Time I want back on my deathbed: listening to social credit and other monetary cranks
02 Sep 2014 1 Comment
in Austrian economics, business cycles, economic growth, inflation targeting, monetarism, monetary economics, Murray Rothbard Tags: Austrian school of economics, business cycle, fractional reserve banking, hyperinflation, inflation, monetary business cycle, monetary cranks, quantity theory of money
I lost a good 15 minutes of my life that I will not get back on my deathbed listening to some monetary cranks at a Meet the Candidates forum last night for the New Zealand general election.
Monetary cranks advocate boundless inflation and credit expansion as the patent medicine for all our economic ills:
those who have Found the Light about Money take up their pens and write, with a conviction, a persistence and a devotion otherwise only found among the disciples of a new religion.
It is easy to scoff at these productions: it is not so easy always to see exactly where they go wrong. It is natural that practical bankers, vaguely conscious that the projects of monetary cranks are dangerous to society, should cling in self-defence to the solid rock, or what they believe to be so, of tradition and accepted practice. But it is not open to the detached student of economics to take refuge from dangerous innovation in blind conservatism.
D.H. Robertson (1928)
Listening to these monetary cranks in the audience last night rates with the worst movies I have ever ever seen for time I want back my deathbed. I think the worst movie I have ever seen was Absolute Beginners starring David Bowie. After that it, might be Last Tango in Paris.
These particular monetary cranks with their obsessions about factional reserve banking are from the social credit party in New Zealand. They are followers of Major C.H. Douglas, whom Keynes referred to as a:
private, perhaps, but not a major in the brave army of heretics
Social credit and other monetary cranks believe that all the world’s problems will be sold if the reserve bank prints money and they seem to think that was really easy because there is a fractional reserve banking system.
No one in the room who knew better wanted to lose more time that they wanted back on their deathbed explaining why printing money doesn’t make you richer. The “money is wealth” error is the defining affliction of the monetary crank.
The good economist will know that money creation is no short-cut to wealth. Only the production of valued goods and services in a market which reflects the consumer’s willingness to pay can relieve poverty and promote prosperity. A people are prosperous to the extent they possess goods and services, not money. All the money in the world—paper or metallic—will still leave one starving if goods and services are not available.
Obviously, none of them were persuaded by the quantity theory of money: if you increase the supply of money without a matching increase in the rate of real growth in the production of goods and services, you’ll have more money chasing the same amount of goods so prices will go up. It’s called inflation. Printing money creates inflation.
There is a school of thought in economic school, the Austrian school of economics, does get excited about fractional reserve banking. The reason it does is to explain how fractional reserve banking creates inflation and promotes the business cycle.
A cycle of booms and busts is not looked upon as a good thing by the Austrian school of economics.
The Austrian school wants to get rid of fractional reserve banking as a way of reducing inflation and reducing the possibility of a loose monetary policy causing booms and busts in the economy.
These monetary cranks from social credit party honestly believed that printing more money will make you wealthier. Thankfully no one asked them to explain their position.
A few supporters of the monetary cranks in the audience asked other members of their views on the ideas of these monetary cranks. Sensibly, they all gave short answers that did not provoke them further and waste more of their precious life listening to them talk nonsense.
If printing money was a winner, as with any populist policy that has a half a chance of working, the parties of the centre-left and centre right would be all over it like flies to s…
Was this Milton Friedman’s monetary policy dashboard?
19 Aug 2014 1 Comment
in macroeconomics, Milton Friedman, monetarism, monetary economics Tags: Milton Friedman, monetarism, rules versus discretion
I am not so sure the above would be mimicking Milton Friedman’s monetary policy dashboard as claimed.
Milton Friedman advocated a fixed monetary policy growth where the monetary supply would grow at 4% year in, year out no matter what happened in the economy. Towards the end of his career, he advocated replacing the Fed with a computer.
“Inflation is always and everywhere a monetary phenomenon”
31 Jul 2014 Leave a comment
in budget deficits, fiscal policy, macroeconomics, monetarism, monetary economics Tags: Joan Robinson
Joan Robinson thought German hyperinflation was not caused by monetary policy!!
Almost, but not quite.
Back in the days when dinosaurs roamed the earth, and Cambridge economists kept guard at the Temple of Keynes, Milton Friedman’s focus on inflation as a monetary phenomenon was a revelation—and an excellent one. Next to Joan Robinson’s surreal claims that printing money was not responsible for the German hyperinflation, Friedman’s version of monetary economics provided a very healthy dose of sanity. And as central banks across the world learned from the mistakes of the 70s and brought inflation under control, it became clear that the monetary authority indeed had the power to contain the price level via control of the money supply.
But it’s important to know what this account leaves out: how, exactly, do prices adjust? And over what length of time does this happen?
The modern view, backed up by impressive (though not entirely conclusive) empirical evidence, is that most prices are…
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The leads and lags on monetary policy are long and variable
25 Jul 2014 Leave a comment
in business cycles, inflation targeting, macroeconomics, Milton Friedman, monetarism, monetary economics Tags: leads and lags on monetary policy, Milton Friedman, monetary policy
Many Keynesians, Friedman notes, advocate “leaning against the wind.” By this they mean, in some sense, that the monetary (and fiscal) authorities should try to balance out the private sector’s excesses rather than passively hope that it adjusts on its own.
There are large uncertainties about the size and timing of responses to changes in monetary policy. There is a close and regular relationship between the quantity of money and nominal income and prices over the years. However, the same relation is much looser from month to month, quarter to quarter and even year to year.
Monetary policy changes take time to affect the economy and this time delay is itself highly variable. The lags on monetary policy are three in all:
- The lag between the need for action and the recognition of this need (the recognition lag)
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The lag between recognition and the taking of action (the legislation lag)
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the lag between action and its effects (the implementation lag)
These delays mean that is it difficult to ascertain whether the effects of monetary policy changes in the recent past have finished taking effect. Secondly, it is difficult to ascertain when proposed changes in monetary policy will take effect. Thirdly, feedbacks must be assessed. The magnitude of the monetary adjustment necessary to deal with the problem at hand is thus never obvious. It is common for a central bank to act incrementally. The central bank makes small adjustments to monetary conditions over time as more information is available on the state of the economy and forecasts are updated.
The existence of lags may mean that by the time policy has its full effect, the problem with which it was meant to deal may have disappeared.
Milton Friedman (1959) tested the Fed’s success at leaning “against the wind” by checking whether the rate of money growth has truly been lower during expansions and higher during contractions. He admits that this method of grading he Fed’s performance is open to criticism, but he decided to go ahead and see what turns up. Friedman found that Fed has – for the periods surveyed – been unsuccessful.
By this criterion, for eight peacetime reference cycles from March 1919 to April 1958. Actual policy was in the ‘right’ direction in 155 months, in the ‘wrong’ direction in 226 months; so actual policy was ‘better’ than the [constant 4% rate of money growth] rule in 41% of the months.
Nor is the objection that the inter-war period biased his study is good since Friedman found that:
For the period after World War II alone, the results were only slightly more favourable to actual policy according to this criterion: policy was in the ‘right’ direction in 71 months, in the ‘wrong’ direct in 79 months, so actual policy was better than the rule in 47% of the months.
One of the best ways to parry a metaphor is with another metaphor. Keynesians have a host of metaphors in their rhetorical arsenal; one frequently voiced is that a wise government should “lean against the wind” when choosing policy. Friedman counters:
We seldom know which way the economic wind is blowing until several months after the event, yet to be effective, we need to know which way the wind is going to be blowing when the measures we take now will be effective, itself a variable date that may be a half year or a year or two from now. Leaning today against next year’s wind is hardly an easy task in the present state of meteorology.
Friedman’s remarks, as even his strong critics admit, are mighty and strike at the heart of any activist stabilisation policy. By meeting Keynesians on their own theoretical turf and scrutinising their practice, Friedman manages to produce objections that both Keynesians and non-Keynesians must take seriously. A key part of any response to Friedman rests on the ability of forecasters to do their jobs with tolerable accuracy.
Keynesian policies do not necessarily follow even if the Keynesian theory of the business cycle were conclusively proved. It must also be demonstrated that the government has the ability and willingness of the government to act as the theory prescribes. Friedman’s critique does not depend on the quantity theory of money.
New Keynesian macroeconomics as the triumph of monetarism
25 Jul 2014 Leave a comment
in macroeconomics, Milton Friedman, monetarism, monetary economics Tags: Brad Delong, Milton Friedman, monetarism, New Keynesian macroeconomics
In The triumph of monetarism, Brad De Long wrote in the Journal of Economic Perspectives—Volume 14, Number 1—Winter 2000—Pages 83–94 that today’s new Keynesian" macroeconomists would include in any list of their key ideas and premises the five following propositions that:
- The key to understanding real fluctuations in employment and output is to understand the process by which business cycle-frequency shocks to nominal income and spending are divided into changes in real spending and changes in the price level.
- Under normal circumstances, monetary policy is a more potent and useful tool for stabilization than is fiscal policy.
- Business cycle fluctuations in production are best analysed from a starting point that sees them as fluctuations around the sustainable long-run trend (rather than as declines below some sustainable potential output level).
- The right way to analyse macroeconomic policy is to consider the implications for the economy of a policy rule, not to analyse each one- or two-year episode in isolation as requiring a unique and idiosyncratic policy response.
- Any sound approach to stabilization policy must recognize the limits of stabilization policy—the long lags and low multipliers associated with fiscal policy; the long and variable lags and uncertain magnitude of the effects of monetary policy.
De Long then went on to argue that the above research programme is the macroeconomic research programme of Milton Friedman in the mid-20th century.
Wrong from the start – Joseph Stiglitz
13 Jul 2014 Leave a comment
in business cycles, global financial crisis (GFC), macroeconomics, monetary economics Tags: East Asian economic miracle, global financial crisis, Japan, Japanese banking system, Joseph Stiglitz, zombie banks
A man of his times, back in 1996, smoking Joe Stiglitz used to be an admirer of the Japanese banking system because of its long-range thinking and lending
Cooperative behaviour between firms and their banks was also evident in the operations of capital markets.
In Japan each firm had a long-standing relationship with a single bank, and that bank played a large role in the affairs of the firm.
Japanese banks, unlike American banks, are allowed to own shares in the firms to which they lend, and when their client firms are in trouble, they step in. (The fact that the bank owns shares in the firm means that there is a greater coincidence of interest than there would be if the bank were simply a creditor; see Stiglitz 1985.)
This pattern of active involvement between lenders and borrowers is seen in other countries of East Asia and was actively encouraged by governments.
That praise of the Japanese banking system in 1996 did not stop him criticising the Japanese Zombie banks in 2009. Shame, Stiglitz, shame.
Note: A zombie bank is a bank with an economic net worth of less than zero but continues to operate because its ability to repay its debts is shored up by implicit or explicit government credit support.
Does fiscal policy cause inflation?
11 Jul 2014 Leave a comment
in budget deficits, fiscal policy, macroeconomics, Milton Friedman, monetary economics Tags: budget deficits, fiscal policy, inflation
David Hume on the long and variable lags on monetary policy
05 Jul 2014 Leave a comment
in macroeconomics, monetary economics Tags: David Hume, lags on monetary policy, monetary neutrality
Brad Delong and Larry Summers on the ineffectiveness of fiscal policy in stimulating the economy
05 Jul 2014 3 Comments
If there is such a thing as a liquidity trap, bring it on!
04 Jul 2014 Leave a comment
in business cycles, fiscal policy, macroeconomics, Milton Friedman, monetary economics Tags: Allan Meltzer, JM Keynes, liquidity trap, Milton Friedman
In the Keynesian pipedream, in a liquidity trap, there is perfect substitutability of money and bonds at a zero short-term nominal interest rate. This renders monetary policy ineffective.
Keynesians claim that the demand for money may be so persistently high that the rate of interest could not fall low enough to stimulate investment sufficiently to raise the economy out of the depression. Allan Meltzer explains:
A liquidity trap means that increases in money by the central bank (monetary base) cannot affect output, prices, interest rates or other variables. Changes in the money stock are entirely matched by changes in the demand to hold money.
With a liquidity trap, the public simply hoards the money the central bank creates rather than attempting to run down additions to their cash balances with increased consumer expenditure. This limitless accumulation of money by the public is not a real world phenomenon. The public will not forever accumulate money.
Auerbach and Obstfeld noted in "The Case for Open-Market Purchases in a Liquidity Trap" that to the extent that long-term interest rates are positive short-term interest rates are expected to be positive in the future, trading money for interest-bearing public debt through open market operations reduces future debt-service requirements.
- A massive monetary expansion during a liquidity trap should improve social welfare by reducing the taxes required in the future to service the now much smaller national debt!!!!
- A quantitative easing during a liquidity trap is, in effect, as good as or even better than a lump sum tax.
Central banks perhaps should contrive liquidity traps because they can then buy back the public debt because of the unlimited demand for money.
The logic of the liquidity trap is people will without limit give up bonds for non-interest bearing cash. If monetary policy is impotent near the zero bound, the central bank should buy trillions of dollars of federal bonds and payoff the public debt. This is a logical implication of liquidity traps for an optimal fiscal policy!!!! Is my reasoning wrong?
In addition to D.H. Robertson, Jacob Viner, Milton Friedman, Philip Cagan, Don Patinkin, Auerbach and Obstfeld, Robert H. Lucas, Greg Mankiw, and Bernanke and Blinder as sceptics about a liquidity trap, Keynes wrote in 1936:
Whilst the limiting case might become practically important in future, I know of no example of it hitherto. Indeed, owing to the unwillingness of most monetary authorities to deal boldly in debts of long term, there has not been much opportunity for a test.
Meltzer, who wrote A History of the Federal Reserve, Vol. 1: 1913-1951 points to several periods when interest rates were at or close to zero:
“In 1954, interest rates were 0.5 percent or below, and we had no problem recovering,” he says. “In 1948 to 1949, we had zero interest rates. Also in 1937 to 1938. We had no problem recovering.”
The Pigou effect states that when there is deflation of prices, employment (and output) will be increased due to an increase in wealth (and thus consumption). The deflation increases the value of cash balances and therefore the wealth of consumers. They spend some of this additional wealth.
After reading the annual reports of the Fed in the 1920s and 1930s, Milton Friedman noticed the following pattern:
In the years of prosperity, monetary policy is a potent weapon, the skilful handling of which deserves the credit for the favourable course of events; in years of adversity, other forces are the important sources of economic change, monetary policy had little leeway, and only the skilful handling of the exceedingly limited powers available prevented conditions from being even worse
Utopia, you are standing in it! 
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