On not "running out of ammo": Monetary Policy as Farmland Price Policy

Imagine a central bank that pegs the price of farmland. It announces it will buy or sell unlimited amounts of farmland for $10,000 per hectare. So "one dollar" doesn't mean some number of ounces of gold; it means "one square meter of farmland".

So the central bank owns farmland, which it rents out to farmers at market rents. It uses those rents to pay for paper and ink and economists' salaries, and gives the rest to the government which owns the central bank.

Or it could have a crawling peg, so the price of farmland always appreciates at 2% per year (or whatever).

That central bank policy would influence interest rates. Because if land is expected to yield a (say) 1% rental return, plus 2% appreciation, land will yield a total nominal return of 3%. And lenders will compare the interest rates they earn by lending money to the 3% they could expect to earn by buying land instead. By setting a crawling peg that crawls at 3% instead of 2%, the nominal rate of return on land would rise from 3% to 4% (if the rental return stays the same), and nominal interest rates would rise too. But the central bank would not set any market rate of interest.

Or it could have an adjustable crawling peg. If CPI inflation were too low, and the bank wanted it higher, it could raise land price inflation. If CPI inflation were too high, and the bank wanted it lower, it could reduce land price inflation. Just like Irving Fisher's Compensated Dollar Plan, only with farmland replacing gold.

Could this central bank ever "run out of ammo", and find itself unable to create inflation? Is there any parallel to the alleged Zero Lower Bound constraint for central banks that set a rate of interest?

No.

Yes, the central bank could run out of farmland to buy. If everyone prefers owning currency to owning any farmland. But in that case the central bank can simply announce a new crawling peg that crawls faster than the old one, so farmland appreciates more quickly, so people will be more willing to own land instead of currency.

Plus it could reduce the risk of that happening, for a given crawling peg for farmland, by buying other assets too, so there's more currency in public hands for any given amount of farmland in public hands. But in the last resort, when it runs out of any suitable assets to buy, it could simply make the crawling peg crawl faster.

Loosening monetary policy, by making the crawling peg crawl faster, causes higher nominal rates of return on owning land, and so higher nominal interest rates. Nominal interest rates that are too low mean monetary policy that is too tight.

Central banks (unless they run out of paper and ink) simply cannot "run out of ammo" to create inflation. The idea that they can "run out of ammo" is a fallacy that comes from the Neo-Wicksellian heresy of thinking of monetary policy as interest rate policy.

We don't need no stinking fiscal policy to create inflation.

Yes of course farmland is heterogeneous, so implementing this particular policy has some practical difficulties. So what; it's a thought-experiment, just to show how monetary policy works. Use an index of farmland prices, or crawling peg the stock market total return index instead. Monetary policy is not interest rate policy.

Conflict of interest declaration: I own some farmland.

Update: heading off canoeing tomorrow. May be slow responding to comments.

Comments

[Sergej]

Civil wars can create inflation even faster

[JP Koning]

Great post, Nick. I'm definitely on board.

"The idea that they can "run out of ammo" is a fallacy that comes from the Neo-Wicksellian heresy of thinking of monetary policy as interest rate policy."

I agree here. But instead of adopting some sort of Fisherian compensated dollar plan to solve the problem, we can also figure out ways to get interest rates below zero. Miles Kimball has a few ideas on that.

[JP Koning]

When I think about what central bank best embodies an adjustable crawling peg to farmland, I'd say the People's Bank of China. Except instead of farmland, it uses a currency basket (mostly USD). It can adjust its peg up or down to make monetary policy tighter or looser. (I've never really understood what adjustments to the PBoC's interest rates accomplish.)

[Don Geddis]

@JP Koning: "we can also figure out ways to get interest rates below zero. Miles Kimball has a few ideas on that."

It seems to me that you have entirely missed the point of this post. Did you happen to miss this sentence? "Monetary policy is not interest rate policy."

It doesn't matter what interest rates are. Even at the so-called Zero Lower Bound, monetary policy remains effective. Open Market Operations that expand the money supply, continue to provide stimulus.

Bank lending is not a significant part of the monetary policy transmission mechanism. There is no need to try to puzzle out how to get below-zero interest rates. That's not a problem that needs solving, and it has nothing to do with monetary policy.

[libertaer]

What's with Turgot's theory that the price of farmland should approach infinity if the real rate of interest on anything else approaches zero? In that case there would be an infinity bound! Central bank can't raise the price of land above infinity (without going full Cantor :-)

An "infinite" price could be interpreted as landowners refraining from selling land at all. (Most people, I hope, would refrain from selling their children, in that sense: children have an "infinite" price.)

[Chris]

This may be a stupid question, but say we wind up in a situation where:

--The CB owns 100% of the farmland.
--No new farmland can be created.
--Everyone continues to prefer to own currency over farmland at current prices.
--Thus, no transactions take place in the farmland market.

In this situation, how would the price of farmland (or its rate of appreciation) matter for the economy? How could the CB deliver additional monetary easing if it wanted to?

[Nick Rowe]

JP: Thanks!

Negative interest rates on currency gets around the ZLB problem, yes. But the (more theoretical) price-level indeterminacy problem remains.

I think there's a close analogy between farmland adjustable crawling peg and exchange rate adjustable crawling peg. Both are examples of what I called "front wheel steering" in an old post:
https://worthwhile.typepad.com/worthwhile_canadian_initi/2016/09/front-vs-rear-wheel-steering-for-monetary-policy.html

But we can't have all countries doing monetary policy with exchange rates; the nth country must do something else.

libertaer: yep. If interest rates were permanently negative, the equilibrium price of rent-paying farmland would be infinite. Unless rents are expected to decline faster than the rate of interest. Or unless there's an illiquidity or risk premium built in that requires a higher rate of return on farmland to compensate.

Chris: didn't I address that question in the post?

[MDC]

Dear Prof Rowe,
I’ve been reading your blog for a while, but I’ve found this post particularly compelling.
I want to think about, say, inflation futures as an implementation tool for central banks more carefully.
Are you able to point to any papers etc that set out your thinking, and work through how this could be implemented in practice?
Thanks

[Nick Rowe]

MDC: Thanks!

I'm pretty sure there are papers on central banks targeting inflation futures, but my memory is very bad at pointing you to specific papers. I know that Scott Sumner (Money Illusion blog) has a number of posts on targeting NGDP futures, which is very closely related.

[Gerard MacDonell]

Hi Nick,

I am very interested in this theme. Would you mind setting out in tangible terms how the central bank exogenously gets money into the economy and how that translates into nominal demand?

I like your joke about how new Keynesians are actually just new Wicksellians. But I would like to understand this beyond the level of a joke. Please help.

Thanks very much.

Yates claims you are the only literary economist worth listening to.