Here is the excellent Scott Sumner: an open letter to Paul Krugman. It's also the best recovery plan I've seen so far, by far. It's too good to excerpt, so you'll have to click through and read the whole thing. From my point of view, right now the whole world should be beating a path to Scott Sumner's door.
He has two unpublished book manuscripts and he probably would be free to meet with President Obama as well.
I posted this over at Scott Sumner’s blog, but with his comments being moderated and this being Sunday afternoon, who knows when it will show up. So I’ll post it here to see if anyone here feels like answering the questions raised:
I’m not an economist, so I’ve been trying to catch up a bit reading you, DeLong, Cowen, Krugman, et al. In my layman’s mind, it seems you’re saying that targeting a nominal GDP growth rate rather than the real inflation rate would be automatically counter-cyclical. In boom years when the real GDP was growing at a greater than 3% rate, it would put the breaks on automatically, whereas when real GDP growth was slow or negative, it would basically shift to higher inflation. Both work out about the same for banks and other borrowers, who are making decisions with the implicit assumption that a dollar borrowed now will only cost .x dollars to pay back later. When nominal deflation happens, the dollars now cost 1.x to pay back, and insolvency ensues.
With the debt load of the American public and government what it is, a bit of extra inflation during a deflationary downturn might not be such a bad thing. I’m not certain the same could be said of Japan in the 90′s, where I believe the savings rate was much higher. In that case, the inflation would devalue the savings and might have been politically impossible.
Is this understanding anywhere close to the mark? Is the suggestion instead that real GDP would be prevented from contracting with business cycles? Am I completely off the mark here?
So I must wonder why we have wedded ourselves to a Keynesian stimulus to recover the economy when one wasn’t used after WWII…
Perhaps because the stimulus is a trojan horse — a vehicle intended to substantially restructure the U.S. economy to the left — as much as it is a means to fight the recession? From this perspective, ending the recession with effective unconventional monetary policy would not serve this second purpose at all and would, therefore, be a ‘waste’ of a perfectly good economic crisis. I suspect that the Obama admin would be willing to try Sumner’s ideas only after having pushed through all the policy changes (universal health care, cap & trade, card check, mass transit, etc) under the guise of emergency economic stimulus (but before real economic recovery is needed leading up to 2012).
MW,
Your analysis excludes the massive monetary expansion of the 1920′s which led to deflationary crash, and to stagflation (GDP wobbled under the 1929 mark well into the 40′s).
The bubble is inflated with new money which is leveraged for bubble assets. The new money is anhialated when the bubble pops, and deflation insues as ability to pay declines. The government injects new money again to compensate the insolvent and supposedly replace the capital (easy if its homogenous, near impossible if its the real world). Prices then increase from the new equilibrium money supply, the only question is, whither capital?
anon,
Not sure where you got stagflation. While it wasn’t until 1940 real GDP recovered, the GDP in 1933 was half that of 1929 and except for the late-30′s depression real GDP had steady growth in the 1930′s. I will say this, though. I also think GDP should have recovered even quicker considering that we already had the know-how for the GDP-levels of 1929. So, the New Deal may indeed have retarded the recovery despite the impressive GDP and productivity numbers.
As for today, I can’t really say for sure how to reassure capital investors, but penalizing banks for having excess reserves sounds like a good start.
Perhaps central banks should adopt true inflation targeting, with very loose monetary policy in our deflationary times and tightening up when total inflation, not just core inflation, goes too high. If the Fed and other central banks took into account food and fuel prices, as well as house prices instead of just rent, we might have tightened up the obscene number of dollars floating around 04-07 and blunted banks’ access to easy money for bad loans
Tyler, I hope the world doesn’t beat a path to my door, because I haven’t yet shoveled the 8 inches of snow out there yet. Plus, I’m kind of a private person, and although I enjoy being recognized by other economists, I’d rather more prominent economists take anything they find useful and try to influence Washington. Perhaps I could give a seminar on my ideas somewhere. (The Fed?) I also want to say how grateful I am for your support. You have jump-started my career, as I was not going anywhere at age 53. Of course the crisis is much more important than my career, and I hope I can have an impact. BTW, a commenter who follows Krugman more closely than I do claimed that he already supports some of my ideas. If so, that’s fine. And I know many economists favor inflation targets (I believe Hamilton, Mankiw, Mishkin, and Rogoff are in that group.) I think I am more forceful in arguing both that monetary errors of omission cause more of our recession and banking crisis than most realize, and that money can still be very effective, very quickly. But halfway measures won’t work. I actually only have the Depression manuscript finished, the neoliberalism study is still a work in progress. I think my post on Warren shows that I can produce insights on the Depression that are both new and interesting. Any publishers out there?
It’s also the best recovery plan I’ve seen so far, by far.
You never have seen coming disaster till it hit you in the backside.
Why do you think your opinion about best recovery plan should have any weight?
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