Monday, 27 May 2019

The senior economists who didn’t know government can print money.

On February 14, 2010, the Sunday Times published a letter by twenty of the World’s leading economists, which is reproduced below under the heading “The Letter”. 

Essentially the letter claims there is a problem with stimulus (of the sort used to combat the recession which started with the 2007/2008 bank crisis). The alleged problem is that governments must borrow in order to obtain the money for stimulus and that there is a limit to the amount of borrowing that governments can do before creditors get worried about the debtor government’s intention or ability to repay the debt. Those creditors, so the letter claims, are likely to demand higher rates of interest as the debt grows.

Well it’s certainly reasonable to be concerned about a micro-economic entity’s intention or ability to repay a debt as the debt expands. A micro-economic entity is for example a household or small/medium size firm.

However, government is a macro-economic entity, and it is always dangerous to extrapolate from the micro-economic to the macro-economics.

In particular, the idea that stimulus has to be funded via borrowing in a country which issues its own currency is plain simple delusional clap-trap: as Keynes explained in the early 1930s, a country which issues its own currency can escape a recession simply by printing money and spending it (and/or cutting taxes).

It beggars belief that twenty of the world’s leading economists are unaware of the latter point, but it seems that they are  – or at least that they were at the time of writing the letter. Certainly the letter says nothing about money printing or money creation.

Central banks.

Incidentally, and in reference to the above idea that government can print money, it should be said that normally it is actually central banks which do the money printing. However central banks are little more than an arm of government: an arm which has varying degrees of independence depending on the country concerned. Thus a central bank is a government department to all intents and purposes.

Moreover there is absolutely no reason why the job of money printing cannot be given to some other government department. And in fact the UK Treasury engaged in some money printing at the start of WWI: it printed so called “Bradbury” pound notes.

Is money printing a panacea?

Of course any of those twenty economists could answer Keynes’s money printing point by claiming that resorting to money printing could lead to a loss of confidence in the country concerned in much the same way as increased borrowing might lead to a loss of confidence.

To be exact, and in connection with the latter point, the twenty economists claim “…there is a risk that a loss of confidence in the UK’s economic policy framework will contribute to higher long-term interest rates and/or currency instability, which could undermine the recovery.”

Well as regards higher long term interest rates, those would not kick in the day after the relevant government announced its intention to implement money printing: reason is that the rate of interest paid on a large majority of debt issued by governments around the world is fixed at the time that debt is issued. Put another way, if creditors were indeed to demand higher rates, and succeeded in getting them, that would only apply to debt which matured and became due for roll-over. And that point is particularly relevant for the UK (where I live): UK debt has an average time to maturity at least double that of the US.

Plus this “twenty deluded economists” affair is very much a UK affair  in that the Sunday Times is a UK newspaper, and most of the signatories to the letter were British.

But suppose creditors do in fact demand higher rates of interest: in the case of a government which issues its own currency, there is no Earthly reason for the relevant government to actually pay those higher rates: the alternative is simply to print money, pay off the creditors, and tell them to go away. Indeed that was pretty much what several governments did a few years after the letter, and in the form of QE. And contrary to the warnings issued by yet more idiot economists, hyperinflation did not ensue.

So that’s dealt with the letter’s “higher long-term interest rates” point mentioned a couple of paragraphs above.

Currency instability.

The other claim in the letter was that “currency instability” could result from excessive national debts, so had it been put to the twenty economists that money printing is an alternative to debt they might have claimed that currency instability would result from money printing just as much as from allegedly excessive national debts.

And to bolster their argument, the twenty economists might have cited Robert Mugabe, who like several national leaders in earlier decades and centuries, resorted to the printing press with excess inflation being the result.

Well the simple answer that is that money printing will only cause excess inflation if the demand that results from that money printing is excessive: i.e. if aggregate demand reaches a level such that the country’s employers cannot meet that demand.

Thus it is certainly not true that money printing automatically results in excess inflation, as was demonstrated (to repeat) by QE a few years after the letter.

As to the “currency  instability” which the twenty economists were concerned about, there again, they could claim that money printing might result in just as much currency instability.

Well first, while it’s possible that foreign exchange traders might take a dim view of a government which announces it intends printing money and those traders might mark the currency down relative to other currencies,  it’s a bit hard to see why “currency instability”, i.e. a currency gyrating up and down, would result.

As for the currency being marked down, that is not really a big deal: currencies regularly rise and fall by 5% or so. Plus when Japan (one of the first countries to go for QE after 2,000) announced its intention to implement QE in early 2001, there was no obvious effect on the Yen/Dollar exchange rate. To be exact, the Yen dropped about 5% over the next year, but then strengthened about 10% over the next two years.

Plus the whole purpose of creating new money and spending it is to raise demand, and an entirely predictable result of a rise in demand, all else equal, is a finite deterioration in a country’s balance of payments and a consequent fall in the value of its currency relative to other currencies, which in turn ought to rectify the latter balance of payments problem.

The incompetent twenty.

And note that those signing the letter included many individuals right at the top of the economics profession. For example Sir John Vickers was one of the signatories. He chaired the so called “Vickers report” which was the main official UK government response to the 2007/8 bank crisis. That doesn’t induce me to have much faith in Sir John’s ideas on bank reform. (For a guide to some of the mistakes made by the Vickers commission, Google “ralphonomics” and “Vickers”.)

Another signatory was Olivier Blanchard who at the time was the IMF’s chief economist. But as I’ve explained in earlier articles on this blog, the IMF is clueless. And Bill Mitchell (who like me supports MMT) regards the IMF as being so incompetent that we’d all be better off it was closed down. 

Another signatory was Kenneth Rogoff, a Harvard economist. Again, I have previously dealt with his incompetence.

The economics profession is a gentlemans’ club.

So why does this incompetence persist? Well I suggest Adam Smith gave the answer long ago when he said “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.”

In other words if economist A spots incompetence by economist B, A will normally not make too much of a song and dance about it: that would bring the profession as a whole into disrepute, which is not in the interests of A.

Why revisit a letter written in 2010?

For the benefit of any readers wondering what the point is of digging up a letter in a newspaper almost ten years later, the first reason is that of course economic history is always interesting. But more particularly some of the signatories of the letter have been trying to claim recently that they never opposed stimulus or money printing in any shape or form.

But that’s just an example of a well-known and predictable phenomenon: first they criticise you, then they question you, then they copy you. If I were in their shoes, I’d probably do the same, cad and rotter that I am!

The Letter.

"It is now clear that the UK economy entered the recession with a large structural budget deficit. As a result the UK’s budget deficit is now the largest in our peacetime history and among the largest in the developed world.

"In these circumstances a credible medium-term fiscal consolidation plan would make a sustainable recovery more likely.

"In the absence of a credible plan, there is a risk that a loss of confidence in the UK’s economic policy framework will contribute to higher long-term interest rates and/or currency instability, which could undermine the recovery.

"In order to minimise this risk and support a sustainable recovery, the next government should set out a detailed plan to reduce the structural budget deficit more quickly than set out in the 2009 pre-budget report.

"The exact timing of measures should be sensitive to developments in the economy, particularly the fragility of the recovery. However, in order to be credible, the government’s goal should be to eliminate the structural current budget deficit over the course of a parliament, and there is a compelling case, all else being equal, for the first measures beginning to take effect in the 2010-11 fiscal year.

"The bulk of this fiscal consolidation should be borne by reductions in government spending, but that process should be mindful of its impact on society’s more vulnerable groups. Tax increases should be broad-based and minimise damaging increases in marginal tax rates on employment and investment.

"In order to restore trust in the fiscal framework, the government should also introduce more independence into the generation of fiscal forecasts and the scrutiny of the government’s performance against its stated fiscal goals.

"Tim Besley, Sir Howard Davies, Charles Goodhart, Albert Marcet, Christopher Pissarides and Danny Quah, London School of Economics;
Meghnad Desai and Andrew Turnbull, House of Lords;
Orazio Attanasio and Costas Meghir, University College London;
Sir John Vickers, Oxford University;
John Muellbauer, Nuffield College, Oxford;
David Newbery and Hashem Pesaran, Cambridge University;
Ken Rogoff, Harvard University;
Thomas Sargent, New York University;
Anne Sibert, Birkbeck College, University of London;
Michael Wickens, University of York and Cardiff Business School;
Roger Bootle, Capital Economics;
Bridget Rosewell, GLA and Volterra Consulting

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