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March 31, 2014

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Paul Krugman: Jobs and Skills and Zombies

Posted: 31 Mar 2014 12:24 AM PDT

There is no skills gap:

Jobs and Skills and Zombies, by Paul krugman, Commentary, NY Times: A few months ago, Jamie Dimon, the chief executive of JPMorgan Chase, and Marlene Seltzer, the chief executive of Jobs for the Future, published an article in Politico titled "Closing the Skills Gap." They began portentously: "Today, nearly 11 million Americans are unemployed. Yet, at the same time, 4 million jobs sit unfilled" — supposedly demonstrating "the gulf between the skills job seekers currently have and the skills employers need."
Actually,... multiple careful studies have found no support for claims that inadequate worker skills explain high unemployment.
But the belief that America suffers from a severe "skills gap" is one of those things that everyone important knows must be true, because everyone they know says it's true. It's a prime example of a zombie idea — an idea that should have been killed by evidence, but refuses to die.
And it does a lot of harm. ...
So how does the myth of a skills shortage ... persist...? Well, there was a nice illustration of the process last fall, when some news media reported that 92 percent of top executives said that there was, indeed, a skills gap. The basis for this claim? A telephone survey in which executives were asked, "Which of the following do you feel best describes the 'gap' in the U.S. workforce skills gap?" followed by a list of alternatives. Given the loaded question, it's actually amazing that 8 percent of the respondents were willing to declare that there was no gap.
The point is that influential people move in circles in which repeating the skills-gap story — or, better yet, writing about skill gaps in media outlets like Politico — is a badge of seriousness, an assertion of tribal identity. And the zombie shambles on.
Unfortunately, the skills myth — like the myth of a looming debt crisis — is having dire effects on real-world policy. Instead of focusing on the way disastrously wrongheaded fiscal policy and inadequate action by the Federal Reserve have crippled the economy and demanding action, important people piously wring their hands about the failings of American workers.
Moreover, by blaming workers for their own plight, the skills myth shifts attention away from the spectacle of soaring profits and bonuses even as employment and wages stagnate. Of course, that may be another reason corporate executives like the myth so much.
So we need to kill this zombie, if we can, and stop making excuses for an economy that punishes workers.

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Posted: 31 Mar 2014 12:03 AM PDT

The Two Percent *Ceiling* for Inflation

Posted: 30 Mar 2014 11:10 AM PDT

The Fed has consistently missed its inflation target:

Monetary Policy And Secular Stagnation, by Atif Mian and Amir Sufi: ...The Fed's goal is to achieve the target of 2% inflation in the long-term, and its preferred price index is the core personal consumption expenditure price index that excludes the volatile food and energy sectors (or core PCE for short). So how has the Fed performed in achieving its target of 2% inflation in the past 15 years?

Ch1_20140325_1

The chart above plots the implied core PCE index if inflation had met its 2% target (red line), and the actual core PCE index (blue line) starting from 1999. ... The divergence between target and actual inflation is all the more striking given the elevated rate of unemployment during the sample period. ...
It is hard to fault the Fed for not trying... The Fed's difficulty in maintaining a 2% target is not just about the Great Recession. The divergence started in the 2000′s... In fact the only period when the blue line runs parallel to the red (implying a 2% rate of inflation for a while) is the 2004-2006 period when the economy witnessed an unprecedented growth in credit. ...
What we are witnessing is the limit of what monetary policy alone can do. Sometimes there is a tendency to assume that the Fed can "target" any inflation rate it wishes, or that it can target the overall price level – the so-called nominal GDP targeting. The evidence suggests that the Fed may not be so omnipotent. ...

Another interpretation is that, at least during normal times, the Fed does have quite a bit of control over the inflation rate, but it treats 2% inflation as a ceiling (i.e. inflation must never rise above 2%) rather than a central tendency (i.e. inflation is allowed to fluctuate both above and below the 2% target so that, on average, inflation is 2%).

March 30, 2014

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Posted: 30 Mar 2014 12:06 AM PDT

'The Skills Zombie'

Posted: 29 Mar 2014 08:40 AM PDT

Paul Krugman:

The Skills Zombie: One of the most frustrating aspects of economic debate since 2008 has been the preference of influential people for stories about our troubles that sound serious as opposed to those that actually are serious. The reality, all along, has been that our economy is depressed because there isn't enough spending... But policymakers and pundits want to hear about tough decisions and hard choices, and they just recoil from any suggestion that terrible problems might have easy answers.
The most destructive example is, of course, the deficit obsession... The deficit obsession has faded a bit; but we still have others..., namely, the notion that we have big problems because our work force lacks essential skills.
This is very much a zombie doctrine — that is, a doctrine that should be dead by now, having been repeatedly refuted by evidence...
Yet the skills story just keeps showing up in supposedly informed discussion. Again, I think that this is because it sounds like the kind of thing serious people should say.
The sad truth is that while disasters brought on by inadequate demand have an easy economic answer — just spend more! — the psychology of policy elites is such that they generally refuse to believe in this answer, and look for tough choices to make instead. And the result is that unless something comes along to jolt them out of that mindset — something like a war — the slump goes on for a very long time.

I think there is also a prefeence for explanations and policies that won't take money out of their (VSP's) pockets. "Tough choices" = things that are hard for other people.

March 29, 2014

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Posted: 29 Mar 2014 12:03 AM PDT

'Save Capitalism from the Capitalists by Taxing Wealth'

Posted: 28 Mar 2014 12:14 PM PDT

Thomas Piketty:

Save capitalism from the capitalists by taxing wealth, by Thomas Piketty, Commentary, FT: The distribution of income and wealth is one of the most controversial issues of the day. ...
America ... was conceived as the antithesis of the patrimonial societies of old Europe. ... Until the first world war, the concentration of wealth in the hands of the rich was far less extreme in the US than Europe. In the 20th century, however, the situation was reversed.  ... US income inequality has sharpened since the 1980s, largely reflecting the huge incomes of people at the top. ...
The ideal solution would be a global progressive tax on individual net worth. ... This would keep inequality under control and make it easier to climb the ladder. And it would put global wealth dynamics under public scrutiny. The lack of financial transparency and reliable wealth statistics is one of the main challenges for modern democracies. ...

There's quite a bit more in the article.

March 28, 2014

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Posted: 28 Mar 2014 12:06 AM PDT

Paul Krugman: America’s Taxation Tradition

Posted: 28 Mar 2014 12:06 AM PDT

"Confiscatory taxation" was an "American invention":

America's Taxation Tradition, by Paul Krugman, Commentary, NY Times: ...Some conservatives argue that focusing on inequality is ... un-American — that we've always celebrated those who achieve wealth...
And they're right. No true American would say this: "The absence of effective State, and, especially, national, restraint upon unfair money-getting has tended to create a small class of enormously wealthy and economically powerful men, whose chief object is to hold and increase their power," and follow that statement with a call for "a graduated inheritance tax on big fortunes ... increasing rapidly in amount with the size of the estate." 
Who was this left-winger? Theodore Roosevelt, in ... 1910...
The truth is that, in the early 20th century, many leading Americans warned about the dangers of extreme wealth concentration, and urged that tax policy be used to limit the growth of great fortunes. Here's another example: In 1919, the great economist Irving Fisher ... devoted his presidential address to the American Economic Association largely to warning against the effects of "an undemocratic distribution of wealth." And he spoke favorably of proposals to limit inherited wealth through heavy taxation of estates.
Nor was the notion of limiting the concentration of wealth, especially inherited wealth, just talk..., "confiscatory taxation of excessive incomes" — that is, taxation ... to reduce income and wealth disparities, rather than to raise money — was an "American invention."...
Back when Teddy Roosevelt gave his speech, many thoughtful Americans realized ... that the New World was at risk of turning into Old Europe. And they were forthright in arguing that public policy should seek to limit inequality for political as well as economic reasons, that great wealth posed a danger to democracy. ...
You sometimes hear the argument that concentrated wealth is no longer an important issue... But ...... the share of wealth held at the very top ... has doubled since the 1980s, and is now as high as it was when Teddy Roosevelt and Irving Fisher issued their warnings. ...
We aren't yet a society with a hereditary aristocracy of wealth, but, if nothing changes, we'll become that kind of society over the next couple of decades.
In short, the demonization of anyone who talks about the dangers of concentrated wealth is based on a misreading of both the past and the present. Such talk isn't un-American; it's very much in the American tradition. And it's not at all irrelevant to the modern world. So who will be this generation's Teddy Roosevelt?

'The Misuse of Theoretical Models in Finance and Economics'

Posted: 27 Mar 2014 11:18 AM PDT

 Stanford University's Paul Pfleiderer:

Chameleons: The Misuse of Theoretical Models in Finance and Economics, by Paul Pfleiderer, March 2014: Abstract In this essay I discuss how theoretical models in finance and economics are used in ways that make them "chameleons" and how chameleons devalue the intellectual currency and muddy policy debates. A model becomes a chameleon when it is built on assumptions with dubious connections to the real world but nevertheless has conclusions that are uncritically (or not critically enough) applied to understanding our economy. I discuss how chameleons are created and nurtured by the mistaken notion that one should not judge a model by its assumptions, by the unfounded argument that models should have equal standing until definitive empirical tests are conducted, and by misplaced appeals to "as-if" arguments, mathematical elegance, subtlety, references to assumptions that are "standard in the literature," and the need for tractability.

'Nafta Still Bedevils Unions'

Posted: 27 Mar 2014 10:07 AM PDT

I still believe international trade makes us better off on net, but there are winners and losers from these agreements and we don't do anywhere near enough to help those who are hurt by these deals -- no wonder they are opposed:

Nafta Still Bedevils Unions, by Annie Lowrey, NY Times: Two decades after its enactment, the North American Free Trade Agreement — better known as Nafta — remains a source of deep disagreement among economists.
Maybe it has led employers to add tens of thousands of jobs. Or perhaps it has caused the loss of 700,000 jobs. Maybe it has been "a bonanza for U.S. farmers and ranchers," as the United States Chamber of Commerce has said. But perhaps it has depressed wages for millions of working families. Then again, maybe all sides are wrong: "Nafta brought neither the huge gains its proponents promised nor the dramatic losses its adversaries warned of," wrote Jorge G. CastaƱeda in an essay for Foreign Affairs this winter. "Everything else is debatable."
But for labor groups, there is no debate: Nafta hurt American jobs and household earnings. And the sweeping trade agreement cast a shadow that persists today, spurring deep skepticism of the major trade deals the Obama administration is negotiating with Europe and a dozen Pacific Rim countries. ...
On Thursday, the A.F.L.-C.I.O. released a report excoriating Nafta... Among its conclusions: That Nafta increased corporate profits while depressing wages; that its labor-protection provisions have not improved labor conditions on the ground; that its environmental standards have not protected the environment; and that higher trade flows have not meant shared prosperity. ...

'Why the Income Distribution Matters for Macroeconomics'

Posted: 27 Mar 2014 10:07 AM PDT

Atif Mian and Amir Sufi:

Why the Income Distribution Matters for Macroeconomics, by Atif Mian and Amir Sufi: A central argument we have made on this blog and in our book is that the distribution of income/wealth matters a great deal for thinking about the macro-economy. Convincing some of this fact is not easy...
Perhaps the easiest way to see the importance of the income distribution is to examine how households respond to a windfall of cash or wealth. Do they spend the money, or do they save it? And does the spending response to a windfall of cash depend on the income of the household?
The answer is a resounding yes: low income households spend a much higher fraction of cash windfalls than high income households. In the parlance of economics, low income households have a much higher marginal propensity to consume, or MPC, than high income households.
This is one of the most well-established facts in empirical research in macroeconomics. Here is a summary: ...[reviews evidence]...
The implications of the differences in spending propensities across the population are enormous, especially if we believe that inadequate demand explains economic weakness during severe recessions. For example, facilitating debt forgiveness or progressive fiscal stimulus rebates will likely boost spending during the most severe part of a recession.
But perhaps even more interesting are the implications for the secular stagnation hypothesis, which holds that we are in a long-run stagnating economy because of inadequate demand. Is it a coincidence that the secular stagnation hypothesis is being revived exactly when income inequality is accelerating? If a higher share of income goes to the wealthiest households who spend very little of it, then perhaps these two trends are closely related.

'Redistribution is ... as American as Apple Pie'

Posted: 27 Mar 2014 09:09 AM PDT

Paul Krugman:

What America Isn't, Or Anyway Wasn't: ...one point Piketty makes is that the modern notion that redistribution and "penalizing success" is un- and anti-American is completely at odds with our country's actual history. ... America actually pioneered very high taxes on the rich...
Why...? Piketty points to the American egalitarian ideal, which went along with fear of creating a hereditary aristocracy. High taxes, especially on estates, were motivated in part by "fear of coming to resemble Old Europe." Among those who called for high estate taxation on social and political grounds was the great economist Irving Fisher.
Just to reemphasize the point: during the Progressive Era, it was commonplace and widely accepted to support high taxes on the rich specifically in order to keep the rich from getting richer — a position that few people in politics today would dare espouse.
...redistribution is ... as American as apple pie.

March 27, 2014

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Posted: 27 Mar 2014 12:06 AM PDT

'The EITC Is No Substitute for the Safety Net'

Posted: 26 Mar 2014 10:19 AM PDT

From the CBPP:

Why the EITC Is No Substitute for the Safety Net, CBPP: The Earned Income Tax Credit is a critically important and highly effective part of the safety net, but it can't — and wasn't meant to — stand alone as our answer to poverty, according to our new commentary.  Here's the opening:

House Budget Committee Chair Paul Ryan's recent report on safety net programs rightly praised the Earned Income Tax Credit (EITC) for reducing poverty and promoting work.  But, Ryan's report criticizes much of the rest of the safety net.  And, over the past several years, Chairman Ryan's budget plans have targeted low-income programs such as SNAP (formerly food stamps) and Medicaid for extremely deep cuts.  While it's heartening to hear Chairman Ryan trumpet the EITC's success, the EITC alone can't do what's needed to ameliorate poverty and hardship./p>

The things that the EITC — and its sibling the Child Tax Credit, which helps offset the cost of raising children — can't do without other safety net programs include:

  • help people who are out of work or can't work;
  • help families get health care;
  • help families on a monthly basis;
  • serve as an effective automatic stabilizer for the economy in recessions; and
  • keep large numbers of people out of "deep poverty," or above half the poverty line.

...

Video: Robert Shiller on Market Bubbles – And Busts

Posted: 26 Mar 2014 09:38 AM PDT

March 26, 2014

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Posted: 26 Mar 2014 12:06 AM PDT

Stop Long-term Unemployment Before It Starts

Posted: 25 Mar 2014 04:31 PM PDT

Catherine Rampell:

When long-term unemployment becomes self-perpetuating, by Catherine Rampell, Commentary, Washington Post: Say it with me: The long-term unemployed are not lazy. Nor are they coddled, hammocked or enjoying a coordinated, taxpayer-funded vacation.
They are, however, extremely unlucky — and getting unluckier by the day. ...
It was already known that the longer workers have been out of a job, the lower their chance of finding work in the coming month. The Brookings paper — by the former Obama administration economist Alan Krueger and his Princeton colleagues Judd Cramer and David Cho — took this analysis a step further: What about (gulp) these workers' longer-run prospects?
It turns out that from 2008 to 2012, only one in 10 people who were already long-term unemployed in a given month had returned to "steady, full-time employment" ... a little more than a year later. "Steady" in this case means that they were working for at least four consecutive months. And the other nine in 10 workers? They were still out of work, toiling in part-time or transitory jobs or had dropped out of the labor force altogether.  ...
One implication of the Brookings research is that policymakers should have done more to prevent the short-term jobless from falling into long-term joblessness in the first place. ...

'Democracy, What Is It Good For?'

Posted: 25 Mar 2014 12:02 PM PDT

Democracy is good for growth:

Democracy, What Is It Good For?, by Daron Acemoglu and James Robinson: ...[There is] a consensus engulfing both academia and the popular press that democracy is at its best irrelevant for growth, and perhaps even a hindrance. ...
A recent survey of the recent literature ... concludes:
The net effect of democracy on growth performance cross-nationally over the last five decades is negative or null.
... Our paper ... (joint with Suresh Naidu and Pascual Restrepo) is out, and as the title suggests "Democracy Does Cause Growth, it sharply disagrees with this consensus. ...
Our baseline estimates suggest that a country that democratizes increases its GDP per capita by about 20% in the next 20-30 years. Not a trivial effect at all. ...

In all, the evidence seems to be fairly clear that democracy is good for economic growth.
Why? This is a harder question to answer. Our evidence shows that democracies are better at implementing economic reforms, and also increase education. They also probably increase the provision of public goods (though the evidence here is a little less robust).
But none of this is conclusive evidence. ...

Wanted: A New Approach to Growth Policy

Posted: 25 Mar 2014 08:59 AM PDT

I have a new column:

Broadening the Discussion about Economic Growth, by Mark Thoma: Macroeconomic policy can be divided into two types, stabilization policy that attempts to keep the economy as close as possible to full employment, and growth policy that tries to make the economy expand as fast as possible over time. ...
Prior to the onset of our recent economic troubles, much of the research in economics and much of the political debate was about growth policy rather than stabilization policy. ...
That changed when the Great Recession hit. Suddenly, questions about stabilization policy came to the forefront. ...
Now that we are beginning to come out of the recession ... the focus is once again turning to economic growth. And it's not just the political right that is thinking about the growth question. The left is thinking about growth too. ...
Increasingly, the idea that the ever-growing inequality can be harmful to economic growth has been taking hold. ...
Cutting taxes in the heyday of supply-side economics did not produce robust economic growth and ever lasting prosperity, and it did not solve the problem of rising inequality. If anything it made the problem worse. As we begin to focus on economic growth once again, it's time for a new approach, one that recognizes the advantages of a more equitable distribution of income.

March 25, 2014

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Posted: 25 Mar 2014 12:06 AM PDT

Fed Watch: Williams Acknowledges Forecast Change

Posted: 24 Mar 2014 11:44 AM PDT

Tim Duy:

Williams Acknowledges Forecast Change, by Tim Duy: Earlier today I said:

Fourth, the dots undeniably moved forward and steeper, which means individual outlooks on the definitions of "considerable period" or "accommodative" did in fact change in meaningful ways. I am surprised, however, that this was not anticipated by market participants given the rapid decline in the unemployment rate. Along any given Fed objective function, one would expect that a more rapid decrease in unemployment would move forward and steepen the interest rate trajectory, even if just by 25 or 50pb.

The Washington Post's Ylan Mui had a sitdown with Federal Reserve President John WIlliams:

Logically, given that the unemployment rate is a little bit lower, that suggests a little bit higher interest rate in 2016. Is that a big shift in the timing of the first rate increase? We're talking about a relatively small change in terms of the forecast, and I wouldn't see that as a significant shift.

When I look at the SEP projections for 2015, I just don't see much of a change in the views on policy -- definitely not the kind of change in views on policy that represents some shift in our policy framework. The fact that unemployment has come down since December a little more than we thought, this is not news. Everybody knows that.

Also, regarding financial stability, I said Friday:

In short, if you believe that the Fed will not use monetary policy to address financial stability concerns, I think you might not be paying attention. They are already using monetary policy to address those concerns by not taking more aggressive action. Don't look to what they will do in the future for confirmation; look to what they are not doing right now.

I meant "aggressive action" as policy to speed the pace of the recovery, whereas current policy is geared toward ending asset purchases and paving the way for rate hikes. Williams on the topic:

I think our policies are doing about as well as we can without creating excessive risks down the road, either for the economy or financial stability. I think there is a little bit of a tradeoff between trying to push this economy now even harder and maybe having some unintended consequences down the road -- not today, not next year, probably not the year after -- and also the potential of making the exit out of our very accommodative policies a little more difficult to navigate.

Also, if you get a chance, read Gavin Davies at the Financial Times:

But in a wider sense there has been an unmistakable shift in the FOMC's centre of gravity in the past few months. The key to this shift is that the mainstream doves who have dominated policy decisions in the past few years have now essentially stopped arguing against either the tapering of the balance sheet or the start of rate hikes within about a year from now. Only the isolated Narayana Kocherlakota remains in the aggressive dovish corner.

Bottom Line: Those who expected Federal Reserve Chair Janet Yellen to push for a more dovish policy path continue to be dissapointed.

March 24, 2014

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Paul Krugman: Wealth Over Work

Posted: 24 Mar 2014 12:24 AM PDT

The drift toward oligarchy:

Wealth Over Work, by Paul Krugman, Commentary, NY Times: ..."Capital in the Twenty-First Century," the magnum opus of the French economist Thomas Piketty,... does more than document the growing concentration of income in the hands of a small economic elite. He also makes a powerful case that we're on the way back to "patrimonial capitalism," in which the commanding heights of the economy are dominated not just by wealth, but also by inherited wealth, in which birth matters more than effort and talent.

To be sure, Mr. Piketty concedes that we aren't there yet. ... But six of the 10 wealthiest Americans are already heirs rather than self-made entrepreneurs... As Mr. Piketty notes, "the risk of a drift toward oligarchy is real and gives little reason for optimism."

Indeed. And if you want to feel even less optimistic,... America's nascent oligarchy may not yet be fully formed — but one of our two main political parties already seems committed to defending the oligarchy's interests.

Despite the frantic efforts of some Republicans to pretend otherwise, most people realize that today's G.O.P. favors the interests of the rich over those of ordinary families. I suspect, however, that fewer people realize the extent to which the party favors returns on wealth over wages and salaries. And the dominance of income from capital, which can be inherited, over wages — the dominance of wealth over work — is what patrimonial capitalism is all about.

To see what I'm talking about, start with ... Representative Paul Ryan's "road map" — calling for the elimination of taxes on interest, dividends, capital gains and estates. Under this plan, someone living solely off inherited wealth would have owed no federal taxes at all. ...

Why is this happening? Well, bear in mind that both Koch brothers are numbered among the 10 wealthiest Americans, and so are four Walmart heirs. Great wealth buys great political influence — and not just through campaign contributions. Many conservatives live inside an intellectual bubble of think tanks and captive media that is ultimately financed by a handful of megadonors. Not surprisingly, those inside the bubble tend to assume, instinctively, that what is good for oligarchs is good for America.

As I've already suggested, the results can sometimes seem comical. The important point to remember, however, is that the people inside the bubble have a lot of power, which they wield on behalf of their patrons. And the drift toward oligarchy continues.

Fed Watch: Post-FOMC Fedspeak

Posted: 24 Mar 2014 12:15 AM PDT

Tim Duy:

Post-FOMC Fedspeak, by Tim Duy: Some thoughts on post-FOMC activity as we head into Monday.

First, I did not cover Federal Reserve Chair Janet Yellen's definition of a "considerable period" as six months in my review of the FOMC statement. I did not highlight the issue because when I went back to the tape, it looked clear to me that the bulk of the bond market response came at the release of the statement and projections. To be sure, the equity market stumbled, but here I completely agree with Felix Salmon:

But here's the thing: the market didn't freak out....last Thursday, for instance, the yield fell by a good 10bp when John Kerry made noises about imposing sanctions on Russia. And overall, the yield has stayed comfortably in a range between 2.6% and 2.8%.

What's more, the big FOMC-related move in the 10-year bond yield happened immediately at 2pm, when the statement was released. Yellen's "gaffe" caused barely a wobble.

So why does everybody think that Yellen blundered? The answer is simple: they were looking at the stock market (which doesn't matter), rather than the bond market (which does). Stocks fell, briefly; not a lot, and not for long, but enough that people noticed.

It is the bond market response that is important, and that response was pre-Yellen. It is not entirely clear that the six months timeline was new information. Or, at least, it wasn't to St. Louis Federal Reserve President James Bullard:

"That wasn't very different from what we had heard from financial markets, so I think she's just repeating that at that time period," Bullard said at a roundtable at the Brookings Institution. Bullard doesn't vote on policy this year.

Second, the more important issue appears to be the interest rate projections, the now infamous dot chart. In her press conference, Yellen attempted to deny the projections contained much useful information in her testimony:

But more generally, I think that one should not look to the dot-plot, so to speak, as the primary way in which the committee wants to or is speaking about policies to the public at large. The FOMC statement is the device that the committee as a policy-making group uses to express its – its opinions. And we have expressed a number of opinions about the likely path of rates.

Dallas Federal Reserve President Richard Fisher went further. Via Bloomberg:

Fisher suggested investors were placing too much emphasis on the change in forecasts, which the Fed illustrates as dots plotted on a chart.

There is a "fixation if not a fetish on the dots," he said at the London School of Economics. The change in forecasts by Fed officials came before this week's meeting, he said.

"Somehow, this was read as a massive shift," Fisher said. "These are our best guesses."

The Fed wants markets to focus on the distance between the bulk of the dots and participants view of normal. Back to Yellen:

Looking further out, let's say if you look at toward the end of 2016, when most participants are projecting that the employment situation, that the unemployment rate will be close to their notions of mandate-consistent or longer-run normal levels. What you see -- I think if you look, this time if you gaze at the picture from December or September, which is the first year that we showed those dot-plots for the end of 2016, is the massive points that are notably below what the participants believed is the normal longer-run level for nominal shortterm rates. And the committee today for the first time endorsed that as a committee view.

That said, it is clear the dots moved:

So I think that's significant. I think that's what we should be paying attention to. And I would simply warn you that these dots -- these dots are going to move up and down over time, a little bit this way or that. The dots moved down a little bit in December relative to September. And they moved up ever so slightly. I really don't think it's appropriate to read very much into it.

What should we take away from all of this? Well, first of all, I think it is absolutely ludicrous that the Fed is trying to claim the dots have no value. Seriously, can they work any harder to raise the act of bungling their communications strategy to an art form? If the dots have no value, then why force feed this information to market participants in the first place?

Second, yes, the dots do not represent the FOMC consensus. The statement represents the consensus. But the consensus is vague about what defines a "considerable period" or "accommodative" policy. Each individual participant has their own definition of these terms, and the dots thus provide value by quantifying the vagueness of the consensus. That is the real problem here - as a group, the Fed wants qualitative discretionary policy, and the dots provide quantifiable guidance. If they want qualitative discretionary policy, they need to pull all the numbers from their communications.

Third, Yellen needs to accept responsibility for mangling communications. She has been pushing her optimal control story for a long, long time. In the process, she has convinced market participants on the importance of the forward projections of economic variables. Yet now forward projections are meaningless?

Fourth, the dots undeniably moved forward and steeper, which means individual outlooks on the definitions of "considerable period" or "accommodative" did in fact change in meaningful ways. I am surprised, however, that this was not anticipated by market participants given the rapid decline in the unemployment rate. Along any given given Fed objective function, one would expect that a more rapid decrease in unemployment would move forward and steepen the interest rate trajectory, even if just by 25 or 50pb.

Why, why, why should Federal Reserve participants be permitted to change their outlooks but the Fed believes financial market participants are not allowed to follow suit?

Perhaps it is that while - and I believe this - the Fed's reaction function did not change, I suspect there is a very good chance that market participants expected it to change in a more dovish direction. This follows directly again from Yellen's optimal control story. How many analysts were expecting a September lift-off on the basis of her charts? How many expected Yellen push for a more dovish reaction function? I think you need to throw any analysis that explicitly allowed for above target inflation out the window - and that includes the optimal control framework.

In my opinion, some financial market participants are resisting abandoning their dovish interpretation of Fed policy. For instance, Jan Hatzius of Goldman Sachs continues to hold to its 2016 rate hike call. Via the Wall Street Journal:

"Rate hikes are far off," wrote Jan Hatzius, Goldman's chief Fed watcher, in a note to clients late Thursday. "Our central forecast for the first hike remains early 2016, although the risks now tilt in the direction of a slightly earlier move."

Recall, however, Goldman's view from November:

According to an analysis from Jan Hatzius, chief economist at Goldman Sachs, the two Fed papers actually would imply an earlier reduction of QE than planned—perhaps as soon as December—while the zero-bound interest rates could remain in place until 2017 and kept below normal into "the early 2020s."

Why? Because of extensions of the optimal control framework.

"The studies suggest that some of the most senior Fed staffers see strong arguments for a significantly greater amount of monetary stimulus than implied by either a Taylor rule or the current 6.5 percent/2.5 percent threshold guidance," Hatzius wrote. "Given the structure of the Federal Reserve Board, we believe it is likely that the most senior officials—in particular, Ben Bernanke and (Chair-elect) Janet Yellen—agree with the basic thrust of the analysis."

And more from Hatzius from Bill McBride at Calculated Risk:

It is hard to overstate the importance of two new Fed staff studies that will be presented at the IMF's annual research conference on November 7-8. The lead author for the first study is William English, who is the director of the Monetary Affairs division and the Secretary and Economist of the FOMC. The lead author for the second study is David Wilcox, who is the director of the Research and Statistics division and the Economist of the FOMC. The fact that the two most senior Board staffers in the areas of monetary policy analysis and domestic macroeconomics have simultaneously published detailed research papers on central issues of the economic and monetary policy outlook is highly unusual and noteworthy in its own right. But the content and implications of these papers are even more striking.

...[O]ur initial assessment is that they considerably increase the probability that the FOMC will reduce its 6.5% unemployment threshold for the first hike in the federal funds rate, either coincident with the first tapering of its QE program or before.
...
[O]ur central case is now that the FOMC will reduce the threshold from 6.5% to 6% at the March 2014 FOMC meeting, alongside the first tapering of QE; however, a move as early as the December 2013 meeting is possible, and if so, this might also increase the probability of an earlier tapering of QE.

In comparison to these expectations, the Fed is downright hawkish despite no change to their reaction function. The point is that, in my opinion, reality is starting to set in and financial market participants are walking back on their caricaturization of Yellen and the most dovish of all doves.

Bottom Line: The Fed is pushing back on the dots because they don't want quantitative guidance, and they forgot they were giving it. Expectations that Yellen will push for a more dovish reaction function are being disappointed. Note that the interest rates forecasts are just that - forecasts. They will evolve in one direction or the other in response to incoming data. But incoming data on unemployment undeniably pushes in the direction of an earlier liftoff and, subsequently, a steeper trajectory for rates. If they want to lean against those expectations, the Fed does need to change its reaction function, but to a more dovish one. That, I think, is not the direction of policy at this point.

Links for 3-24-14

Posted: 24 Mar 2014 12:06 AM PDT

'Secular Stagnation and Wealth Inequality'

Posted: 23 Mar 2014 11:11 AM PDT

Atif Mian and Amir Sufi:

Secular Stagnation and Wealth Inequality, by Atif Mian and Amir Sufi: Alvin Hansen introduced the notion of "secular stagnation" in the 1930s. Hansen's hypothesis has been brought back to life by Larry Summers...
A brief summary of the hypothesis goes something like this: A normally functioning economy would lower interest rates in the face of low current demand for goods and services... A lower interest rate helps boost demand.
But what if ... real interest rates need to be very negative to boost demand, but prevailing interest rates are around zero, then we will have too much savings in risk-free assets — what Paul Krugman has called the liquidity trap. In such a situation, the economy becomes demand-constrained.
The liquidity trap helps explain why recessions can be so severe. But the Summers argument goes further. He is arguing that we may be stuck in a long-run equilibrium where real interest rates need to be negative to generate adequate demand. Without negative real interest rates, we are doomed to economic stagnation. ...
In our view, what is missing from the secular stagnation story is the crucial role of the highly unequal wealth distribution. Who exactly is saving too much? It certainly isn't the bottom 80% of the wealth distribution! We have already shown that the bottom 80% of the wealth distribution holds almost no financial assets.
Further, when the wealthy save in the financial system, some of that saving ends up in the hands of lower wealth households when they get a mortgage or auto loan. But when lower wealth households get financing, it is almost always done through debt contracts. This introduces some potential problems. Debt fuels asset booms when the economy is expanding, and debt contracts force the borrower to bear the losses of a decline in economic activity.
Both of these features of debt have important implications for the secular stagnation hypothesis. We will continue on this theme in future posts.

On Greg Mankiw's 'Do No Harm'

Posted: 23 Mar 2014 09:29 AM PDT

A rebuttal to Greg Mankiw's claim that the government should not interfere in voluntary exchanges. This is from Rakesh Vohra at Theory of the Leisure Class:

Do No Harm & Minimum Wage: In the March 23rd edition of the NY Times Mankiw proposes a 'do no harm' test for policy makers:

…when people have voluntarily agreed upon an economic arrangement to their mutual benefit, that arrangement should be respected.

There is a qualifier for negative externalities, and he goes on to say:

As a result, when a policy is complex , hard to evaluate and disruptive of private transactions, there is good reason to be skeptical of it.

Minimum wage legislation is offered as an example of a policy that fails the do no harm test. ...

There is an immediate 'heart strings' argument against the test, because indentured servitude passes the 'do no harm' test. ... I want to focus instead on two other aspects of the 'do no harm' principle contained in the words 'voluntarily'and 'benefit'. What is voluntary and benefit compared to what? ...

When parties negotiate to their mutual benefit, it is to their benefit relative to the status quo. When the status quo presents one agent an outside option that is untenable, say starvation, is bargaining voluntary, even if the other agent is not directly threatening starvation? The difficulty with the `do no harm' principle in policy matters is the assumption that the status quo does less harm than a change in it would. This is not clear to me at all. Let me illustrate this...

Assuming a perfectly competitive market, imposing a minimum wage constraint above the equilibrium wage would reduce total welfare. What if the labor market were not perfectly competitive? In particular, suppose it was a monopsony employer constrained to offer the same wage to everyone employed. Then, imposing a minimum wage above the monopsonist's optimal wage would increase total welfare.

[There is also an example based upon differences in patience that I left out.]