I think Matt referred a while back to a Janet Yellen musing that it might prove worthwhile to run the economy hot for a few months to embed full employment, and to avoid getting stuck in third gear as after the Great Recession. It seems to me that Milan's reassessment above supports the essential correctness of Yellen's musing.
The economy is pretty good right now. Probably the best that I can recall this century. The main medium-term issue I see for the US is than taxes are unsustainably low, with little chance of this being cured.
Good post. I hope the lesson we take from this is that "goldilocks" stimulus is possible, but I don't think we will. As you noted, the harms are diffuse this time compared to post-Great Recession, and it's politically easier to accept higher unemployment than $8 eggs.
I wish we had more automatic stimulus triggers, like certain spending cuts or increases based on inflation. Ideally that would depoliticize an area that Republicans honestly don't score to well in. It's popular to support bridge construction! Make it automatic and neither the GOP nor Dems can take credit for it.
Mitch McConnell, October 24, 2010: “The single most important thing we want to achieve is for President Obama to be a one-term president.”
This has to be one of the dumbest quotes of all time. Do you think Democrats didn't say the same thing about Trump? Do you not think the party not in power for the last 200+ years has said the same thing? This does not prove they sabotaged the recovery. That is a cheap partisan shot that proves there is an agenda to drive, not the honest thoughtfulness I expect from Slow Boring.
Maybe you should more carefully review why the slowest recession recovery of all time suddenly changed course when Trump got elected. Obama's governance by fiat (because he refused to deal with the senate majority) resulted in bloated government regulations that stifled the recovery. Trump struck down many of those government regulations that slowed the recovery and suddenly the economy started working again. I disdain Trump, but am not some partisan hack that can't believe that a broken clock is right twice a day.
Which regulations did Trump strike down? I don't recall that being the dynamic. I recall a corporation tax cut and some posturing around renegotiating NAFTA, but I don't recall an impactful deregulation. The Supreme Court struck down some environmental regs but that was not Trump.
Most of it would not get covered much by the mainstream press or would be covered as purely evil because of our polarized atmosphere.
The right wing press would give credit to Trump for every positive event that happened after 2016 as well, but it is obvious by nearly every possible metric that the economy improved when he took office. Whether he should get credit can be debated among honest people, but I find so few people not blinded by their tribe affiliation that it gets frustrating to find truth.
"Because they don’t work, older people save more money than young people. Banks use the savings that people deposit to make loans;5 a greater supply of savings, therefore, reduces the price of borrowing — i.e., it pushes interest rates down."
I think of older (retired) people as needing to draw down their savings to finance their consumption (they have no income, so it must come from savings), not increasing their savings. Am I on the wrong page somehow, or am I looking at it differently than you intended for us to look at?
There's a million separate issues going off in different directions in this post. But the main thesis seems to be that $5 Trillion in debt-financed government spending was a great thing to have done because the economy really needed the macro "stimulus."
But here's the deal -- You either believe the Keynesian conceit that silly old markets are too dumb to adjust to changes in aggregate supply and demand, or you don't. In fact, even under Keynes, there isn't even a theoretical reason why government deficits would ever raise real GDP except in the extraordinary case of a Great Depression level deflationary market collapse where lots and lots of capital and labor is laying idle due to (alleged) market failure that (for some hypothesized reason) prevents prices from dropping so that markets will clear again. (Note that the effect of **government mandates** that labor and capital must remain idle can't be cured by market forces, anyway. If the government really wanted people to stay away from work, "stimulus" would just work at cross-purposes to that policy by pumping up the demand for the very work the government is trying to prevent).
Incumbent politicians always like artificial "stimulus" because it creates a temporary illusion of prosperity that gets them through the next election cycle before the bill comes due. Advocates of government programs like "stimulus" spending because they just like spending. But the macro rationalization is just a way of avoiding the tougher political question of whether all that giveaway/special interest spending was actually the best use of our nation's resources, considered on the merits. (And who wants to do that?)
A better policy question would be whether it was a smart idea to shut down the world economy over a bad cold virus created by the U.S. Government. But our country isn't ready for that yet.
Are we even confident the ARP really reduced unemployment or did it just get passed at the perfect time right as covid restrictions were ending and vaccines were getting rolled out? Hard to argue it was worth creating unnecessary inflation.
Also, this piece asserts that widespread inflation is better than concentrated unemployment bc of utilitarianism but are the economics even true? Inflation hurts the poor most due to real wage erosion and lack of purchasing power, and you also have to consider all the unemployment created by your efforts to fight inflation including layoffs and lack of economic investment
Europe spending less than us and getting higher inflation and lower growth and employment makes hard to believe that ARP caused “unnecessary inflation”
Europe has higher inflation bc of the war and they’ve always had lower growth and employment than USA. We don’t really know if the ARP did more than just create inflation
Democrats' 2010 shellacking was not only about the state of the economy. It was also a response to unpopular things Democrats did while in power, mainly the ACA but also the failed cap-and-trade bill.
"What this all adds up to is a world of persistently weak demand leading to higher unemployment and weak inflation, as a symptom of an economy with too much slack and not enough growth."
Perhaps that is a future that is Japanese, but I'm not sure. Japan is actually doing pretty well! Per capita GDP growth is fine; unemployment is not a problem. Paul Krugman gives us the bottom line: "In some ways, Japan, rather than being a cautionary tale, is a kind of role model — an example of how to manage difficult demography while remaining prosperous and socially stable." https://www.nytimes.com/2023/07/25/opinion/japan-china-economy.html
But overall, I agree with this piece. It was much better to overshoot and undershoot. Milan puts together an excellent argument with which I have no problems. I do kinda wonder what grade it would get if he submitted it to Harvard professor Jason Furman, though.
I really don't understand the hatred this blog has for using the Child Tax Credit as a one time pandemic measure. People's kids were at home and not at school! They needed child care! Plus it was a stimulus!
That credit helped a lot of people during an emergency and saying "it wasn't worth helping those people because our plan to trick the American people into making it permanent failed" just strikes me as flat wrong.
I think it was fine to give families this one-time cash benefit during that trying time. The problem was that it deluded progressive Democrats into thinking that by slipping this camel's nose under the tent they had a leg up in making it permanent (more mixed metaphors available on request). Thus we got the agony of the protracted BBB negotiations.
Your entire analysis of fiscal stimulus is unfortunately off the mark ... because you misunderstand monetary policy. You confuse monetary policy with interest rates. And you wrongly assume that interest rates at the "zero lower bound" means that monetary policy is impotent. That is not correct.
These statements are just wrong: "the Fed had already cut rates to zero and was basically out of juice" and "low rates make it very difficult for central bankers to provide stimulus via monetary policy".
In fact, central bank monetary policy works by changing the money supply -- which doesn't have a "zero lower bound". Interest rates are an EFFECT of monetary policy, not a significant part of the causal chain of controlling the economy. Monetary policy is always effective. More monetary stimulus is always possible. (No central bank that wanted to devalue its currency has ever failed.) The lost decade after 2008 was the fault of bad monetary policy from the US Federal Reserve, not the fault of too little fiscal stimulus. (E.g.: https://www.cato-unbound.org/2009/09/14/scott-sumner/real-problem-was-nominal/ ) Total aggregate demand is controlled by monetary policy, not by fiscal policy.
Once you correct this false "impotent" claim about monetary policy ... unfortunately your entire analysis of fiscal stimulus then falls apart. It all critically depended on monetary stimulus being powerless, and that one crucial assumption was completely false.
What does "less effective" mean? Can you define that term? We're talking about numbers here. There is no supply limit on integers. Nor is there a cost to monetary stimulus. The real-world "cost" of creating $10 is the same as the "cost" of creating $100 or $1000. So can you possibly offer an economic definition of your claimed "less effective"? By what metric, exactly?
Similarly ... are you aware that "QE" and "rate cuts" are actually the same underlying mechanism? The concrete action taken by the Fed is Open Market Operations, i.e. purchases of assets (mostly Treasury bonds), on the open market, at market prices, in exchange for newly created money. That is the same for both "QE" and "rate cuts". The only difference is how the Fed decides on the volume of purchases, and when to stop purchases.
(I hope you're aware that "rate cuts" do not refer to the Fed's discount rate, which it controls. Instead, traditional Fed "rate cuts" refer to the Federal Funds Rate, which is a free market interest rate. The Fed doesn't "set" the FFR; what it does is set a "target" for the FFR. And it achieves this target via the usual OMOs, changing the economy until the free market FFR floats into the Fed's target range.)
So: "QE" and "rate cuts" are actually the same mechanism. And "less effective" is not a description that applies to monetary policy. MV=PQ. You're picking an M. Your choice of the quantity for M is either "correct" or "wrong" (given your goals). It is not somehow "more" or "less" "effective".
Monetary supply is very important to an economy, but it seems foolish to accept it controls everything. E.g during Covid, the federal government stimulus was much more impactful than anything the fed could have done.
Similarly, post 2008, I think there is evidence that the fed could have done more, but also agree with Milan that the lack of additional stimulus was a mistake.
I agree that monetary policy doesn't control "everything" in an economy. Economics involves micro and macro; and macro itself involves the supply side and the demand side. Monetary policy only controls the demand side of the macro economy.
This claim is false: "the federal government stimulus was much more impactful than anything the fed could have done", at least as far as aggregate demand goes. (Again: there is more to the economy than just aggregate demand!)
A simple model for you could be: the Equation of Exchange is MV=PQ (= NGDP = aggregate demand). Inflation is just a change in the price level, and P=MV/Q. Now, money velocity V and real output Q are not fixed; however, the money supply M is completely arbitrary (just a number!), and under the monopoly control of the central bank. Which means that, no matter what happens to V or Q, there is always some money supply M that will result in any price level P (and thus any inflation) that the central bank may wish to target. If you're not seeing the inflation (or aggregate demand) that you want, the cause is ALWAYS that the central bank necessarily chose the wrong (arbitrary!) value for M (at least, given current economic conditions).
Fiscal policy doesn't matter (for managing aggregate demand). Monetary policy controls demand. "Monetary offset" has the power to "undo" whatever influence fiscal policy attempts.
I would also say that the government has more varied ways to distribute increased money supply. The fed is limited to distributing money mostly through bond transactions which can be very inefficient.
What does "efficient" mean, in this context? The money supply is like the sea level in the ocean: it doesn't matter where you "put it in"; the money flows "everywhere" very quickly. To a first approximation, only the quantity of money matters.
This is a great example. Sometimes there are events in the real economy like earthquakes in the ocean that create a tsunami. The aggregate amount of water in the ocean hasn't changed, but it's change in location can have devastating effects. Trying to counter those effects by controlling the overall water level is unlikely to succeed and could possibly create more damage in the attempt.
You apparently don't realize that I agree with you. When you have some industry-specific crisis (like a freeze in Florida that damages the orange crop), then monetary policy (and aggregate demand in general) is not the appropriate tool for that economic problem. I already said that aggregate demand isn't "everything"; it's only 1/4 of all economic theory. (Half is macro and half is micro; half is supply-side and half is demand-side. Monetary policy and aggregate demand are only about the 1/4 that is demand-side macroeconomics.)
Monetary policy is about the value of money, which uniformly affects the entire economy. If you have some narrow industry-specific problem, you would need to address it with a much more narrowly-focused economic tool. Monetary policy (and aggregate demand management in general) would be the wrong tool, in that case.
Your taking something important and making it everything with regard to aggregate demand. Question - can Canada's central bank create as much total aggregate demand as the US central bank? Or does the fact that the US is 10x the size of Canada matter how much total aggregate demand is possible?
You are confusing the real economy with the nominal economy.
The US may have 10x the geographic size, or 10x the population, or 10x the production of steel or cars. We're not talking about that. "Aggregate demand" is about the nominal economy, which is the amount of numbers (in wallets, in net worth, and on price tags). Inflation is a change in the price level, a change in the value of money, and has nothing to do with whether the economy is generating more or fewer apples than the year before.
The US economy is roughly 2.5x the size of Japan's economy. But the Japanese local currency units (Yen) are about 150x less than the purchasing power of a US local currency unit (dollar). Japan's aggregate demand (nominal GDP) is about 550 trillion local currency units (Yen). The US NGDP is "only" 23 trillion local currency units (dollars). Despite the fact that the "real" US economy is about 2.5x larger than Japan's, the "nominal" US economy is about 24x smaller than Japan's.
No, it does not at all matter that the US is 10x the (real) size of Canada, when asking whether Canada's central bank can create as much total (nominal) aggregate demand as it wants.
Yes, but the immediate response is that the nominal economy is irrelevant outside of its impact on the real economy. Its the relation between the two that matters!
And the Fed's impact on the real economy via nominal aggregate demand is not as smooth as the equation you layout above.
The Equation of Exchange, MV=PQ, is just an accounting identity, and tells you nothing at all about any causal relationship. I agree with you that the impact on the real economy matters, and that the nominal economy only matters because of its relationship to the real economy.
We haven't talked at all about the relationship between the real economy and the nominal economy. (The answer is: money is mostly "neutral" -- and maybe even "superneutral". So most of the real economy is immune to changes in the nominal economy. The main interaction between the two is via sticky prices: primarily wages, but also long-term debts. Nominal crashes cause real recessions because some critical prices don't adjust quickly enough, which changes the real economic burden of wages and debts.)
But none of this matters. Because Milan Singh's original post was about using fiscal policy to control aggregate demand. And my objection was that monetary policy dominates fiscal policy, for controlling aggregate demand. You are right that it is important why aggregate demand matters at all for the real economy; but that would be a criticism of BOTH my comments and also Singh's original post. Your concern about the real economy, while valid, is irrelevant for the important error that Singh made in the original post. Both Singh's post and my comments assume that aggregate demand matters for the real economy; the details of why and how it matters are beyond the scope of this discussion.
I’m glad to see you called out the risks of bailouts (moral hazard, and loss of creative destruction most importantly).
I think the very most important thing we got right with this big Covid stimulus is to focus on individuals and not corporations.
The key to a dynamic economy is to have intense competition between businesses. But in a world of intense competition, tons of businesses, have to die all the time. That is painful for individuals but as long as they can ride out the turbulence they’ll end up better off in the long run.
This is the dynamic that we’ve had for the last 20 years in Silicon Valley: people get laid off all the time, companies come and go every day, no incumbent is ever truly safe. But because this is a very high income industry with very low unemployment this all still works out well for the workers.
If only we could get there for all Americans! To do that we need a mix of safety net, to drive down the cost of living, and when external crises like COVID hit, stimulus targeted at individuals to help them invent the next economy.
> it is in their political interest to sabotage the economy, pin the blame on the incumbent, and win the next election
How do normal Republicans / never Trumpers defend what happened here? Deliberately attempting to damage America to worsen Obama re-election odds...
Putting their own political goals ahead of helping the constituents was wrong. I think it’s a big part of the reason for me to always distrust the old GOP
I want to semi-defend the Republicans here. Sure, they tried to screw Obama and the Democrats after they won. But, hey, they also tried to screw George W. Bush, 2008 nominee John McCain and their own party's prospects by initially flatly refusing Henry Paulson's desperate pleas to save the financial system during the Lehman meltdown!
Let's not castigate Republicans as cynical when they can be more fairly described as nihilists.
This seems needlessly uncharitable. Republicans shared the economic views of the Germans post great recession. We can say that those views are wrong, but it's hard for me to believe that the Germans were out to stop Obama's second term. Once you accept that those views can be held without it being a partisan issue, then it makes more sense to accept people are adhering to their ideological views more than they are willing to sabotage their country. Manchin doesn't agree with the expanded CTC, does that mean you believe he wants to crush poor children, is bought by wealthy who oppose spending, or do you think he is simply mistaken about the trade offs around this policy?
McConnell literally said his top priority was making Obama a one term president. Not helping the American people or advocating for what he thought was the optimal economic system, but purely partisan sabotage
The broader point that their objections were more driven by ideological concerns then partisan or the more specific item that Republican didn't want to pass TARP aka Emergency Economic Stabilization Act (EESA)?
I totally agree that there is immense hypocrisy here. But everyone trots out the McConnell quote like it proves a very specific theory of the crime. I think if Romney had won in 2012, that you wouldn't have seen some explosion of federal stimulus. In some ways that's better, but in other ways it's worse.
That's the hypocrisy I'm referring to though. Pretty sure that had Obama proposed a big tax cut in 2009-2015, Republicans would have passed it despite wanting Obama to be a one term president.
I think Matt referred a while back to a Janet Yellen musing that it might prove worthwhile to run the economy hot for a few months to embed full employment, and to avoid getting stuck in third gear as after the Great Recession. It seems to me that Milan's reassessment above supports the essential correctness of Yellen's musing.
The economy is pretty good right now. Probably the best that I can recall this century. The main medium-term issue I see for the US is than taxes are unsustainably low, with little chance of this being cured.
Good post. I hope the lesson we take from this is that "goldilocks" stimulus is possible, but I don't think we will. As you noted, the harms are diffuse this time compared to post-Great Recession, and it's politically easier to accept higher unemployment than $8 eggs.
I wish we had more automatic stimulus triggers, like certain spending cuts or increases based on inflation. Ideally that would depoliticize an area that Republicans honestly don't score to well in. It's popular to support bridge construction! Make it automatic and neither the GOP nor Dems can take credit for it.
Mitch McConnell, October 24, 2010: “The single most important thing we want to achieve is for President Obama to be a one-term president.”
This has to be one of the dumbest quotes of all time. Do you think Democrats didn't say the same thing about Trump? Do you not think the party not in power for the last 200+ years has said the same thing? This does not prove they sabotaged the recovery. That is a cheap partisan shot that proves there is an agenda to drive, not the honest thoughtfulness I expect from Slow Boring.
Maybe you should more carefully review why the slowest recession recovery of all time suddenly changed course when Trump got elected. Obama's governance by fiat (because he refused to deal with the senate majority) resulted in bloated government regulations that stifled the recovery. Trump struck down many of those government regulations that slowed the recovery and suddenly the economy started working again. I disdain Trump, but am not some partisan hack that can't believe that a broken clock is right twice a day.
Which regulations did Trump strike down? I don't recall that being the dynamic. I recall a corporation tax cut and some posturing around renegotiating NAFTA, but I don't recall an impactful deregulation. The Supreme Court struck down some environmental regs but that was not Trump.
Most of it would not get covered much by the mainstream press or would be covered as purely evil because of our polarized atmosphere.
The right wing press would give credit to Trump for every positive event that happened after 2016 as well, but it is obvious by nearly every possible metric that the economy improved when he took office. Whether he should get credit can be debated among honest people, but I find so few people not blinded by their tribe affiliation that it gets frustrating to find truth.
Anyway, here is one discussion: https://www.cato.org/regulation/summer-2020/deregulation-under-trump#motivation-and-metrics
Hey,
I wanted to ask about
"Because they don’t work, older people save more money than young people. Banks use the savings that people deposit to make loans;5 a greater supply of savings, therefore, reduces the price of borrowing — i.e., it pushes interest rates down."
I think of older (retired) people as needing to draw down their savings to finance their consumption (they have no income, so it must come from savings), not increasing their savings. Am I on the wrong page somehow, or am I looking at it differently than you intended for us to look at?
There's a million separate issues going off in different directions in this post. But the main thesis seems to be that $5 Trillion in debt-financed government spending was a great thing to have done because the economy really needed the macro "stimulus."
But here's the deal -- You either believe the Keynesian conceit that silly old markets are too dumb to adjust to changes in aggregate supply and demand, or you don't. In fact, even under Keynes, there isn't even a theoretical reason why government deficits would ever raise real GDP except in the extraordinary case of a Great Depression level deflationary market collapse where lots and lots of capital and labor is laying idle due to (alleged) market failure that (for some hypothesized reason) prevents prices from dropping so that markets will clear again. (Note that the effect of **government mandates** that labor and capital must remain idle can't be cured by market forces, anyway. If the government really wanted people to stay away from work, "stimulus" would just work at cross-purposes to that policy by pumping up the demand for the very work the government is trying to prevent).
Incumbent politicians always like artificial "stimulus" because it creates a temporary illusion of prosperity that gets them through the next election cycle before the bill comes due. Advocates of government programs like "stimulus" spending because they just like spending. But the macro rationalization is just a way of avoiding the tougher political question of whether all that giveaway/special interest spending was actually the best use of our nation's resources, considered on the merits. (And who wants to do that?)
A better policy question would be whether it was a smart idea to shut down the world economy over a bad cold virus created by the U.S. Government. But our country isn't ready for that yet.
Weekend posts are great, and Milan is really flexing here with a banger here.
Are we even confident the ARP really reduced unemployment or did it just get passed at the perfect time right as covid restrictions were ending and vaccines were getting rolled out? Hard to argue it was worth creating unnecessary inflation.
Also, this piece asserts that widespread inflation is better than concentrated unemployment bc of utilitarianism but are the economics even true? Inflation hurts the poor most due to real wage erosion and lack of purchasing power, and you also have to consider all the unemployment created by your efforts to fight inflation including layoffs and lack of economic investment
What layoffs? Unemployment is a historic low! And our inflation isn’t higher than Europe’s.
What about the point of my entire first paragraph you conveniently avoided
Europe spending less than us and getting higher inflation and lower growth and employment makes hard to believe that ARP caused “unnecessary inflation”
Europe has higher inflation bc of the war and they’ve always had lower growth and employment than USA. We don’t really know if the ARP did more than just create inflation
I’m trying to tell you you were right the first time but you insist on being wrong!
“Because they don’t work, older people save more money than young people.”
That statement is unclear to me. When they don’t work the elderly tend to spend down their retirement savings.
Democrats' 2010 shellacking was not only about the state of the economy. It was also a response to unpopular things Democrats did while in power, mainly the ACA but also the failed cap-and-trade bill.
Great post! I learned a lot. Your research and grasp of economics is impressive
Thanks Michelle!
"What this all adds up to is a world of persistently weak demand leading to higher unemployment and weak inflation, as a symptom of an economy with too much slack and not enough growth."
Perhaps that is a future that is Japanese, but I'm not sure. Japan is actually doing pretty well! Per capita GDP growth is fine; unemployment is not a problem. Paul Krugman gives us the bottom line: "In some ways, Japan, rather than being a cautionary tale, is a kind of role model — an example of how to manage difficult demography while remaining prosperous and socially stable." https://www.nytimes.com/2023/07/25/opinion/japan-china-economy.html
But overall, I agree with this piece. It was much better to overshoot and undershoot. Milan puts together an excellent argument with which I have no problems. I do kinda wonder what grade it would get if he submitted it to Harvard professor Jason Furman, though.
Cormac O’Dea >>>
Yale, Harvard. So many cookie cutter schools, I get them confused all the time.
I really don't understand the hatred this blog has for using the Child Tax Credit as a one time pandemic measure. People's kids were at home and not at school! They needed child care! Plus it was a stimulus!
That credit helped a lot of people during an emergency and saying "it wasn't worth helping those people because our plan to trick the American people into making it permanent failed" just strikes me as flat wrong.
I think it was fine to give families this one-time cash benefit during that trying time. The problem was that it deluded progressive Democrats into thinking that by slipping this camel's nose under the tent they had a leg up in making it permanent (more mixed metaphors available on request). Thus we got the agony of the protracted BBB negotiations.
Your entire analysis of fiscal stimulus is unfortunately off the mark ... because you misunderstand monetary policy. You confuse monetary policy with interest rates. And you wrongly assume that interest rates at the "zero lower bound" means that monetary policy is impotent. That is not correct.
These statements are just wrong: "the Fed had already cut rates to zero and was basically out of juice" and "low rates make it very difficult for central bankers to provide stimulus via monetary policy".
In fact, central bank monetary policy works by changing the money supply -- which doesn't have a "zero lower bound". Interest rates are an EFFECT of monetary policy, not a significant part of the causal chain of controlling the economy. Monetary policy is always effective. More monetary stimulus is always possible. (No central bank that wanted to devalue its currency has ever failed.) The lost decade after 2008 was the fault of bad monetary policy from the US Federal Reserve, not the fault of too little fiscal stimulus. (E.g.: https://www.cato-unbound.org/2009/09/14/scott-sumner/real-problem-was-nominal/ ) Total aggregate demand is controlled by monetary policy, not by fiscal policy.
Once you correct this false "impotent" claim about monetary policy ... unfortunately your entire analysis of fiscal stimulus then falls apart. It all critically depended on monetary stimulus being powerless, and that one crucial assumption was completely false.
I’m aware of the money supply mechanism; I’m also aware that QE is less effective than rate cuts.
What does "less effective" mean? Can you define that term? We're talking about numbers here. There is no supply limit on integers. Nor is there a cost to monetary stimulus. The real-world "cost" of creating $10 is the same as the "cost" of creating $100 or $1000. So can you possibly offer an economic definition of your claimed "less effective"? By what metric, exactly?
Similarly ... are you aware that "QE" and "rate cuts" are actually the same underlying mechanism? The concrete action taken by the Fed is Open Market Operations, i.e. purchases of assets (mostly Treasury bonds), on the open market, at market prices, in exchange for newly created money. That is the same for both "QE" and "rate cuts". The only difference is how the Fed decides on the volume of purchases, and when to stop purchases.
(I hope you're aware that "rate cuts" do not refer to the Fed's discount rate, which it controls. Instead, traditional Fed "rate cuts" refer to the Federal Funds Rate, which is a free market interest rate. The Fed doesn't "set" the FFR; what it does is set a "target" for the FFR. And it achieves this target via the usual OMOs, changing the economy until the free market FFR floats into the Fed's target range.)
So: "QE" and "rate cuts" are actually the same mechanism. And "less effective" is not a description that applies to monetary policy. MV=PQ. You're picking an M. Your choice of the quantity for M is either "correct" or "wrong" (given your goals). It is not somehow "more" or "less" "effective".
Monetary supply is very important to an economy, but it seems foolish to accept it controls everything. E.g during Covid, the federal government stimulus was much more impactful than anything the fed could have done.
Similarly, post 2008, I think there is evidence that the fed could have done more, but also agree with Milan that the lack of additional stimulus was a mistake.
I agree that monetary policy doesn't control "everything" in an economy. Economics involves micro and macro; and macro itself involves the supply side and the demand side. Monetary policy only controls the demand side of the macro economy.
This claim is false: "the federal government stimulus was much more impactful than anything the fed could have done", at least as far as aggregate demand goes. (Again: there is more to the economy than just aggregate demand!)
A simple model for you could be: the Equation of Exchange is MV=PQ (= NGDP = aggregate demand). Inflation is just a change in the price level, and P=MV/Q. Now, money velocity V and real output Q are not fixed; however, the money supply M is completely arbitrary (just a number!), and under the monopoly control of the central bank. Which means that, no matter what happens to V or Q, there is always some money supply M that will result in any price level P (and thus any inflation) that the central bank may wish to target. If you're not seeing the inflation (or aggregate demand) that you want, the cause is ALWAYS that the central bank necessarily chose the wrong (arbitrary!) value for M (at least, given current economic conditions).
Fiscal policy doesn't matter (for managing aggregate demand). Monetary policy controls demand. "Monetary offset" has the power to "undo" whatever influence fiscal policy attempts.
I would also say that the government has more varied ways to distribute increased money supply. The fed is limited to distributing money mostly through bond transactions which can be very inefficient.
What does "efficient" mean, in this context? The money supply is like the sea level in the ocean: it doesn't matter where you "put it in"; the money flows "everywhere" very quickly. To a first approximation, only the quantity of money matters.
This is a great example. Sometimes there are events in the real economy like earthquakes in the ocean that create a tsunami. The aggregate amount of water in the ocean hasn't changed, but it's change in location can have devastating effects. Trying to counter those effects by controlling the overall water level is unlikely to succeed and could possibly create more damage in the attempt.
You apparently don't realize that I agree with you. When you have some industry-specific crisis (like a freeze in Florida that damages the orange crop), then monetary policy (and aggregate demand in general) is not the appropriate tool for that economic problem. I already said that aggregate demand isn't "everything"; it's only 1/4 of all economic theory. (Half is macro and half is micro; half is supply-side and half is demand-side. Monetary policy and aggregate demand are only about the 1/4 that is demand-side macroeconomics.)
Monetary policy is about the value of money, which uniformly affects the entire economy. If you have some narrow industry-specific problem, you would need to address it with a much more narrowly-focused economic tool. Monetary policy (and aggregate demand management in general) would be the wrong tool, in that case.
Your taking something important and making it everything with regard to aggregate demand. Question - can Canada's central bank create as much total aggregate demand as the US central bank? Or does the fact that the US is 10x the size of Canada matter how much total aggregate demand is possible?
You are confusing the real economy with the nominal economy.
The US may have 10x the geographic size, or 10x the population, or 10x the production of steel or cars. We're not talking about that. "Aggregate demand" is about the nominal economy, which is the amount of numbers (in wallets, in net worth, and on price tags). Inflation is a change in the price level, a change in the value of money, and has nothing to do with whether the economy is generating more or fewer apples than the year before.
The US economy is roughly 2.5x the size of Japan's economy. But the Japanese local currency units (Yen) are about 150x less than the purchasing power of a US local currency unit (dollar). Japan's aggregate demand (nominal GDP) is about 550 trillion local currency units (Yen). The US NGDP is "only" 23 trillion local currency units (dollars). Despite the fact that the "real" US economy is about 2.5x larger than Japan's, the "nominal" US economy is about 24x smaller than Japan's.
No, it does not at all matter that the US is 10x the (real) size of Canada, when asking whether Canada's central bank can create as much total (nominal) aggregate demand as it wants.
Yes, but the immediate response is that the nominal economy is irrelevant outside of its impact on the real economy. Its the relation between the two that matters!
And the Fed's impact on the real economy via nominal aggregate demand is not as smooth as the equation you layout above.
The Equation of Exchange, MV=PQ, is just an accounting identity, and tells you nothing at all about any causal relationship. I agree with you that the impact on the real economy matters, and that the nominal economy only matters because of its relationship to the real economy.
We haven't talked at all about the relationship between the real economy and the nominal economy. (The answer is: money is mostly "neutral" -- and maybe even "superneutral". So most of the real economy is immune to changes in the nominal economy. The main interaction between the two is via sticky prices: primarily wages, but also long-term debts. Nominal crashes cause real recessions because some critical prices don't adjust quickly enough, which changes the real economic burden of wages and debts.)
But none of this matters. Because Milan Singh's original post was about using fiscal policy to control aggregate demand. And my objection was that monetary policy dominates fiscal policy, for controlling aggregate demand. You are right that it is important why aggregate demand matters at all for the real economy; but that would be a criticism of BOTH my comments and also Singh's original post. Your concern about the real economy, while valid, is irrelevant for the important error that Singh made in the original post. Both Singh's post and my comments assume that aggregate demand matters for the real economy; the details of why and how it matters are beyond the scope of this discussion.
I’m glad to see you called out the risks of bailouts (moral hazard, and loss of creative destruction most importantly).
I think the very most important thing we got right with this big Covid stimulus is to focus on individuals and not corporations.
The key to a dynamic economy is to have intense competition between businesses. But in a world of intense competition, tons of businesses, have to die all the time. That is painful for individuals but as long as they can ride out the turbulence they’ll end up better off in the long run.
This is the dynamic that we’ve had for the last 20 years in Silicon Valley: people get laid off all the time, companies come and go every day, no incumbent is ever truly safe. But because this is a very high income industry with very low unemployment this all still works out well for the workers.
If only we could get there for all Americans! To do that we need a mix of safety net, to drive down the cost of living, and when external crises like COVID hit, stimulus targeted at individuals to help them invent the next economy.
Great article Milan!
> it is in their political interest to sabotage the economy, pin the blame on the incumbent, and win the next election
How do normal Republicans / never Trumpers defend what happened here? Deliberately attempting to damage America to worsen Obama re-election odds...
Putting their own political goals ahead of helping the constituents was wrong. I think it’s a big part of the reason for me to always distrust the old GOP
I want to semi-defend the Republicans here. Sure, they tried to screw Obama and the Democrats after they won. But, hey, they also tried to screw George W. Bush, 2008 nominee John McCain and their own party's prospects by initially flatly refusing Henry Paulson's desperate pleas to save the financial system during the Lehman meltdown!
Let's not castigate Republicans as cynical when they can be more fairly described as nihilists.
They passed TARP and bailed out Wall Street under W!
They voted it down the first time!
It wasn't until the market dropped a massive amount that they passed it.
They don't because it is indefensible
This seems needlessly uncharitable. Republicans shared the economic views of the Germans post great recession. We can say that those views are wrong, but it's hard for me to believe that the Germans were out to stop Obama's second term. Once you accept that those views can be held without it being a partisan issue, then it makes more sense to accept people are adhering to their ideological views more than they are willing to sabotage their country. Manchin doesn't agree with the expanded CTC, does that mean you believe he wants to crush poor children, is bought by wealthy who oppose spending, or do you think he is simply mistaken about the trade offs around this policy?
McConnell literally said his top priority was making Obama a one term president. Not helping the American people or advocating for what he thought was the optimal economic system, but purely partisan sabotage
What a remarkable coincidence that they changed their minds on stimulus right after Obama won!
Did they? Republicans originally didn't want to pass TARP until they were forced by the market crash!
How many of the Republicans who voted for TARP also voted for ARRA only a couple of months later?
Republicans lost primaries over their TARP votes. Democrats also caught flak for it.
https://www.npr.org/2010/06/30/128214887/tarp-puts-some-republicans-on-the-defensive
https://www.politico.com/story/2010/09/tarp-a-success-none-dare-mention-042135
The broader point that their objections were more driven by ideological concerns then partisan or the more specific item that Republican didn't want to pass TARP aka Emergency Economic Stabilization Act (EESA)?
I totally agree that there is immense hypocrisy here. But everyone trots out the McConnell quote like it proves a very specific theory of the crime. I think if Romney had won in 2012, that you wouldn't have seen some explosion of federal stimulus. In some ways that's better, but in other ways it's worse.
That's the hypocrisy I'm referring to though. Pretty sure that had Obama proposed a big tax cut in 2009-2015, Republicans would have passed it despite wanting Obama to be a one term president.