Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar
I’ve been on whatever planet I go to when I’m not writing. Don’t ask, your guess is as good as mine.
When I checked out out a few weeks ago, there was a debate raging on “fiscal austerity”. Checking back in, it continues to rage. In the course of about a half an hour, I’ve read about ten posts on the subject. See e.g. Martin Wolf and Yves Smith, Mike Konczal, and just about everything Paul Krugman has written lately. While I’ve been writing, Tyler Cowen has a new post, which is fantastic. Mark Thoma has delightfully named one side of the debate the “austerians”. [Update: “austerians” was actually coined by Rob Parenteau.] Surely someone can come up with a cleverly risqué coinage for those in favor of stimulus?
Here are some obvious points:
Austerity is stupid. Austerity is first-order stupid whenever there are people to whom the opportunity cost of providing goods and services that others desire is negative. To some economists, that sentence is a non sequitur. After all, nothing prevents people from providing goods and services for free, if doing the work is more beneficial to them than alternative uses of their time right? Economists who make this argument need to get out more. Doing paid work has social meaning beyond the fact of the activity, and doing what is ordinarily paid work for free has a very different social meaning. It is perfectly possible, and perfectly common, that a person’s gains from doing work are greater than their total pay, so that in theory you could confiscate their wages or pay them nothing and they would still do the job. But in practice, you can’t do that, because if you don’t actually pay them, it is no longer paid work. The nonmonetary benefits of work are inconveniently bundled with a paycheck. Under this circumstance, having the government pay for the work is welfare improving unless the second-order costs of government spending exceed both the benefits to the worker in excess of pay and the benefit to consumers or users of the goods and services purchased.
Stimulus is dangerous. The second-order costs of government spending are real, and we are very far from being able to understand or estimate them. Here are some second order costs:
Transfers of relative purchasing power from other citizens to the beneficiaries of government spending may call into question the legitimacy of the distribution of opportunity, wealth, and influence and of the government itself. Perceptions of make-work or corrupt contracting are deeply corrosive. Deficit spending commits government to future transfers that may come to seem undesirable or illegitimate.
Government spending choices may lead to lower quality uses of real resources than would have occurred if the government had not acted. Since economic activity is habit forming and temporary interventions become permanent, the cost of poor government choices can be high. It matters very much what work the government is paying for. Work must be well-tailored to the talents, interests, and future prospects of individuals. Employing people badly is much worse than just giving them money.
If funds are spent, directly or indirectly, on resources in scarce supply, prices may be harmfully propped or bid up. That might take the form of a general inflation, or a narrower effect on the prices of specific commodities or assets.
High levels of government debt may have a destabilizing effect on prices, increasing price volatility and impairing economic calculation even in the absence of a general inflation, or even in a deflation. Government obligations are liquid and hypothecable, and the availability of good collateral increases the degree to which subjective changes in relative valuation translate to changes in nominal pricing.
There exist theories of government solvency which suggest that the safety and value of currency is related to the indebtedness of the issuing government. Those theories may or may not be reasonable. They may or may not find support in the historical record. Regardless, to the degree they are widespread, they may be self-fulfilling. Whether sensible or sunspot, loss of confidence in a currency is possible. Currency crises represent a “tail risk” whose likelihood and cost are difficult to estimate.
There are second order benefits to stimulus as well as costs: multipliers, consumer confidence, etc. But these are also difficult to estimate.
Lying is optimal. The debate among public officials about austerity cannot be taken at face value. Savers really could flee the euro, dollar, yen or yuan. Interest rates here or there could suddenly spike. A sudden dash to gold is possible. None of these financial market events would directly affect the real resources at our disposal, but any of them could devastate our ability to organize economic behavior, and would call into question the legitimacy of economic outcomes and the stability of governments. For policymakers who seek positive short-to-medium term outcomes, the optimal strategy is to avoid the first-order costs of austerity by spending and avoid second-order costs #1 and #5 by obfuscating their spending as much as possible. Costs #2, #3, and #4 tend to bite over the medium-to-long term, leading policymakers to discount them. I think we should expect a lot more austerity theater than actual austerity, for better and for worse. Expect central bankers especially to preach austerity while intervening madly in the shadows. That’s just what they do. By the same reasoning, we should expect policymakers to justify their actions with a lot of intuitive but awful theory. As the Modern Monetary Theorists remind us, the analogy between a fiat-currency-issuing government and a budget-constrained household is poor. It is, nevertheless, the framework under which most citizens and savers understand government accounts, and forms the basis of conventional discourse. Irrespective of what is a better or worse description of reality, it is safer for policymakers to frame their communication in terms of conventional theory than to promote a profoundly destabilizing paradigm shift. Expect President Obama to keep talking about how we are “out of money” even though he knows better.
Economic choices are not scalar. I think the austerity debate is unhelpful. There are complicated trade-offs associated with government spending. If the question is framed as “more” or “less”, reasonable people will disagree about costs and benefits that can’t be measured. Even in a depression, cutting expenditures to entrenched interests that make poor use of real resources can be beneficial. Even in a boom, high value public goods can be worth their cost in whatever private activity is crowded out to purchase them. Rather than focusing on “how much to spend”, we should be thinking about “what to do”. My views skew activist. I think there are lots of things government can and should do that would be fantastic. A “jobs bill”, however, or “stimulus” in the abstract, are not among them. If we do smart things, we will do well. If we do stupid things, or if we hope for markets to figure things out while nothing much gets done, the world will unravel beneath us. We have intellectual work to do that goes beyond choosing a deficit level. The austerity/stimulus debate is make-work for the chattering classes. It’s conspicuous cogitation that avoids the hard, simple questions. What, precisely, should we do that we are not yet doing? What are the things we do now that we should stop doing? And how can we make those changes without undermining the deep social infrastructure of our society, resources like legitimacy, fairness, and trust?
FD: I’m long precious metals and short long-term Treasuries. (My exposure to both is primarily via futures.) So perhaps I am thinking my book when I take the tail risk of currency crises more seriously than others do.
- 29-June-2010, 11:50 p.m. EDT: Added update attributing coinage of “austerians” to Rob Parenteau. Thanks to Marshall Auerbach for pointing this out in the comments, and Barry Ritholtz for investigating.
You don’t need to apologize for not writing. If you write once a week on average it’s optimal for me. I hate blogs that post five times a day and you have to separate the wheat from the chaff. Your stuff is always very insightful and time-saving :-P
Keep going
June 17th, 2010 at 5:03 pm PDT
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Long precious metals I understand. (Although when both L. Kudlow and J. Cramer are pumping gold, it sure is hard not to sell.)
But short Treasuries? That is not a hedge against a “currency crisis”; that is a hedge against a dollar crisis. Any other form of currency crisis could easily drive long-duration Treasurys to all-time low yields…
Dollar collapse is the Ultimate Crisis, and of course it will happen eventually. I just think we have a few more non-dollar crises ahead before we get there.
FD: Long precious metals (GLD) and long-term Treasuries (EDV).
June 17th, 2010 at 5:06 pm PDT
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“…for those in favor of stimulus?” – stimulustful?
June 17th, 2010 at 5:14 pm PDT
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Steve,
I haven’t commented in a while, but I emailed you about a broad commodity bust back on June 30, 2008 (title “commodities”). I got a nice reply from you (thanks!) but I ended up being so busy that I never got back to you (sorry!).
If that quasi-call counts for anything, please hear to me now: Krugman is right (he was wrong about the oil bubble, and I said so at the time — I’m not a Krugman-is-always-right guy).
The austerians really are just a bunch of idiots (or being myopically self serving). Those second order costs are exactly that: second order and largely irrelevant, the least of anyone’s problems. The big money is not so stupid as to believe in the household analogy. Neither are US, British, Canadian, Australian, Chinese etc. gov and cb officials, when push comes to shove. Europe may be a different story, as I think that the leadership there may actually just be clueless. It really is something to behold.
I appreciate that you are trying to see both sides, but you are way too generous to the austerians. I think that trying to see both sides is clouding your judgement. If I were you, I would not be short long-term treasuries right now. I just don’t see what the upside is to that trade. If the euro crisis gets worse (a debt crisis, but not really a fully sovereign debt crisis) I imagine that Treasuries will do well.
How’s this for worthwhile stimulus: a massive gulf cleanup effort. Plenty of unemployed people and idle boats down there right now. Longer term: green energy. There’s no paucity of high npv public projects and idle resources right now.
June 17th, 2010 at 5:31 pm PDT
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#5 sounds way too mysterious for me. I’m sure you know those theories, but I’d like to clarify the point. If the debt gets too large to be paid via taxation, the government might decide to monetize it (pay by printing money) instead of defaulting. The larger the amount monetized, the more inflation will occur ceteris paribus. Default is deflationary, so if the government defaults, the currency could actually gain value. Overall, excellent post!
June 17th, 2010 at 5:42 pm PDT
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Haha! So now when politicians continue to do what they do best (lie), it will be best for everyone else as well as themselves! :)
June 17th, 2010 at 7:27 pm PDT
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“Austerity is first-order stupid whenever there are people to whom the opportunity cost of providing goods and services that others desire is negative.”
What is “Austerity” in this economic context? If a government permanently lowers the compensation of certain public employees by 10%, uses half the savings to hire additional workers, and the other half to adapt to lower revised expectations of future revenue – is that austere or stimulating? If the same is accomplished in real terms with inflation? In either case, if austere, would it fall into the “stupid category”?
There is a difference between making government budgets rationalized to a new understanding of what is reasonable and possible in reality, and radically adjusting downward the role of government in a society, or the absolute number of public employees. All this talk disdainful “austerity” seem to conflate the two different possibilities.
June 17th, 2010 at 8:33 pm PDT
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But what about stimulus that’s well spent. A great deal of the Obama stimulus was for very high return investments of the kind the pure free market will grossly underprovide or inefficiently provide due to long established in economics market problems like externalities, etc. Examples include billions for alternative energy (I’ve read this has revolutionized opportunities in alternative energy research), infrastructure, education, cancer research, and more.
June 17th, 2010 at 9:38 pm PDT
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can anyone recommend a book that covers the ideas and
thinking in this post more extensively?
June 17th, 2010 at 10:25 pm PDT
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“The larger the amount monetized, the more inflation will occur ceteris paribus.”
Where is the evidence that monetization will cause inflation $ for $.
Remember price is multiplied by activity. You can only get price inflation if there is no spare capacity.
June 18th, 2010 at 12:17 am PDT
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Great post. I like Cowen’s point 4 too. How much risk would governments be taking on, if they hit the “more stimulus” button? Of course there are risks hitting the “austerity” button too, my point is merely that I’d like a better idea of the alternative choices may misfire, I don’t just want to read about what people think is most likely. We shouldn’t just be taking about on-average expected outcomes. Like you, my “views skew activist” but I’d like to read Krugman’s and other stimulators’ views on how stimulus can go wrong, what happens if we end up in a situation where the extra employment and output produced by additional stimulation falls well below that needed to justify the additional debt, and what happens then.
June 18th, 2010 at 3:22 am PDT
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[…] Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar Steve Waldman […]
June 18th, 2010 at 4:28 am PDT
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[…] Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar Steve Waldman […]
June 18th, 2010 at 4:36 am PDT
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“coinage for those in favor of stimulus?” … stimulants
Or maybe stimulons. The austerians versus the stimulons sounds better
June 18th, 2010 at 5:01 am PDT
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[…] breakdown of the stimulus/austerity debate from the ever lucid Steve […]
June 18th, 2010 at 6:47 am PDT
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“coinage for those in favor of stimulus?”
dildoe$
June 18th, 2010 at 7:05 am PDT
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[…] Read it. […]
June 18th, 2010 at 7:05 am PDT
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What is your Gold/Bonds hedge ratio and how did you work it out?
June 18th, 2010 at 7:15 am PDT
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Hi,
Here’s what I posted on NC hoping to get some straight answers:
I find the glib talk about “net saving” vs “government deficit” worrisome.
In the first place, the “accounting identity” the mmt crowd keeps throwing around is nothing but a trivial algebraic term shuffling of the original GDB expression: y = c + i + g restated as (y-c-t) – i = g – t, where c is consumpsion, i investment, t taxes and g government spending.
Therefore, it follows that when mmt folks talk about the private sector “net saving” they mean nothing more but hoarding government paper in the form of currency or T-Bonds, and that the government needs to print such paper therefore running a deficit as expressed in quantity of the printed paper.
Immediately, two questions come into one’s mind:
1. Assuming people(the households) can save at all, they
can however choose to invest into factories, buying private sector bonds, or just hoard gold instead of hoarding public paper thereby not needing the government to run a deficit. So, as opposed to the new dogma “gov. deficit is good”, the reality is: it depends. The decision to “net save” aka put currency under the mattress is just an investment decision which may be good or bad depending on the circumstances.
2. While stating that the households hoarding the government IOUs either in the shape of currency or T-Bonds is good, the mmt folks never quite spelled out how exactly such currency will turn up under the populace mattresses. There is some vague talk about government guaranteed jobs at Bob Mitchell’s web site, but not much specific about the actual transfer mechanism of the freshly printed currency into the private sector pockets. As described in gigi’s message, very often government funded projects amount to one person digging up a hole and another person filling it up. How can we ensure that government projects can really accomplish something socially useful ? The past experience of the USSR and the other former socialist countries is not very inspiring.
Parenthetically, we do know about one possible mechanism: transfer of the government deficit into pockets of the Wall Street fauna. The accounting identity worked quite nicely here: the Wall Street “net saved” thanks to the government “deficit spending”.
Now, theoretically, government funded projects may be good. It is just unclear how exactly the society as a whole can ensure such goodness. The mmt proponents’ accounting talk about identities is dangerous in its very simplicity, them stating that it is enough for government to print paper and the prosperity will happen by magic. It is no better in fact than the talk of those they call “deficit hawks”
I asked similar questions at other MMT blogs, including a direct question to Mr. Auerback’s posting (who I undrstand is one of major MMT fans) but never got any response.
Thanks.
June 18th, 2010 at 7:29 am PDT
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Re #8
Richard,
What exactly has been accomplished by spending “billions for alternative energy” (I am interested in this kind of research myself) ? And why spend billions as a “stimulus” rather than fund such research through traditional scientific research grant mechanism ?
More importantly, do you have numbers that would confirm such multi-billion spending utility (e.g. how many jobs were created, by what percentage the dependence on oil decreased, etc) ?
June 18th, 2010 at 8:06 am PDT
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It is perfectly possible, and perfectly common, that a person’s gains from doing work are greater than their total pay, so that in theory you could confiscate their wages or pay them nothing and they would still do the job.But in practice, you can’t do that, because if you don’t actually pay them, it is no longer paid work.
I am not sure what you are claiming here. Ah, yeah, if you don’t pay someone to do work then they’re not doing paid work. But that doesn’t mean that they’re not doing work. They might be doing unpaid work. In which case why should I care?
If your claim is that people don’t work unless they are paid, then how do you explain amateur theatrical companies?
June 18th, 2010 at 8:08 am PDT
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[…] Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar Steve Waldman […]
June 18th, 2010 at 8:34 am PDT
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V.J. Kumar,
We tried to respond to you at Naked Capitalism, but here goes again:
“I commented on the identity triviality earlier.”
If it’s so “trivial,” why is it that nobody understands that a govt deficit ends up as a non-govt surplus, to the penny, and vice versa?
“For simplicity. let’s pretend there is no foreign trade imbalance (say, we live in Germany).”
I’m assuming you mean there is a trade surplus if you’re using Germany as the example.
“I assume you understand that the private “net saving” means nothing more but holding government paper in the form of currency or T-Bonds, and that the government needs to print such paper in order to satisfy potential demand, therefore running a deficit as expressed in quantity of the printed paper.””
That would be net saving by the non-govt sector once you include reserve balances less central bank lending, but not necessarily net saving by the parts of the non-govt sector when broken into domestic private and capital account.
“If you do, then
a) Why holding the government paper is more beneficial than investing in the private sector assuming S-I >0 ?”
There is no such assumption made. I’ve had a suspicion all along that you didn’t understand MMT here and from comments on Billy Blog, and this makes it clear that you don’t.
First, “investing in the private sector” may not leave S-I>0. How does the private sector invest in itself? By reducing its net saving, of course (though the ultimate effect on S-I depends on how the economy is affected and the responsiveness of the govt’s automatic stabilizers).
Second, there is nothing more “beneficial” about the govt deficit. The point is that IF the non-govt sector is going to net save, THEN the govt sector will be in a net deficit, by accounting definition. Now, this deficit can be run via traditional automatic stabilizers that usually only put a floor under how far the economy can fall. Or, it can be run via more aggressive automatic stabilizers (such as a jobs program) or, failing that, something more discretionary and proactive (like a payroll tax holiday), either of which can in comparison leave the economy far closer to full employment. AND–more specifically regarding your question here–ONCE THE DOMESTIC PRIVATE SECTOR IS READY TO
“Do you agree or disagree that buying say S&P 500 index shares may (or may not) be a more reasonable investment strategy thus decreasing the need for government IOUs and as a consequence running a smaller deficit ?”
Again, this shows how much you are misunderstanding the MMT argument in the first place. MMT says that if purchasing S/P500 raises wealth and thus spending, then S-I will fall, and the govt deficit should be smaller. Now, there can be a problem with the S/P investment, which is, what if you get a bubble? Then, from a Minskyan perspective, you would be better off with more govt deficit and more net saving in terms of financial stability.
But there’s an important point here to make, which is, MMT is describing what should happen IF AND WHEN the non-govt sector DESIRES to net save. MMT–at least in terms of manipulation of the accounting identity–is NOT saying the non-govt sector SHOULD net save any particular amount (although a Minskyan approach would suggest the domestic private sector is better off in terms of financial stability by net saving–that is, keeping a hedge finance position).
“As I commented elsewhere, holding government paper is in essence trusting the government with investment choices rather than making such choices on your own which again may be good or bad depending on your investment skills.””
Again, your comments here and elsewhere have shown you didn’t understand the MMT arguments you thought you were critiquing.
“b) How exactly do you propose to transfer freshly printed money into the pockets of the worthy (having S-I <=0) rather than into the WS denizens saving accounts as was and is being done with the ongoing quantitative easing ?"
The general MMT policy view is to target full employment directly via a jobs program that is countercyclical. Lots of information on Bill's blog and CofFEE website on that. If that alone doesn't keep the economy at/near full capacity utlization, then other options can be taken such as a payroll tax holiday, etc (or perhaps designing better automatic stabilizers). At any rate, the general view is to stabilize from the bottom up.
June 18th, 2010 at 8:34 am PDT
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I understand most of your post, but the “Austerity is stupid” paragraph left my head turning. Maybe I’m just unfamiliar with the terms and concepts.
June 18th, 2010 at 8:39 am PDT
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June 18th, 2010 at 8:51 am PDT
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This is not obvious but it is actually a complexity problem :
“stimulors” believe that they know better than the public (who is fearing fear itself) what to do with our surplus production in the future : Investing in the long term health of the nation (through healthcare), or the long term productivity of the workforce (through, say education), or some new paradigm changing technology (insert your favorite here : solar, nuclear, wind, nano,…). To achieve this, they need to convince themselves that they are much smarter than the populace (in the case of Obama, Summers or Krugman, they don’t have to work too hard at this…). They therefore portrait “austerian” as simpletons who don’t understand the wisdom of their great master plan.
Some “austerians” may be stupid, but yet it may be premature to generalize. They may use their intelligence at the service of their humility instead of their hubris. I.e. they may be skeptical at the idea that anyone, including them, has an answer applicable from the top to the predicaments we face. In such situation, restraint is the best course of action. As a physician would say ” first, do not harm”.
June 18th, 2010 at 9:00 am PDT
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Neil@10:
“Where is the evidence that monetization will cause inflation $ for $.”
Here’s a simple mental experiment:
Inflation simply means paying more for the same stuff. So, if new money is injected into the market without having produced new products to buy as a result of such injection, the price for the available goods will be bid up. Weimar Republic or Zimbabwe, more recently, may be the evidence you are looking for.
It is not to say that inflation will necessarily occur (witness Japan) — it depends on the way money is injected into economy obviously, but given the past government expertise in this area, such inflationary outcome is likely.
And before anyone mentions deflation, note that the UK CPI indicate 3.4% change while the US CPI change is 2% (the US CPI calculation was “adjusted” in 90’s to show a lower change, of course).
June 18th, 2010 at 9:01 am PDT
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One other point in response to Steve’s comments. Steve, I appreciate that you are trying to set out both sides of the argument on austerity and the Austerians (a phrase, incidentally, that was first coined by my friend and colleague, Rob Parenteau). But I think the dichotomy you set up is a bit of a red herring in regard to the objections set out to further government spending. First of all, there’s always an implied assumption that private sector spending is invariably more productive (oh really? So too much government spending is the reason we’re in the mess we’re in right now?). And your ideas on government “crowding out” private sector investment reflects a fundamental lack of understanding of accounting identities and the operational realities of how new net financial assets are created. Government spending creates new net financial assets and actually crowds out nothing from the private sector.
More fundamentally, from a basic accounting perspective (and there’s nothing “Keynesian” about this; it’s 500 years of double-entry bookkeeping), rising public debt ratio (of the proportions we have witnessed in the last two years) is a sign that something drastic has happened to private spending – a collapse no less.
And a collapse in private spending means that output and employment growth will be also heading south and urgent fiscal intervention is required.
Second, if you then understand that point which is basic Macroeconomics 101, then it is clear you will also disagree with the current policy bias towards cutting government spending. At this point in time, with private spending still very subdued and in danger of going backwards again, the need for fiscal support is manifest.
Basic Macroeconomics 101 tells us that at any point in time, full capacity output is determined by the employment level consistent with all workers being able to work their desired hours times labour productivity (how much each unit of working hour produces). That is what we think of when we talk about aggregate supply. It is the maximum that the economy can produce given the current technology and desires of the available workforce.
On the other side of the equation, total spending (which buys this output) is compromised on private, public and external components. So household consumption and private investment plus government spending plus net exports constitute what we call aggregate demand.
If aggregate demand happens to be sufficient to absorb all the output that the fully employed economy produces then we are in a desirable state. Households will be able to save as much as they desire and all available workers will be able to find a job (subject to some moving between jobs and being unemployed for short periods of time only).
So from that state, imagine a fall in private investment. If nothing else happens, then aggregate demand will fall short of the full employment output level.
The normal inventory-cycle view of what happens next goes like this. Output and employment are functions of aggregate spending. Firms form expectations of future aggregate demand and produce accordingly. They are uncertain about the actual demand that will be realised as the output emerges from the production process.
The first signal firms get that demand is falling is in the unintended build-up of inventories. That signals to firms that they were overly optimistic about the level of demand in that particular period.
Once this realisation becomes consolidated, that is, firms generally realise they have over-produced, output starts to fall. Firms layoff workers and the loss of income starts to multiply as those workers reduce their spending elsewhere.
At that point, the economy is heading for a recession.
Short of a dramatic rise in net exports, the only other way to avoid these spiralling employment losses is for an expanding public deficit.
If the public deficit does rise to offset the fall in private spending then aggregate demand can continue to support the high levels of output. Households will continue to reach their desired saving levels and employment will not fall.
What the deficit hawks here and in Germany are encouraging governments to do, however, is exactly the opposite. At a time when private spending is either flat or falling and in both cases inadequate to support economic growth, they want governments to also withdraw its net spending position. It is clear that this worsens the situation because it drives the output gap up – that is, the difference between potential or full employment output and actual output, the latter being determined by the state of aggregate demand.
June 18th, 2010 at 9:26 am PDT
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Steve:
In your dangers of stimulus column, you talk about misspending money, and the corrosive effect is has on the “polity” when they see Govt money going to interests like Goldman Sachs and the SEIU, but not to the general public.
What about the favorite MMT prescription of a payroll tax holiday?
June 18th, 2010 at 9:32 am PDT
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Why not just borrow and essentially write checks to everyone. Don’t stop at the piddling $600 rebates. If there is no real restriction on what the government can borrow at the moment, then just borrow as much of the budget as possible, replacing tax revenue with borrowing until you reach that limit, whatever it is at the moment. If it means borrowing the entire budget, then do so. If it means that you can borrow even more than you planned to spend, then do that, too, and pay state and local budgets with borrowing so that they can cut their reliance on tax revenue. This would, at least, solve the fairness issue, what you view as the potential corrosive effects of certain policies since all net recipients of government largesse still get their largesse, and net payors to government get to keep more/all of their work product.
June 18th, 2010 at 9:56 am PDT
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“The second-order costs of government spending are real, and we are very far from being able to understand or estimate them.”
This seems contradictory to me. If we are so far from being able to understand or estimate them, then how can we state definitively that they are real? Right now they exist only in our imagination (and rather less in mine than in yours). Until we can estimate their probability to be greater than zero and their potential impact to be significant, they are just speculative thoughts, not costs that can definitely be classified as real.
June 18th, 2010 at 10:08 am PDT
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Stimulantes?
June 18th, 2010 at 10:43 am PDT
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> Surely someone can come up with a cleverly risqué coinage for those in favor of stimulus?
Stimulistas
June 18th, 2010 at 10:44 am PDT
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Marshall:
Thank you for the answer — it was not easy to get !
MA: “That would be net saving by the non-govt sector once you include reserve balances less central bank lending, but not necessarily net saving by the parts of the non-govt sector when broken into domestic private and capital account.
VJ: In the US, government liabilities consist of cash, publicly floated bonds and bank reserves. The US households net worth is about $50 tril of which about $30 tril are net financial assets aka mmt “net savings” (the distribution may be interesting though). Do you propose to inject more ?
VJ elsewhere: “a) Why holding the government paper is more beneficial than investing in the private sector assuming S-I >0 ?”
MA’ response:
“There is no such assumption made. I’ve had a suspicion all along that you didn’t understand MMT here and from comments on Billy Blog, and this makes it clear that you don’t.
MA: “I’ve had a suspicion all along that you didn’t understand MMT here and from comments on Billy Blog, and this makes it clear that you don’t.
”
VJ: A typical de haut en bas response I encountered at other MMT blogs. Maybe I do not understand but it would be more productive to try and educate hoi polloi rather than emit remarks of that kind.
MA: “First, “investing in the private sector” may not leave S-I>0. How does the private sector invest in itself? By reducing its net saving, of course (though the ultimate effect on S-I depends on how the economy is affected and the responsiveness of the govt’s automatic stabilizers).”
So what if “the private sector” may not leave S-I>0” ? It is a purely investment decision, as I mentioned many times, whether or not you want to hoard cash or T-Bonds in preference to investing in the private sector.
MA: “VJ: “Do you agree or disagree that buying say S&P 500 index shares may (or may not) be a more reasonable investment strategy thus decreasing the need for government IOUs and as a consequence running a smaller deficit ?”
MA:
Again, this shows how much you are misunderstanding the MMT argument in the first place. MMT says that if purchasing S/P500 raises wealth and thus spending, then S-I will fall, and the govt deficit should be smaller. Now, there can be a problem with the S/P investment, which is, what if you get a bubble? Then, from a Minskyan perspective, you would be better off with more govt deficit and more net saving in terms of financial stability.
”
My misunderstanding aside, sure, there can be a problem with the s&p investment inasmuch as there can be a problem with any investment, including cash and t-bonds. Parenthetically, mmt’ers fixating on “net saving” i.e. holding government paper is both emotionally charged and therefore potentially misleading as people (including some mmt’ers) may be led to a conclusion that only claims against government are “real savings”.
Now, do you, as an mmt’er, agree or disagree that for the subset of people defined as S-I >0 the decision not hold any government paper is a purely investment decision and that possible “net saving” is driven by those investors behaviour rather than by the government intention to spend for sake of making the accounting balance look pretty (pretty being defined as “net saving”) ?
MA: ” VJ: “As I commented elsewhere, holding government paper is in essence trusting the government with investment choices rather than making such choices on your own which again may be good or bad depending on your investment skills.””
Again, your comments here and elsewhere have shown you didn’t understand the MMT arguments you thought you were critiquing.”
VJ: So, you disagree with the obvious fact that if a person decides to hoard cash/T-bonds then the person will have less to invest thus leaving the investment decisions up to the government?
MA: “The general MMT policy view is to target full employment directly via a jobs program that is countercyclical”
VJ: How exactly do you propose to create such jobs ? What exactly people occupied in such jobs will do ? Could you give specific examples ? How do you ensure such jobs will create products that consumers will be willing to pay money for thus avoiding possible inflation ?
June 18th, 2010 at 10:54 am PDT
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Marshall:
You said commenting on Steve’s message:
“And your ideas on government “crowding out” private sector investment reflects a fundamental lack of understanding of accounting identities and the operational realities of how new net financial assets are created.
”
Where did Steve mention “crowding out” ? You took Fama’s words in Fama’s possibly incorrect analysis (I did not study in detail what exactly Fama said on the subject so I do not have an opinion), ascribed it to Steve and made a conclusion that Steve has “a fundamental lack of understanding of accounting identities and the operational realities of how new net financial assets are created.” If it is not a straw-man, what is ?
Would you be willing to retract your statement wrt Steve’s posting ?
June 18th, 2010 at 11:10 am PDT
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[…] “Economic choices are not scalar.” (Interfluidity) […]
June 18th, 2010 at 11:24 am PDT
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It’s not clear that lying is optimal (unless you can somehow choose who believes your lies and who doesn’t). The second order benefits of a stimulus depend on beliefs just as do the second order costs. If we assume that any potential benefit from lying outweighs the cost of any resulting loss of credibility, then it seems likely that some sort of lying would be optimal on any particular margin (since the costs and benefits are probably distinct non-linear functions of beliefs), but it’s not clear what sort of lying that would be — not without being to estimate the functions that relate costs and benefits to the state of belief. With interest rates on large developed-country sovereign debt still extremely low, my guess would be that the optimal lie is to promise more stimulus (or less austerity) than you deliver.
If it were to happen today, for example, with the US still running a significant trade deficit, producing far below capacity, and with a below optimal inflation rate, I think a dollar crisis would be a positively good thing. A yen crisis would be bad from the world’s point of view, but good from Japan’s. A euro crisis — hard to say. As far as regional self-interest is concerned, however, it seems to me that Germany should be pretending to be more profligate than it is. (Of course, part of the problem with the euro is that Germany is not motivated by regional self-interest.)
June 18th, 2010 at 11:42 am PDT
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a cleverly risqué coinage
the stimulati?
June 18th, 2010 at 12:21 pm PDT
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Stimulus may be a little dangerous, especially when badly done which is almost always since government is always trying to separate the deserving from the undeserving rather than the direct route of treating everyone alike, but most of the other issues are not problems but features and would generally be beneficial given where we are and only a concern long after unemployment dropped. Fleeing savers would generally be desirable. This seems apparent in giving austerity only lip service, but it seems extravagant to even give that. Far better to give out cash or replace borrowing with printing for if austerians are adverse to debt, nothing better can be done than to abolish it.
June 18th, 2010 at 1:30 pm PDT
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Boy. Tons of great comments, and great readers. Thanks to all!
Matt — Thanks!
Nemo — I don’t too much want to discuss investment specifics — I try to avoid it, but disclose positions that might be viewed as related to what I write. Both most gold and Treasuries positions are longstanding. I think it’s perfectly possible in the short-to-medium term that a Euro crisis drives a taller Treasuries spike, but I think that longer term a Japanese-style scenario is unlikely in the US, because of different savings behavior, policy instincts, balance-of-payments, and cultural differences. So, over a period of time, whether due to concerns about the dollar in a bad scenario or increasing appetite private sector risk in a better scenario, I see long term Treasuries falling. But I am very frequently wrong, and could easily make the opposite case. Clearly at the moment, USTs are the safest haven among the tallest pygmies, and looking solely at private sector asset-price and debt dynamics, a Japanese scenario is certainly possible and would not be good for me. Short Treasuries are also a good diversifier when I am short equity.
ddt — I think we are really agreeing. My point is that we should not discuss “stimulus” in the abstract, but look for good projects. I agree with you that there are plenty of good projects, and we should pursue those. But I object to arguments of the form “government spending is cheaper than free now (insert unused capacity or sectoral balances argument here), so we should spend”, leaving reference to upon what money is spent as an afterthought. As I say, I think second order costs having to do with legitimacy are very real, and disagree with MMTers that the state’s ability to tax is sufficient basis for the value of fiat money in a decent society. Brutal tax requirements can give money value, but in modern societies that I like, tax liability follow rather than lead wealth accumulation. In equilibrium, they still add to and contribute to the value of money, but I think that much also rests upon a social consensus that money is precious, that it a marker for real resources, and that it’s flows are related to production and careful stewardship of such resources. Macroeconomic theory that abstracts away from all of that, and policies that leave the economic content of transfers and expenditures as an afterthought, do violence to the meaning of money and our ability to organize an economy around it. The macroeconomic insights are real — we should view times like the present when resources can be cheaply bought, some resources even at a negative aggregate price, as especially propitious time to pursue important collective projects, like modifying our society dependent on a reduced-carbon-depleting infrastructure with one consistent with a sustainable carbon cycle. If you propose a specific project or program, I am happy to support it on its own merits if I agree its benefits outweigh its costs. And its benefits may be increased and costs reduced because of where we are in the business cycle. But promoting “stimulus” without referent and relying on wise technocrats to spend the money well (or just not caring as long as the macro looks good) strikes me as a prescription for damaging money as a social and economic institution.
Re Treasuries, see my comments to nemo above.
June 18th, 2010 at 2:16 pm PDT
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azmyth — Thanks for the compliment at the end! I was intentionally vague on theories of national solvency, because I think they get very complex very quickly, and the evidence for the simple stories is mixed. Does monetizing debt cause inflation? Depends! Does default, or the credible possibility of defaults, cause deflation, or an inflationary run from the currency? Depends!
I am fairly sure that the neoclassical account of infinite horizon positive NPV of primary tax surplus net of the PV of liabilities is an unhelpful way of thinking about national solvency when the question is not already clear. States that are obviously failing and whose currencies collapse are often neoclassically insolvent. But with states that might not fail, the neoclassical solvency criteria I think gives little insight.
However, I do think the neoclassical story is relevant in a tinkerbell sense — whatever the analytical problems with analogizing governments to firms (which is basically the neoclassical solvency criterion, though the numeraire may be expressed in dollars or in real terms), I think that analysis in that framework does affect investment flows, so the flawed “truths” of that framework become social facts with social consequences. We might want to change these social facts, replace the way people think with a different (better?) story, but that won’t happen instantly and I doubt that it will policymaking insiders who drive the change.
The MMTers are clearly right that we can’t understand national solvency in the same way as we understand household or business solvency, that is as a predictor of future liquidity. A business is insolvent if we can predict with some confidence that it will be unable to meet its obligations, or if it fails to meet its obligations. A government whose obligations are in its own currency can always be liquid, that it it can always generate currency to meet its obligations if it chooses to. So if we want to speak meaningfully about national solvency, we need a different sort of definition. (Some of the MMTers suggest that solvency is just a meaningless concept with respect to fiat-issuing governments. I think it is still useful to think about national solvency, even though the consequences of “insolvency” are different than for currency users.)
June 18th, 2010 at 2:30 pm PDT
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que — is lying socially optimal?! i’m not sure about that. i hope not, but it may be, that’s a possibility we must consider. i only intended, however, to make the point that lying is optimal from the perspective of policymakers. they get the short-term political benefits of spending money (recipients and papers are pleased, even if the money comes via circuitous routes), without the pitchforks that come with perceptions of illegitimacy or unfairness.
but it’s perfectly possible (and i suspect likely) that lying is optimal for policy makers but socially terrible, as the quality of obfuscated spending is poor and the distribution of wealth that eventually gets noticed is corrosive to perceptions that economic outcomes are legitimate. (bankers who have mismanaged the economy should not be so rich. we notice that now, even though we didn’t notice the subsidy we offered them in the form of free insurance when it was “spent”.)
i should have made clearer that i meant lying is optimal for policymakers, not optimal for society as a whole.
June 18th, 2010 at 2:36 pm PDT
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This is a great discussion–I really like that phrase “austerity theater”–makes me think of Bertolt Brecht. . .
I will disagree on one point, however–your No.2: Employing people badly is much worse than giving them money. It is true, perhaps, for those people, but not for society as a whole. How will we motivate people to work if they can get money by not working? How long before the productive people revolt–or at least demand substantially more than the non-workers to continue working? I mean, I suppose you could say that Social Security (both Old Age and Disability) is all about paying people rather than pointlessly employing them, but in practice these payments are not freely available to all and sundry–you had to contribute to be covered by them.
June 18th, 2010 at 2:59 pm PDT
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Indy — You have proposed a project, which can be evaluated on its own merits.
Cutting the pay of some public sector employees has costs and benefits, both social and private. They still get to be paid workers, and keep the social status of the gainfully employed and virtuous middle class in our society, but there is also strong disutility associated with nominal pay cuts. Overall, though, I think they remain much better off than being fired.
They may still take to the streets. That creates costs to the general public, and even greater costs to politicians, amounting to a kind of agency problem strikers can exploit.
Looking more broadly, there may be social benefits to the degree that public worker pay and benefit seems “above market” for similar work. That is corrosive to the legitimacy of governments. However, there are also social costs to the degree that pay cuts involve breaking promises (e.g. reducing pension benefits) or even violating long-standing expectations.
Non-currency-issung governments (state, local, Greece) face traditional financial constraints, although their “default”may take the form of a convulsive change in existing arrangements that may be destabilizing rather than simply writing off the debt. In either case, sustainable cash-flow balance is a big positive for non-currency-issuing governments, and that should be considered when evaluating
We can debate and evaluate these costs and benefits. There may be lots of places where government workers are not performing work commensurate in market value with their pay and benefits, and overall I think that’s a problem that we should address by restraining compensation growth if not reducing compensation. But the justification for that shouldn’t be “austerity” (though “running out of money” is an awfully convenient excuse!). The real justification is that government funds are being poorly spent, rents are being transferred from outsiders to insiders, and that’s unfair and corrosive whether the transferees are bankers or teachers. (If the market value of teachers wouldn’t support a decent living, that’s a problem, but overpaying those who are employed is an insufficient solution. Unemployed would-be teachers who’ve accepted the next-best option in the private market are still starving. So we need something more general and fair, like a guaranteed income program.)
Anyway, in sum, calling this sort of thing austerity may be politically useful, but I think the right way to think about things is in terms of cost/benefit and fairness arguments in the context of societies where non-public employees’ pay is market-determined irrespective of tradition or “decency”. As always, “austerity” is insufficient to tell us anything about what, exactly, we should no longer do. We have to identify who is being overpaid, compare the costs of not overpaying with the benefits of hiring more workers etc., and make the case.
June 18th, 2010 at 3:00 pm PDT
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Richard — Money well spent is well spent. Stimulus well-spent is a great thing. I won’t weigh in on the question of whether the Obama stimulus was well or poorly spent, I don’t know enough to opine, but I was pleased that the administration was at least talking the talk of requiring quality projects even when some macroeconomists were urging that he not worry about it and just get the money out the door.
But it is foolish to debate expenditures without debating whether what we are expending for is worth the costs. The MMTers may suggest any costs are negligible so we can hardly go wrong, the “austerians” may suggest that the cost of increased govt spending is astronomical, and we do have to take positions on that (probably somewhere in between for most of us). But we can’t intelligently have a conversation about spending without discussing what we are buying, unless you believe that mere spending is itself sufficient benefit regardless of quality. I don’t think that; I think the “second order costs” of bad spending are real and serious. You can trust Obama to be a high-quality spender, and so believe that given macro situation the benefits of good spending are sufficiently high that you’ll just delegate the job to him. In that case, you could support unallocated “stimulus”. But I certainly don’t have that level of trust. I’m glad to support high quality spending, but I think you’ve got to make the case that what you propose to do is actually a good idea, and arguing for stimulus without addressing the question “for what” is unhelpful.
June 18th, 2010 at 3:09 pm PDT
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[…] of future stimulus is the topic de jour. Interfluidity sums them up pretty nicely along with a good explanation of why austerity is stupid. Martin Wolf–over at FT across the oily pond–has the global take on why he hopes the […]
June 18th, 2010 at 3:09 pm PDT
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It is, of course, obvious that “economic choices are not scalar,” but it is also true that non-scalar choices can be projected onto any of various one-dimensional subspaces one might choose. So what you’re really saying is that the “size of deficit” subspace is not a useful one onto which to project fiscal policy choices. It will take some doing to convince me of that. With money, for the moment, indistinguishable from T-bills, running a deficit is like dropping money from a helicopter, and the more you drop, the more impact it is likely to have. Sure, in principle, you can get better results if you’re careful about where you drop the money, and you can get worse results, sometimes perhaps net negative results, if you drop the money in the wrong places. But everyone knows that, and just as everyone disagrees about how much money to drop, everyone disagrees about where to drop it. Why is it necessary to complicate the two arguments by having them both at the same time?
June 18th, 2010 at 3:18 pm PDT
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Reading some of Steve’s comments in the light of my last comment, I guess what you (Steve) are saying is that you personally don’t (and don’t believe that a rational person should) have strong preferences along the “size of deficit” dimension, and that therefore, differences along other dimensions are likely to outweigh differences along that dimension in your objective function when you compare two potential policies. Maybe all we can do is agree to disagree. I’m fairly well convinced that a generic stimulus (helicopter drop) is a good idea (at least up to well beyond the point where it could ever be politically feasible, and conditioning on the assumption that monetary policies are within a range that includes the politically feasible as a fairly small subset). I’m less convinced by the arguments for any particular type of stimulus, although given the choice, I’ll tend to go for government investment (infrastructure, research, etc.) over other options.
(And yet, maybe not: aid to state and local governments appears to have been quite helpful in avoiding, thus far, a worse contraction which may yet occur, and as Tyler Cowen points out, the costs/benefits of contraction vs. expansion are asymmetric; and on humanitarian grounds, how could I advocate repairing highways over extending unemployment benefits? and tax incentives for employment (such as a FICA holiday) are easy to stop when they are no longer necessary, whereas infrastructure projects can take years and may end up stressing a future economy that is approaching full employment; etc.. Yes, this is my whole point: every time I start to think about it, it immediately becomes much less clear cut what kind of stimulus is to be preferred, but nobody has begun to convince me that less stimulus is better than more. Hence the value, from my perspective, of projecting the choice onto that dimension, where my preferences are clear.
June 18th, 2010 at 3:47 pm PDT
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Stimulationistas
June 18th, 2010 at 4:13 pm PDT
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Andy:
You wrote:
1.
”
I’m fairly well convinced that a generic stimulus (helicopter drop) is a good idea
”
a. What is “generic stimulus” ?
b. Why are you convinced that it is a good idea ?
c. How do you distribute freshly printed paper, metaphorically speaking, amongst the pockets of the worthy ?
d. How can one be sure that the next distribution attempt be any better, in any sense, than the last bank recapitalization tint ?
2. You wrote:
”
Yes, this is my whole point: every time I start to think about it, it immediately becomes much less clear cut what kind of stimulus is to be preferred, but nobody has begun to convince me that less stimulus is better than more
”
To rephrase, you do not know what the stimulus should be spent on, but you know that more stimulus is better than less ? In other, you don’t have any scientific basis for thinking so but just your hunch ?
Thanks.
June 18th, 2010 at 5:14 pm PDT
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It’s merely a matter of convention in NIPA accounting the government spending is regarded as shere spending and no productive role is attached to it, (because the developers of NIPA simply couldn’t figure out any reliable way to measure the productivity of government activities and workers). But, of course, much government activity provides essential institutional supports to the operation of “private” markets and private economic activity, and some gov. spending actually is investment spending, not consumption.
But, at any rate, the usual assumption is that government spending is inefficient and productive gains are entirely attributed to “private” markets, because only they, with their allegedly de-centralized decision making and preference function allocate the investment of capital efficiently. However, we’ve just been through a huge episode in which “private”, de-regulated markets mis-allocated investment and sustained unsustainable imbalances, resulting in the present collapse and the abuse of public fiscal and policy space to bail-out dominant private agencies, who were largely responsible for creating the mess. Hence, it’s a bit, er, rich for representatives of those dominant private interests to be calling now for “austerity” because of unsustainable public debt levels.
Still, I do think the form, mode or content of the required deficit spending is a real and legitimate issue, as to whether it goes toward simply restoring the demand levels and imbalances of the status quo ante, or whether it assists in re-structuring a more sustainable and balanced economy going forward and thus far the outlook on that is grim, in the policy mix and “reforms” that are being undertaken, (which is the weakness of Krugman’s NK style arguments). The debate over public spending that needs to take place amounts to a debate over public industrial and investment policy, as to its institutional modes and means, and its restructuring targets. If we are to solely rely on “private” investment to lead to a recovery, likely we’ll be waiting a very long time for anything worthy of the name “recovery”. But, of course, it’s the prevailing orthodoxy and the dominant, incumbent interests that it serves that blocks off and taboos any such discussion and debate, because it challenges the entrenched notion of markets as uniquely efficient and the meaning of such “efficiency”.
On the other hand, a re-industrialization and restructuring of the U.S. economy to deal with the unsustainable CA imbalances that are IMO at the root of the crisis and the various sectoral dysfunctions that resulted, (such as an over-grown finance sector and a patch-work, ever inflating health care sector, both of which tax the rest of the economy with private rent extractions), else any “recovery” will just succumb to a similar relapse in the not too distant future, because of the high degree of technically advanced investment involved to be globally competitive and because of the employment shifts involved in down-sizing over-grown sectors and developing new ones, won’t eo ipso result in a correspondingly large increase in employment. Hence public programs to provide employment directly and to re-distribute incomes to maintain adequate demand will also be required and should be mooted now. That would involve changes in notions of legitimacy, but to assume the status quo ante provided adequate standards of legitimacy is question-begging.
June 18th, 2010 at 5:33 pm PDT
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John@51:
Still, I do think the form, mode or content of the required deficit spending is a real and legitimate issue, as to whether it goes toward simply restoring the demand levels and imbalances of the status quo ante, or whether it assists in re-structuring a more sustainable and balanced economy going forward and thus far the outlook on that is grim, in the policy mix and “reforms” that are being undertaken, (which is the weakness of Krugman’s NK style arguments).
Agreed.
On the other hand, a re-industrialization and restructuring of the U.S. economy to deal with the unsustainable CA imbalances that are IMO at the root of the crisis and the various sectoral dysfunctions that resulted, (such as an over-grown finance sector and a patch-work, ever inflating health care sector, both of which tax the rest of the economy with private rent extractions), else any “recovery” will just succumb to a similar relapse in the not too distant future
Ditto.
June 18th, 2010 at 6:09 pm PDT
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Steve,
All good, wanted to throw something out on the idea of levels.
It is very hard to tell if someone is making good use of money given to them the farther you get from the action. On a smaller level imagine a department in a large corporation. Does my department really need to hire a new worker, or is the department head just trying to increase his headcount to justify a higher salary. Or maybe he just wants someone to cover for him to go golfing on Friday afternoon. Or maybe they really are understaffed and we could generate a lot of revenue if we had an extra person. Its hard to know in a big corporation, especially when your three levels of management away from the situation trying to make a budget. So there is always a certain amount of caution one has about making changes to a system they don’t fully understand. That’s why there is always a great degree of “let’s do it like last year” in big organizations. Some of that is CYA, but a large part of it is the acknowledgment by managers that they don’t have perfect information and analysis and thus need to put a certain trust in the traditional way of doing things. This certainly leads to some organizational arthritis, but its a legitimate concern.
Government is much the same way. Its the largest organization in our society and its leaders (congress and the president) are very far away from conditions on the ground. I doubt anyone in government really has a clue what green jobs make sense and what green jobs would be idiotic. They just don’t have the technical skills. Sure, people advise them, but they have no knowledge base with which to question that advice, and thus can be easily persuaded by special interests with agendas. Deep down they, and voters, know this. So there is a natural resistance to taking on unprecedented levels of spending and deficits. We don’t understand the effects, and there is no guarantee that all this new debt will go towards anything useful. Yes, the cost of government spending is lower when resources are idle, but like you I don’t believe that cost is free. The more boneheaded projects will be big losers in the long run, so government has to show me a higher level of confidence if I’m going to let them take a leap of faith with all this debt. Since most of the bailout/stimulus money appears to have been stolen/wasted thus far I am not convinced.
June 18th, 2010 at 6:39 pm PDT
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Like Dave, I had considerable difficulty in understanding your “austerity is stupid” paragraph.
“Expect central bankers especially to preach austerity while intervening madly in the shadows.”
Central bankers are not deficit spending. And their “exit plans” involve asset exchanges, not paying back debt.
“Irrespective of what is a better or worse description of reality, it is safer for policymakers to frame their communication in terms of conventional theory than to promote a profoundly destabilizing paradigm shift. Expect President Obama to keep talking about how we are “out of money” even though he knows better.”
It is safer because it is more believable to present a “wrong-headed” numerical plan than to present a free floating idea (MMT) without a numerical plan.
June 18th, 2010 at 8:38 pm PDT
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VJ Kumar:
Your frustration with MMT is understandable.
“The US households net worth is about $50 tril of which about $30 tril are net financial assets aka mmt “net savings” (the distribution may be interesting though). Do you propose to inject more?”
Most of this is not net saving for the non government sector. It consists of financial liabilities of non government institutions. MMT does not focus on the household sector.
But apart from that, the numbers don’t really matter to MMT. The strategy is to head off the inventory recession dynamic noted by MA by creating a supply of additional macro saving (“net saving”) in a different way.
June 18th, 2010 at 8:40 pm PDT
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How do you feel about tax cuts as stimulation, rather than spending?
June 18th, 2010 at 8:43 pm PDT
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“As the Modern Monetary Theorists remind us, the analogy between a fiat-currency-issuing government and a budget-constrained household is poor.”
It may be a poor analogy, but not quite in the way portrayed by MMT.
Households spend from bank credit under a credit limit. They use their banks to spend and create money in the process. And they don’t have to issue bonds.
Governments aren’t even allowed to do this. They don’t have access to direct central bank credit. They issue bonds instead. These may be “self-imposed” constraints, but the interesting thing is that they are structurally even more constraining than is the case for household credit.
The “unconstrained” version for governments according to MMT has no limit. But that operational capability is not something that governments want to present as a strategic promise.
(And the purely operational capability is no different for households and their banks.)
June 18th, 2010 at 9:13 pm PDT
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dbrown — with respect to anything i write, maybe “one flew over the cuckoo’s nest”? oh wait, the whole point was that guy wasn’t really nuts never mind. more seriously, i can’t really come up with anything to recommend.
Neil — you’ve captured why i wrote second-order cost #5 so vaguely. we know there are theories about monetization and inflation, and extreme case studies. but we don’t really know which theories are true and useful, and i think all of the common ones leave too much out to rely upon unreservedly. i think it’s foolish to say we can monetize debt with no concern about various sorts of inflation / devaluations. but it is equally foolish to assert that monetizing debt is necessarily associated with those consequences. (and there may be times when inflations/devaluations are desirable, so whether monetization brings that on could be a good or a bad thing.)
Luis — I very much like Cowen’s Point #4 as well. We have these conventional theories for thinking about government budgeting, and in a certain sense they have “worked” historically. They may be analytically poor, inadequate to the times. The cost of not changing how we think and act with respect to public finance may indeed be very large, inaction in obeisance to old bromides may be a terrible choice. But the space of alternatives is wide, and untested as a basis for organizing tradeoffs in the political system. I think the political system, as well as the financial system, are at an impasse, and we will have to take some bold risks. But we have great reason to be nervous. There are unfortunately worst-case scenarios associated with all the available choices.
June 18th, 2010 at 9:40 pm PDT
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MAcroJO — Again, I don’t like to delve too much into investment specifics. But those two positions are not intended as a hedged pair, although they do offer some diversification benefit.
June 18th, 2010 at 9:43 pm PDT
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VJ — MMT debates can get elaborate, as I suspect you’ve noticed. I’ll take up some of Marshall’s points and am glad to see you’ve gotten some good conversation on the matter with others.
I agree with your first critique, and have sparred endlessly and joyfully with Winterspeak over it. (I think we’ve reached a common understanding on this one.) MMT-er’s net financial saving is nothing more or less than private sector accumulation of public sector paper. I consider it an abuse to conflate that with “savings” broadly defined, as much of what is we generally consider savings are claims on valuable resources within the private sector. Of course those claims net to zero — all financial claims net to zero — unless we divide the world into sectors and exclude from consideration some sectors’ positions. MMT-ers think it useful to consider the quantity of private sector claims on the public sector as an important economic fact, not undone by the fact that the private sector’s assets are the public sector’s liability. I think they have a point there, that they are right to point to special demand under some circumstances for public sector obligations, although I think at the root the right way to think about that has to do with risk aversion and insurance rather than a traditional view of savings, which is conjoined with investment. But that they have a point doesn’t mean the private-sector risk-aversion expressed as a desire for government behavior is the be-all and end-all of macroeconomics, and in the heat of discussion one sometimes gets that impression.
Your second critique gets to the heart of what I am arguing here. Even if it may be good to stimulate in some sense, it is desperately important (I think) to stimulate well, to “inject money into the economy” in a manner that improves, or at least does not much harm, the quality of real economic activity and enhances the legitimacy and fairness of economic institutions. Paying people to do make-work is something I view as deeply corrosive to good institutions, using monetary and banking policy to subsidize the big-bank financial sector gets adds to the net stock of private savings in a manner I consider obscene. I’m glad to stimulate, enthusiastic to do so, and part of that enthusiasm is in sync with arguments that MMT-ers make about using new currency to affect balance sheet repair and diminish risk aversion (or “deleverage”, though I quibble with their use of that term). But that stimulus has to be in the form of programs that are productive and fair. Pushing government spending and making the content of that spending a secondary consideration is like pushing banks to generate mortgage-backed securities while leaving the content of those securities a secondary consideration.
June 18th, 2010 at 10:13 pm PDT
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Tracy — Your theater company analogy is close to my heart. In an early draft of this post, I went off the economics of a hypothetical guitar player.
Sometimes, when people’s benefit from work (relative to all other opportunities) us greater than their pay, they do perform the work without pay. There are community theaters, musicians, open source programmers, unpaid interns, volunteers, etc etc who benefit, and provide benefit to others, via their “hobbies”, and who need no pay to inspire them.
But I’d argue that hobby provision of these services is underprovided, that there are many would-be actors, software developers, authors, and entrepreneurs who do not act in their own and others’ best interest (in terms of doing what they love, improving skills, creating opportunities) because they lack a institutional infrastructure to legitimize and encourage it. This is kind of obvious in stylized employment data — people’s employment value decays as the length of unemployment spells increases. In theory people could maintain their skills and discipline by various forms of exercise and free work throughout an unemployment, and in a straightforward financial way, that would be in their interest. But people don’t work for free to maintain their market value, and if they tried it wouldn’t work, as volunteering anchors their market value at near-zero and puts them in a poor negotiation position when they try to capture the economic value they had hoped to preserve. I used the word hobby advisedly, because that word often connotes in our society self-indulgence, uneconomic activities or use of time, but as a matter of social pigeonholing, it is difficult for any self-motivated activity to escape that label. There are actors at community theaters who work for free, but there are many other potential actors who would be better off acting at community theaters for free, who don’t do so, but who would do so if attached to the pride-of-profession that comes with paid work.
You do have to pay people to do the work. Not all of them — some people will do what they love or what is in their best interest for free, in spite of derisive labeling by self and others of “hobby” or “pipe dream”. But most won’t and don’t. Paid work is a validating social institution in our society, it confers moral status, we expect the demand of paid work to guide others’ behavior and let those demands guide our own. Human behavior is not very well approximated by a rational maximizer. It is refracted through social institutions and profoundly vulnerable to entropy and sloth. People often don’t do what is in their interest. Paying them, which creates social expectations of performance by third parties and validation for activities that would otherwise be considered hobbies, can help overcome that entropy, and help people do what in a deeper sense they want but would otherwise fail to do. (School works precisely the same way. Most of what happens in school can be replicated or bettered by a motivated autodidact. But most people aren’t motivated autodidacts, so they immerse themselves in institutions that encourage them to do what they wish to do but would not on their own.)
June 18th, 2010 at 10:35 pm PDT
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“I consider it an abuse to conflate that with “savings” broadly defined, as much of what is we generally consider savings are claims on valuable resources within the private sector. Of course those claims net to zero — all financial claims net to zero — unless we divide the world into sectors and exclude from consideration some sectors’ positions. MMT-ers think it useful to consider the quantity of private sector claims on the public sector as an important economic fact, not undone by the fact that the private sector’s assets are the public sector’s liability. I think they have a point there, that they are right to point to special demand under some circumstances for public sector obligations, although I think at the root the right way to think about that has to do with risk aversion and insurance rather than a traditional view of savings, which is conjoined with investment. But that they have a point doesn’t mean the private-sector risk-aversion expressed as a desire for government behavior is the be-all and end-all of macroeconomics, and in the heat of discussion one sometimes gets that impression.”
One of the best critiques of MMT written anywhere to date.
June 18th, 2010 at 10:39 pm PDT
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dave — as i often do, i think i made the “austerity is stupid” paragraph overly opaque.
the idea is simple. lots of times people don’t do what they really want to do. people want to exercise, develop their skills, interact with other people, and often very directly to produce. there might be nothing in the world a carpenter likes better to do than to build cabinets. if that’s so, if the carpenter is out of work, in theory he would build cabinets for free. it’s the best use of his time on a lot of dimensions, he loves the work, retains skills, gets out of the house, etc. but in fact (i assert, others can disagree), most carpenters won’t do the work for free no matter how much they love the work, because part of the “work” and their love of it has to do with the fact that it is paid work, part of a deeply validating economic institution called production. The same activity as “hobby” or “volunteering” is not the same thing at all. In fact, doing what is customarily paid work for free, unless there is a “very good cause” involved, often ruins the value of the work, makes it not worth doing. this is not a universal fact. i write this blog for free, while others are paid to produce opinionated drivel. social context is variegated, there is not a universal truth. but i claim there are very, very many people when unemployment is high who would be better off working than enjoying the leisure of unemployment even if the work were unpaid if — and this is the counterfactual that really bites — the social meaning of that work, the status associated with performing it, were unrelated to the matter of pay. But that is not at all the case, so many people make poor use of their time, because they are unguided by the social institution called “work”. The difference between a hobby and a job, and the different degree to which those potential activities motivate people to do what in a deep sense they wish to do, is something that can be corrected by a simple paycheck.
The problem with that, of course, is the fact of a paycheck can be so powerful a motivator (for social as well as economic reasons) that if applied poorly, paychecks can also cause people to do what it is not in their interest to do. Paying a computer programmer to dig ditches for a year may impair a real and very valuable resource (the person’s skill) while at the same time imposing an undesirable experience on the individual. In this case, the world would have been better off if the paycheck came as an unemployment benefit. At least the person might have continued to hone their skills that way.
June 18th, 2010 at 10:52 pm PDT
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Charles — I wish I could agree with your framing of the problem. It would make things easier. But my view is that “first, do no harm” is not an option, because the patient is in critical condition. I’m a bit of a crank, but I think a serious decline (although probably not a sudden collapse) is very much on the table for the United States. I agree with you that the “experts” of the world don’t know enough to make good decisions for us and shouldn’t be trusted to try, but when we leave things to the private sector, rather than getting reasonably good outcome from a robust, decentralized decisionmaking apparatus that makes good choices with widely dispersed local information, we get a centralized financial system chock through with corrupt incentives looking for the next big thing to replace building houses in the desert. Neither our current private sector or public sector are capable of managing the complexity of our economy even tolerably well. (not, I think, because the economy has grown too complex, but rather because our institutions have grown too stupid.)
My point in this piece and in general is that we need to improve the quality of both our public, explicitly centralized and private, notionally decentralized, decisionmaking systems. I dislike pushing “stimulus” in the abstract, because I think it promotes poor public sector decisionmaking. It puts money in the hands of politicians and experts without engaging a broader debate about how that money should be spent, what substantatively ought to be done. But I don’t think “restraint” is a reasonable alternative either. The private sector now rivals the public sector for corrupt and extremely poor quality economic decisionmaking.
June 18th, 2010 at 11:04 pm PDT
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Marshall — I want to make very clear that I don’t think that private sector allocation is invariably better than public sector allocation. I think it can be better, so included in my “second order costs” is the possibility that governments might allocate poorly relative to what would have occurred absent government action. But at the moment, I think we are in a race to the bottom among our economic decisionmaking institutions, public and private, and I am not sure which sector has the dubious distinction of winning.
Again, what I meant to be the take-away point of this post was not that we should eschew public sector allocation, but that we should perform public sector allocation in a manner that increases its likelihood of generating good outcomes, and that (to me) suggests a broad and transparent consideration of specific spending projects in a manner that acknowledges “costs” to government expenditures, even though from some perspectives such expenditures may “in fact” be costless. If we pursue “stimulus” abstractly and bask in macroeconomic notions of how it will be helpful, we are in my view enabling and encouraging poor public sector allocation, and that poor allocation can outweigh the macro benefits even if those benefits are quite real.
I really want to emphasize this — I am not in favor of private allocation as opposed to public allocation. I am in favor of high quality allocation and want to argue for techniques to improve the quality of allocation from every quarter. I think abstract stimulus/austerity decisions will lead us to do stupid things, spend money unwisely, or cut productive activity.
I have a pretty good understanding of balance sheets and the sectoral balance approach I think you favor. I am not as enthusiastic about it as you are, but that can be the subject of another post (though there are some hints of my views in comments above to V.J. I used “crowding out” explicitly in the context of a boom, and meant it to refer to real resources, not financial or nominal variables. When an economy is roughly “at capacity”, when there is little unemployment or unused physical capital, do you deny that new government spending crowds out private sector activity by making use of and bidding up the prices of some resources? I think that’s a pretty noncontroversial idea. I agree with you (I think) that a lot of conjectures about financial crowding out (e.g. that deficits “crowd out” private savings) are basically bullshit.
All double entry book-keeping can tell us is that rising public debt is a sign of collapsing private expenditure if total expenditures and taxes are held roughly constant. Other alternatives including falling real GDP, falling nominal GDP (deflation) or allocation of public liabilities back to the private sector (taxation, potentially deferred). Those other outcomes we consider disruptive and try to avoid (although “austerians” may make the case that the falling nominal GDP scenario and the financial defaults they provoke can be helpful, the so-called “liquidationist” position).
Basic macroeconomics often takes too scalar a view of how economic systems work and make too much of accounting tautologies. It’s not at all clear to me that, under current production processes, multiplying available labor hours (however defined) by an observed quotient we call productivity tells us very much at all. A “full employment” economy in which everyone is working can be a very shitty economy if people aren’t doing the right things. A capital-intensive economy in which many people lack formal employment could be a more productive economy than many “full employment” equilibria, but under current social arrangements, that sort of economy would present social and moral problems with respect to the distribution of that production. I don’t think we should fetishize hours worked and imagine that economic productivity is a linear function of that. I’m very skeptical of $8/hour work-on-demand proposals, because I don’t think governments can employ people well en masse and on demand, and I think we’d just see computed productivity plummet for the same mechanical reasons we always see computed productivity rise during recessions.
“Aggregate demand” is a useful concept, but it can be overbeguiling. It is not enough, to have a useful economy, to have some quantity of aggregate supply meet some quantity of aggregate demand at the conventional price level. More balance is required than that. A good economy produces a near infinite diversity of products and services and consumes a potentially different diversity. Production and consumption have to be well matched (or to the degree they are not domestically well matched, the difference must be made up by trade). Quantitatively trying to spark production by putting resources to work, including especially human beings, without ensuring those resources are well matched to the task of meeting current and future consumption demand is a recipe for a poor economy, even if the people producing unwanted goods or goods in insufficient quantity are paid well enough to cover any aggregate demand gap. If we solve the aggregate demand problem but not the quantity and quality of production problem, we end up with inflation (if the quantity produced is insufficient), or price dispersion without a change in the central tendency of prices (as overproduced goods are bid up while goods in surplus cheapen).
I don’t want to overstate this: I think aggregate demand is a useful simplification, and that, ceteris paribus, we do want to support aggregate demand. But we have to do so in away that is attentive to the quality of production that serves that demand.
Right now I agree that consumer goods inflation is not an issue, and for the moment if we just gave everyone money or a job or whatever, depressed animal spirits and China and a housing stock surplus would help us avoid much of the immediate price appreciation one could imagine would occur. But economies are symphonies that play out over time, and if we are incautious with how we put people to work in order to pay them, we run the risk of creating skillsets and habits that will leave us ill-prepared as events continues to unfold.
That applies, by the way, to the private sector as much as the public. After all, it is the private sector that left us with a forseeable glut of difficult-to-employ former construction workers.
And if we do nothing, or just have governments fire people, we run the risk of creating ill-fed, depressed couch potatoes. We have to be smarter than any of that. Easier said than done, I know, and easy to be a critic, but nevertheless it’s true.
p.s. my apologies to Rob Parenteau for misstating the provenance of the austerians!
June 18th, 2010 at 11:49 pm PDT
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Winterspeak — I agree very much that government subsidies of insider banks and unions is corrosive to legitimacy and a terrible form of stimulus.
And one of the few forms of general stimulus I’d support are broad, relatively flat transfers, because they are transparently fair and I think informationally helpful in terms of making manifest unexpressed “shadow demand” that could be useful for guiding forward-looking business plans. I’d prefer simple flat payments to people irrespective of employment status to a payroll tax holiday. I’d support a payroll tax holiday as a decent substitute in an imperfect world, but I’d really prefer transfers not linked to payroll taxes both for broader coverage and to avoid complicated interactions with the future politics of entitlements.
June 18th, 2010 at 11:57 pm PDT
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Yancey — Great minds think alike. (By that I mean you and Winterspeak, see my comment above. I’m just along for the ride.)
June 18th, 2010 at 11:59 pm PDT
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Andy — Re the “reality” of second order costs, fair point. You are write. I am asserting and arguing that these costs exists, and trying to point out what I think they are. But as you underline, I acknowledge that they are hard to quantify, and that their are countervailing benefits. I can’t cite anything more persuasive than my own intuition to prove these costs are “real” in net terms, although I think they are, or at least they can be if we are incautious about how we let governments spend.
I think that’s important to emphasize. I don’t think “government spending” has costs and benefits that we have to weigh in order to decide whether to spend. I think different sorts of government spending have different kinds of costs and benefits, and rather than talking about whether to spend or cut we should be talking about how to spend or cut to minimize the costs and maximize the benefits. I just think arguing over whether and how much to spend is the wrong question, we should be talking about how to use resources wisely.
But your (more recent) point is well-taken, that how might be a hard problem, and if you see the “second-order costs” as negligible, than it’s certainly reasonable not to let the best be the enemy of the good and just spend to go for the benefits. I don’t see the costs as negligible, but I don’t think we have a normative way to resolve the question. I will still try to persuade you of my views, though.
I agree with you that credibility costs have to be factored into the optimality of lying. It is optimal to lie well, but not poorly. There is perhaps an evolutionary process at work.
As to the direction of the lie, I’ve suggested a “model” under which the fact of stimulus is associated with short-term benefits but the perception of stimulus is associated with short-term costs. Under that, a short-horizon optimizer stimulates but pretends austerity. That’s my read of how the world is working now, but different views would lead to different models under which different lies would be optimal.
Truth, of course, would only be optimal by coincidence, unless credibility costs are high and it is very difficult to lie well. But then the world is so full of such talented people and complicated arrangements…
June 19th, 2010 at 12:30 am PDT
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There are two separate issues:
1) Does Govt Borrowing, in and of itself, have a useful role in Reflation?
2) If you answer 1 in the affirmative, what should Govt do with the money?
Govt Borrowing in a downturn allows you to not increase taxes during a downturn, and reinforces the monetary policy of Reflation by creating expectations of Inflation. The Govt should fight a Savings Spree by having a Social Safety Net that helps people through the crisis and fights the fear of losing one’s job and being indigent ( I favor a Negative Income Tax. ). The Govt should then use Incentives and Disincentives to combat the Flight to Safety and Savings Spree and Proactive Downsizing. It can usefully:
A. Have a Sales Tax Holiday.
B. Have a Payroll Tax Holiday.
C. Have a Dated Coupon.
D. Have a Tax Break for Hiring.
E. Have a Tax Break for Investment.
F. Invest in projects that make sense on their own terms. This might well be a Placebo that works by adding confidence in the future as well employing some people who would be otherwise using the Social Safety Net. I think the earlier recommendations should outweigh this spending.
G. Use Monetary Policy to raise long term interest rates to Incentivize Investment, while keeping short term rates low as a disincentive. Of course, you don’t want long term inflation to be too high. I don’t think 4% to 5% rates are unreasonable, and even 6% might be worthwhile.
H. However uncertain, you’re also going to have to assess how things are going in the real world and make changes based upon what you see as best you can. That doesn’t bother me, since it’s the best we can do.
In sum, I think I agree with Andy Harless, but also can’t disagree with your main point about Govt Spending. It is not in our interest to have Infrastructure Spending turn out to be a boondoggle in the future. That actually goes against the point of the Placebo, which is based to some extent on trust in govt.
All these issues are usefully addressed in Milton Friedman’s A Monetary and Fiscal Framework for Economic Stability. My views are based upon Irving Fisher’s The Debt-Deflation Theory of Great Depressions. As near as I can tell, it has served me well.
June 19th, 2010 at 12:37 am PDT
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Steve,
Thanks for the clarification on your opening paragraph. The concept is simple enough but the language threw me off a little.
I love your comments 64 & 65, I think they sum up your views (and mine) nicely.
I especially like the following line, “Neither our current private sector or public sector are capable of managing the complexity of our economy even tolerably well. (not, I think, because the economy has grown too complex, but rather because our institutions have grown too stupid.)”
I think our public and private institutions have caught themselves in a sort of corruption feedback loop. Private decision makers are no smarter then public decision makers. Mainly the private market works because failure is punished. Managers who don’t turn a profit are replaced and companies that suffer consistent losses face bankruptcy. However, many of these self correcting mechanisms have been eliminated or reduced by the private sector, mainly certain influential sectors and firms, having inordinate influence in government allows them to receive explicit (TARP) and implicit (Greenspan put) subsidies & bailouts. Thus there really is no invisible hand disciplining the free market, and it simply becomes a collection of powerful, centralized decision makers with no market feedback with which to make decisions (exactly what we didn’t like about government making decisions).
Just as the private sector has bankruptcy to correct bad decision making, the public sector has elections. However, this correction mechanism, which was already pretty weak compared to the profit motive, has been damaged as well. Powerful interests have figured out that its easy to buy enough influence in politics to give themselves special advantages, which only makes them more powerful over time and able to buy more and more political influence. The concentration of private wealth corrupts the public sector, and the corrupt public sector interferes with the private sector decision making process making concentrated powercenters more powerful.
I don’t know the solution to that feedback loop. I would imagine it would have to come from the public sector, as at the end of the day they’ve got the currency, the law, and the guns. The public sector is the only one with the power and interest to break the cycle. A true trust busting crusader. Unfortunately, I just don’t see it happening, but I hope I’m wrong.
In your OP you mentioned lying may be the optimal solution sometimes. I’m not so sure. Trust will be a critical component of any serious reform, people won’t support big public sector changes without trust. I think the lying and cynicism has destroyed the currency of trust people have with their government and made it hard to do things. Myself, I’ve reached the cynical stage where I just hope for gridlock so they can’t screw things up much worse.
P.S. I’m skipping over a lot here. Public goods that only makes sense for the public sector to provide. Helpful guiding regulation that can enhance private sector decision making. But that all a sideshow compared to the issue listed above.
June 19th, 2010 at 12:40 am PDT
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John — I agree with your comment in its entirety, it’s one of those “couldn’t have said it better myself” moments, although perhaps that is not saying very much.
I seem to have left lots of people with the misapprehension that I think private sector allocation is necessarily better than public sector allocation. This is about the fifth time in these comments, but I’ll disown that again. I don’t think that it is possible for private sector allocation to be better than public allocation or vice versa, that the two forms of allocation under the best of circumstances are likely to have different spheres of relative competence and sometimes allocation decisions should take inputs from both spheres. I pointed out that a potential second-order cost is worse public sector allocation than would have occurred without intervention, but that was not intended to say public sector allocation is necessarily poor, only that it can be and we should try to tailor public expenditures to avoid that. I agree with your diss of the private sector: it’s hard to imagine governments doing much worse than the private financial system has done over the last decade.
I also agree with your deeper points, that what we really need to do is rethink the roles of private and pubic sector allocation (as well as to find ways to improve the currently abysmal quality of both). That will reopen pre-Washington-Consensus debates about industrial policy, dirigisme, state capitalism, etc. I hope we don’t mimic China, but what we’ve been doing hain’t working.
And I agree with you about the importance of the current account (and mostly disagree with the MMT view on that). Putting CA concerns together with dirigisme, I favor capital controls to enforce overall balance…
Anyway, great comment.
June 19th, 2010 at 12:44 am PDT
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i’m convinced; count me among the Stimulati :P
on that note, re: stimulating well, i thought this “Blueprint America: Dubuque” report (by miles o’brien!) was pretty illuminating…
also btw, i was wondering if you’d care to weigh in on caballero’s ‘safe asset’ shortage (cf. wilmot’s missing asset class hypothesis ;) which has gained a bit of traction [1,2,3] esp w/ delong picking it up; my (entirely unsubstantiated!) contention being, of course, that it’s the shortage of sustainable communities that is the (real :) safe asset class that is missing…
stimulatte!?
June 19th, 2010 at 1:49 am PDT
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anon — I think I’m apt to blur the lines between or consolidate central banks and governments than you are. I see monetary and fiscal policy as largely substitutable, at least given the full operational capacity of a central bank and the power of governments to mint tender directly. In practice, there are important legal and institutional constraints, which is what you emphasize. Still, I think central banks have been instruments of fiscal policy during the crisis, and will continue to do so in extremis. Central banks can only “exit” by asset swaps to the degree they don’t take credit losses. If they take on credit risk, especially at subsidizing prices, and take losses, they (or a reimbursing Treasury) will effect a transfer just as Congress could, though likely to different parties than Congress would. I think also that the relationship between central banks and governments isn’t accurately analogized to a household and its bank. Central banks are not nearly that independent of their governments.
I agree with you about the hazards of replacing a perhaps arbitrary and archaic institutional and analytic framework with a perspective under which the constraints on issuing debt and currency, while acknowledged, are very loosely specified. MMT may have a lot of analytical power and insight, but that’s a different question for whether it could serve as the ideology of a successful monetary system. There’s an analogy to a fallacy of mainstream economics, that more options are always better. A wise policy maker would always do better in an MMT-justified world, because MMT acknowledges inflationary and real economy constraints but offers greater flexibility in fiscal/monetary policy that an artificially constrained view of public finance. Wise policymakers have more options under MMT. However, the arguably false ideology that emphasizes constraints typical of a household or business limits policymaker choice. Sometimes that undoubtedly prevents good policy from happening, but at other times it prevents bad policy, and it may be true that the less accurate analytical perspective is the better ideology in terms of real world political outcomes.
I don’t like cuts on progressive taxes. I think that wealth and income disparities that rise in a boom should fall in a crash if the boom turns out to have been unwarranted, and that taxation and inflation are blunt but reasonable way of trying to accomplish that. Money spent or foregone by government as “stimulus” should, I think be dispersed as widely and flatly as possible.
June 19th, 2010 at 2:32 am PDT
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Don — Most (though not all) of your suggestions are what I consider one of the most conservative forms of stimulus, very widespread, not particularly targeted tax breaks. It’s easy for those to be perceived as legitimate (the government taking less money is presumptively legitimate somehow), and as an informational matter it mostly punts the choices to the private sector. I’m usually okay with this style of stimulus, although I’d prefer governments just cut identical checks to people rather than offering subsidies to businesses or only to people who are employed. Of the proposals you suggest, I like the sales tax holiday best for that reason.
What about “austerity” though. Take Indy’s point above. Suppose there are public employees who are very generously paid for very little work. Should governments not try to address that in a recession for fear of the contractionary effect of ending the makework?
June 19th, 2010 at 2:46 am PDT
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Dave — I just want to emphasize that “lying is optimal” was meant to refer to optimality for policymakers, not optimal in terms of social welfare. I think we should expect policymakers to lie, because their circumstance practically demand it, it is the optimal choice for them. With respect to trust, again, for policymakers who are good liars, that’s a tragedy of the commons. Over time, people come to distrust politicians, and that’s bad for all of them. But it never makes sense for any one to tell the truth if they think they can get away with the lie.
June 19th, 2010 at 2:53 am PDT
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Glory — I don’t like Caballero’s idea.
Rather than talk about a shortage of AAA, we should be economist-y and let price adjust. If there is a shortage, why don’t yields just go to zero?
There is a shortage of AAA assets at yields investors demand/are accustomed to. There is a shortage of iphones for $5, but that doesn’t mean governments should make or encourage others to make them.
Of course AAA assets are different than iphones. Mostly they are worse. Ultimately Caballero wants the public sector to bear the risk of a new run of yieldy AAA assets. Sure, he’ll let private parties suffer when a concoction fails idiosyncratically while everyone else is well, but AAA securitizations are designed precisely so that doesn’t happen. Diversification works against idiosyncratic risk. Ultimately Caballero suggests public sector risk bearing to accommodate private savers’ risk aversion. I don’t think private savers’ risk aversion should be accommodated in unlimited quantity. (In fact, I think savers’ access to sovereign or guaranteed assets should be strictly rationed.) Capital market quality depends on private-sector risk-bearing, and those who wish to save should not be able to avoid contributing to the capital allocation process and expect transfers by the state to make them whole if other peoples’ work on their behalf fails.
June 19th, 2010 at 3:06 am PDT
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Net financial saving is nothing more nor less than private
sector accumulation of public sector paper? Well, it’s easy
to win an argument when you get to define what the words
mean. S-I>0. It’s a kind of economic LaGrange’s equation,
isn’t it, where savings is potential energy and investment
is kinetic energy and >0 is =0. If Parenteau’s/Auerback’s
definition of savings is your starting point then
existence is dismal, never mind the economic outlook.
A bet. Deficit spending may, if done right as, Steve
repeatedly cautions, be helpful but what is necessary( an
identity even) is that production exceed consumption. This
will be tough to do in competition with the germans
and chinese( and japanese and koreans and hindus…) but
that’s the solution. In fact, I’ll wager in this regard
that a value added tax will be instituted by this congress
which accidently on purpose falls most heavily on sectors
most dominated by imports. They’re already test marketing
the idea.
June 19th, 2010 at 3:42 am PDT
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Steve – First thanks for another remarkably insightful post.
While I think you add a great insight in the manner in which you present the apparent optimality of lying from the point of view of policymakers I see two possible omissions:
1) Presenting it as “stimulate while pretend austerity”, seemingly to get the best of both worlds, implies, I think, a considerable degree of good intentions for a general societal benefit (even if it is primarily for the convenience of policymakers) that I assert is contrary to most available evidence. Details of the conduct of the bailouts have been and continue to be dissected ad nauseum, so I omit said evidence. Still, if you disagree, I would welcome such a discussion for the further insights it is likely to produce (presumably in a separate thread.) The very deliberate and massive forced upward transfer of wealth is obscene and sickening indeed. In this context I think the optimality of lying is substantially the same as it would be for the common fraudster.
2) Even assuming the mythical well-intentioned policymakers, I think the societal costs within the lifetime of said policymakers can accumulate to such an extent as would make them personally miserable, if not worse. While we can’t predict precisely, we do know from extensive experience of the dangers. Tangled webs, social cataclysms, world wars and all. I can see that as a convenient rationalization and no more.
This also brings to mind the terrible bind we’re in, which you allude to. We need bold action, but current decision makers have been shown to be so corrupt (even if one cares to graciously give them the benefit of the doubt that they actually believe the rationalizations and assorted mental gymnastics they engage in regarding the greater good that somehow never seems to materialize), that it seems as close to certain as you can get about the future that any such action will so favor entrenched wealthy interests as to be highly destructive overall.
As always, I welcome your comments,
P.S. Kudos especially for your sophisticated discussion of the second-order effects of poor stimulus (the proverbial ditch-digging) on the individuals involved as well as the beneficial effects of a gainful pay-check, etc. given our deeply entrenched culture. Such insights are as uncommon as they are worthwhile.
June 19th, 2010 at 4:13 am PDT
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Re: government and central bank functionality
The 1st gear central bank functionality is to serve as a source of deficit financing through required reserve (if any) and currency issuance. This is endogenous – determined by the market.
The 2nd gear functionality is to transform risk by swapping risk free assets for risky assets (Fed crisis mode). This is exogenous – determined by the central bank.
The 3rd gear functionality is to become the LLR function for fiat deficits. This is always implied; rarely activated. It is also equivalent to the MMT “no bonds” proposal.
1st gear is an autopilot fiscal input.
2nd gear is fiscal only insofar as risk of losses and actual losses are concerned.
3rd gear is full throttled fiscal.
There is widespread misunderstanding of the likely fiscal impact of 2nd gear. The US will recoup most of TARP.
3rd gear is also misunderstood to the degree that it is only a remote policy option.
June 19th, 2010 at 7:49 am PDT
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[…] Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar Steve Waldman […]
June 19th, 2010 at 8:27 am PDT
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anon@55:
”
Most of this is not net saving for the non government sector. It consists of financial liabilities of non government institutions.
”
You are right. The government deficit is around $10T currently, I believe.Thanks for the correction.
June 19th, 2010 at 10:01 am PDT
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Steve:
Thanks for your comments and time !
”
Pushing government spending and making the content of that spending a secondary consideration is like pushing banks to generate mortgage-backed securities while leaving the content of those securities a secondary consideration.
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Very apt analogy, especially in the light of the CDO/CDS debacle on more fronts than one:
dubious ratings(Moody et al), dubious math (relying on Gaussian copula and faulty correlation estimates, thus “legitimizing” the creation AAA out of junk), dubious trading practices(witness GS et al), naked CDS gambling).
June 19th, 2010 at 10:29 am PDT
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The rough consensus among Krugman and his peers seems to be spend on: (1) aid to states so they can avoid pro-cyclical layoffs of teachers, cuts in public transit, medicare, etc. (2) clean energy. I like this post, but the railing against pro-stimulus forces for not being specific puzzles me given that they often are quite specific.
June 19th, 2010 at 12:07 pm PDT
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“Rather than talk about a shortage of AAA, we should be economist-y and let price adjust. If there is a shortage, why don’t yields just go to zero?
There is a shortage of AAA assets at yields investors demand/are accustomed to. There is a shortage of iphones for $5, but that doesn’t mean governments should make or encourage others to make them.” — Steve Waldman
I think this may just be wording that is unclear to people who are not professional economists specializing in this narrow area.
Here’s what I think he might mean:
There are not enough AAA assets, that are really considered AAA safe by investors, to lure them out of so much purchasing of U.S. government bonds (or demand to purchase U.S. government bonds at a given interest rate), and to lure banks out of letting so much cash just sit in their Fed accounts.
It’s not that supply and demand are not met in the (truly) AAA market; it’s that they’re only met at a total quantity that’s too low to fully stimulate the economy. There’s just too little that ends up being put in AAA and too much put in short term government bonds and Fed accounts, and thus outside of the economy, to create enough aggregate economic demand.
If the quantity of AAA assets (assets truly considered by the market to be AAA) being supplied was say twice as much, then the market would clear, just like it clears now, but at a much lower price (interest rate) and more money would be in the economy paying for investment projects, circulating, and less would be sitting in the Feds coffers outside of the economy. Thus, aggregate demand, which is currently insufficient, would be increased, and GDP and employment would be increased.
So, in other words, he doesn’t mean shortage in the sense of the Soviet Union — at the current price the shelves are empty — he means shortage in the sense that yes the market is clearing; you can buy as much as you want if you pay the prevailing price, but at that current supply and price, there is not enough out there to lure enough money out of the Fed assets and into the economy, even with the Fed setting interest rates on their short term assets as low as they possibly can, about zero.
June 19th, 2010 at 1:12 pm PDT
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“Suppose there are public employees who are very generously paid for very little work. Should governments not try to address that in a recession for fear of the contractionary effect of ending the makework?”
Steve, I need to see figures on this. Locally, my aunt, who was working for the county, had her hours cut back and then was terminated. Her job was given to another county worker who had seniority and was working in another department. It looks to me like the local Main Library has been relying more on volunteers lately and has cut way back on acquisitions. The local public transit is cutting way back, just when you’d hope to have cheap means of transportation for people to take to work and look for jobs. To the extent that you have public employees paid well for little work, anytime is a good time to terminate them. When Govt wastes money, the upshot is that it makes it harder for even worthwhile public works to get funding. Makework doesn’t make sense, either economically or politically. But a Guaranteed Income does, even if it means a few people are left to sit on their ass. Good post and comments! Don
June 19th, 2010 at 3:24 pm PDT
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I agree with Matt, your writing is always good and no need to apologize. However, I disagree with only one of your points: austerity is stupid. How saving and frugality stupid? The government needs to save, stop spending and cut back. When will government debt ever decrease? Answer: never. Governments are wasting their assets and sacrificing the future for present day consumption so they can get re-elected and continue to manipulate the public.
June 19th, 2010 at 4:55 pm PDT
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Then again, we could have more stimulative monetary policy allowing more austere fiscal policy, no lying needed. Yes, at this point it would look lot like fiscal policy depending on which assets they bought and buying treasuries would probably be counterproductive given their high demand, but they could start earning their keep.
June 19th, 2010 at 6:52 pm PDT
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And we haven’t had a stimulus, only the federal picking up the states’ tab which if reduced would be more austere, no need to lie.
June 19th, 2010 at 6:55 pm PDT
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Steve:
Great thread. Like Dave, I especially enjoyed some of your follow-up comments. The constant focus you bring to quality as opposed to quantity is so often MIA in the policy debate.
You commented on Dave’s points (#70) about trust and lying (I’m in his camp there), but not his earlier argument that both public and private decision-making have become much poorer because of a “corruption feedback loop”. When combined with the cumulative and mostly unintentional distortions flowing from the many policy biases and guarantees that could be summed up as the Greenspan put, I think it provides a pretty good explanation of why private and public institutions have “grown too stupid”.
Anyway, love to get your take.
June 19th, 2010 at 11:34 pm PDT
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Terminology proposal: “Stimulationists”
Comment on your post: Of course wise government spending may be beneficial. It’s just that history shows it does not happen very often.
Do you really think the people who said “we are not Japan we have a sound banking system” know better? (Even assuming they don’t push special interests – another unlikely assumption)
Or that any other potential government would know better and devote itself selflessly to “the common good” (as if we knew what that is)?
I think this PsyFiTec entry “nails the problem”: http://www.psyfitec.com/2010/05/laplaces-hammer-end-of-economics.html
June 20th, 2010 at 1:47 am PDT
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Uh, how are these items you list actions of the private sector eliminating and reducing self-correcting mechanisms?
June 20th, 2010 at 8:32 am PDT
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[…] interfluidity » Austerity is stupid, stimulus is dangerous, lying … […]
June 20th, 2010 at 12:06 pm PDT
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[…] Austerity is stupid, stimulus is dangerous, lying is optimal, economic choices are not scalar – via Interfluidity – Austerity is first-order stupid whenever there are people to whom the opportunity cost of providing goods and services that others desire is negative. To some economists, that sentence is a non sequitur. After all, nothing prevents people from providing goods and services for free, if doing the work is more beneficial to them than alternative uses of their time right? Economists who make this argument need to get out more. Doing paid work has social meaning beyond the fact of the activity, and doing what is ordinarily paid work for free has a very different social meaning. It is perfectly possible, and perfectly common, that a person’s gains from doing work are greater than their total pay, so that in theory you could confiscate their wages or pay them nothing and they would still do the job. But in practice, you can’t do that, because if you don’t actually pay them, it is no longer paid work. The nonmonetary benefits of work are inconveniently bundled with a paycheck. Under this circumstance, having the government pay for the work is welfare improving unless the second-order costs of government spending exceed both the benefits to the worker in excess of pay and the benefit to consumers or users of the goods and services purchased. […]
June 20th, 2010 at 2:33 pm PDT
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[…] is a godlike post: http://www.interfluidity.com/v2/862.html people on both sides, stop talking for a sec, and listen. […]
June 20th, 2010 at 6:07 pm PDT
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I too am long precious metals and came across this piece which discusses David Rosenberg’s view that the news out of China today is not very meaningful. He says the risks of deflation will continue to significantly outweigh those of inflation, and as such the policy response will continue to be easy monetary policies. Such an environment would continue to benefit gold, in my view:
http://www.goldalert.com/stories/Gold-Price-Plummets-Chinas-Move-No-Panacea
June 21st, 2010 at 2:36 pm PDT
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I figured you didn’t want to open that can of worms. I’d guess at least a quarter of macroeconomic theory is devoted to what happens when the central bank adds money, and it gets especially complicated when you’re in the middle of a financial crisis. There was another commenter who immediately pointed out a few complications to the theory, but I wanted to give a quick overview for readers who were not familiar with the basic direction of what theory would say. I think the first part about printing money to pay for debts is only controversial with the most vulgar Keynesians. Pretty much everyone else will admit that if you increase the money supply by 500% without any change in money demand, you’ll see some inflation. There’s about a trillion worth of currency kicking around and 8.5 trillion of M2. U.S. debt is around 13 trillion and if you include SS or Medicare, it’s far larger. I’d guess that inflation would be well over 500% (back of the envelope) if Congress ordered the Fed to print $13 trillion worth of currency. Not only would M go up, but V would go up tremendously as China, Saudi Arabia and others fled the dollar. That won’t happen, so it’s really not worth talking about. The USG could easily raise half the debt worth of taxes if they really wanted to over a couple decades.
My assertion that default is deflationary is a bit more controversial. Debt is partially a subsitute for currency. Banks can use it as collateral for lending. You could purchase assets offering debt in exchange. There is almost certainly a Pigou effect when bonds are issued allowing people to “save” (as the MMTers would say). Very high debts might lead to expectations of monetization of that debt, increasing inflation expectations. Default is a way to reduce those expectations. Debt paid by taxes reduces people’s future wealth by the amount of the taxation and so a default would reduce people’s expectations of the future tax level, perhaps generating some supply side effects. Perhaps there is some split between monetization and default that would allow for a stable price in the event of a government not being able to raise enough money to pay for the debt via taxation.
I have three problems with MMTers even though I think their framework for analysis is tremendously useful and insightful. First, I agree with you that their terminology is confusing to someone trained in neoclassical theory. They use savings to mean government debt + currency, whereas a NC economist would consider capital investment to be savings as well. Additionally, deleveraging does not require additional government debt, it could take the form of companies converting debt to equity. I think MMTers get this, they just use different words to say it. Secondly, lenders don’t care about getting green pieces of paper, they care about purchasing power. Unilaterally inflating away debt doesn’t make you insolvent the way a firm or a household would be, but it is a repudiation of your promise to give bondholders something that they could use to buy goods and services. Bondholders should be indifferent between a 50% unilateral default and 100% inflation. Lastly, I get the impression that MMTers don’t take the costs of inflation seriously. It’s not anything explicit, so I don’t consider it a big deal.
June 22nd, 2010 at 4:15 pm PDT
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“Debt paid by taxes reduces people’s future wealth by the amount of the taxation and so a default would reduce people’s expectations of the future tax level, perhaps generating some supply side effects.”
I realized the way I wrote this is misleading. Defaulting reduces the wealth of bondholders and increases the wealth of non-bondholders, so the net is 0. The supply side effects come from reducing the deadweight loss from taxation.
June 22nd, 2010 at 5:23 pm PDT
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Dump your Treasury shorts. That’s the Armageddon hedge. If you win big it won’t matter. If Treasury rates diverge from the inflation rate the game is over. Welcome to the new Middle Ages. Good luck cashing out your account for real green currency.
The time to get short Treacheries is 10 mintues after Ben announces QEII. Wait a few hours, settle your short.. Just like last time.
June 26th, 2010 at 6:11 pm PDT
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I’m puzzled at this belief that MMT’ers “use saving to equate to govt deficits” or similar. We don’t. We are very specific that govt deficits are the equivalent of NET saving for the non-govt sector, not saving. It’s the difference between S-I (net saving) and S (saving). It is true that deficits create S, but they are not the only source of S. They ARE the only source of S-I in an accounting sense (in a closed economy; in an open economy, both deficits and the current account together are the sources–again, in an accounting sense of the term). But anyone suggesting that MMT’ers equate govt deficits and saving has severely misinterpreted MMT.
June 27th, 2010 at 10:32 am PDT
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“Additionally, deleveraging does not require additional government debt, it could take the form of companies converting debt to equity.”
This is a reduction in aggregate debt, but not a net addition to financial equity for the non-govt sector.
June 27th, 2010 at 12:37 pm PDT
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Steve – Good to see you posting again.
Re: MMT – As I just explained to someone over on Naked Capitalism, it seems to me that a lot of people are confused on the difference between an equation and an identity. An identity is true by definition, because of the way that its terms are defined. For example, Assets – Liabilities = Equity is an identity, as is (X+1)^2 = x^2+2x+1. One does not solve an identity, nor is there any new knowledge to be gained by re-arranging its terms. This is even more problematic in economics, where the terms income, expenditure, savings, and investment have very specific meanings that are often at odds with their more colloquial definitions.
June 27th, 2010 at 4:42 pm PDT
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Steve,
Going off on a tangent here, I think there’s a flaw in your criticism of Caballero. There is unambiguously a shortage of AAA assets at the short end of the maturity spectrum. When you talk about letting the yield go to zero, you’re actually making a statement about the yield curve and not about the credit curve. When we separate the maturity issue from the the credit issue, it is no longer clear that the credit market is not already hitting a non-price constraint (i.e., a shortage in the economic sense). In other words, there are (at least) two things being priced in the bond market, but we only observe (except at the short end) one price. It’s possible (and I would suggest, likely) that that observed price reflects a combination on one unobserved price that is already at a constraint and one that is not.
June 28th, 2010 at 4:27 pm PDT
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Scott Fullwiler: That’s a clearer explaination than any I’ve heard. I didn’t get the distinction between savings and net savings, nor have I read anyone who was careful in distinguishing. I don’t agree with the notion that government bonds represent net financial assets, since they are simultaneously a liability in the form of higher expected future taxation. I prefer the term “nominal money balances” to “net financial assets”.
I agree with your second point. I was trying to say that MMT uses different terminology. Deleveraging means reducing the debt to equity ratio to some people.
June 29th, 2010 at 2:59 pm PDT
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[…] Parenteau is the originator and first user of the clever term “Austerian”, which I erroneously attributed to Mark Thoma. Thoma never claimed parentage. I first encountered the term on his blog and a quick […]
June 29th, 2010 at 10:48 pm PDT
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azmyth,
We’ve made this distinction since the 1990s, at least. It`s everywhere in our publications.
Regarding govt bonds, the point is that the bond is a liability to the govt and an asset to the non’govt. That is a net financial asset for the non govt, as opposed to, say, a corporate bond for which both the liability and asset can stay on non’govt balance sheets.
Regarding expected higher future taxation, I don`t find Ricardian equivalence an even remotely reasonable description of reality. The US paid off all of its debt in 1835, then began running deficits in 1836 and has had a positive national debt ever since. We`re now up to great great great great great or whatever grandchildren still waiting for their taxes to rise so that the national debt incurred starting in 1836 can be paid off.
Yes, deleveraging can definitely mean reducing debt-equity ratio. But deleveraging doesn`t necessarily raise net financial assets. I think we agree, but were just emphasizing different points there.
Best,
Scott
June 30th, 2010 at 4:43 am PDT
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[…] Steve Waldman has a very good post this week about the folly about the austerity vs non-austerity discussion which seems to be going the rounds at the moment. In fact, it you take a mental picture of the current financial market discourse most arguments can be bracketed along the two axes of austerity vs non-austerity (as a matter of preference) and inflation vs deflation (as a matter of prediction). Note in particular the following from Steve; I think the austerity debate is unhelpful. There are complicated trade-offs associated with government spending. If the question is framed as “more” or “less”, reasonable people will disagree about costs and benefits that can’t be measured. Even in a depression, cutting expenditures to entrenched interests that make poor use of real resources can be beneficial. Even in a boom, high value public goods can be worth their cost in whatever private activity is crowded out to purchase them. Rather than focusing on “how much to spend”, we should be thinking about “what to do”. My views skew activist. I think there are lots of things government can and should do that would be fantastic. A “jobs bill”, however, or “stimulus” in the abstract, are not among them. If we do smart things, we will do well. If we do stupid things, or if we hope for markets to figure things out while nothing much gets done, the world will unravel beneath us. We have intellectual work to do that goes beyond choosing a deficit level. The austerity/stimulus debate is make-work for the chattering classes. It’s conspicuous cogitation that avoids the hard, simple questions. What, precisely, should we do that we are not yet doing? What are the things we do now that we should stop doing? And how can we make those changes without undermining the deep social infrastructure of our society, resources like legitimacy, fairness, and trust? […]
June 30th, 2010 at 1:01 pm PDT
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Something must have gone wrong with my old RSS feed as you were no longer showing up and I hadn’t noticed. Maybe you are posting too little, but I prefer quality and I no longer read great blogs like Zero Hedge, Ritzholz, Calculated Risk, and Marginal Revolution for being too prolific. I’m thinking of ditching DeLong.
But to the point: have you seen Koo’s argument? Being, we are at a point where the quality of spending is not important. This comes later. Japan has reached the point when quality is important, but the USA is at a point where quantity is the issue.
June 30th, 2010 at 9:48 pm PDT
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Another way to look at the costs of stimulus is that maximum supply meeting maximum demand may not be the maximize true aggregate welfare (depending on what norms one applies). To put it in short form, I’ll borrow the Larry Summers quote: “THERE ARE IDIOTS. LOOK AROUND!” Let’s say some folks love producing and other folks love consuming an environmentally destructive and generally pointless good that imposes huge negative externalities on people outside the transaction. We could call it “the Hummer H2”. Is a huge level of supply for this good meeting a huge level of supply for this good the socially optimal result? How do we prevent government stimulus from generating stupid supply and demand with long term harmful effects? Alternatively, how do we prevent the nanny state from dictating forms of production and consumption that satisfy elite conceptions of rationality but do not serve the rational interests OR subjective desires of the great mass of consumers and producers? This is a balancing act not discussed enough in stimulus/austerity debates. It’s not simply a matter of producing and consuming as much as possible.
July 1st, 2010 at 12:28 am PDT
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