It's about time that economists start questioning the assumptions on which monetary policy is based upon. One also needs to ask who benefits from such policies/manipulation.
Absolutely time. The success of monetary policy is how (even though the policy doesn't work) is that even when it negatively impacts people we (until recently) have largely accepted it. It's surprising how often we recourse to 'automatic stabilisers' as pointing to success. They really are successful, the only problem is they aren't big enough. We need to experiment with ways to increase the de-politicisation of counter-cyclical fiscal policy. I like the idea of delaying or bringing on construction projects - the difficulty is that you can only delay if you are many years ahead of need (otherwise you get traffic congestion, power blackouts, housing estates with no facilities, ageing internet), so you need to high-investment long-term infrastructure program that gets years ahead of need. And infrastructure has about 3 years of planning before it can start and you get to the expensive, macro-counter-cyclical bit - there needs to be acceptance of a bit of waste in the planning phase for projects that never happen or are delayed way into the future.
You say at the end governments need to be willing to be more hands on. I think the problem is that governments win or lose power based on perceptions that they are competent. If fiscal policy can be depoliticised this may not help this - it certainly hasn't helped Labor or the end of the Howard government on the issue of competence in relation to debt and interest rates. On the other hand, if the metric used to judge competence is more of a 'structurally adjusted' annual budget balance or focused on real metrics like long-term changes in incomes and unemployment levels or especially non-labour productivity then maybe there's a chance. If we can depoliticise fiscal policy but also manage the flow-on politics of doing that it would work.
Was stabilising the macroeconomy primarily via mortgages and house prices the original intention though? In the past few decades mortgage debt has grown so large relative to incomes (and other kinds of debt) that monetary policy now has a huge impact through the mortgage channel. Arguably its the overreliance on monetary policy (lower rates for longer) that has helped bring that about
And what about the obvious problems with leaning more on the budget to manage the cycle. It's controlled by vote-buying politicians who can't be relied on to spend and tax in the national interest and such measures are slower to take effect and the impact more uncertain, compared with changing the cash rate
There is no way politicians will give up the these powers to a truly independent body, which would seemingly be necessary for it to work
Anyway, I actually agree with you. We rely too much on interest rate manipulation, to the detriment of society and the economy.
Hi Cameron! Sorry to bug you with a macroeconomics question, but I wonder if you could help me out with something if that's OK! :)
I'm trying to figure out Baker's "counterfeiter" argument here (just search "counterfeiter" in this PDF: https://deanbaker.net/images/stories/documents/Rigged.pdf). So there's supposed to be certain mechanisms of hidden taxation, but I'm not sure what those mechanisms are or how they work, so I wonder if you could help me out! :)
See here:
"If this story made sense then the best economic policy would be to train people to become effective counterfeiters. But it doesn’t make sense; there is a big problem in this picture. With his money, the counterfeiter is diverting resources that would have otherwise been available to the rest of us. The classic story would be that the counterfeiter is bidding up wages and the prices of various goods and services that are in short supply. This would lead to inflation. The Federal Reserve Board would then respond to this inflation by raising interest rates. Higher interest rates would reduce demand for housing and discourage investment and consumption. If we take the classic story strictly, the increased spending by our counterfeiter would be fully offset by reductions in other spending elsewhere in the economy. Our counterfeiter has effectively found a way to tax the rest of us with his fake bills."
So how does that "classic story" work and what are the mechanisms by which the counterfeiter taxes "the rest of us with his fake bills"? Also, I'm not sure if Baker intends us to "take the classic story strictly"; if we DON'T take it strictly then what story GENUINELY explains the mechanisms of hidden taxation?
Of course, make sure to read the paragraphs surrounding the paragraph that I quoted so you can see what he's arguing regarding the "counterfeiter".
"The basic story is simple: policies that give more money to people at the top are inflationary. The fact that we structured our patent rules and pandemic handouts to create five Moderna billionaires, and many other very wealthy people at Moderna and other pharmaceutical companies, meant that we had people at the top spending more on housing, cars, vacations and other items that increased demand in the economy. Just as it can be inflationary when the government sends people $2,000 checks, and they spend it, it can be inflationary when the government transfers to hundreds of billions of dollars annually to the people in a position to benefit from the patent monopolies it has granted."
So how does that work? Why is giving money to the rich inflationary? Simply for the mechanisms outlined in the "counterfeiter" argument?
Thanks so much and sorry to bother you with this! :)
The historical context which needs to be added is we used to manage economic cycles during Breton Woods via fiscal policy more than monetary policy. But ironically this was in an era where central banks were also expected to fix exchange rates and so resulted in inflexible policy responses and often monetary policy had to counteract fiscal policy to defend the exchange rate. However in the era of floating exchange rates this is hardly an issue and so I think fiscal policy would be a lot more effective in managing the cycle.
The real question I am left with is, if we abandoned using monetary policy as a stabilisation tool, what level would you fix the cash rate at? Many suggestion letting it fall to 0% by ceasing to pay interest on excess reserves and ceasing to issue new federal govt securities to the private markets. While this could be done, I am not sure what unintended consequences might emerge and if they would be effectively managed.
Great write-up. I've always felt that adjusting income tax rates on individuals and corporations would be the simplest and most effective way to manage demand. Just adjust the rates up or down each month as needed. Has a direct (and in the case of income tax) very rapid impact on demand.
Any new system needs to deal with politics - handing out money is popular...
It's about time that economists start questioning the assumptions on which monetary policy is based upon. One also needs to ask who benefits from such policies/manipulation.
Absolutely time. The success of monetary policy is how (even though the policy doesn't work) is that even when it negatively impacts people we (until recently) have largely accepted it. It's surprising how often we recourse to 'automatic stabilisers' as pointing to success. They really are successful, the only problem is they aren't big enough. We need to experiment with ways to increase the de-politicisation of counter-cyclical fiscal policy. I like the idea of delaying or bringing on construction projects - the difficulty is that you can only delay if you are many years ahead of need (otherwise you get traffic congestion, power blackouts, housing estates with no facilities, ageing internet), so you need to high-investment long-term infrastructure program that gets years ahead of need. And infrastructure has about 3 years of planning before it can start and you get to the expensive, macro-counter-cyclical bit - there needs to be acceptance of a bit of waste in the planning phase for projects that never happen or are delayed way into the future.
You say at the end governments need to be willing to be more hands on. I think the problem is that governments win or lose power based on perceptions that they are competent. If fiscal policy can be depoliticised this may not help this - it certainly hasn't helped Labor or the end of the Howard government on the issue of competence in relation to debt and interest rates. On the other hand, if the metric used to judge competence is more of a 'structurally adjusted' annual budget balance or focused on real metrics like long-term changes in incomes and unemployment levels or especially non-labour productivity then maybe there's a chance. If we can depoliticise fiscal policy but also manage the flow-on politics of doing that it would work.
Was stabilising the macroeconomy primarily via mortgages and house prices the original intention though? In the past few decades mortgage debt has grown so large relative to incomes (and other kinds of debt) that monetary policy now has a huge impact through the mortgage channel. Arguably its the overreliance on monetary policy (lower rates for longer) that has helped bring that about
And what about the obvious problems with leaning more on the budget to manage the cycle. It's controlled by vote-buying politicians who can't be relied on to spend and tax in the national interest and such measures are slower to take effect and the impact more uncertain, compared with changing the cash rate
There is no way politicians will give up the these powers to a truly independent body, which would seemingly be necessary for it to work
Anyway, I actually agree with you. We rely too much on interest rate manipulation, to the detriment of society and the economy.
Hi Cameron! Sorry to bug you with a macroeconomics question, but I wonder if you could help me out with something if that's OK! :)
I'm trying to figure out Baker's "counterfeiter" argument here (just search "counterfeiter" in this PDF: https://deanbaker.net/images/stories/documents/Rigged.pdf). So there's supposed to be certain mechanisms of hidden taxation, but I'm not sure what those mechanisms are or how they work, so I wonder if you could help me out! :)
See here:
"If this story made sense then the best economic policy would be to train people to become effective counterfeiters. But it doesn’t make sense; there is a big problem in this picture. With his money, the counterfeiter is diverting resources that would have otherwise been available to the rest of us. The classic story would be that the counterfeiter is bidding up wages and the prices of various goods and services that are in short supply. This would lead to inflation. The Federal Reserve Board would then respond to this inflation by raising interest rates. Higher interest rates would reduce demand for housing and discourage investment and consumption. If we take the classic story strictly, the increased spending by our counterfeiter would be fully offset by reductions in other spending elsewhere in the economy. Our counterfeiter has effectively found a way to tax the rest of us with his fake bills."
So how does that "classic story" work and what are the mechanisms by which the counterfeiter taxes "the rest of us with his fake bills"? Also, I'm not sure if Baker intends us to "take the classic story strictly"; if we DON'T take it strictly then what story GENUINELY explains the mechanisms of hidden taxation?
Of course, make sure to read the paragraphs surrounding the paragraph that I quoted so you can see what he's arguing regarding the "counterfeiter".
See here too:
https://cepr.net/structuring-the-economy-to-give-money-to-the-rich-is-inflationary/
"The basic story is simple: policies that give more money to people at the top are inflationary. The fact that we structured our patent rules and pandemic handouts to create five Moderna billionaires, and many other very wealthy people at Moderna and other pharmaceutical companies, meant that we had people at the top spending more on housing, cars, vacations and other items that increased demand in the economy. Just as it can be inflationary when the government sends people $2,000 checks, and they spend it, it can be inflationary when the government transfers to hundreds of billions of dollars annually to the people in a position to benefit from the patent monopolies it has granted."
So how does that work? Why is giving money to the rich inflationary? Simply for the mechanisms outlined in the "counterfeiter" argument?
Thanks so much and sorry to bother you with this! :)
The historical context which needs to be added is we used to manage economic cycles during Breton Woods via fiscal policy more than monetary policy. But ironically this was in an era where central banks were also expected to fix exchange rates and so resulted in inflexible policy responses and often monetary policy had to counteract fiscal policy to defend the exchange rate. However in the era of floating exchange rates this is hardly an issue and so I think fiscal policy would be a lot more effective in managing the cycle.
The real question I am left with is, if we abandoned using monetary policy as a stabilisation tool, what level would you fix the cash rate at? Many suggestion letting it fall to 0% by ceasing to pay interest on excess reserves and ceasing to issue new federal govt securities to the private markets. While this could be done, I am not sure what unintended consequences might emerge and if they would be effectively managed.
Great write-up. I've always felt that adjusting income tax rates on individuals and corporations would be the simplest and most effective way to manage demand. Just adjust the rates up or down each month as needed. Has a direct (and in the case of income tax) very rapid impact on demand.