Relevant and even prescient commentary on news, politics and the economy.

Deja Vu All Over Again, or On the Whole…

The President of the Federal Reserve Bank of Philadelphia:

We have been putting out credit in a period of depression, when it is not wanted and could not be used, and will have to withdraw credit when it is wanted and can be used.

But this is not Charles I. Plosser, no matter how similar the sound. It’s from September of 1930,* presumably George W. Norris (PDF; see page 4).**

Indeed, reviewing the Calmoris and Wheelock article from which I pulled that quote, we find the same mistakes being made: excess reserves confused with circulating money and therefore treated as harbingers of inflation, squealing for austerity,*** sterilization of shifts in reserves in a desperate attempt to avoid non-visible inflation.

As Owen Wilson’s Gil says in Midnight in Paris, we have antibiotics; the people in Fin de siècle Paris didn’t. It’s just one of our other “sciences” that appears not to have advanced.

*Michael D. Bordo;Claudia Goldin;Eugene N. White. The Defining Moment: The Great Depression and the American Economy in the Twentieth Century (National Bureau of Economic Research Project Report) (p. 36). Kindle Edition.

**Not to be confused with George W. Norris, the Nebraska Senator discussed in Profiles in Courage

***The Norris quote above begins:

We believe that the correction must come about through reduced production, reduced inventories, the gradual reduction of consumer credit, the liquidation of security loans, and the accumulation of savings through the exercise of thrift. These are slow and simple remedies, but just as there is no “royal road to knowledge,” we believe there is no short cut or panacea for the rectification of existing conditions.

Chancellor of the Exchequer George Osborne, not to mention EC President Herman von Rompuy, would be proud.

A Simple Question about NGDP Targeting

by Mike Kimel

A Simple Question about NGDP Targeting

It seems that a big part of the econosphere these days talks about NGDP targeting. Translating this into English, a number of economists believe the Fed should be adjusting monetary policy to achieve a desired level of nominal GDP in any given year. To be very precise, both the economese and the English should be adjusted slightly to explain what is really meant: the Fed should be adjusting monetary policy to achieve a given desired rate of nominal GDP in any given year

To me there are two very obvious problems with this. The first should be evident to anyone who ever spent time in South America in the 1970s or 1980s, or has so much as heard of, say, Zimbabwe or the Weimar Republic: why should the Fed or anyone else care about nominal growth rates? Nominal figures are useful for Sowellizing, which apparently can be very profitable, but in the end, only inflation adjusted figures tells us whether we’re better off or not.

But there is a second problem, and the easiest way to state it is by analogy. Think of the Fed as the quarterback on an American football team. I don’t much like American football, but it is evident that the goal of a quarterback is not to throw a specific number of completed passes, or even to get certain score the board. The goal is to do what it takes to win the game. Getting 28 points doesn’t help you if the other team walks away with 35. On the other hand, 28 to 21 achieves the quarterback’s goal nicely. (And of course, whether 28 points looks impressive or not depends on a number things, including the condition of your teammates and the other team’s defense.) For a good quarterback, winning the game sometimes means mostly staying out of the way, while at other times it means taking charge. But specific measurable numbers mean nothing in the end.

Now, the Fed has a dual mandate (imposed by law): set policy to maximize employment and keep prices stable. Of course, the two goals conflict to some extent. Stable prices means keeping inflation rates at about zero, which nobody advocates as it would generate slow economic growth (and thus low levels of employment). Maximizing employment could be accomplishing economic growth rates, but the Fed often tries to slow down growth rates in order to prevent the onset of inflation.

The Fed is left with something that loosely translates as this: “try to get the economy to grow as quickly as possible without setting off too much inflation.” It accomplishes that goal to a greater or lesser extent at different times.

But given the number of moving parts out there, that seems to be a much easier, and much more logical approach than saying: let’s shoot for a 3% increase in nominal GDP this year.

Lest this post be seen as a defense of the way the Fed does its job, I should note: I personally think the Fed has been doing a very poor job for quite a while, and some of my earliest posts are criticisms of the Fed. I’m especially horrified by the Fed’s approach to the economic mess we’re in – as I’ve been noting since 2008, ensuring that institutions with insane and harmful business models survive to engage in more spectacularly bad behavior is no way to help the economy, and that is true whether one has NGDP targets or not.

PSA: FRB St. Louis Webcast Tonight, and Some from History

The Federal Reserve Bank of St. Louis, without whose FRED database and Excel Add-in Economics Bloggers (and Matt Yglesias) would be Even More Boring, has been running a series of Discussions explaining why the Fed is incompetent—er, Why They Don’t Follow Their Dual Mandate—er, well, something about how They’re Doing The Best They Can.*

The Federal Reserve Bank of St. Louis will offer a live webcast of the finale of its fall evening discussion series for the general public, “Dialogue with the Fed: Beyond Today’s Financial Headlines,” on Monday, Nov. 21, 2011.

The dialogue will be streamed live from the St. Louis Fed’s Gateway Conference Center beginning at 7 p.m. CT/8 p.m. ET. It can be viewed at No registration is necessary.

Christopher Waller, the St. Louis Fed’s senior vice president and director of research, will discuss “Understanding the Unemployment Picture.” After his presentation, Waller, along with St. Louis Fed economists David Andolfatto and Natalia Kolesnikova, will take questions from the on-site audience at the Bank.

If you cannot catch the live webcast, it will be archived and available on the St. Louis Fed web site within a few days of the event, along with videos of the first two dialogues.

View Lessons Learned from the Financial Crisis with Julie Stackhouse, senior vice president, Banking Supervision & Regulation
Held Sept. 12, 2011

View Bringing the Federal Deficit Under Control with William Emmons, assistant vice president and economist
Held Oct. 18, 2011

Attend, enjoy, ask them about the Beige Book. David Andolfatto tries to be One of the Good Guys (well, for a Simon Fraser guy**, at least). Give him some love, attention, and Questions He Will Love to Answer.

*Whether you find this idea even more disappointing than the others is left as an exercise, unless you’re looking for work, in which case:

**Think A Canadian Koch Brothers, but where the work is done in the Selection Bias.

How can the Fed precommit to a permanent expansion of the money supply ?

A challenge for monetary authorities in a liquidity trap is that it is hard convince people that they won’t reverse expansionary policies as soon as the economy leaves the liquidity trap. The other problem is that they can’t do much other than affect expectations while the economy is in a liquidity trap. This suggests that they can’t do much at all. This argument assumes model consistent expectations (aka rational expectations) but that doesn’t mean it is totally wrong.

My view has been that the key word is “Much” and that the monetary authority can also bear risk. In particular, I think that the Fed can and should bear mortgage default risk by buying mortgage backed securities.

The disadvantage of this approach is that, if house prices and/or GDP tank, then the Fed’s balance sheet won’t balance. It would not be possible for the Fed to retire as much of its obligations as it might choose, because they are worth more than its assets.

This disadvantage is an advantage. It means if things turn out to be worse than expected, then the Fed will not be able to reverse the expansion of the money supply. This means that, if the Fed loses on its investments, then, when the economy recovers, there will be higher than target inflation — the Fed would like to reduce the money supply but won’t be able to do so.

I think this is exactly what the economy needs. The disadvantage of Fed purchases of risky assets is, in fact, a huge advantage.

If the Fed wins its bet, we win (it would transfer the profits to the Treasury). If the Fed loses its bet, we win (it would automatically commit to high inflation even if when the inflation comes the Fed wants lower inflation).

OK Ken, the ball’s in your court.

Wall St Borrowed $1.2 Trillion from Fed…

Barry Ritholtz points us to how essential US government intervention was for the banking system and in particular existing banks and the management at The Big Picture. It has links worth pursuing as well.

I continue to be of the mind that the Wall Street Bailouts were misguided, and that a massive Swedish style reorg would have been the best thing for the nation and the economy in the long run. Both Uncle Sam and the Fed would have provided the broad based debtor in possession financing required, and the losses would have fallen where they belonged — on the Shareholders and Bond Holders — and not the taxpayers.

The latest evidence of this: Data obtained by Bloomberg News through Freedom of Information Act requests, followed by months of litigation, and eventually, an act of Congress. (Wall Street Aristocracy Got $1.2T in Loans)

Note these are not ideas come about with the benefit of hindsight, but what a small band of insightful people were saying at the time.

An honest broker of the situation would have:

1. Fire the senior management of the banks (see this)

2. Banned all lobbying activity as a condition of any aid (see this)

3. Forced a Swedish style prepackaged bankruptcy (see this and this)

No One Else Is Happy with BarryO and Some Random Notes

Economists for Obama suddenly showed up in my RSS reader again. It’s not a pretty sight:

I suppose I might change my mind, but after watching the President give in to the Boehner-McConnell blackmail axis, I don’t imagine I’ll be spending much of my time advocating his re-election. Assuming he’s the Democratic nominee, which I do, I’ll vote for Obama, because the alternative will still–somehow–be worse. But I really can’t see how, in good conscience, I could defend the economic policies of a guy who has signed on to fiscal contraction in the midst of a major downturn. And that’s leaving aside the President’s apparent lack of understanding of the importance of bargaining from strength. So much for all that poker expertise he’s supposed to have.

What a shame.

See also The Rude Pundit, who is gracious:

I got into this relationship without any illusions about who you were. I never listened when others told me that you were perfect. I never listened when some told me you weren’t worth my time. I got together with you because I believed in us. You and me. Somewhere along the way, you stopped caring. Somewhere along the line, you started believing in others more than you believed in me.

I loved you as a smart, principled man. I worked at this relationship. Even when we fought, I still sought out the good in you. Now, finally, after watching you have affair after affair, saying each time that it was just a one-time thing, I have to allow myself to feel bitter and angry and more than a little foolish. And I have to do that by myself.

I’m sure many of my friends will be upset. “What are you going to do now?” they’ll say. “You’re not going to date Mitt or Michele, are you?” What that implies is that I should settle, that I should compromise myself and my dreams just to keep us together. No one deserves that kind of power. And they never considered a third option between staying with you and being with someone else. They never considered that I could just be alone.

So this is a separation, and I’m sure you’ll be dating again quickly. But I need a break. I need to remember why I loved you. I need to miss you. I need to see if I miss you. Sure, sure, you’ll say, I’m being a drama queen, that nothing has changed, that I don’t live in the real world, that everything you’ve done has been for me, that I just don’t understand what it’s like to live with the pressure that you have. No, but I have to live with the results of what you do. And after you’re done, in 2013 or 2017, you’ll still be a rich moderate conservative and I’ll still be a middle-class liberal trying his best to clean up all the messes.

I’m gonna pack up my stuff and head out now. I wish you well, truly, for everyone’s sake. But I think if there’s anything you can take away from this, it’s simple:

It’s not me. It’s you.

When even Larry Summers gives up on you, it’s time to pack your bags. Which is undoubtedly what several of the more politically-aware appointees started doing around twenty-four hours ago, making getting anything done all the more improbable.

Three notes:

  1. It’s not a repeat of 1937. It’s closer to 1882. Economists who know their history, speak up.
  2. Quick compilation of expected drag from the “deficit agreement”:
    1. J.P. Morgan: “we continue to believe federal fiscal policy will subtract around 1.5%-points from GDP growth in 2012”
    2. Tim Duy’s “simple model”: “0.6 and 0.7 percent, respectively, for the final two quarters of [2011],” and getting worse in 2012.
    3. Macroadvisers (h/t Brad DeLong): “a modest 0.1 percentage point of GDP growth in FY 2012,” with the damage to be done by the Gang of 12 “No Revenooers” to cause death and destruction as Obama prepares to leave for Bachmann-Perry Overdrive (the MA graphic shows about 1/8th of 1%).
    4. Ryan Avent (on his Twitter feed yesterday): “Assuming no extension of the payroll tax cut or UI benefits, the US is looking at a 2% of GDP effective fiscal tightening over the next year.” (NOTE: Later details appear to be that this is basically 2.6% decline from tightening, 0.5% cyclical gain, netting to around 2%. Reference also made to JPMC survey above.)


    I can’t speak for anyone else, but I know which is the outlier in that set.

    And, finally:

  3. Dear Greg Mankiw (h/t Mark Thoma):

    If you claim the Federal Reserve Board is an independent entity, why do you argue that “a higher inflation target is a political nonstarter” (even while conceding that “economists have argued, with some logic, that the employment picture would be brighter if the Fed raised its target for inflation above 2 percent”)?

The Future of the Fed

Spent the morning at this event: presentations and discussion by Joe Stiglitz, Yves Smith, Mike Konczal, Joe Gagnon, Matt Yglesias, Tom Palley, and many others.

Mike K. tole me he expects that video will be available this evening, at least of the speakers’s presentations. I plan to post at more length later; meanwhile, you can review the real-time commentary on Twitter by @NewDeal2.0 and others with the #FutureofFed hashtag. (Some of my early Tweets went out as #FedFuture before I “got with the program” and surrendered that 1.4% of TweetSpace to the Greater Good.)

Pro Publica and bailout lists

Barry Ritholtz at The Big Picture points to Pro Publica regarding Tarp and other bailout monies:

Pro Publica has been maintaining a list of bailout recipients, updating the amount lent versus what was repaid.

So far,  938 Recipients have had $607,822,512,238 dollars committed to them, with $553,918,968,267 disbursed. Of that $554b disbursed, less than half — $220,782,546,084 — has been returned.

Whenever you hear pronunciations of how much money the TARP is making, check back and look at this list. It shows the TARP is deeply underwater.


Where is the Money?
Pro Publica

The Fed didn’t announce QE2

Fortune published an op-ed piece by Keith R. McCullough at Hedgeye (h/t to my Mom). He argues (not very well, I might add) that QE2 is the doomsday scenario for “markets”.

I’d like to point out the following (mostly because this is a common mistake): what the Fed announced is NOT QE2. Furthermore, the Fed’s been considering investing options for months now, why the shock and awe treatment from markets?

Here are the FOMC’s announced investment intentions:

…the Committee will keep constant the Federal Reserve’s holdings of securities at their current level by reinvesting principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities.

The Fed announcement is NOT a second version of quantitative easing (QE2). Quantitative easing is a “super” policy response, where the Fed grows its balance through reserve creation and the purchase of (usually) government assets.

The Fed is reinvesting the principal of maturing securities into longer-dated Treasuries from reserves already created. Therefore, the Fed is simply shifting the asset side of the balance sheet toward a Treasury-only portfolio. Reinvesting maturing Treasuries is regular practice for the Fed. No new quantitative easing.

The announcement should not have been a surprise; it wasn’t to me. According to the FOMC minutes, the Fed has been considering investment options regarding the principal of the maturing securities for months now. From the June 22-23 FOMC minutes:

First, the Committee could consider halting all reinvestment of the proceeds of maturing securities. Such a strategy would shrink the size of the Federal Reserve’s balance sheet and reduce the quantity of reserve balances in the banking system gradually over time. Second, the Committee could reinvest the proceeds of maturing securities only in new issues of Treasury securities with relatively short maturities–bills only, or bills as well as coupon issues with terms of three years or less. This strategy would maintain the size of the Federal Reserve’s balance sheet but would reduce somewhat the average maturity of the portfolio and increase its liquidity.

The Committee decided to go with the second strategy, but in an altered form: reinvest the proceeds of maturing securities to maintain both the size of the balance sheet and the average maturity of the portfolio. And a few members favored the Fed’s August announcement:

A few participants suggested selling MBS and using the proceeds to purchase Treasury securities of comparable duration, arguing that doing so would hasten the move toward a Treasury-securities-only portfolio without tightening financial conditions.

So you see, the FOMC announcement to buy longer-dated Treasuries is not QE2; is not a surprise; and for reasons that I did not describe here, doesn’t portend economic collapse (see this policy brief, or the working paper, by Randy Wray and Yeva Nersisyan, where they refute the application of the Reinhart and Rogoff findings).

Rebecca Wilder