In my view, old Keynesianism was based on the cognitive illusion that money doesn’t matter, at least when interest rates were near zero. By the 1980s that spell was broken, and we had almost all pretty much rejected old Keynesianism, and moved on. By “all” I mean Brad DeLong, Paul Krugman, myself, and most other macroeconomists. New Keynesianism included many monetarist ideas, a point that DeLong himself made in a Journal of Economic Perspectives article around 2000.

By 2009, however, old Keynesianism was back. In the 1980s we had no idea how powerful those cognitive illusions are. By early 2009 only a few market monetarists had resisted the idea that the Fed was out of ammo. Monetary policy looked ineffective, but it was all a cognitive illusion.

Here’s Brad DeLong reviewing Bernanke’s book:

Indeed, back in 2000 it was Ben Bernanke who had written that central banks with sufficient will and drive could always, in the medium-run at least, restore full prosperity by themselves via quantitative easing. Simply print money and buy financial assets. Do so on a large-enough scale. People would expect that not all of the quantitative easing would be unwound. Thus people would have an incentive to use the extra money that had been printed to step up their spending. Even if the fraction of quantitative easing that thought permanent was small, and even if the incentive to spend was low, the central bank could do the job.

It is to Bernanke’s great credit that the shock of 2007-8 did not trigger another Great Depression. However, what came after has been unexpectedly disappointing. Central banks in the North Atlantic–including Ben Bernanke’s central bank, the Federal Reserve–went well beyond the outer limits of what we had thought, back before 2008, would be the maximum necessary to restore full prosperity. And full prosperity continued and continues to elude us. Bernanke pushed the US monetary base up from $800 billion to $4 trillion–a five-fold increase, one that a na├»ve quantity theory of money would have seen as enough stimulus to create a 400% cumulative inflation. But that was not enough. And Bernanke found himself and his committee unwilling to take the next leap, and do another more-than-doubling to carry the monetary base up to $9 trillion. And so, by the last third of his tenure in office, he was reduced to begging in vain for fiscal-expansionary help from a closed-eared Congress, which refused.

I think this is wrong in a very revealing way. Under the leadership of Ben Bernanke, the Fed did not adopt the sort of policies that Bernanke recommended the Japanese adopt a decade earlier. However to his credit he pushed the Fed in the right direction, and I’m not sure I could have done even as well. The biggest problem was Bernanke’s failure to sell the Fed on level targeting, for which there is (based on what I’ve read) enormous institutional resistance at the Fed. Without the level targeting that he recommended to the Japanese, QE is far less effective. And this should be no surprise, as the Fed had done something similar in the 1930s:

Date——–Monetary Base——Interest rates
Dec. 1929—-$6,978m————About 5%
Dec. 1941—$23,738m———–About zero

Even so, QE was effective enough so that by late 2013 the Fed believed that aggregate demand was essentially on target, and they began tapering. Note that this was despite a sharp reduction in the federal deficit, which fell by $500 billion in calendar 2013, due to tax increases and the sequester. So contrary to what DeLong claims, Bernanke did not finish up his term begging for fiscal support, but rather he finished up with a monetary offset of austerity that was so powerful (contrary to the prediction of people like Paul Krugman) that the Fed felt it was time to taper. Now they are likely to raise rates next month. DeLong and I may think that’s unwise, but the problem has never been a Fed that was short of ammo, but rather a Fed that lacked “Rooseveltian resolve.” An insufficiently aggressive target path.

DeLong concludes:

But I do think that the debate over this question is the most important debate within macroeconomics since the debate–strangely, a very similar debate, at least with respect to its policy substance–that John Maynard Keynes had with himself in the decade around 1930 that turned him from a monetarist into a Keynesian.

I agree that we have returned to the same sort of debate we had in the 1930s. I’m probably more disturbed by that than DeLong. I see people like Summers and Krugman abandoning 1990s New Keynesianism and returning to the discredited old Keynesianism of the 1930s, and I see many on the right abandoning the wisdom of Milton Friedman, and returning to the head-in-the-sand conservatism of the 1930s (“AD problem, what AD problem”?)

That’s why it’s so important to get the facts right. Just as the Abe government showed the BOJ was not out of ammo in the early 2000s, a close examination of what the Fed did and didn’t do, and a cross country comparison of monetary policy during the Great Recession and recovery, shows that monetary policy is always and everywhere highly effective.

We just need to use it properly. As Yoda said:

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I am almost done with Bernanke’s memoir, and will review it next week.