Summers made a
speech at the IMF on 8th November claiming we might be in for a
Japanese style lost decade unless we start thinking about “how we manage an
economy in which the zero nominal interest rate is a chronic and systemic
inhibitor of economic activity, holding our economies back below their
potential.”
MMTers will be falling about laughing, and for the following reasons.
If interest rates are at or near zero, obviously it’s difficult to lower
them any further: though a small negative rate is not impossible. But note the
word “small”: that is, serious problems arise with a LARGE negative rate.
So for those who think the only way of regulating demand is interest
rate adjustments, clearly the zero rate poses a problem. But of course there is
an alternative and phenomenally simple way to raising aggregate demand: print
money and feed the money into consumers’ pockets, and/or raise public spending.
What's the economy for?
What's the economy for?
Plus… what’s an economy for? It’s to provide consumers with what they
want, both as expressed by what they do with their credit cards, and as
expressed at election time when they vote for sundry forms of public spending.
Thus even if interest rates were substantially POSITIVE, it’s far from
clear that it makes sense to raise demand by cutting interest rates. That is,
and to repeat, the BASIC PURPOSE of an economy is to supply what consumers
want. So if an economy is producing less than it could, the obvious solution is
to . . . wait for it . . . give consumers more of that which enables or
encourages them to buy what they want: i.e. money.
But returning to zero rates, the MERE FACT that rates are near zero is
an indication that employers and other borrowers have little use for more capital
equipment. And that in itself is an indication that a straight rise in consumer
spending and/or public spending is a better solution than attempting to lower
rates any further.
Martin Wolf.
As distinct from MMTers, others have taken Summers’s message with
complete seriousness, including Martin Wolf
in the Financial Times.
Now Martin Wolf isn't any old economics commentator: he is the FT’s
chief economics commentator. Plus he is my personal favourite economics
commentator. So let’s examine Wolf’s arguments in detail.
Wolf starts by referring to three “relevant features of Western
economies”. That’s very ambiguous: some readers will take that to mean features
which make a rise in demand difficult. He isn't clear on that. Anyway, I’ll
assume he IS ARGUING that these features make a rise in demand difficult.
The first feature is that demand has remained sluggish despite “ultra-expansionary
monetary measures”. Yes . . er . . the fact that QE hasn’t had much effect does
prove much does it? QE consists of simply swapping one asset (government debt)
for a more liquid asset (money). QE is widely regarded as having a finite, but
not dramatic effect. So the fact that QE is not a potent weapon for raising
demand does not prove it’s difficult to raise demand. In particular, there is a
simple and much more effective way of raising demand (set out above): increase
consumer and public spending.
Wolf’s second “feature”.
This is that prior to the crises we had an asset bubble, but no excess
inflation, indicating that the bubble was not serious enough to cause excess
demand. And since the crises we’ve had large dollops of fiscal stimulus, and
that also has not brought anything like excess demand.
Well frankly that’s a bizarre argument, isn't it?
As to bubbles, some are excessive and some relatively mild. The fact
that a particular bubble brought a finite but no grossly excessive increase in
demand does not prove (again) that increasing demand is difficult or
impossible.
And much the same goes for the fiscal boost: that boost, at least in the
US, was nowhere near as large as the advocates of fiscal boost wanted.
Wolf’s third “feature”.
This is that interest rates were low before the crisis, and that didn’t
bring excess demand. Yet again, that doesn’t prove that other measures can’t
bring substantial additional demand.
Next, he claims that “merely restoring a degree of health to the
financial system” won’t bring much additional demand. Well that simply repeats
the above mentioned false logic: the fact that A, B and C can bring extra
demand does not prove that D,E,F, etc cannot.
Moreover, I’d actually argue that improving the “financial system”, if
by that means tighter bank regulation of the sort favoured by Wolf, will
actually REDUCE demand!! That is, better bank regulation almost inevitably
means less bank lending, which in turn means reduced demand. But what of it?
That can be compensated for simply by feeding money into consumers’ pockets
and/or raising public spending.
The savings glut.
Next, Wolf refers to the savings glut of recent years. Fair enough: that’s
just an example of a phenomenon pointed out by Keynes 80 years ago: his “paradox
of thrift”. That is, an increased desire to save up stocks of money rather than
spend that money tends to reduce demand (pretty obviously).
But the fact of a higher than normal desire to save does not prevent demand
being raised. Let’s take a simple illustration.
Suppose the government / central bank machine prints extra money and
advertises jobs for accountants, truck drivers, computer programmers etc in the
public sector. Now what are unemployed accountants, truck drivers and computer
programmers going to react? Are they going to go fishing in response those job
vacancies? Nope: they apply for the relevant jobs. Hey presto: additional demand
has created additional jobs (funded by the above new money).
As to feeding some of that additional money into consumers’ pockets,
when people see their incomes rise (revelation of the century this) the
empirical evidence is that they spend more. That creates more private sector
jobs.
Plus there is the fact that that additional money satisfies the above
mentioned elevated desire to save.
Conclusion.
Well now, we’re only half way thru Wolf’s article, but hopefully I’ve
shown that it contains numerous mistakes, and that Wolf in backing Summers is
backing the wrong horse.
Despite that, Martin Wolf has such a good track record of producing quality
articles that he remains my favourite economics commentator.
_______
Here Ralph:
ReplyDeleteVideo:
http://www.youtube.com/watch?v=KYpVzBbQIX0
Text:
http://www.fulcrumasset.com/files/summersstagnation.pdf