Scott Sumner  

Questions that don't get asked very often

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I don't recall many articles written by neoconservatives discussing how certain aspects of modern global instability might have been caused by US intervention. Perhaps that's because they favor intervention.

I don't recall reading many articles written by progressives discussing how American socioeconomic problems might have been caused by the side effects of well-intentioned public policies. Perhaps that's because progressives favor well-intentioned public policies.

And I don't recall many articles written by mainstream economists discussing whether (in retrospect) Fed monetary policies in 2008 worsened the Great Recession.

Nick Rowe has an excellent new blog post that quotes from Brad DeLong. Here's Nick quoting Brad (and fixing an apparent typo):

"The non-lunatic right holds that market economies are indeed macroeconomically unstable but they can be balanced by minimal interventions in aggregate variables: that is, by assigning the central bank the [task] of controlling the money supply in order to make Say's Law true in practice even though it is false in theory." [He actually says "cost", not "task", but I think that was a typo.]:
It's clear to me that most economists look at things the way that DeLong does; the economy is unstable and the Fed may or may not choose to try to reduce that instability. Very few think in terms of the Fed causing the instability.

Just think about 2008 for a moment. Mainstream macro theory says that central banks basically control aggregate demand. That's their job. The nudge AD up and down in order to hit their inflation and employment objectives. When AD is stable, enormous amounts of praise are given to central bankers. Alan Greenspan is a "maestro".

When AD falls at the sharpest rate since the 1930s, you'd expect lots of economists to write articles evaluating monetary policy. After all, interest rates were above zero during 2008, so the zero bound constraint is not an "excuse." You might expect a lot of that sort of research, but you'd be wrong. Although macroeconomists give the Fed credit for smoothing AD prior to 2008, and for giving us 2% inflation (on average) since 1990, they do not blame the Fed when things go wrong.

But it's even worse than that, not only don't they blame the Fed; they don't even do studies to investigate if mistakes might have been made. You'd think the huge drop in NGDP in 2008-09 might have led economists to be at least a tad curious as to whether, in retrospect, monetary policy was too tight in 2008. But you'd be wrong. They are not at all curious (with a few exceptions like Robert Hetzel, and of course the tiny band of market monetarists.) Economists are so sure that this gigantic AD failure could not possibly have been caused by overly tight monetary policy that they don't even investigate, even though their models imply that the central bank controls AD, and even though they credit the central bank when AD does well. I find this very curious, and very revealing.

Nick Rowe points out that DeLong's claim isn't just wrong, it's unintelligible. There is no such thing as a central bank deciding to "do nothing".

Government-owned central banks exist, and so we cannot not have a macroeconomic policy. The non-lunatic right (like the non-lunatic left) must try its best to answer the second question: what macroeconomic policy would be best? It gets us precisely nowhere to say that central banks should "do nothing", because there are 1,001 different ways of "doing nothing". Does it mean doing nothing with the stock of base money, the target rate of interest, the price of gold, or what?

From this perspective, "are market economies macroeconomically unstable?" is a stupid question to ask. (No disrespect to those who ask that question; I myself used to think it was the most important question in macroeconomics, until a few years ago, when it slowly dawned on me it was a stupid question.)


Central banks steer AD. That's what they do. It's bizarre to ask whether in an emergency central banks should steer AD. They do it all the time. It's like asking whether a person should be assigned the duty of steering a ship during stormy weather. Yes, but ships should also be steered during non-storms. Of course there are also sorts of side questions that are interesting. Should the wheel be lashed to an ENE heading? Can they overcome the force of wind and waves? In monetary policy one might ask whether there should be target rules, instrument rules, bureaucratic steering, market steering, etc., etc.

I have a hard time understanding the views of conventional macroeconomists, unless I assume they suffer from profound confusion about distinctions between "errors of omission" and "errors of commission" that are philosophically unsupportable in the arena of monetary policy. If this sort of philosophical confusion does not exist, then what explains the apathy? Why don't economists want to study monetary policy in 2008, with an eye on the question of; "Could the Fed had adopted a different stance of monetary policy, and achieved a better path of AD in 2008-09?"

Indeed I'd go even further. Why doesn't the Fed produce an annual report telling us whether, in retrospect, the previous year's policy stance was too easy, too tight, or about right? It seems bizarre to engage in this very important policy, without consistently reviewing one's previous decisions. And please don't tell me that I am naive about the selfish motives of powerful institutions, as this oversight is equally apparent among non-Fed economists. Indeed Robert Hetzel works for the Fed!

Some will ask, "What makes you think the Fed could have influenced AD during the 2008 hurricane?" Umm, how about the Fed itself? Throughout 2008 it told us that it believed its policies would affect AD. It told us that it didn't cut its target rate in September 2008 because of worry about high inflation (we were in the early stages of a sharp deflation at the time.) Or maybe the markets, which reacted very strongly to unexpected monetary policy decisions during 2007-09. Or maybe it's macroeconomic theory, which does not say that monetary policy stops influencing AD when there is financial market stress. Or maybe it's economic history, which showed a 57% rise in industrial production and sharp inflation in the 4 months after March 1933, despite the worst financial crisis in US history. All due to easier money.

And what makes you think they couldn't have done better. Gut instinct?

So other that monetary policymakers, financial markets, monetary theory and monetary history, I guess there's no reason to investigate this issue. Nothing to see here folks, move right along.


Comments and Sharing






COMMENTS (23 to date)
James writes:

Doing nothing means doing nothing. Central bank employees should imagine what a mannequin or a cadaver would do in their position and do that. That's doing nothing. As if anyone really didn't know.

Whether that's the best thing for a central bank to do is another question but it's dishonest to pretend that "doing nothing" is undefinable and therefore not an option. Whether the choice to be dishonest carries added information is another question that I'll leave for others to answer.

Philo writes:

@ James:

That doesn't work. If Janet Yellen and the other members of the FOMC behaved like cadavers, they would be quickly replaced. If their replacements repeatedly behaved like cadavers, the present governmental monetary framework would be abandoned (in favor of what? that's hard to determine!). This is not the scenario commentators have in mind by the Fed's "doing nothing."

Philo writes:

As Ben Cole would say, "Excellent blogging!" It does seem that "conventional macroeconomists . . . suffer from profound confusion about distinctions between 'errors of omission' and 'errors of commission' that are philosophically unsupportable in the arena of monetary policy." The practical value of having correct philosophical views is hard to see, until you notice the errors into which people are led when their philosophical views are incorrect.

Scott Sumner writes:

Koen, Yes, I've seen that paper, but I don't think it plays any role here. Lots of non-Fed researchers are willing to be critical of the Fed. The Fed has been widely blamed for excessively easy money in 2002-06. They've been widely blamed for not regulating banking tightly enough.

I just don't see much blame for bad AD outcomes.

James, Do you mean counterfeiting would be acceptable? After all, you must do something to enforce those laws. Do you mean currency that wore out would not be replaced? Recall that dollar bills wear out after a year. It seems like you contemplate the Fed essentially shutting down and letting the monetary base fall to zero as currency wears out. That's an odd definition of doing nothing.

You said:

"Whether the choice to be dishonest carries added information is another question that I'll leave for others to answer."

Let's see, both I and Nick Rowe honestly believe that it makes no sense to talk about central banks doing nothing. Others who talk about "doing nothing" have in mind something radically different from what you describe here. But despite all that, you've decided that we are the ones being "dishonest." And yet lots of other people think holding the base constant or holding interest rates constant is doing nothing. You presumably think they are also wrong. Only your view is valid. But you don't describe their behavior as dishonest, just because it differs from your view. Only my view. Hmm, I wonder why?

Robert Simmomns writes:

It seems largely fruitless, as it's largely semantic, to argue whether the fed caused the GDP shortfall or allowed it. If a security guard falls asleep on the job, did he cause the robbery? What if he was awake and watched it happen but was too scared to do anything? What if he wasn't scared, just lazy? The Fed in 2008 probably fit the middle scenario of being scared.
In any case, the Fed didn't do its job of keeping the economy on track, and that's what matters.

Jose Romeu Robazzi writes:

John B. Taylor has been very vocal criticizing the FED, don't you think?

T. Dill writes:


Scott,

You're not alone. Economists doing welfare economics also often ignore the question of why externalities and inefficiency exist. And just like economists will give credit to the central bank some of the time and then ignore its role in macroeconomic (in)stability, economists also equivocate between treating externalities as a function of transaction costs and simply ignoring the question of why externalities exist, with important implications for welfare conclusions.

I think the only thing to do is to keep calling them out on their inconsistencies, as you do here.

Kevin Erdmann writes:

Robert, I think a better analogy is Munshousens by proxy.

James writes:

Philo,

The claim to which I was responding was that there is no such thing as a central bank deciding to do nothing. I have no idea what would happen if Yellen and her colleagues just did literally nothing. If the Federal Reserve Act or some subsequent law allows for Congress or the President to replace them at will (I don't claim to know) that doesn't speak to the point originally at issue which is whether or not there is such a thing as a central bank deciding to do nothing. Your comment seems to suggest that you realize there really is such a thing as doing nothing.

Scott,

Whatever the merits of doing nothing in a world where paper decays and people try to print counterfeit money, your initial claim was "there is no such thing as a central bank deciding to do nothing." I think I've shown that there is such a thing as doing nothing. It consists in not doing things. I even gave real world examples. My usage which you call "odd" is right in line with Webster's Dictionary.

"But you don't describe [some unnamed people's] behavior as dishonest, just because it differs from your view. Only my view. Hmm, I wonder why?"

Wonder no more. I didn't describe your behavior as dishonest "just because it differs" from my view. I describe it as dishonest because I believe you are aware of what most people mean by "no such thing" and "nothing." Clearly you believe that doing nothing would have some important negative consequences but that doesn't mean there is no such thing as doing nothing.

I didn't describe the behavior of others as dishonest because I don't know of anyone who uses "doing nothing" to mean "doing something" and because I was responding to your post. To be sure, if some person claims the Fed should do nothing, and simultaneously claims the Fed should have some kind of policy that calls for doing things, I'd be the first to agree with you that that person was either confused or dishonest.

Since you mention it, I think market based solutions like counterfeiting detection devices and electronic transactions provide ways of dealing with counterfeiting and currency wear without the costs or public choice problems associated with relying on the Fed, the Bureau of Engraving and Printing, the Secret Service and other levels of law enforcement. I understand that you might not share my confidence in market based solutions to these issues.

David Friedman writes:

One way of putting content into "doing nothing" is to imagine a market economy without a central bank, in which money was produced on the private market. One could then ask whether or not that system would be unstable.

J.V. Dubois writes:

James: Monetary policy is exactly like some other policies: Defense Policy, Foreign Policy etc.

Actually imagine that DeLong post actually was about Foreign Policy. Imagine he spoke about inherently unstable relations with foreign nations and about how foreign policy stabilizes them. Huh?

There will be some sort of relations with foreign nations no matter what the government does or even if it is not aware that something like foreign relations exist. Everything government does has some implication for foreign nations: economic decisions, treating of minorities, immigration policy ... everything.

To say that government "does nothing" in relation to foreign policy is unintelligible. It may mean "stay current course" or "let private groups decide this aspect of policy" or something similar.

It only makes sense to ask what is a good foreign policy for any given nation.

George Selgin writes:

Philo writes, "I think market based solutions like counterfeiting detection devices and electronic transactions provide ways of dealing with counterfeiting and currency wear without the costs or public choice problems associated with relying on the Fed, the Bureau of Engraving and Printing, the Secret Service and other levels of law enforcement. I understand that you might not share my confidence in market based solutions to these issues."

In fact it is far more tempting t counterfeit the notes of a monopoly currency supplier than those of a competitive one, other things equal, owing to the much longer circulation period off the former, and consequently lower risk of detection and prosecution. (The antebellum U.S. case was exceptional in this regard, because the lack of branch banking and other legal restrictions allowed notes to stay out forever despite being supplies by numerous banks.

bruce writes:

"I don't recall reading many articles written by progressives discussing how American socioeconomic problems might have been caused by the side effects of well-intentioned public policies. Perhaps that's because progressives favor well-intentioned public policies." Off topic, but your paragraph reminded me of one exception: Daniel Moynihan

Andrew writes:

Not acting does not equal doing nothing. Especially when the actions of others are influenced by your "not acting".

Philo writes:

@ James:

There are various ways to understand "doing nothing." But your suggested way--*behave like a cadaver*--is not what people have in mind when they talk of the Fed's "doing nothing." More likely is Nick Rowe's suggestion: they mean the Fed's *holding X constant*. But what is X? It seems that people who talk this way have no clear answer in mind, which means that their thinking is confused.

@ George Selgin:

James wrote that, not Philo.

Nick Rowe writes:

David Friedman gives a coherent view of what "doing nothing" should mean. The government gets out of the money business altogether. I did consider that question in my post, but set it aside, because I don't think we yet have a convincing answer whether that would be a good or a bad thing.

Koen writes:
Koen, Yes, I've seen that paper, but I don't think it plays any role here. Lots of non-Fed researchers are willing to be critical of the Fed. The Fed has been widely blamed for excessively easy money in 2002-06. They've been widely blamed for not regulating banking tightly enough.

I just don't see much blame for bad AD outcomes.


Good point.
Floccina writes:
Economists are so sure that this gigantic AD failure could not possibly have been caused by overly tight monetary policy that they don't even investigate, even though their models imply that the central bank controls AD, and even though they credit the central bank when AD does well. I find this very curious, and very revealing.

And Bernake was sort of a rookie at the time (no malice intended) and rookies tend to be a little timid, so that is where I would look first.

Floccina writes:

And BTW one needs to consider what the behavior of people and money issuers if Government money did not exists. Would people horde cash, would banks float more money? People might react to bad news in banking by flipping their cash faster. (I assume that left alone free banks would have moved away from redeeming cash with gold on demand.)

Scott Sumner writes:

James, There are an enormous number of people who think doing nothing means keeping the interest rate fixed, or keeping the monetary base fixed. The media is full of reporters who think that way. Interesting that you've never encountered a single one of them. I'm sure they would be relieved to hear that you regard them as merely "dishonest or confused", rather than flat out dishonest like Nick and me.

David, Yes, that makes sense.

James writes:

Scott,

I get most of my news from blogs so I don't pay that much attention to reporters. If, as you claim, there are many who use "doing nothing" to mean pursuing static policy targets, then I'm happy with my choice to disregard them. I'm also surprised to learn that there are so many reporters who don't favor "doing more" type policies.

To be sure, these unnamed reporters are guilty of equivocating between doing something and doing nothing. If some of these unnamed reporters were to make the even more absurd claim that there is no such thing as doing nothing, I'd suspect the of being dishonest. It's nothing personal.

Nick's comment here makes clear that he recognizes there is such a thing as doing nothing.

david condon writes:

Just looking around, I did find one particularly notable example of a progressive reversing their previous position: http://www.vox.com/2015/4/29/8512283/hillary-clinton-calls-for-end-to-mass-incarceration-reversing-bill

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