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Yearly Archives: 2013
There Is No Such Thing As A “Purely Economic” Problem That Can Be Settled By Purely Economic Logic
… and politics and ideology will seep into it.
Tom Hickey writes a nice reply to Noah Smith’s blog post How Normal People See Macroeconomics.
Smith says:
I’ve been thinking about these differences for a while, and I’ve reached two major conclusions:
1. Normal people see macro as inherently political.
2. Normal people see macro as being mostly about redistribution rather than about efficiency….
The whole essay is like economists are doing something value free and that politics is not important. Joan Robinson nicely summarized the situation in her essay What Are The Questions (jstor URL):
The movement of the thirties was a attempt to bring analysis to bear on actual problems. Discussion of an actual problem cannot avoid the question of what should be done about it; questions of policy involve politics (laissez-faire is just as much a policy as any other). Politics involve ideology; there is no such thing as a “purely economic” problem that can be settled by purely economic logic; political interests and political prejudice are involved in every discussion of questions. The participants in controversy divide themselves in schools – conservative or radical and ideology is apt to seep into logic. In economics, arguments are largely devoted, as in theology, to supporting doctrines rather than testing hypotheses.
Smith writes as if what he is doing is good for the society as a whole – despite the fact that his own colleagues are pushing their own ideologies in policy which is bad for society as a whole.
Smith also writes:
Many people see the “-isms” of macro – “New Keyneisanism”, “New Classicalism”, etc. – as political advocacy rather than as dispassionate scientific attempts to explain the world around us….
But it is right – people like Greg Mankiw have pushed their agendas. What is wrong with “normal people’s view” on this? They are exactly right. Mankiw’s defending the 1% is a dispassionate scientific attempt?
And the above Robinson quote is actually a dispassionate description of the situation than Smith’s own!
Who is Smith trying to fool here?
In fact,
One of the main effects … of orthodox traditional economics was … a plan for explaining to the privileged class that their position was morally right and was right for the welfare of society.
– Joan Robinson, 1937, “An Economist’s Sermon”, Essays In The Theory Of Employment, The Macmillan Company
Smith also writes:
If monetarists or New Keynesians (is there a difference?) suggest monetary expansion, for example, a lot of readers see it instead as a liberal attempt to use inflation to redistribute money from rich creditors to poor debtors, while a few see it as a conservative attempt to boost the profits of big banks. Only a small minority seem to consider the question of whether monetary expansion is a Pareto efficient response to the business cycle. Because of this, monetarists like Scott Sumner often spend a lot of time “punching hippies” on every issue other than monetary policy, trying to avoid being tarred as hippies themselves for their lack of fear of inflation.
Whatever Pareto efficiency is. But it is mainstream economists themselves who have promoted deflationary policies by selling them to the public that such policies are good for them. Monetarism was a scourge in the 1980s and has permanently distorted economists and the common man. Now he completely avoids history and presents the case as if (mainstream) economists want a rise in demand, not the normal people!
Nicholas Kaldor On Milton Friedman’s Influence
Unlearning Economics has written a very nice post on Milton Friedman’s distortions.
It is unbelievable that people still believe in the quantity theory of money and the distortion appears to have been permanent. When Milton Friedman was rising in popularity, Nicholas Kaldor took him to task and while conceding to Kaldor that the stock of money is endogenous, Friedman still maintained the direction of causality from money to income.
One of Nicholas Kaldor’s best papers is The New Monetarism written in 1970 [1] in which he shows why the stock of money should be taken as endogenous and that Friedman’s causality is entirely incorrect. In that he also had a nice description of how Friedman’s influence was growing at the time:
… However, we now have a “monetary” counter-revolution whose message is that during this time we have been wrong and our forbears largely, or not perhaps entirely right: anyhow, on the right track, whereas we have been shunted on to the wrong track. This new doctrine is assiduously propagated from across the Atlantic by a growing band of enthusiasts, combining the fervour of early Christians with the suavity and selling power of a Madison Avenue executive. And it is very largely the product of one economist with exceptional powers of persuasion and propagation: Professor Milton Friedman of Chicago. The “new monetarism” is a “Friedman Revolution” more truly than Keynes was the sole fount of the “Keynesian Revolution”, Keynes’s General Theory was the culmination of a great deal of earlier work by large numbers of people: chiefly Wicksell and his followers, Myrdal and Lindahl in Sweden, Kalecki in Poland, not to speak of Keynes’s colleagues in Cambridge and of many others.
The new school, the Friedmanites (I do not use this term in any pejorative sense, the more respectful expression “Friedmanians” sounds worse) can record very considerable success, both in terms of the numbers of distinguished converts and of some rather glittering evidence in terms of “scientific proofs”, obtained through empirical investigations summarised in time-series regression equations. Indeed, the characteristic feature of the new school is “positivism” and “scientism”; some would say “pseudo-scientism”, using science as a selling appeal. They certainly use time-series regressions as if they provided the same kind of “proofs” as controlled experiments in the natural sciences. And one hears of new stories of conversions almost every day, one old bastion of old-fashioned Keynesian orthodoxy being captured after another: first, the Federal Reserve Bank of St. Louis, then another Federal Reserve Bank, then the research staff of the I.M.F., or at least the majority of them, are “secret”, if not open, Friedmanites. Even the “Fed” in Washington is said to be tottering, not to speak of the spread of the new doctrines in many universities in the United States. In this country, also, there are some distinguished and lively protagonists, like Professor Harry Johnson and Professor Walters, though, in comparison to America, they write in muted tones and make more modest claims, which makes it more difficult to discover just what it is they believe in, just where the new doctrine ceases to be a matter of semantics and becomes a revelation with operational significance.
Also read Lunch With FT: Milton Friedman and William Keegan’s article written for The Observer: So Now Friedman Says He Was Wrong referring to the Financial Times article on Friedman finally conceding in 2003 that he was wrong all along.
[1] Kaldor, N., 1970, The New Monetarism, Lloyds Bank Review 97, pp. 1-18, also published in Kaldor, N., Further Essays in Applied Economics, London: Duckworth, 1978, pp. 1-21.
Thanks to Philippe for pointing out some spelling errors (mine) in the quote in the previous version of this post.
Thomas Palley On International Coordination
Thomas Palley has a new article Coordinate Currencies or Stagnate on international coordination of exchange rates. (h/t Matias Vernengo). He has a nice small critique of the Chicago school according to which “market forces” work toward resolving imbalances.
It is great such a thing has been raised because the importance of policy coordination (in general – monetary, fiscal and exchange rates) is often forgotten.
In an article Agenda For International Coordination Of Macroeconomic Policies, Tobin wrote [1]
Coordinate policies! So economists urge governments. Financiers, journalists, pundits, politicians take up the cry. Central bankers and finance ministers agree, as do presidents and prime ministers. They meet, they talk, they announce progress. It turns out to amount to very little…
But the global imbalance has worsened and it has now created a situation in which such coordination is more badly needed.
Wynne Godley had been warning of such things in the 2000s. In a 2005 article [2] with his collaborators, he wrote:
A resolution of the strategic problems now facing the U.S. and world economies can probably be achieved only via an international agreement that would change the international pattern of aggregate demand, combined with a change in relative prices. Together, these measures would ensure that trade is generally balanced at full employment…Those hoping for a market solution may be chasing a mirage.
I have also found the last words in academic literature very insightful [3]:
… It is inconceivable that such a large rebalancing could occur without a drastic change in the institutions responsible for running the world economy—a change that would involve placing far less than total reliance on market forces.
Time will tell how right he was 😉
References
- James Tobin, Agenda For International Coordination Of Macroeconomic Policies, Ch 24, p 633, Essays In Economics, Volume 4: National And International, The MIT Press, 1996.
- Wynne Godley, Dimitri Papadimitriou, Claudio Dos Santos and Gennaro Zezza – The United States And Her Creditors: Can The Symbiosis Last?, Levy Institute Strategic Analysis, September 2005. Link
- Wynne Godley, Dimitri Papadimitrou and Gennaro Zezza – Prospects For The United States And The World – A Crisis That Conventional Remedies Cannot Resolve, Levy Institute Strategic Analysis, December 2008. Link
Firestone Backfiring More
So I happened to get a reply from Joe Firestone on my reply to his blog post.
I don’t have too much patience for going back and forth but a few points stand out.
I created a situation in which the current account balance of payments is at 4% of GDP, private sector balance is at 2% of GDP and the government budget balance at 2% surplus.
Joe Firestone thinks it is necessarily a contraction. Here is quoting him:
Ram, in the situation you’ve described, the Government is running a surplus of 2%, so it’s destroying net financial assets that would otherwise be flowing to the private sector if it had a smaller surplus, a balanced budget or a deficit. The budget surplus isn’t high enough, given the size of the trade surplus, for the Government to be causing a negative accumulation of NFAs in the private sector; but that doesn’t mean that the Government’s fiscal policy can be called “expansionary.” In fact, it’s contractionary relative to even a balanced budget, much less a deficit.
[boldening: mine]
First Firestone confuses “private sector”. According to him the private sector has a negative net accumulation of financial assets! (when given it has +2%!).
Second he fails to understand that the budget deficit is an endogenous variable – he has been conditioned to think that a surplus budget is necessarily contractionary. He cannot see that in the given situation fiscal policy can be expansionary. Firestone seems to compare it with a situation in which the budget would have been in deficit or surplus. Actually he should be comparing it with the previous periods. Moreover, even if compared to a situation where the budget could have been in balance or in deficit (future scenario) it doesn’t mean 2% surplus is more contractionary. All that matters is how the private sector responds to the expansion. A fast expansion can improve private sector expectations about the future and they may respond by higher production than the case if the government indicated a weaker expansion. [update: a fast rise in production due to a faster expansion – meaning a combination of higher expenditure and/or tax rate cuts may bring the budget into surplus because of higher total taxes resulting from higher national income, as compared to a less expansionary policy]. Plus there are other things such as deregulation, monetary policy etc. You cannot conclude 2% surplus is more contractionary than a balanced budget.
But more generally to the basic point, he concedes that net HPM creation is not NAFA even though this was an important point in his post.
So he says;
Ram:
Net HPM creation is not equal to private sector NAFA.
Again, I didn’t say or imply that it is. if you think I have, then please quote me.
Here is from his original post:
High-powered money includes cash money and reserves emanating from the Government, including the Federal Reserve. If there’s no deficit spending the Government is destroying as much money through taxation as it is spending/creating. And so, it is not doing any net high powered money creation.
He uses the example of a balanced budget to show that balanced budget does not do “net high power money creation” – as if a deficit does net high powered money creation.
Fact is even if the government is in deficit, the HPM created due to expenditure minus taxes is offset by bond issuance. So even a deficit doesn’t directly do any net high power money creation.
Now, imagine a closed economy situation with 10% reserve requirement instead of 0%. Also assume the private expenditure is rising relative to private income and the private sector is in near zero balance. This leads to higher domestic demand and higher bank borrowing. Banks will need more reserves due to higher borrowing to satisfy higher reserve requirements. In such a situation the central bank would provide HPM to banks but the government budget is balanced as a mirror image of the private sector balance.
So we have a situation in with a balanced budget and net HPM creation!!!
But some souls are forever confused!
Once again, fiscal policy is highly important and the most important thing driving real demand generally speaking but no overkills please.
Update:
There is the question – what is net high power money creation.
First, since the government’s expenditure, taxation and bond issuance and actions of the central bank lead to creation/destruction of HPM, net can simply mean the flow of high powered money or ΔHPM in any period of accounting. Here deficit is not needed for ΔHPM to be positive.
Second, Joe Firestone perhaps is thinking of non-borrowed reserves. Again, even in this situation, a deficit is not needed for non-borrowed reserves to be positive. Let us say in one period, the government’s budget balance is zero and banks require more reserves. In this case, the central bank can create HPM by outright purchases of government bonds, so again balanced budget doesn’t imply zero increase in nonborrowed reserves in any one period.
There is always a third possibility but then what is it?
Helicopter Drops And Furnace Burns
Milton Friedman famously used helicopter drops to get money in the system as he couldn’t articulate how money is created and maintained that it is exogenously determined by the central bank or that it should be (as if!) and blurred the two.
I came across the original today – The Optimum Quantity Of Money written by him in 1969.
In addition to helicopters he also has furnaces which the government uses to burn money!
Helicopters appear on pages 4, 5, 11, 13 and 15.
(click to go to the book’s Google Books site)
Firestone Backfiring – An Unfriendly Critique ;-)
Joe Firestone’s gun
Joe Firestone has a blog post critiquing Marc Lavoie’s critique of Neochartalism.
Among other things, he seems to have issues with Marc Lavoie’s critique of the Neochartalist claim [which he quotes] that
. . . the creation of high powered money requires government deficits in the long run; . . .
Firestone states:
High-powered money includes cash money and reserves emanating from the Government, including the Federal Reserve. If there’s no deficit spending the Government is destroying as much money through taxation as it is spending/creating.
The trouble with Neochartalism is that Neochartalists and “MMT” fans go to over-overkill levels to show the importance of fiscal policy. In general it is a mix of doublespeak and outright incorrect statements and it is highly unacademic and unscholarly.
Firestone is mixing various things. HPM or “high powered money” is different from the net financial assets created by deficit spending of the government.
To see this point, first imagine an open economy in which there is a current account balance of payments surplus of say around 4% of GDP for over 10 years or so (some proxy for “long run”) and the (domestic) private sector “NAFA” – net accumulation of financial assets is around 2% of GDP. The government budget will be in surplus – as a matter of accounting. This needn’t cause any trouble for the private sector.
Of course this doesn’t take away the role of fiscal policy and in no sense is the above statement meant to propose a policy for the government to be in surplus. In fact since the government’s budget balance is endogenous, it could well be the case in the above situation that the government’s fiscal policy is expansionary.
HPM is a different matter. The central bank can easily provide banks with reserves via open market operations or direct lending. Deficit spending is not really needed.
It may also be the case that while taxes flowing into the account of the government at the central bank is “destroying” more HPM than what expenditures is creating, net redemptions of government bonds (as the government is retiring debt) is creating HPM.
Now consider another case but a closed economy. Assume that the private sector NAFA is negative for many quarters/years and the government’s budget is in surplus. This by itself is not a problem for HPM but may become unsustainable because the nonfinancial sector can start to have liquidity pressures – i.e., financial assets/income of the private nonfinancial sector may start to deteriorate even though net wealth/gdp is not falling (wealth includes nonfinancial assets such as firms’ fixed capital and households’ houses) and this may lead to more financial fragility.
Again, fiscal policy can be expansionary even with a surplus budget because the government budget balance is endogenous. Cannot be found from the above given data.
But Firestone blurs such matters giving the reader an impression that the private sector is losing assets and sees a reduction in output and income. And to the basic point, this has really little to do with HPM.
Firestone is highly confused and muddled when he says
Lavoie seems to think that net high powered money creation isn’t necessary for an economy, even if it is good to have.
Net HPM creation is not equal to private sector NAFA.
In fact typically the government’s cash flows do not affect the HPM when looked over larger time intervals. Expenditures add to HPM as the government moves its balances from its account at the central bank and taxes do the opposite. Bond issuances reduce HPM and redemptions increase it. Over short intervals, the flows are offset by central bank operations. Also for the wonkish, this needn’t always be the case: when there is a flow out of the government’s account at the central bank, it can simply lead to reduction of banks’ daylight overdrafts instead of increasing HPM. Firestone confuses cash flows with deficits.
Nice New Blog From Nick Edmonds: Reflections On Monetary Economics
Nick Edmonds, an ex-student of Wynne Godley from the 80s has a nice new blog Reflections on Monetary Economics.
I especially liked his posts on central bank asset purchases or QE – Modelling QE and The Short Rate, the Long Rate and the Exchange Rate which use Tobin’s theory of asset allocation. He also uses the preferred habitat or market segmentation theory of the yield curve for analysis of effects of QE on asset prices such as equities and on the exchange rate.
A lot of times people just hand-wave away effects by using the expectations theory in which long term rates are expectations of short term rates. Nick’s posts however use both market segmentation and expectations and show how this is useful in understanding the effects of central bank LSAPs/QE.
Flow Of Funds: New Look
The United States Statistical Release Z.1 now has a new look and more data. It now includes the Integrated Macroeconomic Accounts.
According to the Integrated Macroeconomic Accounts site (which was available separately but online only):
These tables present a sequence of accounts that relate production, income and spending, capital formation, financial transactions, and asset revaluations to changes in net worth between balance sheets for the major sectors of the U.S. economy. They are part of an interagency effort to further harmonize the BEA National Income and Product Accounts (NIPAs) and the Federal Reserve Board Financial Accounts of the United States (FAUS).
The structure of these tables is based on the internationally accepted set of guidelines for the compilation of national accounts that are offered in the System of National Accounts 2008 (SNA). The estimates that are currently displayed are based on the data that were available in the NIPAs and FAUS on September 21, 2017. See “Financial Accounts of the United States (Z.1)” for more information.
So now you can look at things such as households’ capital gains easily from the Z.1. Such as from the table below:
(click to expand and zoom if needed)
Trending: #SteveKeen
The always excellent JKH has written a nice post on Steve Keen’s latest QE model in a blog post titled The Accounting Quest of Steve Keen.
JKH has a nice way of summarizing what mainstream macroeconomics is all about:
The neo-classical concepts of exogenous money and the money multiplier and loanable funds and ISLM and supply/demand equilibrium are part of the fog within which mainstream has constructed some economic imagery that is in fundamental conflict with the facts of accounting logic and real world financial measurement.
The post has nice things to say about flow of funds so you may want to read generally.
Coincidentally Steve Keen is trending in Twitter for other reasons. Noah Smith seems to have concluded that Post-Keynesianism is a giant hoax.
Here is a tweet from him:
“MMT” and “Post-Keynesian” = giant hoaxes. If you fell for one of these hoaxes, just remember that people fall for Scientology too.
— Noah Smith (@Noahpinion) May 30, 2013
Scott Fullwiler has a nice way to describe Smith:
.@profstevekeen @noahpinion Yep.Pretty rich stuff.It’s his Irving Fisher moment (“stocks at a permanently high plateau”).Saving it. — Scott Fullwiler (@stf18) May 30, 2013
Lars Syll has a nice post quoting Jamie Galbraith on the status of the profession. Go Read.
Paul Krugman has a follow up blog post Non-Prophet Economics putting down Keen’s achievements. But Krugman is clueless about how money works and his post is a silly defense of his models.
Krugman is a part of the problem is my view.
Here is Krugman – clueless about how banks work: Here is Randy Wray quoting Krugman. Krugman says:
the self-proclaimed true Minskyites view banks as institutions that are somehow outside the rules that apply to the rest of the economy, as having unique powers for good and/or evil… First of all, any individual bank does, in fact, have to lend out the money it receives in deposits. Bank loan officers can’t just issue checks out of thin air; like employees of any financial intermediary, they must buy assets with funds they have on hand. I hope this isn’t controversial, although given what usually happens when we discuss banks, I assume that even this proposition will spur outrage… Yes, a loan normally gets deposited in another bank — but the recipient of the loan can and sometimes does quickly withdraw the funds, not as a check, but in currency. And currency is in limited supply — with the limit set by Fed decisions. So there is in fact no automatic process by which an increase in bank loans produces a sufficient rise in deposits to back those loans, and a key limiting factor in the size of bank balance sheets is the amount of monetary base the Fed creates — even if banks hold no reserves…
So Krugman is clueless about money creation on which he pontificates everyday.
Here is another Keen article from today in which he quotes Justin Wolfers’ poking fun.
It shouldn’t be forgotten of course that the economists Robert Pollin and Co who spotted errors in Reinhart and Rogoff’s paper promoting world-wide fiscal contraction by faking a 90% threshold are themselves a mix of Post-Keynesianism and other heterodox schools as per this Washington Post article Inside the offbeat economics department that debunked Reinhart-Rogoff.
Go for it Steve Keen. Whatever criticism you are taking – including from me – beat ’em.
I like this Tweet by Ann Pettifor:
@profstevekeenMethinks the orthodox are rattled. Extraordinarily vicious post R&R @noahpinion attacks. You’re winning mate!
— Ann Pettifor (@AnnPettifor) May 31, 2013