Woj Sheds Some Light on Fiscal vs. Monetary Policy

     Woj and I have had a bit of a debate on inflation and the true effects of it. Woj's recent post discussed the nature of "helicopter money" what he sees the dangers in inflation as and a little about the Austrian concern over allocation issues.

     After reading it I still wasn't entirely following him.  I wrote this post in response.

     http://diaryofarepublicanhater.blogspot.com/2013/02/more-on-macro-effects-of-inflation.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+DiaryOfARepublicanHater+%28Diary+of+a+Republican+Hater%29

    Woj left this comment:

     "I'm confused, you just said "The casue of the 30 year decline for the middle class and poor is due to a deliberate suppression of wages by the fiscal and monetary auhorties."

     "Those same fiscal authorities have been running fiscal deficits for nearly the entire 30 year period. Here's an easy example..."

     "Congress decides tomorrow to pass a bill eliminating capital gains taxes. The reduced revenue would clearly increase deficits, at least in the short run. Do you disagree that this policy would increase wealth inequality? If so, change the policy to eliminating estate taxes? Still disagree?"

     "Simply promoting fiscal deficits says nothing about which parts of the population either increased spending or tax cuts are directed towards. Over the past 30 years I would argue that aggregate tax cuts have overwhelmingly favored the wealthiest households AND increased deficits through reduced revenues."

    "This point is not too dissimilar from that I've been making on inflation. Simply promoting inflation is different from trying to raise nominal wages. These discrepancies are not merely semantic, but actually affect the distribution of wealth and allocation of capital. Emphasizing these discrepancies is one of the major benefits of Austrian thinking."

     I think maybe I'm finally beginning to follow his point on this better. A perfect example are the Reagan tax cuts. Most Keynesians/liberals like myself hardly see those as optimum fiscal policy. To the contrary the net effect of Reagan's tax cuts was highly regressive. Yet there is sense in which the resulting deficits from both the tax cuts and the huge military buildup got us out of the sharp 1982 recession-though much of it was simply Volcker taking off the monetary break.

      There's  no simple causality between a large budget deficit and a the kind of broad based growth liberals want to see. Indeed, the big deficits of both Reagan and Bush-the largest we'd seen-came among an economy with increasing inequality.

       However, it's not that a deficit per se leads to higher inequality-as Woj's comment might seem to suggest, which is why I sought clarification-but because the money in the case of Bush W. and Reagan was targeted towards the rich and wealthy military contractors.

      The point is not that we don't need to increase spending during a recession but it still makes a difference where the money is put-whether it's sent to the banks like we did in the Tarp or in Australia where taxpayers received an average of almost $1000 from the government in direct stimulus.

     I had argued that Austrians are usually dead set against any kind of stimulus for demand stabilization. He pointed out that there have been some-like Hayek at times-who argued for monetary stimulus. Still Woj does believe that fiscal stimulus is preferable to monetary as it has less allocation issues-less slanted to the rich.

   "Fiscal stimulus is preferable to monetary AND the ill effects stem largely from fiscal.

    "Here is a chart of Fed funds minus CPI (http://research.stlouisfed.org/fred2/graph/?id=FEDFUNDS,). Negative real rates at the short-end have actually been quite common in the past 15 years. It would be interesting to compare this data against changes in real assets over time."

    "Austrian does not explicitly or implicitly say that counter-cyclical fiscal or monetary actions shouldn't be taken. It does warn that these policies are likely to be implemented in manners that don't achieve the desired outcome (sometimes intentionally). Post-Keynesians either have far more faith in positive outcomes from these actions or see the downside of not acting as worth the risk. In terms of understanding monetary operations and macroeconomics interactions, I think the Post-Keynesians are much more on target. Simply knowing what should be done, however, does not make it significantly more likely politicians will have incentives to implement those policies (as we've seen). Furthermore, there are many more policies on the fiscal side that don't affect the budget but nonetheless alter the allocation of capital (i.e. housing and debt subsidies)."

      "As I frequently try to point out, if you read the proposals of Minsky or Mosler they display a far smaller govt than we have today. It's perfectly compatible to have a smaller government in terms of regulation and tax policies while maintaining deficits throughout the business cycle. Focusing on the deficit as the size of govt is highly misleading."

    "Greece has experienced consistent inflation recently despite enormous slack and massive declines in output. The normal mainstream view that inflation (as measured) can't exist with slack appears wrong based on recent experience. I would agree that high inflation seems unlikely with significant slack, outside of a govt collapse (more in line with the Middle East at present)."

 

    

http://bubblesandbusts.blogspot.com/2013/02/the-dangers-of-misunderstanding.html#comment-form

     Regarding the difference between PKers and Austrians, I certainly agree with the PKers that downside of not acting is worth the risk. It is also true that Minsky had argued for somewhat smaller govt-as measured by deficits or debt. He also had argued for an end of corporate taxes-Sumner of course would never know that. Of course, Minsky also argued for higher income taxes. Sumner argues that the optimum tax policy taxes on a progressive consumption basis-to me that sounds like a contradiction in terms.

     Sumner in discussing why he thinks the fiscal multiplier is zero yet again, touched on the fiscal-monetary divide. Unlike Woj-and me-he thinks that monetary is always preferable.

     "Because it is objectively false that the “costs and risks” of unconventional monetary policy are greater than the costs and risks of fiscal stimulus, most central banks have the wrong policy, and need to be instructed to target AD more aggressively. In particular, the GOP should block any fiscal stimulus until the Dems agree to instruct the Fed to do all it can to maintain on-target AD. And after that happens the GOP should block any fiscal stimulus since it would be useless. (Yes, I know that the GOP doesn’t even favor an appropriate track for AD, I’m just saying that if they ever did come to their senses, then they should continue to block fiscal stimulus and instruct the Fed to “do the right thing.”)

     http://www.themoneyillusion.com/?p=19413

      I think a commentator named as Money Illusion actually explained the difference well-and it again touches on Woj's point about a difference in allocation between fiscal and monetary policy:

      "There are two place to get demand from: goods and services or financial assets. Aggregate demand is not just NGDP; it is a mistake to think so."

      “Empirical estimates of fiscal multipliers are nothing more than estimates of central bank incompetence.”

      "This will be true when central bankers (and money printing in general) start having the ability to put unused resources to work."

     “Because it is objectively false that the “costs and risks” of unconventional monetary policy are greater than the costs and risks of fiscal stimulus, most central banks have the wrong policy, and need to be instructed to target AD more aggressively.”

     "Expansionary fiscal policy to increase production will work, but the monetary supply needs to be expanded for the fiscal policy to work."

      If monetary supply needs to be expanded for the fiscal policy to work, is that a case for a higher inflation rate-for example? Or a higher NGDP target? In Suvy's case a higher inflation rate or NGDP target would not be the end but the beginning of the operation.

   In the comments section Sumner admits that fiscal stimulus can work provided the Fed doesn't deliberately damp down on it. However, that's a choice. His definition of a "competent central bank" assumed that inflation targeting is its particular competency. In the pre Volcker age, the Fed behaved differently.