Scott Sumner asks,

So why does the banking crisis in 2008 cause low NGDP in 2011?

Possible answers:

1. Because Reinhart and Rogoff say that financial crises cause pain for a long time. They don’t have an explanatory model, but they do have data.

2. Because the Fed made forecasting errors. Right-wingers are fond of brandishing charts showing that the unemployment rate with the stimulus is on a worse trajectory than what was forecast without the stimulus. That may or may not be evidence that the stimulus failed, but it is evidence that standard forecasts were not sufficiently pessimistic about the economy. Assuming the Fed used standard forecasts, that would explain the inadequate monetary expansion back then. It doesn’t explain their reluctance to expand now, though.

3. Some Austrian economists slipped something in The Bernank’s drink and hypnotized him into believing in PSST, so now he thinks that all the unemployment is structural.

4. Since the crisis began, the Fed has been focused on strengthening the balance sheets of the top banking institutions. A monetary expansion would mean more lending by banks, which would make their balance sheets more fragile. Better that they should just hold interest-bearing reserves. In that sense, the goal of strengthening the banks conflicts with the goal of restoring full employment, and the Fed has chosen one goal over the other.

My money is on (4). Although, as you know, I think that if the Fed tried really hard to restore nominal GDP, it would not do much for employment, because I believe in PSST and in Reinhart-Rogoff.