15 Sep 2012

I’m Being Serious: Why Was It Scott Sumner Day?

Economics, Federal Reserve, Market Monetarism 29 Comments

I’m not going to put in my trademark snarky comments in this post, because I’m being quite serious: I am reading some commentary, preparing to write an article on Monday talking about the Fed’s announcement. I had planned on launching a full-scale critique of Scott Sumner, who is being credited with inspiring this new move by the Fed. But I have to agree with Daniel Kuehn on this one–I just don’t see it. And I hope this doesn’t come off as jealousy or something: I want to link the Fed’s announcement to Sumner, so I can then plausibly criticize him. But I really don’t see how this has anything to do with what he’s been telling us his views are.

DISCLAIMER: I really do like Scott as a human being. When I first discovered his blog, I said (quoting a movie) something like, “At last, a man worth killing.” He told me thought that was hilarious. Fascination ensued. But on to my points:

==> First and foremost, the Fed is telling us it is going to keep interest rates “exceptionally low” through mid-2015. I learned from Scott Sumner himself that such announcements defeat the whole purpose of Fed action, because they are basically telling everyone, “The economy is going to suck at least through mid-2015.”

==> The Fed is buying the bonds of the US federal government, and mortgage-backed securities. In Scott’s ideal world, the Fed buys derivatives tied to NGDP itself. It doesn’t give a huge borrowing advantage to the most anti-U.S. business operation on earth, and try to inflate another housing bubble. Are microeconomics really that irrelevant in all of this? What if the Fed announced $40 billion in purchases from renewable energy companies and the Iranian government? Would that be market monetarism too? (Again, I’m not being snarky, I’m being dead serious. Teach me.)

==> The Fed isn’t doing a qualitative change in the nature of its policy. Before, say with QE2, Bernanke told us he was going to buy a bunch of bonds in an effort to help the economy. He didn’t say, “Now, when this round of purchases is over, we are DONE. I don’t care if the economy is fixed or still broken at that point, no more.” No, the implication was, after QE2 was over, the Fed would reevaluate and decide whether to continue buying more bonds to help the economy, or to stop because we were recovering. So how is that different from saying, “We are going to buy a bunch of bonds each month, until the economy is better, then we’ll stop”?

==> One of the big market monetarist arguments, deployed against the Austrians, was to say they wanted to shrink the Fed’s balance sheet. Bernanke was doing the wrong thing, just announcing how much money he was going to spend. No, the whole point (so we were told) was to change what his objective, to stop talking about inflation and unemployment and the size of purchases, and instead talk about doing whatever it took until the current expectation of future NGDP growth (or inflation or wages or whatever, depending on the market monetarist) is correct. So, the Fed now announces that it is going to spend a particular dollar amount per month buying bonds, and will keep doing so while carefully watching inflation and unemployment.

So again I ask: How in the world does this become Scott Sumner Day? What’s going to happen is that if it “works” (in the sense that everybody else means, not in the analogy-with-the-ocean-liner-captain way that Scott means “works”), then people will applaud the market monetarists. If it doesn’t work, then people will say, “Well, the Fed basically just did what it had been doing since 2008: Announcing it was going to buy more bonds, keep thinking in terms of a ‘dual mandate’ even though that’s stupid, foolishly paying interest on excess reserves, and for some idiotic reason, telling everybody interest rates would remain near 0% for another 3 years. I couldn’t have designed a worse policy at the time. If only people would have listened to Sumner.”

29 Responses to “I’m Being Serious: Why Was It Scott Sumner Day?”

  1. Max says:

    Seems like a case of “irrational exuberance”!

  2. Bill Woolsey says:

    You are mistaken about the nature of index futures targetting. Under Scott’s ideal scenario, the central bank does buy and sell futures contracts, but futures contracts have no direct impact on the quantity of money. It is ordinary open market purchases and sales of bonds that cause the appropriate changes in the quantity of money.

    The “keep interest rates at zero until the economy recovers to an appropriate level,” is Woodford. Undertake open market purchases until the economy recovers to an appropriate level” is the Market Monetarist approach.

    The Fed is doing both.

    Woodford apparently has long advocated a “gap adjusted price level target.” It seems like no one really knew that. Everyone knew that he thought that a price level target would be better than an inflation target if interest rates would pushed to zero. And has published papers with a gap adjusted price level target showing it works well. My tentative view is that Woodford is way up there in the Ivory Tower, and has little of “Milton Friedman” in him, with a foot in the tower but also as an outside policy advocate.

    Woodford recently came out for nominal GDP level targeting. In his view, not as good as his gap adjusted price level target (and my guess is that the adjustments are fine tuned to a model which is what makes it better, though most Market Monetarists would agree that nominal GDP targeting is unlikely to be perfect.) The connection then is from Sumner to DeLong and Krugman, to Goldman Sachs, to Christina Romer. And now, to Woodford. Not ideal, according to Woodford, but perhaps more realistic than the gap adjusted price level target he had “always” favored.

    The Fed didn’t go for the nominal GDP level target. It is still doing Taylor-type policy. Open market operations until the output gap closes is what they seem to be doing. The output gap is sort of a level concept, though it is real, not nominal. Troubling for market monetarists. But the open market operations until the economy has recovered to the right level is a move in the right direction, in our view.

    Also, the keep interest rates zero until the level target is reached is better than promising to keep interest rates zero for a period of time. You are assuming that “until the target is reached” is necessarily a longer time than some particular target. If the level is reached in 6 months, then target is no longer zero. Currently, the Fed is saying, more or less, that the overnight rate will be zero for two years.

    With interest rate targeting, the overnight rate is targeted and not longer rates. if the market expects that the goal level for employment (or better yet, spending on output) in say, 9 months, then 1 year rates will rise above zero. 5 year rates would be only slighly impacted by the promise of zero overnight rates for the next nine months.

    • Bob Murphy says:

      Bill Woolsey: Except for my mistake (which I’m prepared to admit) about Scott’s ideal world having the Fed not buy massive quantities of Treasuries, I think you are basically elaborating all the reasons that I am right. Except for that one point where you claim I am mistaken, I don’t see you saying, “No, Bob, market monetarists want X, and that’s what the Fed is changing to, with this announcement.” And even the one thing I am mistaken about, isn’t a change. I.e. it’s not like the Fed wasn’t holding Treasuries until this announcement. Anyway you wrote:

      Also, the keep interest rates zero until the level target is reached is better than promising to keep interest rates zero for a period of time. You are assuming that “until the target is reached” is necessarily a longer time than some particular target. If the level is reached in 6 months, then target is no longer zero. Currently, the Fed is saying, more or less, that the overnight rate will be zero for two years.

      I don’t understand why you are making this point. The Fed in this announcement is “promising to keep interest rates zero for a period of time.” Also, doesn’t 2015 – 2012 = 3, not 2?

      I’m not being sarcastic or anything, Bill Woolsey. But really, if the only mistake I made in talking about Scott’s position, is that even in his ideal world the Fed’s balance sheet is mostly Treasuries and it only has some NGDP futures on the side, then I think you must agree with me that this announcement is is no way Scott Sumner Day. It is Anyone Who Wanted the Fed to “Do More of the Same” Day.

  3. Daniel Kuehn says:

    Yep! Granted, perfect adherence to what you want is never going to happen. That’s not a very good standard. Policy is always going to be messy (an important point in the previous discussion about whether warlords will take over!) and pragmatists recognize that.

    The craziest thing was, the distinguishing feature of this announcement was that it was more easing and acted more on expectations and more on the idea that we have a gap to fill rather than a growth rate to hit – and those distinguishing features of talking about monetary policy are held much more broadly than Sumner or the Market Monetarists.

    In Sumner’s defense, he’s recognized this in the last several posts. I think the attention has gotten him to reevaluate the lay of the land. I just wish he acknowledged that a lot of people were saying these sorts of things for the last five years -we might have gotten better (not perfect, but better) policy sooner.

    • Bob Murphy says:

      Daniel, right, Scott himself has been very gracious in all this. I’m not saying he has been taking kudos immodestly. Rather, I am talking about the people giving out the kudos.

      Basically, the only way this is Scott Sumner Day, is if Scott admits, “Yeah, basically it’s right when people associate me with “the Fed should inflate more.'” And I thought market monetarists recoiled from that crude characterization. But as they revel in the Fed doing more of what it has been doing the last four years, I don’t see how they avoid being put in that box. I no longer believe them when they bristle and say, “No, you dogmatic and unsophisticated Austrians, our ideas would actually lead to a *smaller* Fed balance sheet! Things aren’t just a matter or ‘inflate’ or ‘not,’ we’re talking about the *way* you inflate!”

      So as market monetarists agree that the recent Fed announcement is a “move in the right direction,” the knee-jerk Austrian critique has been right all along. They want Bernanke to do more of what he’s been doing, that is the really important thing, according to the reaction of the market monetarists and especially their fans the last week.

      Right? I am prepared to back off this view, but Bill Woolsey so far is giving me no reason to do so.

  4. John Becker says:

    I remember Scott making an interesting analogy that Bernanke was like a driver holding a broken steering wheel (interest rates) assuring everyone that they’d reach their destination. Now that Bernanke has the ability to “steer” by changing the size of the monthly asset purchases.

    I feel dirty just typing that. Go back to the classical gold standard for Pete’s sake!

  5. joeftansey says:

    “The Fed isn’t doing a qualitative change in the nature of its policy. Before, say with QE2, Bernanke told us he was going to buy a bunch of bonds in an effort to help the economy. He didn’t say, “Now, when this round of purchases is over, we are DONE. I don’t care if the economy is fixed or still broken at that point, no more.” No, the implication was, after QE2 was over, the Fed would reevaluate and decide whether to continue buying more bonds to help the economy, or to stop because we were recovering. So how is that different from saying, “We are going to buy a bunch of bonds each month, until the economy is better, then we’ll stop”?”

    Regime uncertainty then? I doubt the Sumnerians would be happy with this explanation.

  6. Jonathan M.F. Catalán says:

    With regards to the point on the nature of Fed policy, I think that most economists interested in changing expectations do see a big difference between a Fed program with a specific end-date and one that is ambiguously “open-ended.” A given market agent forms expectations about Fed policy for an indefinite future under the new policy, while under Operation Twist investors had an end date to expect an end to Fed policy. I think that some economists take the expectations game too far, and this is a clear example. An investor could form expectations that the Fed will most likely (with the weight of evidence relatively close to one) renew a bond purchasing program, in which case your point would be correct.

    • Bob Murphy says:

      Jonathan: If I understand you correctly (and again, not being snarky), you are saying: “Bob, most economists would think you are wrong, and that there really is a fundamental change in what the Fed is doing here. However, I Jonathan agree with you Bob, there is no fundamental change here.”

      I’m happy with that.

  7. Dyspeptic says:

    I’m always amazed at the nonchalant way central planning enthusiasts talk about treating hundreds of millions of supposedly free people like lab rats in some social experiment. I picture you in my minds eye wearing a disheveled white lab coat, clipboard in hand, gazing condescendingly at the rest of us scurrying about in one of your clever mazes, moving the cheese around and taking note of our changes in behavior with that annoying clinical detachment you effect so convincingly.

    You genius central planners can take your G__damned cheese and your G__damned maze and shove it! (I mean that respectfully in a dry, academic, technical sense of course).

  8. Keshav Srinivasan says:

    Bob, off topic but you may want to respond to this post by Krugman:
    krugman.blogs.nytimes.com/2012/09/16/ron-paul-on-money-market-funds/

    He’s wondering what Austrians think of financial arrangements like money market funds and repo that are effectively equivalent to fractional-reserve banking.

    • Joseph Fetz says:

      I still can’t get past the DeLong quote. What the hell was that?

      • Jonathan M.F. Catalán says:

        It’s his interpretation of Austrian monetary theory. The time he spends writing these blog posts he could be spending reading the relevant chapter(s) of Human Action.

        • Joseph Fetz says:

          True! RP is entirely Misesian on money. He’s for competition and against monopoly, that’s pretty much the whole of it. Even worse, Krugman then confuses Rothbardian ethics for Austrian monetary theory.

          I mean, come on guys, you’re getting paid for this crap. Do a little research!

          • John S says:

            I tried to post this comment, but it still hasn’t been approved:

            Not all Austrians believe in 100% reserves. The “Free Banking” school believes that govt (and its central bank) should not have a monopoly on the provision of currency. Instead, banks should be free to issue their own private currency. Such a system provided extreme macroeconomic stability to Scotland for 100 years until it was merged with the English system in the mid-19th century.

            The US also had a so-called “Free Banking” era allowing private currency issue, but it had two major flaws. 1) Branch banking was not allowed (either intrastate or interstate), which made bank failures more likely since they had such small stocks of reserves; and 2) private currency issue had to be matched by equivalent purchases of state bonds. Not only did this over-concentrate bank assets in one, potentially risky asset class (state bonds), it also artificially limited the banks’ ability to increase the money supply to meet the public’s cyclically fluctuating demands for increased money holdings.

            More relevant readings:
            The Theory of Monetary Institutions, by Lawrence White
            Competition and Currency: Essays on Free Banking and Money, by White
            Good Money: Birmingham Button Makers, the Royal Mint, and the Beginnings of Modern Coinage, 1775-1821, by George Selgin

            • Joseph Fetz says:

              I’m aware of that debate, John S. I’ve actually been on both sides of it. But even many of those who are against FRB (I would venture to say most) don’t go so far as to say that the state should be petitioned for a law on such matters.

              • John S says:

                I know you are (I’ve read many of your posts); I meant to say I had posted it on Krugman’s blog (in response to Keshav).

              • Joseph Fetz says:

                Ah, ok. I was wondering what you meant there at the beginning, because I know that Murphy doesn’t moderate comments for the most part. It makes sense now.

                Sorry, I didn’t know that you were responding to Keshav.

              • John S says:

                No worries. I’m just glad I didn’t post it under MF’s comment by accident!

    • Bala says:

      This part

      “So would a Ron Paul regulatory regime have teams of “honest money” inquisitors fanning across the landscape, chasing and closing down anyone illegitimately creating claims that might compete with gold and silver? How is this supposed to work?”

      was especially interesting. That’s where, IMO, the ignorance is truly revealed.

      • Tel says:

        I suspect he really isn’t as ignorant as he thinks he readers are. The first two paragraphs exactly and precisely answer Krugman’s “Very Serious” question:

        Mr. Speaker, I rise to introduce the Honest Money Act. The Honest Money Act repeals legal tender laws, a.k.a. forced tender laws, that compel American citizens to accept fiat (arbitrary) irredeemable paper-ticket or electronic money as their unit of account.

        Absent legal tender laws, individuals acting through the markets, rather than government dictates, determine what is to be used as money. Historically, the free-market choice for money has been some combination of gold and silver, whenever they were available. As Dr. Edwin Vieira, the nation’s top expert on constitutional money, states: “A free market functions most efficiently and most fairly when the market determines the quality and the quantity of money that’s being used.”

        I presume that Krugman doesn’t even expect his readers to get past the title… you know, probably they won’t.

        Whether Paul Ryan will deliver this is quite another thing.

    • Bob Murphy says:

      Eh, I am not sure about all that stuff. I mean, obviously I think Krugman is being unnecessarily catty, but there is an honest disagreement among Austrians about maturity mismatching. I discuss this (w/o taking a position myself) in the 2nd paper linked here.

      • Keshav Srinivasan says:

        But presumably there are some Austrians who do believe that fractional-reserve banking is illegitimate or weird or something. What do those Austrians have to say about the financial instruments Krugman is talking about?

        • Bob Murphy says:

          Keshav, I don’t know what they say about MMMF in particular, but I know Walter Block and some others have problems with maturity mismatching. I think there are quotes (or at least citations) in that paper I linked.

          But the other thing is, even with FRB, it’s not obvious they want the government doing anything about it. Even if a particular Rothbardian thought a private legal system would have the protection agencies punishing a bank for FRB, it’s not obvious that the Rothbardian position is to demand that the US government (or state governments) right now start punishing banks for FRB.

          • Bob Roddis says:

            I think the problem can be solved with a simple contractual fraud analysis. If the depositor and payee understand the deal, there is probably no fraud. If they do not, there may be fraud. I would think that different private courts could have different rules regarding standards for the meeting of the minds and how to deal with obviously (or not so obviously) naive people. Even with all of the parties understanding the nature of the agreement, there still might be problems with FRB (or maturity mismatch) or maybe there won’t be.

      • Bob Roddis says:

        From page 40:

        When an investment banker borrows from A (who doesn’t want to lend at two years) and makes a two-year loan to C, it is not obvious that this is a mere entrepreneurial venture. Rather than taking a collection of resources and deploying them towards a goal that may or may not be realized, it seems that the investment banker engaging in maturity mismatching takes resources that are not his and deploys them towards a goal that may or may not be realized.

        Query: Isn’t the fraud problem solved if A knows exactly what B is going to do with the money? Or if A takes a security interest in B’s property that is worth more than the loan?

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