Arnold Kling  

PSST vs. Monetary Walrasianism

PSST as Market Failure... On My Book Wish List...

Nick Rowe writes,

Why wouldn't a reduction in marginal tax rates on all forms of "nominal interest income" (i.e. all forms of "income" from deferred consumption) have exactly the same effect on Aggregate Demand as an increase in expected inflation?

This is the sort of analysis that follows from what I call monetary Walrasianism (I am not the first to use this term). In ordinary Walrasianism, there are n goods and an auctioneer calling out prices to clear the markets in those goods. In monetary Walrasianism, we add money as good n+1. When there is excess demand for good n+1, there is excess supply elsewhere, and hence unemployment.

Rowe is suggesting that the excess demand for money is the same as an excess supply for bonds. So if you subsidize the demand for bonds, that is equivalent to increasing the supply of money.

This seems to me to run slightly counter to Brad DeLong's view that our current situation is one in which liquidity preference consists in part of a demand for Treasuries. For DeLong, Treasuries are acting like money, and you need to meet the increased demand for Treasuries with more supply. The Rowe-equivalent policy would be to subsidize the demand for risky assets.

All of this is nonsense according to PSST. The problem in the economy is not one of excess demand for low-risk assets. The challenge is to discover new patterns of sustainable specialization and trade. Noah Smith is right that industrial policy is in principle more appropriate than traditional macroeconomic policy. But if you believe that government is good at industrial policy, then you think that the knowledge problem and public choice problems are less severe than I do.

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CATEGORIES: Macroeconomics

COMMENTS (3 to date)
Noah writes:

Note: I did not say that I think government is good at industrial policy in general. In fact, I believe that it is not.

However, it may be the case that on occasion it is good. For example, a giant existential war might be a very good way of incentivizing government to find working industrial policies. Witness the robust sustained expansions of the American economy after the Civil War (in which we built a ton of railroads) and after World War 2.

Not a proof, just a conjecture.

Lewis writes:

Would the auto bailouts be an example of the sort of industrial policy that did, in fact, work out?

I suppose the neoclassical view would be that, in the event of liquidation by the Big Three, other firms would snatch up their assets and workers. Same goes for the suppliers.

But PSST says that probably wouldn't have happened, at least not for many many years, and the endgame may have been suboptimal. So bailing out the auto industry--along with renegotiating their labor contracts--was a pretty low-cost way to rescue the sustainable pattern of trade and specialization between Detroit/Indiana and the rest of the country. At least that's what I would say if I agreed with Noah.

James Oswald writes:

Why is barter countercyclical? Barter transactions are even harder to arrange than money tranactions, so in a period where PSST are harder, they should be reduced. Monetary disequilibrium does play some role.

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