Tuesday, 7 January 2014

Market monetarism contradicts itself.

In Scott Sumner’s introduction to MM, he says (Item No.10) that “Some of us are skeptical of fiscal stimulus, partly because we think monetary stimulus is more efficient for the usual deadweight cost of future taxes reasons, and partly because the central bank might offset the effect by targeting inflation or NGDP.”
As to the “deadweight cost of future tax” I assume he’s referring to the fact that if those in receipt of fiscal stimulus dollars/pounds think their windfall will be confiscated by future tax, that will substantially reduce their desire to spend the windfall. Fair point.
But at the same time, and in reference to monetary stimulus, Sumner says “…that monetary stimulus is only effective when it is expected to be permanent, is something I’ve been arguing since 1993, and Krugman picked up on in 1998.  It’s a core component of market monetarism. Nick Rowe once said that policy is 99% expectations of the future path of policy and 1% the current stance.”
In short Sumner is saying that fiscal policy is not too effective because windfall recipients think their windfall will be confiscated. But at the same time he admits that for monetary policy to work, the impression must be given that windfalls WON’T BE confiscated!!!  Hardly a fair way of comparing fiscal to monetary policy!!
Second, there is Sumner’s claim that fiscal policy may be ineffective because “the central bank might offset the effect by targeting inflation or NGDP.” I actually dealt with that point here, but to repeat and briefly, my answer to that point is as follows.
To criticise fiscal policy because the central bank might negate it is like saying that turning your central heating on is a waste of time because someone might turn it off again, i.e. “negate” the “turn on” policy. Alternatively it’s like saying “I’ve decided to dig a hole with a shovel rather than a spade, therefor spades are useless.” There is a choice as to whether to use monetary or fiscal measures (or some combination) just as there is a choice as to whether to use a spade or shovel.


  1. The fundamental underlying belief is that the central bank is outside the political process and acts as the 'Solomon component'.

    It isn't.

    Any central banker that thought they were more powerful than the government would soon be fired - for the fairly obvious reason that the government is elected and the central banker is not. Government and central bank work hand in glove to maintain the illusion of independence because that's the current fad.

    1. I agree: central bank so called “independence” is partly an illusion. However my above article, to be accurate, is about something different, namely what should the roles of monetary and fiscal policy be? I.e. even if central bank and treasury were merged and were under the total control of politicians, that monetary versus fiscal question would still need an answer. And needless to say I think Sumner’s answer is wrong and mine is right!!


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