Is it my imagination or is Biden getting slaughtered

[phil_20686]

As I understand it, the Republican point about stimulus, is that it is not beneficial, over the long term. I.e., the cost of paying it off is exactly equal to the benefit now. So if you are going to be saddled with paying for a share of the stimulus repayment ten years from now, you are getting the negative part, and you should benefit from the stimulus in the short term. It is not contradictory to claim that the sum of these two parts is zero, or slightly negative, and still want your stimulus cash, given that you are certainly going to have to do your part in the repayment of federal debt.

 

Ultimately this all comes down to an argument about multipliers. These are basically impossible to really measure. The difference between 0.8 and 1.2 is small enough that second order effects like the effects on human capital of unemployment are important, and are essentially impossible to measure with any certainty.

 

However, there is a fairly easy way to understand why/when the multipliers are more or less than one. A value of one basically means the following: The government gets the full value of its purchase while total production is constant. When the economy is operating normally one (or slightly less than one) is the default assumption. We can think of it this way, when you have deficit spending, you are increasing the money supply, since US treasuries are so liquid as to be basically money, when the economy is at full capacity, money creation leads to inflation, since the money supply increases but the supply of goods does not. E.g. if you have a deficit of 1% of GDP and no spare capacity, you get 1% inflation when you spend it, so your multiplier is 0.99. More broadly, the country as a whole is not worse off (nor better off), since government spending is basically a series of transfer payments regarding the goods and services produced.

 

When there is idle capacity, the amount of goods and services increases in line with the money spent, so there is no inflation, and now your multiplier will be 1 directly. However, there are second order effects, since unemployment erodes human capital, putting people back to work improves your human capital. These benefits are `free', so in total the multiplier must be >1. My understanding is that it is hard to find cases where the multiplier is better than 1.2 in modern industrialised countries. Some estimates in super extreme circumstances like post war britian, get as high as 2. (Think of what that means, it would mean that a deficit of 5% would generate 5% extra GDP growth `for free').

 

So, given that, the republican case is that we are not in a `depression', but instead are involved in a `necessary' rebalancing away from `malinvestments' like too much housing/useless luxuries/services, towards a more sustainable distribution with much more manufacturing. Such a thesis involves believing that we want different things now from in the past, and that it takes time for the economy to retool itself and its workers to meet its new needs. This is the Austrian thesis, where recessions are about `creative destruction'. There are certainly cases where this is more believable, the UK 1946-1948 is one such case. We had converted almost our entire manufacturing base to a war footing, and when we stopped making tanks real production collapsed until the factories were repurposed to make other stuff. Technically it wasn't a recession, but that was only because it was basically a centrally planned economy up until 1951 when rationing ended. Its hard to have meaningful gdp statistics when most consumption like food and fuel was given out based on ration cards.

 

There is, of course, a very easy way to check. If large deficits and monetary stimulus lead to high inflation (say, greater than 4-5%), then the economy is obviously `busy' and unable to respond to extra demand. This is why the real buisness cycle/austrians keep predicting high inflation. If inflation stays low we are in a (unnecessary) demand side recession. Here is the inflation rate (CPI) for the US 2005-present.http://www.tradingeconomics.com/charts/united-states-inflation-cpi.png?s=cpi+yoy&d1=20050101&d2=20121031

 

So you can see that inflation has not exactly run away despite a 1trn fiscal stimulus, and close to 2trn in monetary stimulus. In fact, its five year average remains about 1.6%, well below its historical average of 2.2%, and below the target rate of 2%.

 

Ultimately, it is unfair to call Ryan a hypocrite on this issue. He is just wrong, but a substantial fraction, perhaps a majority, of the economics profession misdiagnosed this crisis. Ultimately, the analysis of Friedman(i.e. monatarists) have proved completely right, while the analysis of Keynes was still broadly right, and the austrians/Hayekians, have been completely wrong.

[PassedOut]

Ultimately, it is unfair to call Ryan a hypocrite on this issue. He is just wrong, but a substantial fraction, perhaps a majority, of the economics profession misdiagnosed this crisis. Ultimately, the analysis of Friedman(i.e. monatarists) have proved completely right, while the analysis of Keynes was still broadly right, and the austrians/Hayekians, have been completely wrong.

Great post. By the way, still looking forward to part 2 of your Stagflation series on WorldOfInterest.

[WellSpyder]

However, there is a fairly easy way to understand why/when the multipliers are more or less than one. A value of one basically means the following: The government gets the full value of its purchase while total production is constant. When the economy is operating normally one (or slightly less than one) is the default assumption. We can think of it this way, when you have deficit spending, you are increasing the money supply, since US treasuries are so liquid as to be basically money, when the economy is at full capacity, money creation leads to inflation, since the money supply increases but the supply of goods does not. E.g. if you have a deficit of 1% of GDP and no spare capacity, you get 1% inflation when you spend it, so your multiplier is 0.99. More broadly, the country as a whole is not worse off (nor better off), since government spending is basically a series of transfer payments regarding the goods and services produced. [....]

Except that as conventionally defined, no increase in output means that the multiplier is zero, not one....

[dwar0123]

Except that as conventionally defined, no increase in output means that the multiplier is zero, not one....

Have to admit, I may not be following this all that well, but my understanding is that for the multiplier to be zero, the stimulus money would have to have no impact on the economy. This would be equivalent to setting 100% of the money on fire and not using it for warmth, light or making any entertaining point. Even when you look at a 'complete failure' like Solyndra, the money paid people's salaries, paid for manufacturing, The salaries was used to buy coffee at the local Starbucks, spend a night out at the movies, etc. All positive impacts on the economy, granted the multiplier is still not 1, not worth it in this specific case. But it was still well above 0 and not all stimulus was a failure like Solyndra.

 

Not only that, but I think the private corporations receiving the money would have to burn 100% of the cash. If the government burned their own cash, that really only costs them the amount of money it costs to physically reprint/replace the money. And reprinting the money will put people to work. In fact actually printing trillions of dollars for the private companies to burn would entail quite a lot of economic stimulus for the money printing industry. It is very likely impossible to get to a 0 multiplier.

[Vampyr]

I am ashamed to say that I had never heard of Hayek before reading the highly informative post above. Here is an article I found interesting if a bit basic.

 

To be perfectly honest, though, I had always thought that the necessity of spending one's way out of a recession was obvious by inspection and didn't require explanations by the great minds of our finest economists. If the people have no money to spend, and the government spends little, no goods or services are changing hands, no jobs are needed etc.

[aguahombre]

In a recession, if the people have no money to spend, and the government has their money, the solution is for the government to spend it? I can think of another solution.

[dwar0123]

In a recession, if the people have no money to spend, and the government has their money, the solution is for the government to spend it? I can think of another solution.

Does it involve time travel?

[phil_20686]

Except that as conventionally defined, no increase in output means that the multiplier is zero, not one....

 

So there are complications in how you define output. Economists do not seem to be consistent, I agree that if you define it as real output/increase in government spending, then the default is zero. But real output is not something that you can actually measure, so most use a proxy, eg, NGDP. If its NGDP/increase in government spending then a multiplier of less than one is impossible in the absence of imports and (monetary) inflation. This was one of the criticisms of old style keynesian models. the government spending multiplier is something like (delta)Y=(delta)G/(1-a)(1-b), where a = marginal propensity to consume and b = tax rate, but since a and b are between 0 and 1, its greater than one by definition, if you exclude inflation. Similarly, the balanced budget multipliers are defined to be 1 for the same reason. Its kinda `obvious' why this is so, the old style keynes models do not assume that total production is limited, so if you spend more money you get more output by assumption. That was probably a fine modelling assumption in the period 1945-1960, but its terrible now. I mean, the IMF just produced a paper saying that in open economies with flexible exhange rates the long run cumulative multiplier was not significantly different from zero for any industrialised countries.

 

I have seen other attempts such as defining them to be "the real value of all goods and services", but increased demand changes the price level by definition, so its not at all clear to me that that is an internally consistent approach. There are further complications, since multipliers really only make sense if you have no fiat currency. Post Keynesian analysis is crucially dependent on the role of the interest rates in managing consumption, since both fiscal and monetary policy can move interest rates, since any time the multiplier is >zero (in your definition), then the central bank could increase output by printing money/lowering the interest rate.

 

I chose to use (increase in the value of government services)/(Change in government spending) because its intuitively obvious. In general I don't think that multipliers are a useful way to think about anything, they just contribute to the money illusion. :)

 

I don't really like to think in terms of multipliers for these reasons. I prefer to think in NGDP and total output.

[phil_20686]

In a recession, if the people have no money to spend, and the government has their money, the solution is for the government to spend it? I can think of another solution.

 

This is exactly the wrong way to think about a recession. It is "the money illusion" talking. Just imagine that the economy is a glorified barter economy. When the barter breaks down, you get a recession. Now of course we don't really barter, we have money, but money is just an intermediate stage. You barter for money and then you partner your money for services. The break down occurs when the price of money fluctuates, since the old prices in terms of money no longer match up to the prices in terms of the consumption that they entitle you to. Thus the total money earned becomes insufficient to purchase all of the production. In an idea world, prices would change instantaneously to reflect changes in the price of money, but in the real world there are frictions, like contracts, and the money illusion. Thus since prices do not change (at all really), then we can instead change the price of money to insure that all production is consumed. This is the essence of both monetary and fiscal policy.

[hrothgar]

Thus since prices do not change (at all really), then we can instead change the price of money to insure that all production is consumed. This is the essence of both monetary and fiscal policy.

 

Classic Keynsian arguments about the government "priming the pump" during a liquidity trap operate on very different principles.

[aguahombre]

Does it involve time travel?

Either that or some grave digging and smelling salts to revive Ronnie...who also saw no need to interrupt or outshout his opponents.

[WellSpyder]

If its NGDP/increase in government spending then a multiplier of less than one is impossible in the absence of imports and (monetary) inflation.

Two reasons why you might get a multiplier less than one even without inflation:

 

a) an increase in government spending means the government will have to borrow more money than it otherwise would have done. An increase in the demand for money will increase the interest rate needed to borrow, and this will reduce the amount of private sector demand in the economy where that demand is financed by borrowing, either for consumption or investment

 

b) an increase in government spending (assuming it is not financed by a simultaneous increase in taxation) will require an increase in taxation at some point in the future to pay for it. Sensible taxpayers will realise they face an increased tax bill in the future and will therefore spend less now so that they have more money available to meet the higher future bills (this phenomenon is known to economists as "Ricardian equivalence").

 

Both these factors mean that an increase in government spending will tend to "crowd out" a certain amount of private sector spending even when the economy is not operating at full capacity.

[phil_20686]

Two reasons why you might get a multiplier less than one even without inflation:

 

a) an increase in government spending means the government will have to borrow more money than it otherwise would have done. An increase in the demand for money will increase the interest rate needed to borrow, and this will reduce the amount of private sector demand in the economy where that demand is financed by borrowing, either for consumption or investment

 

b) an increase in government spending (assuming it is not financed by a simultaneous increase in taxation) will require an increase in taxation at some point in the future to pay for it. Sensible taxpayers will realise they face an increased tax bill in the future and will therefore spend less now so that they have more money available to meet the higher future bills (this phenomenon is known to economists as "Ricardian equivalence").

 

Both these factors mean that an increase in government spending will tend to "crowd out" a certain amount of private sector spending even when the economy is not operating at full capacity.

 

So point (a) is not really important. `Obviously' the central bank is capable of steering the economy. If it is committed to doing so, your fiscal policy should never have any real impact on production. You would only think in terms of fiscal multipliers if you believed that the central bank was planning to hold interest rates constant, or would be unable to gain traction in order to move interest rates. (a) is a classic consideration if we lived in a Gold Standard.

 

On (b), Ricardian equivalence doesn't really exist. :). For one thing, it only makes sense if you expect your consumption to be constant. If you expect your consumption to rise due to rising productivity between now and when the tax is applied, it makes no sense to reduce my consumption now. At the more behavioural approach, no one budgets their finance more than twelve or eighteen months in advance. At least I don't know anyone who does. :) The payback is normally at least that far in the future.

 

Obviously, Ricardian equivalence, in some sense, exists in the cumulative (=long run) multipliers. However this is almost a non statement. In the long run growth is almost wholly determined by technological progress and population growth. If there is innovation going on in the background, there just becomes a backlog of useful growth potential that will eventually be used up when the economy goes back to functioning strongly.

[phil_20686]

Classic Keynsian arguments about the government "priming the pump" during a liquidity trap operate on very different principles.

 

This isnt actually true. There are various ways to look at the issue, but "priming the pump" arguments are really arguments about the price of money. For example, part of the `priming the pump argument' is about the paradox of thrift, where even well off people with steady jobs spend less and save more during a recession. However, a central Keynesian thesis is that "prices clear markets", If I have money, and I choose not to spend it, it means that the prices of things I am thinking about buying are too high. Since money buys more during a recession, it is sensible to save, and spend when your wages buy less. This also partly explains the behaviour of equity markets: if equities fall en masse, it is just a way of saying that cash has become more valuable. Each dollar now buys more of a company than it did before, so `saving' into equities is more attractive relative to consumption compared to pre-recession. Keynes made a hand wavy argument about uncertainty in the future, but to me, the price of money argument is much more believable, although, to a certain extent they say the same things.

 

This is clearer if you think of the value of a dollar as 1/NGDP. Since increased spending (priming the pump) increases NGDP, then with production held constant it lowers the price of money. This lowering makes both goods and wages cheaper, and prices clear markets, so since they are cheaper more people buy them and production rises.

 

To a certain extent, these are only matters of framing, but the price of money framework is much more unifying and applicable. Keynes grew up under the Gold Standard, he thought about money as having a fixed value, and when central banks had a much less important role. True fiat money/central banking, necessitates a change in approach. Central banks now see themselves in the role of maximising production. They should set the price of money so that it facilitates the maximum amount of economic activity. Given those definitions anytime fiscal policy can increase output, it means by definition that the central bank has not set the price of money to maximise output.

 

 

[hrothgar]

This isnt actually true. There are various ways to look at the issue, but "priming the pump" arguments are really arguments about the price of money. For example, part of the `priming the pump argument' is about the paradox of thrift, where even well off people with steady jobs spend less and save more during a recession. However, a central Keynesian thesis is that "prices clear markets", If I have money, and I choose not to spend it, it means that the prices of things I am thinking about buying are too high.

 

I used the words liquidity trap for a reason...

[WellSpyder]

So point (a) is not really important. `Obviously' the central bank is capable of steering the economy. If it is committed to doing so, your fiscal policy should never have any real impact on production.

Now I don't really know what you are trying to argue at all! I provided a reason why the multiplier might be less than one, and you seem to be disagreeing, saying it will normally be zero! That sounds to me like you are agreeing not disagreeing!

 

On (b), Ricardian equivalence doesn't really exist. :). For one thing, it only makes sense if you expect your consumption to be constant. If you expect your consumption to rise due to rising productivity between now and when the tax is applied, it makes no sense to reduce my consumption now.

That just sounds like nonsense to me, I'm afraid. I'm not talking necessarily about consumption falling compared with what it was last year, but simply falling compared with what it would have been if the government hadn't in some sense signalled higher future taxes. That argument doesn't seem to me to be affected at all by whether the underlying pattern of consumption is rising, falling, or staying the same.

 

At the more behavioural approach, no one budgets their finance more than twelve or eighteen months in advance. At least I don't know anyone who does. :) The payback is normally at least that far in the future.

OK, finally a point I can accept may have some validity. :)

[phil_20686]

I used the words liquidity trap for a reason...

 

At best a liquidity trap means that the transmission mechanism is ineffective. There seems to be fairly broad agreement now that if you seek to target the forecast, then you can break out of a liquidity trap. You say, I will do x amount of easing until inflation hits y, rather than saying "I will do x amount of easing and see what happens". The Fed has now come on board with that argument, promising to ease "until the situation improves".

 

At its most basic, monetary policy can always gain traction if fiscal policy can, since the bank can always just print up some money to buy all the same goods and services that the government would have bought. Practically, there are a wide variety of financial products that the Fed could buy. I see they moved into the MBS market, for example.

[dwar0123]

Now I don't really know what you are trying to argue at all! I provided a reason why the multiplier might be less than one, and you seem to be disagreeing, saying it will normally be zero! That sounds to me like you are agreeing not disagreeing!

Multiplying something by zero results in zero. Multiplying something by 1 results in no change.

[WellSpyder]

Multiplying something by zero results in zero. Multiplying something by 1 results in no change.

As it happens, I'm already aware of those rules of arithmetic (just as I assume you are aware that zero is less than one). Do you think they affect this discussion?

[hrothgar]

At its most basic, monetary policy can always gain traction if fiscal policy can, since the bank can always just print up some money to buy all the same goods and services that the government would have bought.

 

In the US, at least, the Fed does not get to purchase any (real quantity of) goods and services.

An order for new BIC pens does not a fiscal stimulus program make.

 

If the Bank were to do so, this would be an example of fiscal policy because the policy goal it operates through government spending rather than changing the money supply.

 

You are confusing the type of policy with the way the policy is funded...

[phil_20686]

Now I don't really know what you are trying to argue at all! I provided a reason why the multiplier might be less than one, and you seem to be disagreeing, saying it will normally be zero! That sounds to me like you are agreeing not disagreeing!

 

I think we agree conceptually, but are having a technical disagreement over the appropriate way to define a budget multiplier. I think I can illustrate our technical disagreement more clearly. Suppose we draw one of those AD vs Y graphs that economists are so keen on, and I make the economic response function vertical - i.e. I fix real output to be a constant. Then an increase in government spending does not increase real output, and the multiplier is zero. Suppose instead that I am some forward thinking empiricist who realises that real output cannot be measured, so instead I decide that I will measure GDP, by measuring NGDP and stripping out inflation. So the government sells a bond for $100, and buys $100 of real output, so now NGDP has increased by $200, once for the government's spending, and once for the buying of the bond (Since saving = investment). Now if the $100 used to buy the bond, would otherwise have been used to buy the goods and services that the government is buying, then the change leads to a change in NGDP of 100, but since there is no extra demand for goods and services, there is no price change/inflation, and the increase in NGDP is exactly taken up by the increase in the supply of "goods". So its clear that in this case the `no effect' multiplier is one. This, at least, was the approach that I had in mind.

 

That just sounds like nonsense to me, I'm afraid. I'm not talking necessarily about consumption falling compared with what it was last year, but simply falling compared with what it would have been if the government hadn't in some sense signalled higher future taxes. That argument doesn't seem to me to be affected at all by whether the underlying pattern of consumption is rising, falling, or staying the same.

 

Ok, so presume that the multiplier during a recession is higher than at full employment, then the cost of paying off my extra debt is lower, in consumption terms, than the gain I get. Thus the effect of higher taxes later is necessarily lower in total in any case where fiscal policy increases total output, since its self evident that when the economy comes up against its full employment limit, no increase in aggregate demand can increase output, so the multiplier must be small. If you look at the graphs in http://wps.prenhall.com/wps/media/objects/1310/1341480/ragan_econ_11ce_Ch22_topic.pdf but imagine that the economy's response function to increased aggregate demand (the black line) is like a tan function. The explanation given there for the balanced budget multiplier has a nice property, if we assume the slope of the black line (for marginal changes) to be `m', then the multiplier for a balanced budget is (1-MPC)/(m-MPC), and it follows that the (instantaneous) multiplier ranges from infinity to zero. (if the Marginal Propensity Consume is greater than the slope, then each cycle keeps generating enough extra demand to move you along the slope in a self perpetuating cycle, hence an infinite multiplier, in practice, if the slope is a tan, its impossible to go further down than when the slope = MPC, since the cycle would exist for any spending).

 

Anyway, with this assumption about the response function, its clear that Ricardian equivalence will not (fully) offset spending, since the declining budget multipliers insure that paying it off will not reduce consumption as much as the initial spending increased consumption, even if economic actors act to smooth their consumption in an economically rational manner, which does not seem that likely in the first place. :). If you include interest rates, then you can do an option pricing model, and the result will be that you need a change in fiscal multipliers at least sufficient to pay back the interest. But thats just obvious, and at current rates, practically impossible to avoid. :)

[phil_20686]

In the US, at least, the Fed does not get to purchase any (real quantity of) goods and services.

An order for new BIC pens does not a fiscal stimulus program make.

 

If the Bank were to do so, this would be an example of fiscal policy because the policy goal it operates through government spending rather than changing the money supply.

 

You are confusing the type of policy with the way the policy is funded...

 

So the BoE can purchase basically whatever through its Asset Purchase Facility. It has been purchasing corporate debt recently I believe. All central banks prefer financial instruments as they think that they are less distorting. Its fiscal policy it it involves the government. If it is done by the monetary authority it is monetary policy. :). The Fed had a policy of Credit easing, which was buying up private sector assets. I don't think its problematic for the Fed to print money and buy, say, mortgage securities, or equities, etc. Its more problematic buying actual stuff since what would the Fed do with it all + retail markets are just much too small. There has been some talk from people like Ryan Avent of the Fed just buying underwater home owners out of their mortgages and reselling the house at fair value. This obviously has moral hazard problems, but in essence it is just a form of unsterilised debt purchase. I cannot imagine the Fed would ever go for that, but no one seems to think that it would be illegal.

[WellSpyder]

So the government sells a bond for $100, and buys $100 of real output, so now NGDP has increased by $200, once for the government's spending, and once for the buying of the bond (Since saving = investment). Now if the $100 used to buy the bond, would otherwise have been used to buy the goods and services that the government is buying, then the change leads to a change in NGDP of 100, but since there is no extra demand for goods and services, there is no price change/inflation, and the increase in NGDP is exactly taken up by the increase in the supply of "goods". So its clear that in this case the `no effect' multiplier is one. This, at least, was the approach that I had in mind.

Maybe I haven't grasped what you mean by NGDP - I thought you just meant the nominal (cash) value of GDP. If so, I don't think the purchase of the bond adds to NGDP at all. So the net effect in your example is $100 extra spending by the government minus $100 less spending by the purchaser of the bond = zero.

[phil_20686]

1350458766[/url]' post='674971']

Maybe I haven't grasped what you mean by NGDP - I thought you just meant the nominal (cash) value of GDP. If so, I don't think the purchase of the bond adds to NGDP at all. So the net effect in your example is $100 extra spending by the government minus $100 less spending by the purchaser of the bond = zero.

 

So I thought that Y = G +C + I plus other term we don't care about. Since saving = investment, the effect of moving 100 dollars from personal consumption to saving/investment has no effect on Y. on the other hand the increase in government spending increases Y. As a understand it buying a bond is usually counted as savings.

[mike777]

So I thought that Y = G +C + I plus other term we don't care about. Since saving = investment, the effect of moving 100 dollars from personal consumption to saving/investment has no effect on Y. on the other hand the increase in government spending increases Y. As a understand it buying a bond is usually counted as savings.

 

 

You miss the main point:

 

1) 99.99% of world has no idea what you are talking about

 

 

 

2) Why is increasing "Y" the most important economic point you can make?

 

 

3) so unlimited goverment spending= unlimted good "y"