What the Beckworth diagram really means

From my earlier post, here it is again (and Beckworth here, with links to critics, Krugman here, and see also @ProfSufi on Twitter):

As Scott already has stressed, this is about whether the liquidity trap makes the Fed impotent.

My view is this: The Fed cannot very well control ngdp during a credit collapse (parts of 2008-2009) but it can control ngdp in a so-called “liquidity trap.”

I view my theory as consistent with this graph, rather obviously consistent.

Scott and I think David believe something more like: “The Fed can always control ngdp.”

That means they have to think Bernanke made a huge error and indeed they do think that.  (I think Bernanke was slow to react along the longer-run ngdp forecast dimension, but I am more sympathetic to B. than they are, as I don’t think currency is such a useful substitute for collapsing credit, contra Fama 1980.)

Here is the key question: what do the liquidity trappers think?

That this ngdp path is a coincidence?  That fiscal policy has been keeping it on an even keel in more recent times?  (Implausible for 2010-2012, given other claims they make about fiscal policy, plus implausible more generally.)  That some other process — which? — drives the ngdp path?

The problem with the debate, so far, is that we don’t yet know which clear alternative theory of 2010-2012 ngdp determination the liquidity trappers are proposing.

Sufi, by the way, is complaining that Beckworth (and others) are passing over Romer and other empirical pieces on stimulus, but David is pretty clearly covering “the multiplier contingent upon a reaction function of the monetary authority, with the monetary authority moving last and having control over ngdp.”  I have discussed these matters with David and he is not behind the academic discussion here but rather very often ahead of it.  He has a clearer theory of ngdp determination than do the liquidity trappers, even if I do not agree with his theory in every regard.

I would very gladly have a more transparent debate on ngdp path determination, noting in advance that I personally do not think it would go very well for the liquidity trap hypothesis.

Addendum: This paper surveys some relevant issues from the theory side, although it is not my preferred approach.


Wouldn't the liquidity trappers say that unconventional monetary expansion and fiscal contraction have largely offset each other 2010-2012? And that fiscal expansion would have been a preferable path to higher NGDP than even-greater unconventional monetary expansion because 1) American infrastructure is in bad shape and could use an overhaul in many areas and 2) the federal government can borrow at absurdly low rates and 3) increased aid to states could have prevented public sector job losses, which is a pretty efficient way to support employment, all things considered?

Yes, exactly. I've been following this argument relatively closely, and I still don't get why people get so hung up on these plots. What is the counterfactual here? How does any of this evidence invalidate the view of proponents of increased govt spending, either for the reasons highlighted by yenwoda or others? I'm not saying that these proponents are right, but I just don't see how you can in any way discriminate between their view and a fiscal-stimulus-is-all-bogus view with two lines over a three-year period. You need a model for this, you need a benchmark, you need a frame of reference. Gee, haven't we learned anything from Lucas and others?

Exactly. Graphs can be powerful and effective illustrations of findings supported by stronger methods, but they're not much in the way of evidence of anything on their own. Why all the bother about a graph? Where's the beef?

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"Wouldn’t the liquidity trappers say that unconventional monetary expansion and fiscal contraction have largely offset each other 2010-2012? "

Well, my understanding is that the liquidity trappers believe that monetary policy is not effective at the zero bound, so I do not think they could make the argument you made above. If monetary expansion has offset fiscal contraction, then there is no zero bound problem.

They don't believe "conventional" monetary policy is effective at the ZLB. Well, of course it isn't. I can't think of anyone who hasn't come around on NGDP targeting, since targeting 5% NGDP would mean a boost in inflation, from the liquidity trappers' side.

I'm very sympathetic to Krugman's policies, but not the man himself or his model. The most I see him call for is debt relief to state governments and perhaps a bump in infrastructure spending. I can get behind that. Though the fact most of US debt is short term debt is a weakness for the trappers. Despite being sympathetic to their policy prescriptions, their model leads one to patently ridiculous outcomes: a) a committed central bank cannot inflate (!) b) the debt won't be a problem because sovereign interest rates are always going to be low since we control our currency. I would think that the preceding decades should have convinced us not to make bets with systemic consequences on the assumption that a single class of asset prices won't move in a direction we didn't anticipate.

Anyways, if the contention is that unconventional monetary policy has offset the winding down of stimulus, then they've lost the argument to the market monetarists already.

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Good questions especially "Scott and I think David believe something more like: “The Fed can always control ngdp.”". Maybe people will realize that NGDP targeting is based on a graph (not the one shown), a few assumptions, and conjecture. There is no there there or at least the people advancing the cause don 't have anything more.

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Well, there is this: http://www.american.com/archive/2011/april/the-fed-vs-the-fdic-on-lehmans-failure
Everyone can be right!

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Or, neither fiscal nor monetary policy had anything to do with NGDP changes. It's the economy, stupid!

Why do people cling to the myth of effective and timely policies? Economic problems do tend to resolve themselves over time

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Don't rely on a poor graph to do your poor reasoning for you.

As was pointed out earlier, 1) graph on left axis is % change from a previous year (think acceleration, deceleration, not velocity; 2) axis on left side percentage changes are nearly twice as large as percentage axis on the right side; ie, they are not scaled...if you look at a 1% change on left axis, it corresponds to a nearly 2% change on the right; 3) the comparison axis on the right side is not an acceleration or deceleration variable, but a velocity variable (fed expenditure/ngdp, not change in fed expend to change in fed exp); 4) causative arguments miss lagged variables...you would want to lag a variable if you claimed that x caused y for the x variable to show an effect; and 5) time frame is selected over a very short range (corresponding to a narrow period, and not 10 or 15 years.)

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So, with automatic welfare stabilizers, the Fed can maintain ngdp by monetizing all the debt required to maintain ngdp as wages and labor income fall.

But the Fed has not been able to boost labor income to reduce the increasing dependency on debt funded consumption.

Even the "eliminate welfare to force people to get jobs" merely increases the debt but this is debt the Fed can't monetize. If you rely on a car for transportation and borrow your mothers car to get to work because at 67 she can't afford to drive too much because her SS is all she has to live on because the savings she has are returning zero because the Fed is monetizing debt, but her child consuming her car is a debt they are running up in order to survive when work pays less than the cost to live and work.

If we were to create a balance sheet for the entire US economy, we would have an asset sheet that reflected to asset value of all the cars. Today that asset sheet is showing a huge reduction in value. For a business which maintains funds to offset depreciation, the fund for cars has been borrowed against to pay for consumption - capital has been pillaged for years, not just cars but also bridges and rail lines and buildings of all sorts. Billions in real estate was built from 2001-2006 which has been left to be stripped and to decay - that was new capital assets pillaged because the Fed can't monetize the debt liability of that new housing so it can be productively used even at a zero rate of return.

Businesses are looking to keep profits high without dealing with the lost labor income because a corporation that pays a living wage to all its workers would be subsidizing its competitors in Wall Street. So, corporations are in a race to the bottom that depends on government borrowing to offset the labor income reduction to maintain ngdp. And no one can imagine any amount of Wall Street deregulation that will allow pay day lenders to offset labor income reductions - how can you have pay day lenders charge 15-25% interest on debt back by the paycheck asset with the leverage going from 1 to 10 to 100. In what would can a worker get a payday loan for $10,000 backed by the $300 paycheck he will get in two weeks - the $10,000 the amount he needs to borrow to repay the $9500 payday loan on cashing his $300 paycheck.

And if the rule was, if you can't survive on what you earn we erase you from the economy - that is the homeless and hungry who live in abandoned houses and dumpster dive and strip out the copper and sell for small change.

Or if 10% and then 20% and then 30% of old people abandon their housing and move in with their kids and grandchildren increasing the abandoned housing, maybe ngdp can be maintained by the Fed but the nation will be losing money like GM, et al. was from 2000 to 2008. We have for the 21st century become the Sears-K-Mart nation losing ground to the Wal-Mart nation (China) because Sears has been pillaging its assets while Wal-Mart has been increasing its real assets, the US is pillaging its infrastructure while China has been increasing its like the US did from 1860-1900, or from 1920-1980.

ngdp staying constant does not mean the asset balance sheet for the US economy isn't deeply in the red.

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I was a bit surprised by Prof Sufi's conviction that the evidence was crystal clear, actually. I checked his links and they were all about the effect of specific programs or specific spending on employment. He was simply not engaging with the central stylized fact that Prof Beckworth was presenting.

I think that the liquidity trap arguments should be reduced to 'the CB cannot raise inflation to an arbitrary target by fiat when near the ZLB' rather than about inability to maintain a moderately consistent path of NGDP, which it almost certainly can do.

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Scott's rationale for “The Fed can always control ngdp” is usually "No central bank has ever tried to create inflation and failed." How true is that assertion? And why would a credit collapse make it impossible for the Fed to expand the nominal economy?

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These macro discussions remind of studying theology in college. Academics and Cardinals cared mightily whether Jesus is begotten and consubstantial with (not made!), and the Holy Ghost procédit from, the Father; after all each of our everlasting salvation is more important than anything we do today. The simple-minded public preferred the mundane teachings about behaving well, not causing trouble, etc, because that made their lives better, today. To my untrained mind, economic teachings on demographic growth, innovation, specialization, trade, tax and labor regimes are the accessible lessons that promote positive individual behavior and the social well-being that we want. The Macro stuff aims to propitiate "GDP", "Unemployment Rate", "Inflation rate" and other imagined deities that seem too distant to matter today.

More likely, I sucked at Latin and I suck at Math, so I endorse the easily understood.

I'm not sure whether I agree with the comment, but I am sure that it's one of the best comments I've ever read.

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Macro seems largely devoted to coming up with justifications for why micro doesn't apply to certain aggregates. I'm not sure why people who agree you can't mess with the supply-demand curve for bread think you can with money and credit. But then, I'm not an economist and they assure me they know what they're doing.

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One question I would raise is why the Fed would choose a rate of NGDP growth that's somewhat lower than what it has been for most of history. Are there political economic reasons they can't boost it further with unconventional action? In which case a liquidity trap type might argue that while contractionary fiscal policy to a point wouldn't actually be contractionary while expansionary policy would to a point be expansionary. Not sure if anyone actually takes that view.

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" Scott and I think David believe something more like: “The Fed can always control ngdp.” "

At first, I interpreted this sentence as saying that Tyler and Scott both are of the opinion that David believes "The Fed can always control ngdp." But is the actual meaning that you're sure Scott believes this (Sumner--right?) and you're not sure whether David does. Maybe you should've got a "you're posting too fast, slow down" message from your website.

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