A Partisan Nonpartisan Blog: Cutting Through Confusion Since 2012
Original source here, from Saturday Morning Breakfast Cereal and “Never Forget” version here.
Thanks to Unlearning Economics for flagging this funny and moving poster. When I asked him the source, he tweeted:
@mileskimball it’s actually a joke comment but I prefer the never forget version, bleeding heart that I am: http://www.smbc-comics.com/index.php?db=comics&id=1535#comic…
By that measure, I may be not just a supply-side liberal, but a bleeding-heart supply-side liberal.
Here is the full text of my 17th Quartz column, “What Paul Krugman Got Wrong About Italy’s Economy,” now brought home to supplysideliberal.com and given my preferred title. It was first published on February 26, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© February 26, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
The combative title my editor gave this column attracted Paul Krugman’s attention in one of his columns, linked in my reply “Noah Smith Joins My Debate with Paul Krugman: Debt, National Lines of Credit and Politics.”
Note that I have a nuanced position toward national debt, which is also articulated in my columns “Why austerity budgets won’t save your economy” and “An economist’s mea culpa: I relied on Reinhart and Rogoff." On Twitter, I have encapsulated this nuanced view into the hashtag #nakedausterity–
The point of the hashtag is this:
When you are worried about debt, #nakedausterity is not the answer.
Update: More recently, Yichuan Wang and I examined what the Reinhart and Rogoff data set suggests about the effects of debt on growth and found no evidence for such an effect. Links to all our analysis can be found in our Quartz column "Autopsy: Economists looked even closer at Reinhart and Rogoff’s Data–and the results might surprise you.” Our earlier Quartz column “After crunching Reinhart and Rogoff’s data, we’ve concluded that high debt does not slow growth”, my companion post “After Crunching Reinhart and Rogoff’s Data, We Found No Evidence That High Debt Slows Growth,” and my post “Why Austerity Budgets Won’t Save Your Economy” discuss other reasons one might be concerned about high levels of national debt.
Editor’s note: This post was updated on April 19, 2013, to reflect an error in the referenced study on debt levels by Carmen Reinhart and Ken Rogoff.
In the last few days, while the US political debate centers on ways to deal with burgeoning debt, UK government debt has been downgraded and investors are demanding much higher yields on Italian debt in the wake of the Italian election results (paywall). As concerns about national credit ratings push economies around the world toward austerity–government spending cuts and tax hikes–some commentators are still calling for economic stimulus at any cost. Joe Weisenthal wrote that David Cameron must spend more money in order to save the British economy. Paul Krugman wrote in “Austerity, Italian Style” that austerity policies simply don’t work. The downside of their prescription of more spending—and perhaps lower taxes—is that it would add to the United Kingdom’s and to Italy’s national debt.
And despite the recent revelation of errors in Carmen Reinhart and Ken Rogoff’s famous study of debt levels and economic growth, which I discuss here and which motivated the update you are reading (the original passage can be found here), there are reasons to think that high levels of debt are worth worrying about.
First, for a country like Italy that does not have its own currency (since it shares the euro with many other countries), Paul Krugman’s own graph shows a correlation between national debt as a percentage of GDP and the interest rate that a country pays.
Second, the paper by Thomas Herndon, Michael Ash and Robert Pollin that criticizes Reinhart and Rogoff finds that, on average, growth rates do decline with debt levels. Divide debt levels into medium high (60% to 90% of GDP), high (90% to 120% of GDP), and very high (above 120% of GDP). Then the growth rates are 3.2% with medium-high debt, 2.4% with high debt, and 1.4% with very high debt. (I got these numbers by combining the 4.2% growth rate for countries in the 0 to 30% debt-to-GDP ratio range from Table 3 with the estimates in Table 4 for how things are different at higher debt levels.) Moreover, contrary to the impression one would get from the column here, Herndon, Ash and Pollin’s Table 4 indicates that the differences between low levels of debt and high levels of debt are not just due to chance, though what Herndon, Ash and Pollin emphasize is that very low levels of debt, below 30% of GDP, have a strong association with higher growth rates. Overall, with the data we have, we don’t know what causes what, so there is no definitive answer to how much we should worry about debt, but ample reason not to treat debt as if it were a nothing.
In an environment in which stimulus is needed, but extra debt is a problem, there should be a laser-like focus on the ratio of stimulus any measure provides relative to the amount of debt it adds. In every one of my proposals for stimulating the economy, I have been careful to avoid proposals that would make a large addition to national debt. So I do not follow Joe Weisenthal and Paul Krugman in their recommendations.
First, instead of raising spending or cutting taxes, the Italian and UK governments can directly provide lines of credit to households, as I have proposed for troubled euro-zone countries and for the UK, as well as for the US. Although there would be some loan losses, the better ratio of stimulus to the addition to the national debt would lead to a much better outcome. In particular, after full economic recovery in the short run, there would be much less debt overhang to cause long-run problems after such a national lines of credit policy than under Weisenthal’s or Krugman’s prescriptions.
But for the UK, it is an even more important mistake to think that monetary policy can’t cut short-term interest rates below zero. Weisenthal quotes a post on Barnejek’s blog, “Has Britain Finally Cornered Itself?” that illustrates the faulty thinking I’m talking about:
Before I start, however, I would like to thank the British government for conducting a massive social experiment, which will be used in decades to come as a proof that a tight fiscal/loose monetary policy mix does not work in an environment of a liquidity trap. We sort of knew that from the theory anyway but now we have plenty of data to base that on.
“Liquidity trap” is code for the inability of the Bank of England to lower interest rates below zero. The faulty thinking is to treat the “liquidity trap” or the “Zero Lower Bound,” as modern macroeconomists are more likely to call it, as if it were a law of nature. The Zero Lower Bound is not a law of nature! It is a consequence of treating money in bank accounts and paper currency as interchangeable. As I explain in a series of Quartz columns (1, 2, 3 and 4) and posts on my blog—that is a matter of economic policy and law that can easily be changed. As soon as paper pounds are treated as different creatures from electronic pounds in bank accounts, it is easy to keep paper pounds from interfering with the conduct of monetary policy. In times when the Bank of England needs to lower short-term interest rates below zero, the effective rate of return on paper pounds can be kept below zero by announcing a crawling peg “exchange rate” between paper pounds and electronic pounds that has the paper pounds gradually depreciating relative to electronic pounds.
In his advice for the UK, Weisenthal should either explain why having an exchange rate between paper pounds and pounds in bank accounts is worse than a massive explosion of debt or join me in tilting against a windmill less tilted against. And for those who read Krugman’s columns, it would take a bad memory indeed not to recall that he gives the corresponding advice of stimulus by additional government spending for the US, which faces its own debt problem. I hope Paul Krugman will join me too in attacking the Zero Lower Bound.
In 1896 William Jennings Bryan famously declared: “… you shall not crucify mankind on a cross of gold.”
In our time it is not gold that is crucifying the world economy (though some would return us to the problems that were caused by the gold standard), but the unthinking worldwide policy of treating paper currency as interchangeable with money in bank accounts. So for our era, let us say: You shall not crucify humankind on a paper cross.
Here is the full text of my 16th Quartz column, “Queasy Money: We should stop expecting monetary policy alone to save the US economy” now brought home to supplysideliberal.com and given my preferred title. It was first published on February 22, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© February 22, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
Minutes of the US Federal Reserve’s monetary policy committee meeting on Jan. 29 and 30 and other recent statements by Fed officials reveal a vigorous debate within the central bank about the effects of monetary policy stimulus on financial markets. Most strikingly, the minutes indicate that Kansas City Federal Reserve Bank president Esther George “…dissented from the committee’s policy decision, expressing concern that loose credit increased the risks of future economic and financial imbalances….” In the same vein, Cleveland Fed president Sandra Pianalto expressed in a Feb. 15 speech her worry that “… financial stability could be harmed if financial institutions take on excessive credit risk by “reaching for yield” —that is, buying riskier assets, or taking on too much leverage—in order to boost their profitability in this low-interest rate environment.”
These worries are not without some foundation. For example, in a Feb. 20 Wall Street Journal article “Fed Split Over How Long to Keep Cash Spigot Open,” reporters Jon Hilsenrath and Victoria McGrane show graphs of dramatic flows of money into junk bonds, junk loans, and real estate investment trusts. Nevertheless, Boston Fed president Eric Rosengren is quoted as saying:
…that it wasn’t the central bank’s job to halt every episode of financial excess. Individual financial institutions regularly fail without bringing down the economy, and financial bubbles don’t always wreck financial systems. When the tech bubble burst in 2000, for example, the U.S. experienced a relatively brief and shallow recession. It didn’t lead to the same cascade of market collapses and a deep downturn as in 2008.
And they report Dallas Fed president Richard Fisher saying that although he is alert to possible dangers, “These robust markets are part of the Fed’s policy intent.”
In an extended question and answer session at the University of Michigan on Jan. 14, Federal Reserve Board Chairman Ben Bernanke revealed his philosophy about dealing with financial stability: “… we will, obviously, be working very hard in financial stability. We’ll be using our regulatory and supervisory powers. We’ll try to strengthen the financial system. And if necessary, we will adjust monetary policy as well but I don’t think that’s the first line of defense.” Although Bernanke does not want fears about financial stability to constrain monetary policy too much, he is more concerned about the effects of quantitative easing (buying long-term Treasury bonds and mortgage-backed securities) and forward guidance (making announcements about future short-term interest rates) than he would be if the Fed could just push the current short-term interest rate below the near-zero level it is at now:
… we have to pay very close attention to the costs and the risks and the efficacy of these non-standard policies as well as the potential economic benefits. And to the extent that there are costs or risks associated with non-standard policies which do not appear or at least not to the same degree for standard policies then you would, you know, economics tells you when something is more costly, you do a little bit less of it.
I find wisdom in the words of Rosengren, Fisher and Bernanke. In my view:
1. Monetary Policy Works Through Raising Asset Prices, Loosening Borrowing Constraints, or Affecting the Exchange Rate. It doesn’t make sense for firms to produce things no one wants to buy. Aggregate demand is the willingness to buy goods and services that determines how much is produced in the short run. Aggregate demand is the sum of the willingness of households (meaning families and individuals) to spend and build houses, of firms to buy equipment, build factories, office buildings, and stores, and spend on research and development, of government purchases, and of net exports: how much more foreigners buy from us than we buy from them (an area where the US is now in the hole).
To analyze household spending, it is a useful simplification to think of households as divided into two groups: (i) those who either don’t need to borrow or can borrow all they want at reasonable rates, and (ii) those who are borrowing as much as they can already and can’t borrow more. Economic theory suggests that those who don’t need to borrow or can borrow all they want at reasonable rates will look at the value of their wealth—including the asset value of their future paychecks—and spend a small fraction of that full wealth every year. The size of that fraction depends primarily on long-run factors, and is mostly beyond the Fed’s control. So, by and large, the only way the Fed can get those who don’t need to borrow to spend more is by increasing the value of their full wealth. If the full wealth goes up because they expect fatter paychecks in the future, no one gets worried, but otherwise that increase in wealth has to come from an increase in highly visible asset prices.
Those who are already borrowing as much as they can, will only be able to spend more if they can get their hands on more money in the here and now. Tax policy matters here, but the most recent change—the expiration of the Obama payroll tax cut—goes in the wrong way, reducing what people living from paycheck to paycheck have to spend. My proposal of a $2,000 Federal Line of Credit to every taxpayer would be a way to stimulate the spending of this group without adding much to the national debt. But this is beyond the Federal Reserve’s authority under current law. The way monetary policy now affects the spending of those who face limits on their borrowing is by lowering the cost of funds to banks so much that banks start to think about lending to people they were unwilling to lend to before.
A similar division by ability to borrow helps in understanding business investment as well. For firms who have trouble borrowing, additional investment spending will depend on borrowers-previously-deemed-too-risky getting loans. For firms that don’t need to borrow or can borrow all they want at reasonable rates, the key determinant of business investment is how valuable a firm thinks a new factory, office building, store, piece of equipment, or patent will be. But, by and large, the same factors that affect how valuable a new investment will be affect how valuable existing factories, office buildings, stores, equipment, and patents are. So the prices of the stocks and bonds that would allow one to buy a firm outright—with all of its factories, office buildings, stores, equipment and patents—will have to increase if the Fed is to encourage investment. The same logic holds for houses: it is hard to make it more valuable to build a new house without also making existing houses more valuable and pushing up their prices.
Aside from government purchases—which are the job of the president and the warring Democrats and Republicans in Congress rather than the Fed—that leaves net exports. There the problem is that while any one country can increase its aggregate demand by increasing its net exports, this doesn’t work when all countries try to increase net exports at the same time. The reason that monetary expansion isn’t a zero-sum game across countries is because monetary policy can increase aggregate demand by raising asset prices and encouraging lenders to lend to borrowers they didn’t want to lend to before. The big danger is that those making the decisions within the Federal Reserve will mistake the normal workings of monetary policy—acting through asset prices and risky lending—for financial shenanigans that need to be stamped out by premature monetary tightening.
2. Nonstandard Monetary Policy. That said, nonstandard monetary policy in the form of purchases of long-term Treasury bonds and mortgage-backed securities and “forward guidance” on future short-term interest rates take the economy into uncharted territory. But uncharted territory brings not only the possibility of new monsters but also the near certainty of previously unseen creatures that might look like monsters, but are harmless.
3. Facing the Real Financial Dangers Squarely. So what distinguishes the real monsters from the paper dragons? Eric Rosengren had the key when he pointed to the contrast between the collapse of the internet stock bubble in 2000 and the financial crisis in 2008, that stemmed from the collapse of the housing bubble. The difference was that, by and large, people invested in the internet stock price boom with their own money, and took the hit themselves when the bubble collapsed; people invested in the house price boom—both directly and indirectly—with borrowed money, and so imposed their losses on those they borrowed from and on taxpayers through bailouts. “High capital requirements” is the name of the policy of forcing big banks to put enough of their own money at risk to be able to absorb financial losses without imposing those losses on others. Capital requirements for banks are akin to down payment requirements for individuals buying houses. The financial crisis we are still suffering from arose from too little of both. Needless to say, banks hate capital requirements, since the secret for all too great a share of financial profits is taking the upside while foisting the downside on others (often taxpayers) who don’t know they are taking the downside, and aren’t being compensated for taking that risk.
Beyond pushing for high capital requirements—especially during booms, when financial shenanigans are most likely—the Fed can do a lot to foster financial stability by continuing to make a list of possible macroeconomic risks to use in subjecting financial firms to “stress tests” as it has done in 2009, 2011, 2012 and 2013. But it can do more with this list of possible macroeconomic risks by requiring financial firms to explicitly insure themselves against these risks and imposing very tough capital requirements on those who purport to provide such insurance. Indeed, for deep pockets, the ideal provider of such insurance would be a sovereign wealth fund, as I proposed in “Why the US Needs Its Own Sovereign Wealth Fund.” The problem is not having taxpayers bear these risks, it is having taxpayers bear these risks without being compensated for doing so. The bedrock principle should be to bring as many macroeconomic risks as possible out of the shadows into the light of day, so that prices can be put on those risks. If risks are out in the open, then those who face them will face them knowingly, and won’t be able to shirk the responsibility they have undertaken when those risks materialize.
Fostering financial stability by enforcing high capital requirements during booms and working toward the naming and pricing of macroeconomic risks is its own reward. But it also has the extraordinary benefit of freeing up monetary policy to pursue its main mission of protecting the economy from inflation and high unemployment. The more potential evils we face, the more tools we need. Rather than attempting to use the familiar tool of monetary policy for a task to which it is ill-suited, let us fashion new tools to enhance financial stability.
This Twitter conversation gives my reply to Tomas Hirst’s post “Lingering Doubts Over Negative Rates.”
Here is the full text of my 15th Quartz column, “How to stabilize the financial system and make money for US taxpayers” now brought home to supplysideliberal.com. It was first published on February 8, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© February 8, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
Note: a version of this column is also slated to be published in FS Focus, the financial services magazine of the ICAEW, an organization of accountants in the UK. In that version, the passage from “In brief, …” to the end of its paragraph was replaced with this passage, which I think you will find interesting as well:
At its inception, a US sovereign wealth fund would be established by issuing $1 trillion worth of low-interest safe Treasury bonds and investing those funds in high-expected-return risky assets. That takes those risky assets off the hands of private investors and puts safe assets in the hands of those private investors instead. Having fewer risky assets on their balance sheets overall would make those private investors readier to back private firms in taking on the additional risks involved in buying equipment, building factories, or starting up new businesses. And having more safe assets in the hands of private investors would provide good collateral for the financial arrangements those projects would need. Thus, the establishment of the sovereign wealth fund encourages investment and stimulates the economy. The Fed has plenty of tools for keeping the economy from being stimulated too much. So the mere existence of the sovereign wealth fund gives the Fed a wider range of stimulus levels to choose from. Moreover, any given level of stimulus would requires a less aggressive course of quantitative easing (QE) on the part of the Fed than it would otherwise need to pursue.
Geopolitically, the world still lives in the shadow of Sept. 11, 2001. Economically, the world still lives in the shadow of Sept. 15, 2008, the day Lehman Brothers collapsed and ushered in a deep financial crisis. The fundamental problem: big banks and other financial firms that pretended to take on huge risks without, in fact, being able to shoulder those risks. Under the guise of taking such risks, these financial firms reaped the reward during the good times. But when the risks came home to roost, only US taxpayers—the US government acting on their behalf—had the wherewithal to absorb those risks.
In the future, shouldn’t US taxpayers get some of the reward from taking on the macroeconomic risks that are too big and too pervasive for banks and financial firms to shoulder? Such risk-bearing is richly rewarded. Indeed, as George Mason University professor Tyler Cowen points out in his American Interest article, “The Inequality that Matters,” a shockingly high fraction of the wealth of the super-rich comes from finance. But more importantly, having US taxpayers rewarded for actually taking on macroeconomic risk—risk that US taxpayers end up bearing in large measure anyway—would crowd out the charade of big banks and financial firms pretending to take on that risk. And it is that pretense that brought the world to the dreadful, long-lasting economic quagmire it is in now.
In my Quartz column a little over a month ago I explained “Why the US needs its own sovereign wealth fund” primarily as a way to give the Federal Reserve more running room in monetary policy. In brief, the mere existence of a US sovereign wealth fund, one that issued through the Treasury $1 trillion worth of low-interest safe bonds and invested it in high-expected-return risky assets, would give the Federal Reserve a lot more room to maneuver. Moreover, it would allow the Fed to pursue a less aggressive course of quantitative easing (QE) than it would otherwise need to pursue. The US fund would draw political controversy to itself, and away from the Fed, thereby preserving the independence of monetary policy that we need in order to avoid inflation in the long run.
But a US sovereign wealth fund can do more if given the independence it needs to focus on (1) making money for the US taxpayer and (2) financial stability, rather than extraneous political objectives. These two goals are consistent, since the same contrarian strategy serves both. Buying assets cheap, relative to their fundamentals, and selling assets that are expensive, relative to their fundamentals, both pushes asset prices toward their fundamentals and, by buying low and selling high, makes profits that we can use to help pay off the national debt. It takes almost inhuman fortitude to withstand the winds of investment fashion. But given appropriate compensation policies, a $1 trillion US sovereign wealth fund would be able to hire the next generation’s Warren Buffett to take care of US taxpayers’ money. They deserve no less.
Update: I discovered in a forgotten email a pdf of a version of this in print (on page 8) and a link to a version on the Economia website. I find those mostly interesting for the visuals:
My title is a riff on this verse in the Gospel of Luke. The Vogel von Vogelstein painting reproduced above illustrates the scene. Here is a link to this and other paintings of the event. (I don’t see any reason to think that the event described by this Biblical verse is not historical.)
In the blogosphere and in academia, the frustration those who are wrong represent for those who are right is often palpable. It is good to remember that, as long as they do not win, those who are wrong provide an important service to those who are right. For you to understand this post, let’s stipulate that you are absolutely right. Here is what you and those on your side get from those who are wrong, as laid out by John Stuart Mill in On Liberty, chapter II:
However unwillingly a person who has a strong opinion may admit the possibility that his opinion may be false, he ought to be moved by the consideration that however true it may be, if it is not fully, frequently, and fearlessly discussed, it will be held as a dead dogma, not a living truth.
There is a class of persons (happily not quite so numerous as formerly) who think it enough if a person assents undoubtingly to what they think true, though he has no knowledge whatever of the grounds of the opinion, and could not make a tenable defence of it against the most superficial objections. Such persons, if they can once get their creed taught from authority, naturally think that no good, and some harm, comes of its being allowed to be questioned. Where their influence prevails, they make it nearly impossible for the received opinion to be rejected wisely and considerately, though it may still be rejected rashly and ignorantly; for to shut out discussion entirely is seldom possible, and when it once gets in, beliefs not grounded on conviction are apt to give way before the slightest semblance of an argument. Waving, however, this possibility—assuming that the true opinion abides in the mind, but abides as a prejudice, a belief independent of, and proof against, argument—this is not the way in which truth ought to be held by a rational being. This is not knowing the truth. Truth, thus held, is but one superstition the more, accidentally clinging to the words which enunciate a truth.
… If the cultivation of the understanding consists in one thing more than in another, it is surely in learning the grounds of one’s own opinions. Whatever people believe, on subjects on which it is of the first importance to believe rightly, they ought to be able to defend against at least the common objections. But, some one may say, “Let them be taught the grounds of their opinions. It does not follow that opinions must be merely parroted because they are never heard controverted. Persons who learn geometry do not simply commit the theorems to memory, but understand and learn likewise the demonstrations; and it would be absurd to say that they remain ignorant of the grounds of geometrical truths, because they never hear any one deny, and attempt to disprove them.” Undoubtedly: and such teaching suffices on a subject like mathematics, where there is nothing at all to be said on the wrong side of the question. The peculiarity of the evidence of mathematical truths is, that all the argument is on one side. There are no objections, and no answers to objections. But on every subject on which difference of opinion is possible, the truth depends on a balance to be struck between two sets of conflicting reasons. Even in natural philosophy, there is always some other explanation possible of the same facts; some geocentric theory instead of heliocentric, some phlogiston instead of oxygen; and it has to be shown why that other theory cannot be the true one: and until this is shown, and until we know how it is shown, we do not understand the grounds of our opinion. But when we turn to subjects infinitely more complicated, to morals, religion, politics, social relations, and the business of life, three-fourths of the arguments for every disputed opinion consist in dispelling the appearances which favour some opinion different from it. The greatest orator, save one, of antiquity, has left it on record that he always studied his adversary’s case with as great, if not with still greater, intensity than even his own. What Cicero practised as the means of forensic success, requires to be imitated by all who study any subject in order to arrive at the truth. He who knows only his own side of the case, knows little of that. His reasons may be good, and no one may have been able to refute them. But if he is equally unable to refute the reasons on the opposite side; if he does not so much as know what they are, he has no ground for preferring either opinion. The rational position for him would be suspension of judgment, and unless he contents himself with that, he is either led by authority, or adopts, like the generality of the world, the side to which he feels most inclination. Nor is it enough that he should hear the arguments of adversaries from his own teachers, presented as they state them, and accompanied by what they offer as refutations. That is not the way to do justice to the arguments, or bring them into real contact with his own mind. He must be able to hear them from persons who actually believe them; who defend them in earnest, and do their very utmost for them. He must know them in their most plausible and persuasive form; he must feel the whole force of the difficulty which the true view of the subject has to encounter and dispose of; else he will never really possess himself of the portion of truth which meets and removes that difficulty. Ninety-nine in a hundred of what are called educated men are in this condition; even of those who can argue fluently for their opinions. Their conclusion may be true, but it might be false for anything they know: they have never thrown themselves into the mental position of those who think differently from them, and considered what such persons may have to say; and consequently they do not, in any proper sense of the word, know the doctrine which they themselves profess. They do not know those parts of it which explain and justify the remainder; the considerations which show that a fact which seemingly conflicts with another is reconcilable with it, or that, of two apparently strong reasons, one and not the other ought to be preferred. All that part of the truth which turns the scale, and decides the judgment of a completely informed mind, they are strangers to; nor is it ever really known, but to those who have attended equally and impartially to both sides, and endeavoured to see the reasons of both in the strongest light. So essential is this discipline to a real understanding of moral and human subjects, that if opponents of all important truths do not exist, it is indispensable to imagine them, and supply them with the strongest arguments which the most skilful devil’s advocate can conjure up.
See links to my other John Stuart Mill posts here:
This site is a dynamic network graph. When you hover over a name, it shows connections among the top 500 Economic influencers on Twitter. Very cool.
I am on line 11.
Here is the full text of my 14th Quartz column, “Off the Rails: What the heck is happening to the US Economy? How to get the recovery back on track,” now brought home to supplysideliberal.com. It was first published on February 1, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© February 1, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
GDP fell in the last quarter of 2012. It was only a fraction of a percent, but it means the recovery is on hiatus. Why? Negative inventory adjustments tend to be short-lived, so let me leave that aside, although it definitely made last quarter’s statistics look worse. Of the longer-lived forces, on the positive side,
On the negative side,
Net exports and government purchases are the big worries going forward as well.
How much the rest of the world buys from the US depends on how other economies are faring. And most of the rest of the world is hurting economically. The Japanese are so fed up with their economic situation that they are on their sixth prime minister in the six and a half years since Junichiro Koizumi left office in 2006. The European debt crisis is in a lull right now, but could still resume full force at any time. In addition to all of its other problems, the United Kingdom is facing a mysterious decline in productivity, explained in Martin Wolf’s Financial Times article “Puzzle of Falling UK Labour Productivity” and the Bank of England analysis by Abigail Hughes and Jumana Saleheen.
The decline in US government spending comes from the struggle of state and local governments with their budgets and at the federal level from the ongoing struggle between the Democrats and Republicans about the long-run future of taxing and spending. Last quarter saw a remarkable decline in military spending that Josh Mitchell explains this way in today’s Wall Street Journal (paywall).
The biggest cuts came in military spending, which tumbled at a rate of 22.2%, the largest drop since 1972. …
Military analysts said the decline likely was a result of pressure on the Pentagon from a number of areas.
Among them: reductions in spending on the war in Afghanistan as it winds down, a downturn in planned military spending, a constraint placed on the Pentagon budget because the federal government is operating on short-term resolutions that limit spending growth, as well as concern that further cuts may be in the pipeline.
The problem is that, absent a big increase in economic growth, balancing the federal budget in the long run requires big increases in taxes or big reductions in spending. But, although opinions differ on which option is worse, tax increases and spending cuts themselves are enemies of economic growth. So the traditional options for balancing the federal budget in the long run all have the potential to make things much worse.
Our problems are so big they need new solutions. In our current situation, the fact that a proposal is “untried” is a plus, since none of the economic approaches we have tried lately have worked very well. In the last few months I have focused my Quartz columns on explaining how the US and the world can get out of the economic mess we are in with new solutions. A recap:
Franklin Roosevelt famously said:
The country needs and, unless I mistake its temper, the country demands bold, persistent experimentation. It is common sense to take a method and try it: If it fails, admit it frankly and try another. But above all, try something.
We are at such a moment again. The usual remedies have failed. It is time to try something new. Any one of these proposals could make a major difference. In combination, they would transform the world.
Here is the full text of my 13th Quartz column, “John Taylor is Wrong: The Fed is not causing another recession,” now brought home to supplysideliberal.com. It was first published on January 29, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© January 29, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
In his Wall Street Journal editorial headlined “Fed Policy is a Drag on the Economy“ this morning, Stanford economist John Taylor makes the remarkable claim that the US Federal Reserve’s efforts to keep interest rates down by asset purchases now—and promises of asset purchases in the future—is like rent control. If this were true, then the Fed’s actions to lower interest rates could be contractionary and could cause another recession. But it is just wrong.
The Fed’s actions to lower interest rates are more like encouraging the construction of more apartments—by granting building permits more readily—in an effort to keep rents down. That makes all the difference. The Fed’s actions are stimulative because the Fed is acting within the framework of supply and demand bringing markets to equilibrium. While the Fed is intervening in asset markets, contrary to Taylor’s claim, it is not doing anything to take away the role of interest rates to equate supply and demand. So when the Fed brings interest rates down, people will build more houses and factories, and buy more machines and consumer durables than they otherwise would.
This column is the two-paragraph précis of my post “Contra John Taylor.”
Twitter provided some reviews of these two pieces that I liked. Here are a few:
Paul Krugman cited “Contra John Taylor.” in his column “Calvinist Monetary Economics,” writing
Actually, as Miles Kimball points out, [John Taylor is] committing a basic microeconomic fallacy — a fallacy you usually identify with Econ 101 freshmen early in the semester…
Here is a link to my 22d column on Quartz: “An economist’s mea culpa: I relied on Reinhart and Rogoff.”
Let me also reprint here from my update to “Noah Smith Joins My Debate with Paul Krugman: Debt, National Lines of Credit and Politics” in the light of recent events:
You can see what I have to say in the wake of Thomas Herndon, Michael Ash and Robert Pollin’s critique of Carmen Reinhart and Ken Rogoff’s work on national debt and growth in my column “An economists mea culpa: I relied on Reinhart and Rogoff.” (You can see my same-day reaction here.) Also, on the substance, see Owen Zidar’s nice graph in his post “Debt to GDP & Future Economic Growth.” I sent a query to Carmen Reinhart and Ken Rogoff about whether any adjustments are needed to the two figures from the paper with Vincent Reinhart that I display below, but it is too soon to have gotten a reply. I think that covers most of the issues that recent revelations raise.
Note that I have revised “What Paul Krugman got wrong about Italy’s economy.” [My post “Noah Smith Joins My Debate with Paul Krugman: Debt, National Lines of Credit and Politics”] is now the go-to source for what I originally said there, relying on “Debt Overhangs, Past and Present” (which has Vincent Reinhart as a coauthor along with Carmen Reinhart and Ken Rogoff).
One final thought. Given the spotlight they put on Reinhart and Rogoff, and the spotlight that is therefore on them as well, Thomas Herndon, Michael Ash and Robert Pollin may not be as careful as they should be. Am I mistaken in what I said in this tweet:
Herndon, Ash & Pollin report 11% p-value for 30-60% debt GDP vs. BOTH 60-90% and >90% bins, but don’t report p-value for 60-90% vs. >90% !
One way or the other, they should report the p-value for the 60-90% bin vs. the above 90% bin alongside the test they do report, which is less germane to the controversy about the 90% threshold. They should have made the results of the 60-90% vs. above 90% statistical test impossible to miss. How easy is it to find their report of that statistic in their paper?
Note on Comments on this Blog: I want to encourage more commentary on my blog. I need to approve each comment unless you are whitelisted. But if you send me a tweet to let me know you need a comment approved, I will get to it quicker, and normally approve it and whitelist you. I do try to enforce a certain level of civility and decorum (including a language filter), but on substance, I want a robust debate. For Quartz columns, the link I post on my blog (usually the day after the column appears) is a good place to make comments.
In my post “A Wish in the Wake of the Boston Marathon Bombings,” I wrote:
May the best in the human spirit vanquish the worst in the human spirit.
In thinking of the worst in the human spirit, I was reminded of a chapter in Stephen Pinker’s wonderful book The Better Angels of Our Nature: Why Violence Has Declined.In chapter 4, “The Humanitarian Revolution,” he writes:
But the practical function of cruel punishments was just a part of their appeal. Spectators enjoyed cruelty, even when it served no judicial purpose….
Samuel Pepys, presumably one of the more refined men of his day, made the following entry in his diary for October 13, 1660:
“Out to Charing Cross, to see Major-general Harrison hanged, drawn and quartered; which was done there, he looking as cheerful as any man could do in that condition…”
Pepys’s cold joke about Harrison’s “looking as cheerful as any man could do in that condition” referred to his being partly strangled, disemboweled, castrated, and shown his organs being burned before being decapitated….
The word keelhaul is sometimes used to refer to a verbal reprimanding. Its literal sense comes from another punishment in the British navy. A sailor was tied to a rope and pulled around the bottom of the ship’s hull. If he didn’t drown, he would be slashed to ribbons by the encrusted barnacles….
The bland phrase broken on the wheel cannot come close to capturing the horror of this form of punishment. According to one chronicler, the victim was transformed into a “huge screaming puppet, writing in rivulets of blood…”…
… Still others, like the American physician and signer of the Declaration of Independence Benjamin Rush, appealed to the common humanity of readers and the people who were targets of punishment. In 1787 he noted that “the men, or perhaps the women, whose persons we detest, possess souls and bodies composed of the same materials as those of our friends and relations…."
I had to leave out some of the details Steven Pinker gives because the passage was too graphic. But I left some graphic things in because I wanted the message of our brutal human past to come through.
Anger, hatred and cruelty are elements in the human spirit that can be either nursed and encouraged or fought and subdued. Many of those who commit atrocities have spent many years nourishing and tending their anger, hatred and cruelty before the moment when they commit those atrocities. (Some are psychopaths without a conscience.) May we tame our anger at what they have done into an abiding motivation to make the world a better place, safer in all ways from their dark side, and from our own.
Don’t miss the discussion further down of sticky prices vs. sticky wages.
Here is the full text of my 12th Quartz column, “Yes, there is an alternative to austerity vs. spending: Reinvigorate America’s nonprofits,” now brought home to supplysideliberal.com. It was first published on January 15, 2013. Links to all my other columns can be found here.
If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:
© January 15, 2013: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2014. All rights reserved.
Despite serving only one term from 1989-1993, US President George H. W. Bush (just released from the hospital yesterday after a bout of fever and other complications) has cast a long shadow over subsequent events. His decision to leave Saddam Hussein in place after the First Iraq War led to his son’s immensely controversial Second Iraq War. And the negative reaction to his decision to compromise with Democrats in raising taxes in 1990 despite his pledge “Read my lips, no new taxes” has set the terms of the tax policy debate ever since. Tax reformer Grover Norquist codified the principle of “no new taxes” into the Taxpayer Protection Pledge, which goes as follows:
I, ____ pledge to the taxpayers of the state of ____, and to the American people that I will:
ONE, oppose any and all efforts to increase the marginal income tax rates for individuals and/or businesses; and
TWO, oppose any net reduction or elimination of deductions and credits, unless matched dollar for dollar by further reducing tax rates.
Republican Speaker of the House John Boehner made a nod toward this pledge two weeks ago, pushing for the temporary resolution of the fiscal cliff, when he reminded his rank and file that, technically, taxes had already gone up, due to the expiration of the younger Bush’s tax cuts at year end. The implication was that members of Congress would really be voting for a tax cut, not a tax increase, and so would not be breaking their pledge. There is no doubt that this matter of interpretation will feature prominently in the GOP primaries in 2014.
The ongoing crisis in long-run US taxing and spending policy is born from the collision of an almost unstoppable force on the spending side with Grover Norquist’s almost immovable object on the taxing side. Former Treasury Secretary Larry Summers ably describes the almost unstoppable force on the spending side in his Washington Post editorial “The Reality of Trying to Shrink Government.” The bottom line is that the explosion of government spending is primarily the result of (1) an aging population, (2) having to pay interest on ballooning government debt, and (3) the increasing cost of medicine that keeps discovering ways to do more with the expensive skilled labor of doctors and other medical professionals. To put it bluntly, the only way to keep government spending constant in the future, let alone reduce it, would be to dramatically reduce benefit levels for Social Security, Medicare and Medicaid, or to gut all the other functions of government, from national defense to the judicial system to scientific research.
It is easy to be misunderstood when mentioning Hitler, but here I want to invoke a comparison solely in his role as an inept commander-in-chief of the German armed forces and in no other capacity. In his book, The Storm of War: A New History of the Second World War, Andrew Roberts argues that Hitler’s no-retreat, “stand-or-die” orders were strategically disastrous for the German forces. German generals had a brilliant record at turning tactical retreats into great German victories. But Hitler’s stand-or-die orders took away the advantage of maneuver and left German troops to be mowed down by the Russians under Stalin. My point is that the “stand-or-die” approach is likely to do no better against the spending juggernaut than it did against Stalin.
In our long-run fiscal situation, the alternatives (of which we may need more than one) are to convince the American people to swallow straight benefit cuts, to directly raise tax rates, to grow the economy to get more revenue through:
1. Increased immigration, done in a way that focuses on economic growth, as I discussed in a previous Quartz piece entitled “Obama could really help the US economy by pushing for more legal immigration”
2. A more efficient tax system that encourages capital formation, as discussed in my “Twitter Round Table on Consumption Taxation”
3. A big push for increased scientific research to accelerate technological progress
But then what? I propose that many of the jobs the government has set for itself actually be done outside the government, by the non-profit sector.
In my recent blog post “No Tax Increase Without Recompense” (there’s a cliff notes version here), I propose a “public contribution system” that goes far beyond the current tax deduction for charitable contributions. In this program:
A public contribution is a donation to a nonprofit organization meeting high quality standards that engages in activities that (a) could be legitimate, high-priority activities of Federal or State governments and (b) can to an important extent substitute for spending these governments would otherwise be likely to do.
My proposal is to raise marginal tax rates above about $75,000 per person—or $150,000 per couple—by 10% (a dime on every extra dollar), but offer a 100% tax credit for public contributions up to the entire amount of the tax surcharge.
In addition to helping the government budget by taking over tasks the government is now doing and by reducing revenue lost to the current charitable deduction, I believe the non-profit sector (with the usual level of regulation) can do many things better than the government, and this program would be much less painful for people than paying the same amount in taxes. It is easy to find fulfillment in philanthropy. There is satisfaction in knowing one has made a difference in the world, in a way of one’s own choosing. And giving can serve as a good opportunity for teaching children to care. No doubt, some would view these contributions to charitable causes as almost as onerous as the taxes to which they would be an alternative. But I don’t think that would be the typical reaction.
Many people talk as if taxes are hateful only because the government is taking our money. But taxes are also hateful because the government is arrogating to itself the choice of what should be done with the money it takes from us. The government is jealous of its power. But let us insist that any resolution of our long-run fiscal crisis reduces, rather than adds to, government power. We do need to take care of those who are poor, sick and elderly. A program of public contributions shrinks government, while getting the job done. And it would be a fitting honor for George H. W. Bush, who said movingly in his inaugural address:
I have spoken of a thousand points of light, of all the community organizations that are spread like stars throughout the Nation, doing good… . The old ideas are new again because they are not old, they are timeless: duty, sacrifice, commitment, and a patriotism that finds its expression in taking part and pitching in.
Link to the April 16th, 2013 article on Pieria (pieria.co.uk)
Q: Tomas Hirst. A: Miles.
Q: Would negative nominal rates effectively act as a flat tax indiscriminately hitting those who can afford to pay it and those who would struggle to?
A: I really think you would see short rates go down but long rates go up because people would see that there was going to be an economic recovery. Those long-term rates should matter more for retirees, for example.
Even if the worse off are impacted in the short run you’re not going to touch social security or benefits. You’re not hitting the people at the very bottom. So we’re really just talking about relatively better off people who have something more than the state pension to retire on anyway.
Q: Given that we already have negative real returns on cash holdings and there is little evidence that it is causing firms or individuals to spend heavily, why should we expect them to respond differently to negative nominal rates?
A: Theoretically you shouldn’t have much of a response until you get the interest rate below the net rental rate. If you take a very simple model you get very little investment until you get to that point but once it is crossed you get a large amount of investment.
Things are more complicated in the real world because you have a variety of different investment projects. Nevertheless the simple model has a message that there is a critical interest rate at which investment takes off.
Suppose the net rental rate is around -2%. The message from the simple model is that there are lots of investment projects that have an internal rate of return of -2%. You might see some difference if you reduce rates from 0.5% to around zero but you shouldn’t expect to see much activity before you get below that level.
Q: Are you suggesting that at present the weakness in private sector spending is that they in effect expect a negative return on investment?
A: Absolutely. The internal rate of return companies expect, which I call the net rental rate, is currently below the natural rate of interest partly because the economy is doing badly.
This doesn’t mean that an investment will earn a negative rate of return. Investment projects may still be making positive returns on average but after adjusting for risk they might not look so appealing.
What you need to do is make it so that there is no way of getting a safe return of more than -2% anywhere and then people will take the risk of buying a new factory or building new equipment. That is why electronic money is crucial.
Q: How do you prevent huge capital flight in the interim?
A: I would use the more neutral term of a net capital outflows and there’s nothing wrong with that. The way this thing works is that the first adopter country gets a big trade surplus as a weakening currency stimulates exports.
So the first mover gets a big boost to their economy but of course other countries may complain. There are two possible answers for them:
The first is that they bring in electronic money and negative interest rates too so that the world can get the monetary stimulus it needs.
The second answer is to invite other countries to do a currency intervention. You have government debt yielding -2% and if other countries purchase it the UK gets paid handsomely for exporting some of the stimulus it’s providing to the world.
Any major country that adopted electronic money and negative rates would do the service of quickly making it happen in other countries. Although it might seem like there is a big political barrier to doing it initially the fact that any country doing it makes it politically necessary for other countries to do it makes it much more likely to happen than people realise.
Q: There was an implicit assumption behind the current policy mix in the UK that a weaker pound would boost exports. Despite falls in the value of sterling the export boom failed to materialise. Why should people expect a different result with negative nominal rates?
A: If you lower rates into negative territory at some point you are going to get more investment or more exports. It does depend on the balance of investment opportunities in the UK, for example, compared to elsewhere but you’re going to get one or the other.
Quantitative easing is a relatively weak tool and in simple models it doesn’t work at all. So I’m not surprised that it hasn’t been able to weaken sterling more and boost exports. Lowering interest rates is a much more powerful tool.
Q: But if an export boom fails to materialise could you become trapped in negative rates?
A: There’s no way you’re not going to recover. At some point you’re going to get production just for storage.
Even in the worse possible case where there were no factories or equipment that could possibly be a worthwhile investment you would still have some uplift to production from people stocking up on canned goods. So you will eventually get a recovery.
Q: From a more philosophical perspective, could the effect of the combination of electronic money and negative rates prize the commodity aspect of money from its value as a means of exchange?
A: What I would say is that electronic money represents the logical completion of the process of governments taking charge of monetary policy. It’s demoting the store of value aspect of currency, although it’s still important for it to be a decent short-term store of value between the time you get it out of the ATM and when you spend it.
Under the system of electronic money I’m talking about, where you still have paper currency around, you will still need that short-term store of value but you’ve totally demoted money as a long-term store of value. We want people to be funnelling money into building factories, buying new equipment and funding research and development. We don’t want them doing things that are not advancing the world around them.
Q: What are the implications of this for fiscal policy?
A: The zero lower bound does get in the way of monetary policy dominance. Once you get rid of it with electronic money then you really do get monetary policy dominance, and actually we’ve been there before. We didn’t have big discussions about how fiscal policy needed to stabilise the economy in the 1990s or even in the early 2000s. It’s only because we’ve run into the zero lower bound that fiscal policy has been a part of the discussion.
With fiscal policy, however, you really do have a problem as you have to deal with short run stabilisation and long run debt sustainability problems all at once. If you could get the former done through monetary policy then you only have to deal with the debt problem.
I thought it important to put this up right away, since I have referenced the correlations in the Carmen Reinhart, Vincent Reinhart and Ken Rogoff paper “Debt Overhangs, Past and Present.” It is likely that the later paper I relied on has some of the same problems as the earlier paper that Mike Konczal discusses based on Thomas Herndon, Michael Ash, and Robert Pollin’s paper “Does High Public Debt Consistently Stifle Economic Growth? A Critique of Reinhart and Rogoff,” In particular, I would like to know how the figures from “Debt Overhangs, Past and Present,” that I copied over in my post “Noah Smith Joins My Debate with Paul Krugman: Debt, National Lines of Credit, and Politics” are affected by the emendations of Thomas Herndon, Michael Ash, and Robert Pollin. I would be grateful for any help in figuring this out.
May the best in the human spirit vanquish the worst in the human spirit.
