I'm not "the NGDP guy"
By Scott Sumner
When I was much younger, right wing macroeconomists like me used to think we were smarter than left wing macroeconomists. The old Keynesian model ran into some pretty severe problems during the 1970s, and the monetarist critique of the model had a lot of merit (even though the monetarists also made mistakes, as when they recommended targeting M1 or M2.) In particular, we prided ourselves with understanding that “the interest rate is not the price of money, it’s the price of credit.” We knew that low rates don’t mean easy money, and high rates don’t mean tight money. That there was only a temporary trade-off between inflation and unemployment. That monetary policy drives the nominal economy, not fiscal policy. That tight money causes most recessions, not a lack of animal spirits on the part of consumers or business. That the “liquidity trap” is not a trap at all, monetary policy remains highly effective at the zero bound.
By the early 2000s the new Keynesians had accepted much of this. Our crowning achievement! We should be gloating. And yet as I look around it seems like most right-of-center macroeconomists have forgotten much of this. Mishkin’s textbook no longer says monetary policy is “highly effective” at the zero bound. John Cochrane says it’s useless at the zero bound. John Taylor doesn’t seem to think tight money caused this recession. The Austrians say low rates caused the housing bubble. Lots of conservatives have rejected Friedman’s claim that recessions are caused by tight money.
Today, most conservative economists seem to think a low interest rate environment represents an easy money policy, an idea that would have been strongly criticized at the University of Chicago that I remember. Here’s Milton Friedman discussing zero rates in Japan:
Low interest rates are generally a sign that money has been tight, as in Japan; high interest rates, that money has been easy.
. . .
After the U.S. experience during the Great Depression, and after inflation and rising interest rates in the 1970s and disinflation and falling interest rates in the 1980s, I thought the fallacy of identifying tight money with high interest rates and easy money with low interest rates was dead. Apparently, old fallacies never die.
Note that he says, “has been tight”. Yes, there is a very short-term liquidity effect linking low rates with easy money. But when rates have been low for an extended period of time, without inflation rising, it reflects the longer-term income and expected inflation effects. Contrast that with this article discussing the views of Charles Plosser:
Plosser, who is one of the Fed’s most outspoken “hawks” expressed concern over the low rates. Last month, the Fed confirmed that it would hold the target range for the federal funds rate at 0 to 0.25 percent.
“There are many indicators that tell us interest rates are too low,” Plosser told CNBC from the UBS European Conference in London.
. . .
“There is no precedented history to have rates at zero. I think we are really behaving in a way which is outside of historical norms and that should make us nervous,” he added.
Plosser conceded that “wage growth has been very modest” and that falling oil prices were pressuring short-term inflation lower–but said that rates were too low nonetheless.
He doesn’t come right out and say low rates mean easy money, but that’s the clear implication of the entire interview. And he’s so worried about low rates that he wants to raise them even though he concedes the wage data doesn’t suggest a need to. Friedman would have said we should ignore interest rates.
I could find dozens of other examples. Much of what Friedman taught us about money has been forgotten, even by the “new monetarists.”
I was recently reading a new book on monetary policy alternatives, edited by Larry White. One thing I noticed was that when my name came up it was always in the context of NGDP targeting. Yes, I am a big fan of NGDP targeting. But I don’t really see myself as “the NGDP guy.” The most distinguished center-left macroeconomist in the world (Michael Woodford) has advocated NGDP targeting. Ditto for one of the most distinguished center-right macroeconomists (Bennett McCallum.) So did Hayek. NGDP targeting would not have been much different from the Taylor rule during 1984-2007, when interest rates were positive. It’s a very conventional idea, not radical at all. There are many proponents of the policy.
I see myself as the “monetary misdiagnosis guy.” I’m the one that claims almost the entire profession has it wrong, and Milton Friedman had it right. (Just as Frederic Mishkin and Ben Bernanke had it right in 2003, but not in 2013.) Monetary policy has been tight since 2008. There should be no debate about whether the Fed should end its extraordinarily accommodative policy, as there has been
so no such policy. These views distinguish me from almost all other economists on both sides of the spectrum. It’s why I think a tight money policy from the Fed caused the Great Recession, whereas 99% of macroeconomists think that claim is nuts, both because money was not tight (in their view) and the financial crisis “obviously” caused the recession.
Yes, I do strongly support NGDP targeting, especially level targeting. But that’s not my primary beef with the profession right now. I’m the misdiagnosis guy. (Hopefully it’s not me doing the misdiagnosing!)