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Echoing DeLong, I think it is worth pondering why there exists so much more opposition to inflation these days compared to the previous two decades. Or in other words, is there a cyclical component to the magnitude and pervasiveness of the inflation fallacy?

Moreover, as you suggest, the extent to which a person suffers from the fallacy should depend on the level of exposure that person has had to economics.

Given that, shouldn't we see a negative unconditional correlation between the extent to which a person suffers from this fallacy and the person's wealth (since the prevalence of the fallacy is negatively correlated to economics education while wealth is presumably positively correlated with economics education)?

I think that could explain why some people are puzzled when they see (or believe they see) a positive value for the unconditional correlation between a person's wealth and the strength of that person's inflation fallacy.

primed: but is there actually any data that says what sorts of people would be most opposed to inflation?

My guess would be that the most important division would be between creditors and debtors. But that's just a guess. A sensible guess, but a guess.

What about young/old, men/women, employed/unemployed, educated/less educated,left/right, religious/non-religious, urban/rural, tall/short, fat/thin, etc., etc.

Why not lawyers/non-lawyers?

There are billions of different ways to divide people up into different categories. The fixation with dividing them up into rich/poor (or capitalists/workers), and using that one dimension to inform your whole view of the world, on any topic, is an extremely peculiar fixation. (And one that did appalling amounts of damage in the last century too, leading to mass poverty and millions of deaths.)

Primed: and I'm not sure there is a bigger opposition to inflation now than there was a couple of decades ago. It might just be the feeling that "We sacrificed one helluva lot to bring inflation down (and, truly we did, especially the unemployed in the early 1980's), and there is no way we are going to throw away something so painfully attained!"

How exactly is Krugman dividing the world up in silly ways?

In a recent blog, Three Roads to Hard Money, he identifies three groups that are opposed to loose monetary policy who demand that interest rates be prematurely raised based on absurd and disproven economic theory: the wealthy, right-wing politicians and freshwater economists.

I think this is a fairly reasonable position. It applies more to the US and Europe than Canada. Here a Conservative PM appointed a dovish BoC governor. So right-wing politicians aren't saying much. (But then again they are forced to read from a script before talking to the media...)

But if one reads the NP, FP and Globe and Mail, there are many articles opposed to Stephen Poloz because he won't raise interest rates "despite rising inflation." Who do they represent?

I remember reading a Globe editorial that proposed lowering the inflation target to 1% because 2% erodes the value of savings too quickly.

If Rowe proposes looser monetary policy, why is Krugman the bad guy for proposing the same thing?

Nick, I agree with the thrust of your argument. There are no data on the cyclicality of the inflation fallacy and no data on the correlation between wealth and the inflation fallacy (those making arguments about these matters haven't provided references to any data analyses and instead seem to be relying on very suspect 'anecdata' at best).

I think Krugman divides the world into wealthy and poor because he thinks that in practice the wealthy ultimately call the shots and determine policy.

On one hand, I agree with you that dividing the world this way could have dangerous unintended consequences, while on the other hand, I fear there may be some truth to the argument that wealthy people call the shots (I have seen studies indicating that legislators support their wealthy constituents and that finding also conforms with my general view that incentives matter - for legislators just as much as for others).

"The fixation with dividing them up into rich/poor (or capitalists/workers), and using that one dimension to inform your whole view of the world, on any topic, is an extremely peculiar fixation. (And one that did appalling amounts of damage in the last century too, leading to mass poverty and millions of deaths.)"

Actually the anger against the "robber barons" during the 1930s led to the New Deal and the post-war Keynesian era that created the wealth of the first-world nations: it produced living standards for the average person that were unprecedented in history. This saved the world from a communist domino effect.

The free-market reforms of the past 30 years have led to towering levels of inequality (the US ranks #88 down in third-world territory.) The wealthiest have hogged up all the gains from GDP and productivity growth. They also turned the financial sector into a casino and caused an economic meltdown playing musical chairs with the global economy. This cost taxpayers trillions in bailouts and stimulus spending (average people who are still suffering while corporate executives award themselves big bonuses for the hard work of receiving government money.)

No one's proposing a communist revolution. (Of course one never would've happened if it weren't for the exploitation and oppression of workers caused by 19th-century free-market capitalism.)

Like in Stiglitz's book "Freefall" it's not about assigning blame. It's about moving forward and coming up with solutions that will better manage resources and provide economic stability. Fact is the economic instability caused by the first free-market meltdown in 1929 led to the rise of fascism in Europe and world war. We need to root out the causes of the 2008 meltdown or history is certain to repeat itself.

Ron: "If Rowe proposes looser monetary policy, why is Krugman the bad guy for proposing the same thing?"

He isn't. Dividing the world up into good and bad people (agree with me on everything or disagree with me on some things) doesn't make sense either. We can agree on some things, and disagree on others. And saying that people who disagree with you are therefore bad people is a fanatic's perspective.

"Here a Conservative PM appointed a dovish BoC governor."

Is he dovish? Does he want a higher inflation target? I haven't heard that.

"But if one reads the NP, FP and Globe and Mail, there are many articles opposed to Stephen Poloz because he won't raise interest rates "despite rising inflation." Who do they represent?"

Lawyers, obviously. They are all in the pay of the wicked hard-money lawyers. Or the wealthy. Or some religious or ethnic group. Take your pick of daft conspiracy theories.

primed: "I think Krugman divides the world into wealthy and poor because he thinks that in practice the wealthy ultimately call the shots and determine policy."

And there is some truth in that. Though which way causality runs is another question. (My guess is that personal abilities cause both wealth and power.) But, if you look at the data, I think my lawyer theory looks pretty good. Lawyers are the ones calling the shots, more than the wealthy. Compare the percentage of MPs who are lawyers with the percentage of the population that are lawyers! And my guess is that lawyers view the world very differently from, say, engineers, or farmers. Time for some quotas!

Ron: "Actually the anger against the "robber barons" during the 1930s led to the New Deal and the post-war Keynesian era that created the wealth of the first-world nations: it produced living standards for the average person that were unprecedented in history. This saved the world from a communist domino effect."

Bullshit. Average living standards started rising a century and a half earlier than the Keynesian era. Ever hear about the Agricultural and Industrial Revolutions? That's what created rising productivity then eventually outran the Malthusian spectre. They were not created by Keynesians or socialists.

Actually, if I really wanted to divide the world into those who, in the long run, are powerful or not powerful, I would invoke the cathedral/not cathedral distinction. Paul Krugman, especially writing for the New York Times, is about as cathedral as you can get. (I am a member of the cathedral too, God help me, though in a much lesser role.)

The most common occupation of the more inflation-phobic House of Representatives in the US is listed as "business", with lawyers constituting only ~30%.

The less inflation-phobic US Senate (though not necessarily by much) is where more than half the members are lawyers.

My question is why the people who do have power over inflation (at least in the US) on the Fed board are so inflation-phobic -- they're mostly bankers with some academic economists.

I always figured sticky fees would not matter so much for lawyers if they can be creative about what they bill for and billable hours.

Great post, Nick. I always like it when you bring in the Borges problem.

While I agree that lawyers are disproportionately represented among legislators, I think self-interested legislators have good reasons to work with lobbyists and/or support the views of their most generous donors. I think this generally holds true for the U.S. based on campaign finance laws here but perhaps the situation is different in Canada.

Only when the median voter is noticeably and significantly distant from big donor interests would it be rational for legislators to listen to the median voter instead (e.g. on immigration policy).

Jason: "The less inflation-phobic US Senate (though not necessarily by much) is where more than half the members are lawyers."

Damn! You have just ruined my excellent little theory, with some of your accursed data!

No. On second thoughts, that is just a minor anomoly, that has yet to be resolved.

Livio: Hmmm. Are lawyers procyclical? I know one lawyer who does intellectual property stuff. I use her as my key leading indicator. When her business started picking up, I knew the recession was past its trough. That wouldn't work if her fees were that flexible.

JP: thanks!

primed: Hmmm. But how many of those generous donors are themselves lawyers? Or influenced by lawyers? Their tentacles spread everywhere. (Isn't that one of the big obstacles to tort reform in the US?)

Indeed, Nick! I think the solution then is to require that Macro 101 be taught in law schools! :)

primed: I'm now onto whisky. That is actually not a bad suggestion for improving economic policy. After all, if the country is going to be run by lawyers, shouldn't we at least insist that nobody gets to be a lawyer without having at least the basics of economic literacy?

I'm not sure that lawyers in parliament are representative of lawyers nationally. They have a very different set of incentives.

The reason lawyers in parliament support low inflation/tight monetary policy is because the marginal voter supports low inflation/tight monetary policy. For reasons outlined in your previous post, primarily that those not as well versed as yourself in the effects of inflation perceive only the reduced purchasing power of the dollars they currently have at their disposal.

Also re: Are lawyers procyclical?

Depends on their specialty. If you're a bankruptcy lawyer, recessions are your bread and butter. Mergers and acquisitions, not so much. Contracts are brilliantly flat since you write a lot of them when the economy does well, and then lots of them fall apart during recessions, which leads to litigation opportunities.

Governments employ a large portion of the lawyers in this country, and they pretty much keep chugging away in good times and bad.

Maybe it's just marketing. Maybe arguments used against inflation are just more persuasive to the type of people who become lawyers, irrespective of the validity of the arguments. Analogous to young women in bikinis being very effective at selling beer to men despite the (apparent) lack of correlation between buxom young women in skimpy swimwear and the quality of a fermented beverage.

This is very nice. Just one additional note - I don't think that the hard/easy money divide is as sharp as Krugman thinks. There are some historical examples, two of them I can recall immediately:

1) Greenspan's very well explained monetary loosening despite of high inflation in September 2005 (as opposed to monetary tightening in 2008). This contrast is nicely explained here

2) One can hardly say that Obama's Fed appointees are dovish. One example was mentioned by Scott Sumner. Not a single Obama's Fed appointee voted for monetary easing in August 2012. And he appointed 6 out of 7 committee members.

But then maybe these committee members are secretly pro-inflation but they were forced to vote for tightening by hard money clique and conservative media - while democrats were focused on fiscal stimulus. It cannot be their responsibility since they have to be good guys by default.

Your guess is that the most important division on inflation is creditors/debtors. But it's not like creditors and debtors are randomly drawn from the population, and that's what Krugman was talking about (he explicitly wrote this! a response, at the very least, is merited!). Creditors tend to be wealthier. They are also more likely to hold wealth in the form of equities. It's not at all like asking whether fat or thin people are more opposed to inflation because there actually is a positive correlation between wealth and likelihood of being a net creditor.

This sounds like that one critique I read of Piketty's book that said nothing Piketty wrote about inequality is interesting unless you assume that the owners of capital are wealthier than the average person. Well, OK, I'm fine with that assumption!

Alex: OK. That's like saying: "Being rich causes you to buy bigger shoes. Because rich people tend to be taller, and tall people tend to have bigger feet."

JV's point needs to be expanded. Is it generally true that righty politicians and governments tend to want lower inflation targets and smaller deficits than lefties? Not at all obvious to me. What were NDP, Liberals and BQ MPs saying when the Conservative government ran deficits during the recession? Were they critical of those deficits, or arguing the deficits should be bigger?

Nick, I think your attempt at satire falls a bit flat. Blame the Lehrer Problem. (Tom Lehrer allegedly said he stopped writing satirical songs when Kissinger won the Nobel Peace Prize because there was no way he could top that.) The problems with lawyers in power are well known. Recall that the problems at Krugman's beloved baby-sitting co-op were aggravated by lawyers who wanted to legislate for demand. Edmund Burke predicted that the French Revolution would end in dictatorship when he saw that the newly-established National Assembly consisted largely of lawyers.

As for Primed's suggestion that Macro 101 be taught in law schools, I fear the problem is that it is taught there:

"A little learning is a dangerous thing; drink deep, or taste not the Pierian spring:
There shallow draughts intoxicate the brain, and drinking largely sobers us again."

They need to learn Macro 202, or whatever it's called.

"My question is why the people who do have power over inflation (at least in the US) on the Fed board are so inflation-phobic -- they're mostly bankers with some academic economists."

You can check this at http://www.federalreserve.gov/aboutthefed/default.htm
Of the 5 present members of the board (Yellen, Fischer, Brainard, Tarullo and Powell), the first 3 have PhDs in economics followed by many years of teaching and research at top Economics departments. The last two have law degrees and have practiced law. Powell is the only one who qualifies as a "banker", with over 25 years of experience in private equity, investment banking, and investment management.

Now, you might also want to consider the Presidents of the regional Federal Reserve Banks, who also attend FOMC meetings and rotate in and out of the voting positions. Of the 12, only three (Atlanta, Kansas City and Dallas) have presidents that lack a PhD in economics. Many of the rest have extensive academic publications in economics (e.g. Philadelphia, Chicago, San Francisco, St. Louis, Minneapolis.)

For better or worse, it looks like US monetary policy is presently controlled by academically-trained economists.

Ron Waller,

"It applies more to the US and Europe than Canada. Here a Conservative PM appointed a dovish BoC governor."

One could add the UK to the Canadian camp. In fact, our right-wing politicians liked your monetary policy so much that they reversed their usual stance on immigration and brought over Carney.

History may be important here. The British right associated loose money with the socialistic 1970s, just as in the US, but it also associates tight money with the Euro and Europe generally, as well as the early 1990s ERM fiasco quite accurately blamed for being one the main causes crippling the Tory party's popularity for a generation. Even UKIP is led by politicians who are dovish right now: Nigel Farage is a dove right now, and their economics spokesman Tim Congdon has been about the most dovish member of the Shadow Monetary Policy Committee.

Are lawyers over-represented among politicans?

A while back The Economist had an article about this and it's conclusion was that almost 20% of politicans are lawyers, 17% businessmen, 13% have a background in diplomacy, 11% military etc. So lawyers don't appear to be as dominant as Nick Rowe seems to claim. That said, isn't it true that lawyer-ruled Canada has had some of the most succesful macroeconomic policies during the crisis (comparatively speaking of course)?


Here is the url: http://www.economist.com/node/13496638

Simon: "For better or worse, it looks like US monetary policy is presently controlled by academically-trained economists."

But we know, I mean we just know, that it's the rich.. I mean the lawyers.. who run the world. So they must be all married to lawyers, or being influenced by lawyers, or something. Who appoints them? Obama, right. And he's a lawyer. So that proves it.

And in Canada, it was the Martin/Chretien team that so tightened fiscal policy. Both lawyers, scared of inflation!

I'm going with false consciousness. You can't find a more innumerate group of highly educated people than lawyers, except maybe art historians - but art historians understand that they don't know any economics.

Bloix: I loved that comment!

All: please see my little update in the middle of the post. Even if lawyers' fees are stickier than other prices, a small increase in AD will make lawyers better off, despite the fact that it causes their real fees per hour to fall below the profit-maximising level. It's the aggregate demand externality, that all good New Keynesian macroeconomists should understand.

None of you called me out on my theoretical mistake. You all fail!

As a lawyer who used to work in policy at the Department of Finance, I can't help but feel this post was aimed squarely at me. Just for the record, every time I stepped outside of my zone of competence, the economists at the table would give me a look that said "Oh, well isn't that a cute, but completely misguided opinion."

On a more serious note, I think the reason lawyers in a position to guide policy are opposed to higher inflation is the same reason most members of the general public are opposed to inflation - in media reports, inflation is always bad. Nobody has ever said "the economy is doing much better thanks to inflation." We don't want inflation. What we want is growth. What good could possibly come from more inflation? There are only two things I can think of that are worse than inflation: 1. Recession (although this is a close one). 2. Stagflation.

Renzo: Bingo! That is exactly what I think about lawyers too (when I set aside my satirical persona). As I said in my previous post: "It's the Inflation Fallacy, duh!".

Simon Wren-Lewis rejoins the fray, on Kalecki's side:

http://mainlymacro.blogspot.ie/2014/09/class-interests.html

Oh God. Can't these lefties at least get their story straight? I thought the Party Line was that high unemployment was very dangerous for the "neo-liberal" consensus? You know, Keynesians saving capitalism by reducing unemployment, and Hitler coming to power as a result of the 1930's unemployment?

Nick, I had a re-read of that post, and it reminded me of something I noticed when I was at Finance: Economists are more concerned about the aggregate, and lawyers are more concerned about individuals on the margins.

So, as to the inflation fallacy, you look at it and say "On average, prices and wages go up, so once you convert everything into real terms, on the aggregate we're in the same position." Everyone's afraid for no good reason.

But, I say, few people will actually be average. There will be some winners and some losers, depending on how sticky your source of income and your expenses are respectively.
And the higher the inflation rate is, the greater the gap between the winners and losers will be. (I'm just asserting this, I have no theory to back it up other than it sounds reasonable, and, being a lawyer, I'm confident I can convince most non-economists (and some actual economists) that it would be true).

Now, am I willing to bet that my income will keep pace with or exceed inflation? Am I willing to bet that my expenses will match or fail to keep up with inflation? How risk-loving would you say most people are when it comes to their income?

Cue explanation of my misguided opinion.

To Nick's point, do debtors perceive inflation as beeing good for them? We probably agree that they should, but I'll bet they don't.

If they perceive inflation as being bad because prices rise (and isn't linked to rising incomes), then inflation doesn't do anything for them qua debtors. Nominal prices rise, but nominal debt remains the same. The former is bad, the latter is neutral.

On the other hand, if they didn't subscribe to the inflation fallacy, and believed that an increase in prices also means an increase in income (subject to Renzo's comment about winners and losers), then they would welcome inflation, because the increased nominal income makes it easier to service their fixed norminal debt. It's the increased nominal income that (generally) arises from inflation that reduces the debt burden to debtors, not inflation per se. To the extent that debtors (or lawyers, or Joe Q Public) don't see a link between the two (i.e., they subscribe to the inflation fallacy), they're going to oppose inflation, notwithstanding that it may benefit them.

"You can't find a more innumerate group of highly educated people than lawyers, except maybe art historians - but art historians understand that they don't know any economics."

Fair.

As an aside, Canadian lawyers who work for US clients (i.e., vast swaths of Bay Street) would probably love some inflation if it caused the dollar to drop relative to the US dollar. The glory days of the Canadian legal profession was a decade ago, when your C$100K bill only cost the US client $60K

Nick: I thought the Party Line was that high unemployment was very dangerous for the "neo-liberal" consensus?

If you're thinking of Keynes's party (insofar as he has one) I'd say that's right. But Kalecki thought he was a bit naive in thinking that the Establishment would see it that way. As to where lefties stand on that question, my impression is that Kalecki has it.

'Here a Conservative PM appointed a dovish BoC governor.'
"Is he dovish? Does he want a higher inflation target? I haven't heard that."

He's as dovish as they come among the pseudo-technocrats.

"But if one reads the NP, FP and Globe and Mail, there are many articles opposed to Stephen Poloz because he won't raise interest rates "despite rising inflation." Who do they represent?"

'Lawyers, obviously. They are all in the pay of the wicked hard-money lawyers. Or the wealthy. Or some religious or ethnic group. Take your pick of daft conspiracy theories.'

Lame analogies aside… It's silly to suggest that wealthy investors, corporate executives and shadow bankers have no more power and influence than the average Joe and would have no reason to meddle in the affairs of government or attempt to manipulate monetary policy.

All of the disastrous free-market reforms of the past 30 years have been entirely self-serving to this special interest who promoted them and donated big money to political parties to ensure they were put in place. (Clinton, for example, repealed the Glass-Steagall Act that paved the way for the 2008 financial market meltdown. Obama was no different than Bush in doling out sweetheart deals to shadow banks outside the purview of FDIC insurance.)

It should be no surprise, as a result of their efforts, their share of income — the top 0.1% — has shot back up to Gilded Age levels.

An economist denying the existence of this special interest is no less absurd than J Edgar Hoover denying the existence of organized crime.

(Top 0.1% income share US: 1928, 8.2%; 1961, 2.0%; 2012, 8.8%.)

"Bullshit. Average living standards started rising a century and a half earlier than the Keynesian era. Ever hear about the Agricultural and Industrial Revolutions? That's what created rising productivity then eventually outran the Malthusian spectre. They were not created by Keynesians or socialists."

No doubt, the 19th century was a golden age to free-market true-believers. Just like Chile is the ideal economic model today. To the average person who lived under these conditions, they would've had a very different impression.

Ron: We know that lawyers are far more powerful than ordinary people. Google proves it. Why are you trying to deflect attention away from lawyers, and blame someone else? Are you a lawyer yourself? Or married to a lawyer, or have friends or relations who are lawyers? Or are you just an unfortunate victim who has swallowed the lawyers' ideology?

Renzo: "Cue explanation of my misguided opinion."

Not totally misguided. But asymmetric.

The Bank of Canada has been targeting 2% inflation for the last 20 years, and has hit that target on average. So 2% inflation is the status quo. Any change in inflation, either above or below 2%, would be risky, and would create winners and losers. So people who were concerned about that risk, because they didn't know whether they would be winners or losers, would dislike decreases in inflation below 2% just as much as they would dislike increases in inflation above 2%.

It's an argument for small-c conservatism on inflation. "Don't change the 2% inflation target!" (And it's a valid argument, and I give it some weight in my own thinking, but I think there are other arguments that outweigh it.)

Ron Waller,

"To the average person who lived under these conditions, they would've had a very different impression."

And to the average person who lived under the conditions of 1799, they would've had a very different impression of life in 1899. Just as it's no failure of the 1945-1975 period that I have a very low impression of what life was like for the average person in 1975.

Perhaps there's also an element of distrust of authority at play. Deliberate inflation -- in any amount -- reeks of active management of the economy by [sideways glance] bankers. Those bankers have ambiguous but certainly nefarious objectives, and they'll use any lever on the economy towards those ends.

I've come to this way of thinking (as a partial but not complete solution) by way of a discussion involving bitcoins. Bitcoin proponents have no particularly obvious wealth/poverty characteristics, but the culture is associated with a sort of technocratic liberalism. The algorithmic control of bitcoin issuance is routinely cited as a great strength rather than weakness. There's even a dose of futuristic survivalism, of the "bitcoins will let me keep my hard-earned money when [spit] fiat money is worthless!"

In other words, it's a new version of the gold bug.

"And to the average person who lived under the conditions of 1799, they would've had a very different impression of life in 1899. Just as it's no failure of the 1945-1975 period that I have a very low impression of what life was like for the average person in 1975."

They would be horrified at what happened to wages and benefits (both private and public) and job security in 2014, after 30 years of free-market reforms. They would be shocked to find the idea of progress had died: back then it was expected that children would have it better than there parents.

The problems with inflation in the 1970s are nothing compared to what we face now. The 1970s produced higher real GDP growth than any decade that came after it. Debt/GDP was less than 40%. GDP growth is down to a trickle now.

Primed, Kevin: historically, economics in France was first taught in law school as it dealt with property rights. Or engineering school as it was about costs. (the famous "corsards" of the École des Mines). Never as an independant science until rather recently.

Bob Smith said: "To Nick's point, do debtors perceive inflation as beeing good for them? We probably agree that they should, but I'll bet they don't.

If they perceive inflation as being bad because prices rise (and isn't linked to rising incomes), then inflation doesn't do anything for them qua debtors. Nominal prices rise, but nominal debt remains the same. The former is bad, the latter is neutral."

I'd say here is what a lot of retirees and most workers experience. Prices rise. Nominal wages do not rise as much and/or the fixed nominal income of retirees do not rise as much. There is negative real earnings growth. Now they need to run down savings or go into debt to maintain their standard of living.

If workers complain about the situation, they are told don't you remember (the wage-price spiral of) the 1970's. You wouldn't want the central bank to raise the "fed funds" rate above 8%?

"It might be false consciousness. Lawyers don't understand macro as well as the average macroeconomist like myself, and they don't realise that they too would gain from a looser monetary policy, which would cause an increased demand for lawyers, and so higher real incomes for lawyers. So they are acting against their own class interest, because they don't understand it."

Lawyers might say there is no guarantee "looser monetary policy" will increase demand for lawyers. They might also say "looser monetary policy" might go to the corporate profits of law firms and not to the workers of the firm (lawyers, secretaries, etc.).

"Clinton, for example, repealed the Glass-Steagall Act"

Maybe leave the legal analysis to the lawyers? ; )

I see people blaming Clinton for this all the time, but how can anyone really believe that the post-Depression separation of commercial and investment banking survived until the late 90s?!?!? Citibank didn't need any reforms to complete its acquisition of Salomon — the Clinton repeal was to allow the takeover of an insurer, Travelers, which it sold a few years later (though the red frown in Citi's logo is a living reminder of it).

And none of this had anything to do with the Fed's monetary blunders that led to the financial crisis (or the Great Depression). It was economists, plain and simple, who did that.

As for lawyers running the world... it's not at all surprising to me that lawmakers are often lawyers. Duh...

If you were a billionaire with an axe to grind, who would you hire to advocate on your behalf?

"Do you have a better theory to explain why monetary policy is too tight?"

You need to look at the possibility that it is not too tight. Maybe government deficit spending is getting to dangerous levels and we are headed to high inflation. I have a model that shows how this could happen:

http://howfiatdies.blogspot.com/2014/09/krugmans-missing-model.html

@Vince:

> I have a model that shows how this could happen:

Your model which prescribes that interest rates fall while inflation increases? Hyperinflation should be no surprise in that case. If all of the monetary control levers are left unchanged in the wrong place, we should expect bad things to happen.

You also double-count the presumed impact of interest rates on money velocity: T-bill yields are nominal-terms, so they already implicitly bake in inflation expectations. Setting velocity based on the sum of inflation and interest rates really means you're using twice inflation plus the real rate.

Additionally, your model fails the "sniff test" of stability: plug in a modest *surplus* (government spending of, say, 0.96 times taxes) and you get hyper*deflation*.

"I see people blaming Clinton for this all the time, but how can anyone really believe that the post-Depression separation of commercial and investment banking survived until the late 90s?!?!?"

The reason the separation was put in place was to avoid an obvious moral hazard. In order to stop bank panics (that wreaked periodic havoc up into the early 1930s) bank accounts needed to be insured. In order to prevent commercial banks from excessive risk taking, which taxpayers were on the hook for, commercial banks needed to be regulated.

So neoliberal ideologues messing with a tried-and-true system that produced over 50 years of stable banking first created the Savings & Loans crisis in the 1980s which required a $160 billion bailout. This turned out to be a precursor to the 2008 financial market meltdown which cost taxpayers $700 billion, plus all the money wasted on Fed QE toxic asset purchases.

The point is not about blaming Clinton, but to point out he was carrying on Reagan's neo-liberal agenda (instead of opposing it which partisan liberals are still oblivious to today.)

Clinton was also responsible for promoting the Washington Consensus that worsened currency crises in Latin America and Asia during the 1990s, absurdly forcing pro-cyclical fiscal and monetary policy upon developing countries whose economies were in freefall — which was the opposite medicine America prescribed for itself after its various asset bubble crises, especially the 2008 meltdown (i.e. countercyclical monetary and fiscal measures.)

BTW, I am not a "leftie". I am in the political center where America was during the post-war Keynesian era (1945-1980; back when the economy functioned.)

"And none of this had anything to do with the Fed's monetary blunders that led to the financial crisis (or the Great Depression). It was economists, plain and simple, who did that."

For one, Greenspan was a neo-liberal's wet dream of a central banker. He was heralded a hero until the 2008 meltdown. He promoted deregulation. Resisted regulation of the shadow banking sector and various financial innovation schemes, which he also promoted. He believed religiously in the infallibility of free markets. He took a hands off approach to the economy. And in Friedmanian style, brought in helicopter money when asset bubbles burst. (According to free market ideology, one cannot know an asset bubble exists until the correction.)

As for the helicopter money dropped in after the dot com bust and 9/11 terrorist attacks, Stiglitz brings up an interesting point about banks and businesses that tried to shift the blame years later after the 2008 meltdown. Complaining about cheap money is the same as an automaker complaining about cheap inputs like a low price for steel and labor. These are big pluses, not burdens.

The real problem was that the money was not invested in the real economy but wasted in the free market casino created by the financial innovation schemes. These created synthetic assets that bet on the value of real assets, which were junk mortgages whose worthlessness was hidden by information asymmetries inherent in the financial innovation products themselves.

Instead of a bank being responsible for a mortgage and being on the hook for a default, mortgages were bundled up and sold as securities which were given AAA ratings. The investors had no way of knowing they were predatory mortgages and "liar loans" which were creating a housing bubble and were doomed to default. (Of course, some insiders like hedge fund manager John Paulson knew. He literally made billions of dollars shorting these investments including a billion-dollar junk mortgage fund he designed for Goldman Sachs.)

Investors trusted the bond rating agencies who used the flaky Gaussian Copula formula to calculate the risk (which basically stated the likelihood of widespread defaults was a 1-in-a-thousand year storm.) Savvy investors (i.e. not the "muppets") knew the entire system was a fraud: a gargantuan mass market manipulation scam. They played musical chairs with the housing bubble, waiting for the right moment to grab a seat (making a huge profit) before the system came crashing down around their ears.

In short, deregulation and financial innovation products: a) amplified the risk instead of spreading it out; b) wasted capital on synthetic assets instead of pumping money into the real economy which would've created long-lasting wealth and jobs through business expansion and innovation; and c) wasted capital fueling a housing bubble that resulted in enormous financial and social costs across the globe we are still paying for 6 years later.

"It was economists, plain and simple, who did that."

Yes, free-market ideologues: from Milton Friedman to Larry Summers (who's still around mucking up the American economy. Hopefully someone will drive a stake into Uncle Milty, ensuring he stays dead and buried.)

@ Ron Waller

Not sure history is on your side. Glass-Steagall didn't fix the problems that led to the Great Depression. We were wrong to believe that banks were the source of the contraction, as Bernanke acknowledged 10 years ago when he said: "We did it." He meant that the Fed's monetary policy caused the Depression (ie, neither lawyers nor bankers, but an independent board composed entirely of economists).

I believe that we'll eventually come to exactly the same conclusion about the current depression — the Fed did it. And they did it for exactly the same reason: because they were paranoid about an asset bubble (ie, they were "against higher inflation") and thought they knew how to fix it. They were wrong. Both times.

And here we are blaming lawyers. Will we ever learn?

A mix-and-match of comments I have made in other threads.

The view from the Antipodes--where "neoliberalism" was primarily implemented by centre-left governments--makes many of the generalisations being bandied around in the comments seem somewhat inadequate.

Globalisation (competition from low wage countries), migration (especially of low-skill folk) and rising female labour force participation were always going to make rising real wages a big ask. It would require significant productivity increases: difficult when labour substitution is easier.

Alternatively, one could engage in careful "social wage" policies (tax the winners and transfer benefits further down). That would be Antipodean "neoliberalism".

Either way, it is not a coincidence that the policy turn to "neoliberalism" occurred after productivity growth dropped dramatically.

I also get impatient with the "financial deregulation meant X" as, in the Antipodes, it did nothing of the kind. We managed our bank bargain better than the US. As did Canada. But Canada have been managing their bank bargain better than the US for well over a century. Hard to blame that continuing pattern on "neoliberalism". At best, "neoliberalism" provided the Yanks with a new way of screwing up their bank bargain, as per their long term historical pattern.

Also, the irony is that Friedman's mistake was not to take his expectations critique of the Philips Curve as an instrument of policy far enough.
http://skepticlawyer.com.au/2013/04/15/check-your-expectations-3-milton-friedman-not-going-far-enough/

Oblivia:

The liquidationists at the Fed turned a slump from the 1929 stock market crash into a depression and bank meltdown because they believed no action was the best action. The Glass-Steagall Act was an attempt to end bank panics, which worked perfectly.

The Fed has taken the opposite approach to the 2008 financial meltdown, which was likely a bigger shock than the 1929 stock market meltdown. They provided ultra loose monetary policy short of raising the 2% inflation target: near-zero interest rates for 5 years and QE money printing.

The Fed didn't cause the crisis. But they obviously didn't fix it either. Significant fiscal stimulus is needed now, just like it was in the 1930s. Of course, back then governments didn't provide it until they converted to war-time economies: first Germany, then the US.

Of course, one doesn't need to spend money blowing things up to stimulate the economy. Spending on infrastructure and reversing spending cutbacks will do the job just as well.

"The view from the Antipodes--where "neoliberalism" was primarily implemented by centre-left governments--makes many of the generalisations being bandied around in the comments seem somewhat inadequate."

This is an obvious contradiction. First the left-right economic spectrum is defined with communism on the far left (100% government control over the economy) and free-market libertarianism on the far right (no government involvement in the economy.) The mixed-market system, created by Keynes and employed during the post-war era, is in the center.

So a center-left government would be socialist-leaning Keynesian on economic issues. If they are neoliberal, they are, by definition, to the right of center.

If a party is called the "Leftie" party and it's agenda is to implement anti-Keynesian free-market reforms, it is no longer a left-leaning party. The name says nothing about its position on the left-right economic spectrum.


"I also get impatient with the "financial deregulation meant X" as, in the Antipodes, it did nothing of the kind. We managed our bank bargain better than the US. As did Canada. But Canada have been managing their bank bargain better than the US for well over a century."

Managing and deregulating are obviously different policy directions.

In Canada we had a right-of-center "centrist" government that rejected bank deregulation. That prevented a financial market meltdown here. (In 2006, a more right-leaning government imported some US practices through mortgage deregulation: no-money-down, 35-year mortgages with federal insurance [of course]. But our housing bubble has yet to burst.)

But just because a neoliberal-leaning country or party takes a Keynesian position on banking, doesn't mean it has a different version of neoliberalism.

Neoliberal doctrine is opposed to regulations. Neo-liberals were opposed to the regulation of the financial innovation products that caused financial meltdowns in many countries around the world.

What is the neoliberal position on government bailouts of failed investment banks? Is crybaby capitalism neoliberal?

OK, if one uses the Humpty Dumpty version where words mean whatever I say they do whenever I want them to, then you can "defend" anything.

The Hawke-Keating Governments and the Lange-Douglas Governments were centre-Left Labour Governments. They privatised, corporatised and de-regulated. Really, they did. Including financial de-regulation. They did so in order to create more sustainable welfare states. Which worked--better in Australia, because things had to be more carefully negotiated within the wider society. But that is a point that goes way beyond just "neoliberalism".

As for bank bargains: read Fragile by Design. As the authors make clear, any banking system worth the name is a "bank bargain". The problem in the US was not Glass-Steagall (repealed or not), it was unbalanced regulation--too big to fail and guaranteed GSE's without balancing prudential regulation.

Also, the Fed's response to the GFC was not "ultra-loose monetary policy". It (passively) tightened monetary policy by failing to respond to the massive increase in demands to hold $US.

Low interest rates are a sign that money has been tight, not loose. There is a difference between direction (cutting or raising interest rates) and level. You really should read Friedman's 1967 AEA Presidential address (published in 1968). It is quite clear on this point.

"OK, if one uses the Humpty Dumpty version where words mean whatever I say they do whenever I want them to, then you can "defend" anything."

I explained the LITERAL meaning of the left-right economic spectrum. The economic spectrum doesn't change just because a political party moves left or right. You are using the "Humpty Dumpty" version of words, trying to "defend anything" — i.e., trying to defending right-wing neoliberal policies by moving them around the economic spectrum. It's nonsense.


"The Hawke-Keating Governments and the Lange-Douglas Governments were centre-Left Labour Governments. They privatised, corporatised and de-regulated. Really, they did. Including financial de-regulation. They did so in order to create more sustainable welfare states."

Spare me the crocodile tears.

Neoliberal policies don't create wealth. They create inequality. One doesn't create inequality to reduce inequality.

The fact is Australia has one of the worst levels of inequality (Gini Coefficient) among developed countries.

It has one of the lowest tax revenues as a percentage of GDP.

It spends less on public social spending than the US according to the OECD social spending database.

So all the RIGHT-WING neoliberal policies Australia engaged in (I did not create the left-right economic spectrum, BTW), typically — deregulation, big tax cuts that primarily benefit the wealthy, cuts to social spending, reduction of public benefits like unemployment insurance, free trade which exports wealth and jobs causing an unsustainable current account deficit (Australia's is just as bad as America's), rent-seeking privatization schemes that make taxpayers pay more for less, etc. — have created inequality and made the social welfare state "more sustainable" by destroying it.


"As for bank bargains: read Fragile by Design. As the authors make clear, any banking system worth the name is a "bank bargain". The problem in the US was not Glass-Steagall (repealed or not), it was unbalanced regulation--too big to fail and guaranteed GSE's without balancing prudential regulation."

Actually many commercial banks had to be bailed out in the US as well because of deregulation. If the regulators had been looking out for taxpayer money on federally insured bank accounts, they would've kept a better eye on the books.

But let's call a spade a bloody shovel. The neoliberal doctrine of deregulation was applied to the US financial sector and exported to many other countries that also suffered a meltdown. The neoliberal bent in policy direction also resisted the regulation of the emerging shadow banking sector and the flaky financial innovation products that hid the actual risk — one could call this pre-deregulation.

The neoliberal philosophy is also based on the concept that the markets are self-regulating. Therefore there is no such thing as a too-big-to-fail institution. (No doubt understanding this concept requires employing the process of doublethink.) But this is why neoliberals are fiercely opposed to breaking up (not)-too-big-to-fail institutions.

In fact, the neoliberal consensus that governed the "free market" bailouts, said that these (not)-too-big-to-fail investment banks were also (not)-too-big-to-restructure. So instead of forcing them into Chapter 11 — which would've been "socialist" — taxpayers bought up the toxic assets and took the hit investors should've took for their bad bets in the synthetic asset casino.

This is the painfully obvious contradiction in neoliberal deregulation doctrine: the profits are privatized and the risks are socialized. Costing externalities requires regulation. Regulation is "inefficient" (obviously more so than the odd trillion dollar bailout…), bad for innovation, bad for economic growth and worst of all: bad for jobs! And the best thing of all: the doctrine is entirely self-referential. As GDP growth, e.g., steadily declines to a trickle this is called "record prosperity."

My pet theory is that neoliberals/"neo-cons" use the book "1984" as an instruction manual.

AIUI Bank (de)regulation in Canada, the entire entity and its subsidiaries are regulated under the Bank Act by the Office of the Superintendent of Financial Institutions. OSFI's policy since the 1980's has been that chartered banks may own investment banks and securities dealers, but the risks generated by these investments must never be so large as to be able to jeopardize the entire institution. It's the same as when a conservative investor devotes 20% of his portfolio to riskier investments; the return is higher but the risk remains practically the same. A 50/50% split though is a no-no.

"Small" is a relative term, but Canadian banks are large enough to own most of the brokerages and investment banks and still have enough heft to cover the losses.

More importantly, banks in Canada are the classic "widows-and-orphans" stock, owned by pensions, institutional investors and retail investors across the country. These people expect bank executives to produce an adequate if not outstanding return, reliable dividends and avoid catastrophic risks that would cause large price hits. They are on the same page as the OSFI, though for different reasons. They do not pay executives to be gamblers.

Determinant: What prevented Canadian banks (chartered and investment) from getting burned by the toxic American Collateralized Debt Obligations, Credit Default Swaps and other financial innovation products that got high ratings from bond rating agencies?

If you look at the Gini data, you will see that (1) there has been a general trend towards higher Gini coefficients and (2) the after-tax-and-spending Gini coefficient for Australia is significantly lower (.336) than before such (.486). We do it with relatively low tax share of GDP because we have a strongly targeted welfare system.

We are also a high migration intake, culturally diverse country with an indigenous population (about 2%) who public policy has persistently failed. All of which make it hard to have low Gini coefficients. (Countries with low Gini coefficients tend to be largely monocultural--there is a reason for that: it tends to mean less income dispersion and, more importantly, much easier to have high rates of transfers without too much waste or social tension.)

We also have low public debt and low unemployment, without a technical recession since 1992 and much higher rates of per capita GDP growth than other OECD countries (due to not having a technical recession). We also have one of the highest Human Development Index ratings. So, "neoliberalism" in Australia has created a lot of wealth and shared it around. Which is why its key features are not particularly politically controversial in Australia. Yes, we did it better than the Yanks, hurray for us.

The Australian Labour Party is, and remains, a centre-left party affiliated with the trade union movement. Its policy was explicitly based on the notion of a "social wage"--that is, free up the economy so unemployment fell, economic growth picked up and rising tax revenues from a growing economy could be channelled into well-targeted social spending. It worked, and was very much a centre-left policy project.

Determinant's picture of Canadian banking is very like Australian banking. Except it is the Australian Prudential Regulatory Authority which does the regulation. I presume Canadian banks avoided the toxic stuff the same way Australian banks did--the banks were not keen and the regulations did not let them. And yes, if you are going to hand out implicit or explicit guarantees, you have to have balancing prudential regulation otherwise you are just creating one-way bets. That way disaster lies. Governments can screw up de-regulating as they can screw up anything else. Playing the "game of bank bargains" is hard, which is why remarkably few countries have done it well.

"We also have low public debt and low unemployment, without a technical recession since 1992 and much higher rates of per capita GDP growth than other OECD countries (due to not having a technical recession). We also have one of the highest Human Development Index ratings. So, "neoliberalism" in Australia has created a lot of wealth and shared it around. Which is why its key features are not particularly politically controversial in Australia. Yes, we did it better than the Yanks, hurray for us."

Australia is a resource-based economy. It was protected from the worst of the 2009 recession because of a resource boom and banking regulation (as was Canada.)

I haven't heard much of Australia's implementation of neoliberal policies. I do know that New Zealand had a terrible experience with neoliberal "Rogernomics" (implemented by their "Labor" party) that led to a proportional representation referendum in the 1990s. (Canada, like the UK, is not a real democracy. Parties get absolute power on 40% of the vote because of First-Past-the-Post voting.)

In Canada our "centrist" party (Liberal) continued on with the neoliberal reforms of the right-of-center party in the 1990s (which they were fiercely opposed to in opposition.) They effectively became the right-of-center party. They are not as far right as the US Democrat party. Our Conservative party is not as far right as the Republican party. Of course many Canadians still see the Liberal party as a centrist party and are largely unaware of its neoliberal agenda.

Back in the post-war era (1945-1980), Democrats, Republicans, Liberals and Conservatives were centrist Keyensians. (E.g., the highest income tax margin in both countries was 70%.)

In short, whatever mix of economic policies, a party's position on the political scale is averaged out by how right-leaning (neoliberal/libertarian) they are, or centrist (mixed-market Keyensian) or left-wing (socialist.)

According to the Political Compass, during the 2013 election, Australia's Labor party was rated 77% right on the left-right economic scale (50% is center.)

Australia is a resource-based economy. It was protected from the worst of the 2009 recession because of a resource boom and banking regulation (as was Canada.) But no recession since 1992, and we had a dramatic drop in our export income when commodity prices tanked. "Lucky because resources" does not cut it as an explanation. Much more important is that our monetary policy is anti-cyclical rather than pro-cyclical.

I do know that New Zealand had a terrible experience with neoliberal "Rogernomics" (implemented by their "Labor" party) that led to a proportional representation referendum in the 1990s. And before that Piggy Muldoon created what was (only half-jokingly) called the only command economy in the Western World. New Zealand used to be a unicameral unitary state with first-past-the-post two party system. It permitted wild swings in policy direction, which is less than optimal. Hence folk voting for a system that mitigated that.

Trying to get precise definitions of "left" and "right" seems a remarkable waste of time to me.

Yes, policy contexts differ. But a whole lot has changed since the 1950s and 1960s, and we really cannot go back there. For example, women entering the workforce means much greater dispersal in household income (as high-income women marry high-income men). The spread of manufacturing to China, India, etc also disperses income. Increased migration flows across the Tropics-Temperate barrier disperses income also. The collapse in productivity growth after 1973 fundamentally changed the policy context.

If you want the policy outcomes of the 1950s & 1960s you need the entire package, and that really is not going to happen. Hence the discovery process of trying to work out what works in the new context.

Given Australia did worse than the industrial world average in per capita economic growth in the 1950s & 1960s "golden age" and has done better than the industrial world average in per capita economic growth since the policy shift in the early 1980s, and given that we stopped having unemployment hit higher and higher plateaus each round of the business cycle (as happened from 1973 to 1992) and instead unemployment has trended steadily downward, clearly we have been doing something right.

Ron: "My pet theory is that neoliberals/"neo-cons" use the book "1984" as an instruction manual."

That is a moronic statement. You are getting to be a tiresome troll. If you want to have a rant against what you call "neoliberalism", go somewhere else. You are totally off-topic here. And no, the other post is not about "neo-liberalism" either.

Do not reply.

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