, “Economics and Emigration: Trillion-Dollar Bills on the Sidewalk?” He found that unrestricted immigration could create tens of trillions of dollars in economic value, as captured by the migrants themselves in the form of higher wages in their new countries and by those who hire the migrants or consume the products of their labor. For a profession concerned with precision, it is remarkable how infrequently we economists talk about those rather large numbers.

Truly open borders might prove unworkable, especially in countries with welfare states, and kill the goose laying the proverbial golden eggs; in this regard Mr. Clemens’s analysis may require some modification. Still, we should be obsessing over how many of those trillions can actually be realized.

IN any case, there is an overriding moral issue. Imagine that it is your professional duty to report a cost-benefit analysis of liberalizing immigration policy. You wouldn’t dream of producing a study that counted “men only” or “whites only,” at least not without specific, clearly stated reasons for dividing the data.

So why report cost-benefit results only for United States citizens or residents, as is sometimes done in analyses of both international trade and migration? The nation-state is a good practical institution, but it does not provide the final moral delineation of which people count and which do not. So commentators on trade and immigration should stress the cosmopolitan perspective, knowing that the practical imperatives of the nation-state will not be underrepresented in the ensuing debate.

Under the Staircase: Kickstarter project related to Milton Friedman and teaching economics to young kids


Zowee Batman, I wish our grand kids had the opportunity to read these books by author I. M. Lerner! We don’t how great they will turn out to be when complete – but the project looks very promising. Ms. Lerner begins her Kickstarter project: 

One sunny September morning, many (many) years ago, I walked cautiously into a classroom and slid into an empty seat. I was a junior in high school and I had just signed up for an Econ 101 class. When I left the classroom that day, I was a completely different person. It took a few more classes for me to realize what had happened. And it was really quite simple. The blindfold had been removed and a whole new world opened up.

Milton Friedman, Friedrich Hayek, Thomas Sowell, Adam Smith, Ayn Rand, Walter Williams…I read anything and everything I could get my hands on from these and many other writers. And I found myself questioning, for the first time, what I had been spoon-fed during my years in school. I went back to my economics base often during my college years, as a counterweight to what was being advanced (no longer spoon-fed, now shoveled) within the college environment. It was my bulwark.

I started thinking about “crazy” ideas and values like personal responsibility, free enterprise, self-sufficiency, self-determination, individual rights, entrepreneurship, freedom and liberty…well, you get the idea.

As the mother of two young kids, I originally planned to recommend these (and other) great economists to my kids during their teenage years. And yes, that idea was probably doomed to failure. Not only because most teenage kids pretty much run away from anything parents would recommend. No, the reality is that by playing defense until their teenage years, we’re essentially relinquishing the field. We’re abdicating our responsibility to help shape our kids’ values by always staying two steps behind, as these values (and basic common sense) are drilled out of our kids.

It’s time to stop playing defense.

So where to begin?

A book. And more specifically: a book series. An economic adventure series that fosters the values we care so deeply about. Created specifically for our kids, at an age where they soak up everything around them. Incorporating mystery and adventure to engage our young readers, and using examples from our kids’ day-to-day lives – in school, with friends, and in familiar situations – so that they can be armed with logic and a healthy dose of critical thinking skills.

There will be six books in the initial phase.

  • Under the Staircase: Meeting Milton (Milton Friedman) 
  • Under the Staircase: Hello Hayek! (Friedrich Hayek) 
  • Under the Staircase: Talking to Thomas (Thomas Sowell) 
  • Under the Staircase: Waiting for Walter (Walter Williams) 
  • Under the Staircase: Asking Adam (Adam Smith) 
  • Under the Staircase: Adventures with Ayn (Ayn Rand)

Buy them all!