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February 4, 2013

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Latest Posts from Economist's View


Posted: 14 Jan 2013 12:33 AM PST
Will we learn from Japan?:
Japan Steps Out, by Paul Krugman, Commentary, NY Times: For three years economic policy throughout the advanced world has been paralyzed ... by a dismal orthodoxy. Every suggestion of action to create jobs has been shot down with warnings of dire consequences. If we spend more, the Very Serious People say, the bond markets will punish us. If we print more money, inflation will soar. Nothing ... can be done, except ever harsher austerity, which will someday, somehow, be rewarded.
But now it seems that one major nation is breaking ranks — and that nation is, of all places, Japan. ... Shinzo Abe, the new prime minister, has ... already taken steps orthodoxy says we mustn't take. And the early indications are that it's going pretty well.
Some background: Long before the 2008 financial crisis plunged America and Europe into a deep and prolonged economic slump, Japan held a dress rehearsal in the economics of stagnation. When a burst stock and real estate bubble pushed Japan into recession, the policy response was too little, too late and too inconsistent. ... because it's hard getting policy makers to accept the need for bold action. That is, the problem is mainly political and intellectual, rather than strictly economic. For the risks of action are much smaller than the Very Serious People want you to believe...
Enter Mr. Abe, who has been pressuring the Bank of Japan into seeking higher inflation — in effect, helping to inflate away part of the government's debt — and has also just announced a large new program of fiscal stimulus. How have the market gods responded?
The answer is, it's all good. Market measures of expected inflation, which were negative not long ago — the market was expecting deflation to continue — have now moved well into positive territory. But government borrowing costs have hardly changed at all; given the prospect of moderate inflation, this means that Japan's fiscal outlook has actually improved sharply. True, the foreign-exchange value of the yen has fallen considerably — but that's actually very good news, and Japanese exporters are cheering.
In short, Mr. Abe has thumbed his nose at orthodoxy, with excellent results.
Now, people who know something about Japanese politics warn me not to think of Mr. Abe as a good guy. ... Whatever his motives, Mr. Abe is breaking with a bad orthodoxy. And if he succeeds, something remarkable may be about to happen: Japan, which pioneered the economics of stagnation, may also end up showing the rest of us the way out.
Posted: 14 Jan 2013 12:24 AM PST
Tim Duy:
A Trap of My Own Making, by Tim Duy: Steve Waldman at interfluidity catches me in a trap of my own making. Waldman focuses on this quote of mine:
Ultimately, I don't believe deficit spending should be directly monetized as I believe that Paul Krugman is correct - at some point in the future, the US economy will hopefully exit the zero bound, and at that point cash and government debt will not longer be perfect substitutes.
Waldman has two responses. The first:
Consistent with the "Great Moderation" trend, the so-called "natural rate" of interest may be negative for the indefinite future, unless we do something to alter the underlying causes of that condition. We may be at the zero bound, perhaps with interludes of positiveness during "booms", for a long time to come.
I suppose this is why I added the modifier "hopefully." I am no stranger to concerns that the economy is locked on the zero bound for a long, long time.
The second response is this:
What I am fairly sure won't happen, even if interest rates are positive, is that "cash and government debt will no[] longer be perfect substitutes." Cash and (short-term) government debt will continue to be near-perfect substitutes because, I expect, the Fed will continue to pay interest on reserves very close to the Federal Funds rate.
I call this a trap of my own making because I was headed in this direction:
If you follow Ip's analysis through to its logical conclusion, then why should the Treasury issue debt at all? Why not just issue platinum coins? Could cash and government debt combine to serve the same functions together that they serve separately? Consider the disruptiveness of that outcome to the status quo.
Compare to Waldman:
Printing money will always be exactly as inflationary as issuing short-term debt, because short-term government debt and reserves at the Fed will always be near-perfect substitutes.
So, why did I back away from that direction? Because it ended me up at the same place as Waldman:
What used to be "monetary policy" is necessarily a joint venture of the central bank and the treasury. Both agencies, now and for the indefinite future, emit interchangeable obligations that are in every relevant sense money.
A key part: "joint venture" disrupts the status quo. The ability to pay reserves and the subsequent equivalency of debt and cash moves us one step closer to the elimination of monetary policy independence. Coordination is necessary not only, as I have argued, conditionally, but always. This works - by works I mean does not generate hyperinflation - so long as both share the same objective function, which I think they do at the zero bound (even if they pretend that don't have the same objective function). But it is not evident that this will be the case away from the zero bound, which is why we place value on central bank independence.
I think what I had in mind is this (and I admit that I am not wed to this, a little open-microphone now): The Fed has a portfolio of bonds which is a indirect transfer from Treasury which in turns allows it to pay interest on reserves. Lacking such a portfolio, the Fed would need to receive a direct transfer from the Treasury to pay interest on reserves. Operationally, these are the same. As long as both have the same objective function, it makes no difference if the Treasury's transfer goes through the middleman of a bond or just directly to the Fed. But what if the Treasury does not have the same objective function, does not want higher interest rates, and thus does not want to transfer the resources to the Fed? What claim does the Fed have on the Treasury to force it to act?
Somewhere in this space is why we have come to accept the importance of an independent central bank. Indeed, this is a concern should the Fed need to pay interest on reserves that exceed the interest earned on its bond portfolio. Then the Fed would need to turn to the Treasury and say "Remember when we paid you $89 billion? Well, we need some of that back now."
Ultimately, though, I have to agree with Waldman when I allow for the two authorities to have the same objective function. This is another way of saying that one side effect of the zero bound is the blurring of what many thought were sharp lines between fiscal and monetary authorities.
Posted: 14 Jan 2013 12:06 AM PST
Posted: 13 Jan 2013 09:36 AM PST
Paul Krugman:
... I get calls. The White House insists that it is absolutely, positively not going to cave or indeed even negotiate over the debt ceiling — that it rejected the coin option as a gesture of strength, as a way to put the onus for avoiding default entirely on the GOP. Truth or famous last words? I guess we'll find out.
The problem is that the White House's definition of what it means to cave may be quite different from my own. If the White House believes entitlements need to be cut, and agrees to "strengthen" programs in this way, is that a cave? Maybe the "or even negotiate" clause covers this, but I'm wary.

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