http://mises.org/tradcycl.asp
For more on my belief of learning the other schools in monetary and economic matters than which you give allegiance see here.
http://diaryofarepublicanhater.blogspot.com/2013/03/ok-nick-rowe-you-win-ill-read-econ.html?showComment=1362389945052#c5611629773374289046
I just finished the piece by Haberler and it couldn't be more different than Sumner's explanation in his recent posts that are a kind of intro to monetary policy-he says he'll soon be offering a kind of Internet course. Here is Sumner:
"I’ve been thinking about how to teach monetary economics from the beginning. Perhaps before people start learning, they need to unlearn things they believe, that just ain’t so. We market monetarists believe that monetary shocks (or “disequilibrium” if you prefer) is the primary cause of business cycles, indeed almost the only cause of big swings in unemployment."
"Most people don’t believe this; indeed it’s not even clear that most economists believe this. Instead the average person thinks recessions are caused by big real shocks, or financial shocks, of one sort or another. Asset bubbles bursting, 9/11, stock market crashes, devastating natural disasters, etc."
"It’s surprisingly easy to dispose of these real theories. We know that 9/11 didn’t cause the 2001 recession, because the recovery started just 2 months later. The biggest stock market crash in my life was 1987, which was almost identical to 1929, including the subsequent stock price rebound. The biggest natural disaster to hit a rich country in my lifetime was the 2011 Japanese earthquake/tsunami/nuclear meltdown, which killed tens of thousands of people, devastated a sizable area of Japan, and caused their entire nuclear industry (25% of total electrical output) to shutdown for more than a year (causing brownouts.)"
"I’m tempted to say “real shocks don’t matter.” But that would be incredibly insensitive for 9/11, or the tsunami that killed nearly 30,000 Japanese people. One could argue that nothing mattered more to these two countries, in 2001 and 2011. The stock crash wasn’t as traumatic, but certainly impacted people’s lives and outlook."
"But these real shocks don’t matter (very much) for business cycles. The tsunami did cause a temporary dip in industrial output, but nothing severe enough to constitute a recession. However when you turn your attention to the labor market you can really see how little real shocks matter. Real shocks do not cause big jumps in unemployment. Period, end of story. Even I’m surprised by this fact, but it is evidently true. Recessions are caused by unstable NGDP, which is in turn caused by unstable monetary policy (by definition, as stable NGDP growth is my definition of a stable monetary policy–and Ben Bernanke’s too.) But it’s not a tautology that the recessions themselves are caused by monetary policy, indeed it’s surprisingly difficult to explain why NGDP instability causes unemployment to fluctuate so much. Especially when the NGDP shocks are caused by rather obvious changes in monetary policy, rather than “errors of omission.”
"Another example is January 2006 to April 2008, when housing construction in the US collapsed, falling by 50%. What happened to unemployment? It rose from 4.7% to 4.9%. The worst clearly non-monetary shock in my lifetime was the nationwide steel strike of 1959, which caused unemployment to rise by 0.8%. But the smallest recession in my lifetime was 1980, where unemployment rose by 2.2%. The steel strike ended quickly and unemployment fell back down to where it was before the strike. (The two 1970s oil shocks are debatable.)"
He does then concede that it could be aruged that the 1970s recessions were due to the oil shocks-"supply side recessions." Apparently though even if they were he assumes they were the exception that proves the rule.
Here is Haberler on the business cycle:
"The traditional monetary theory, which is represented by such well-known writers as the Swedish economist Professor Cassel and Mr. Hawtrey of the English treasury, regards the upward and the downward swing of the business cycle as a replica of a simple government inflation or deflation. To be sure, it is--as a rule--a much milder form of inflation or deflation, but at the root it is exactly the same. Mr. Hawtrey states this quite uncompromisingly in his famous dictum: "The trade cycle is a purely monetary phenomenon" and is, in principle, the same as the inflation during the war and the deflation, that is to say, the reduction of the amount of circulating medium, which was deliberately undertaken by certain governments to approach or to restore the post-war parity of their currencies."
"Let me now indicate briefly why this explanation seems to me insufficient. Or, to put it in other words, I shall try to show that (a) the price level is frequently a misleading guide to monetary policy and that its stability is no sufficient safeguard against crises and depressions, because (b) a credit expansion has a much deeper and more fundamental influence on the whole economy, especially on the structure of production, than that expressed in the mere change of the price level."
http://mises.org/tradcycl/monbuscy.asp
"A recession, then, for ABCT-we'll take Haberler as representative at this point-has real causes as opposed to Sumner who sees the problem as more or less purely nominal. ABCT thinks there are real disallocations in the economy that will take time to work out."
"The idea that the cause of recessions is real and that over expansion of credit plays a significant role puts ABCT more in line with Post Keynesians, a la Minsky. The difference between PKers and ABCT is that the latter focuses much more on the idea that there's been a misallocation of the capital goods industries .PK focuses more on just the over expansion of credit-ABCT does focus on this as well, and indeed, while being radically libertarian also claims that we should radically curtain the credit markets-with the most radical Rothbardian types arguing for the end of fractional reserve banking."
On the other hand PK argues for a large fiscal stimulus whereas ABCT thinks this will greatly intensify the problem-by further distorting the price system.
New Keynesians like Krugman seem to follow Sumner in the focus on nominal causes though Krugman certainly talks about the need for debtors to be able to deleverage before we're out of the woods. Back to Haberler. He argues that there are different types of deflation:
"The principal defect of those theories is that they do not distinguish between a fall of prices which isdue to an actual contraction of the circulating medium and a fall of prices which is caused by lowering of cost as a consequence of inventions and technological improvements. (I must, however, mention that this particular criticism does not apply to Mr. Hawtrey, who, by a peculiar interpretation of the term "price level," recognizes this distinction, although he does not seem to draw the necessary conclusions.)"
"It is true, if there is an absolute decrease of the quantity of money, demand will fall off, prices will have to go down, and a serious depression will be the result. Normal conditions will return only after all prices have been lowered, including the prices of the factors of production, especially wages. This may be a long and painful process, because some prices, e.g., wages, are rigid and some prices and debts are definitely fixed for a long time and cannot be altered at all."
"From this, however, it does not follow that the same is true if prices fall because of a lowering of costs. It is now generally accepted that the period preceding the present depression was characterized by the fact that many technological improvements, especially in the production of raw materials and agricultural products, but also in the field of manufacture, took place on a large scale."
Here Sumner would actually agree as he's argued that the important thing is what drives deflation: demand of supply. If it's supply this is actually a highly salutary thing:
Haberler certainly doesn't agree with the theory of Hawtrey, Cassell, et. al. that the gold standard was the main cause of the problem in the Depression:
"It is of vital importance to distinguish between these additional, secondary, and accidental disturbances and the primary "real" maladjustment of the process of production. If it were only a wave of pessimism and absolute deflation which caused the trouble, it should be possible to get rid of it very quickly. After all, a deflation, however strong it may be, and by whatever circumstances it may have been made possible and aggravated, can be stopped by drastic inflationary methods within a comparatively short period of time."
"If we have, however, once realized that at the bottom of these surface phenomena lies a far-reaching dislocation of productive resources, we must lose confidence in all the economic and monetary quacks who are going around these days preaching inflationary measures which would bring almost instant relief."
" If we accept the proposition that the productive apparatus is out of gear, that great shifts of labor and capital are necessary to restore equilibrium, then it is emphatically not true that the business cycle is a purely monetary phenomenon, as Mr. Hawtrey would have it; this is not true, although monetary forces have brought about the whole trouble. Such a dislocation of real physical capital, as distinguished from purely monetary changes, can in no case be cured in a very short time."
He doesn't argue for "doing nothing" in terms of fighting deflation, just not very much. He seems to think that it's legitimate to prevent deep deflation but little beyond it. It would seem that this is how many of today's central bankers see it too. He finishes off by admitting that whatever the virtues of ABCT, simplicity isn't one of them, but arguing that the truth isn't simple in monetary and economic matters:
"I hope that I have been able to give you a tolerably clear idea of this improved monetary explanation of the business cycle. Once more I must ask you not to take as a complete exposition what can be only a brief indication. A sufficiently detailed discussion of the case could be only undertaken in a big volume. Therefore, I beg you to suspend your final judgment until the case has been more fully presented to you. Only one objection I should like to anticipate. It is true this theory suffers from a serious disadvantage: it is so much more complicated than the traditional monetary explanation. But I venture to say that this is not the fault of this theory, but due to the malice of the object. Unfortunately, facts are not always so simple as many people would like to have them."
The key in this "more refined monetary theory" he speaks of is that it's not that monetary matters doesn't matter. ABCT basically argues that monetary policies cause the recession but can only ultimately exacerbate things even if they can reflate things in the short term. The trouble is ABCT believes that interest rate management leads to further distortion of the price discovery mechanism."
"In any case, there are two very different theories of the business cycle. Where do I stand in relation to them? I'm not wholly sure-I'm trying to learn as well. I find Sumner's premise-the business cycle is wholly a monetary phenomenon, hard to believe-he admits that it will strike most people this way. He does give lots of examples-the1987 stock market drop that had no real effects, the very small impact of the 2011 Japanese earthquake on output and its nonexistent impact on employment-that correlate with his premise."
"However, he does concede that the oil shocks of the 70s could at least plausibly be an exception to this rule. On the other hand I don't buy the idea of ABCT that the business cycle is purely the product of government interference. I tend to think that recessions have real causes but that we certainly do need demand management-via both monetary and fiscal policy during a recession."
In any case, my goal it to expand monetary knowledge and this was a step towards this.
Mike, how do you fit the balance sheet recession idea into this? Closer to the Austrian view? I'm pretty sure that it's different than either though.
ReplyDeleteI don't know that the ideas are wholly commensurable. I was looking at Sumner vs. ABCT. Sumner doesn't really think there's naything to the idea of a balance sheet reession whereas the Austrians may see this but see it as more aympton than a cause.
ReplyDeleteHey Mike
DeleteIt seems to me what we are dissecting here is a "chicken or the egg" type problem. Do nominal shocks lead or follow? Is it better to try and understand business cycles by looking at money or looking at real things? Many say money is a neutral veil and we can just analyze things as if its a barter economy while others (like me) say its ridiculous to ignore money and its role as something to covet in and of itself.
Sumner doesnt appear to be a neoclassical in the pure neutral veil sense but he does seem to not appreciate the true nature of modern money, something created as credit, ex nihilo, by banks. He is famously dismissive of banking operations, content to see loans as essentially something which those with extra money give to those with a dearth of money.
Ignoring the distribution of debt within our system and simply relying on the tautology that "every borrower has a lender" is a big mistake.
His term "disequilibrium" is never really fleshed out. He's simply saying something is amiss but can only rely on confidence and expectations as causatory. The balance sheet recession theory is pretty clear in what is in disequilibrium, debt levels. Once too many people have debts approaching their income levels they can no longer borrow. Once they can no longer borrow, credit use falls off, oncwe crdiet use falls off in our modern system we have recession.
Stock market crashes mean nothing if they dont affect the credit markets.
Attacks by terrorists dont amount to depressions or long recessions if everyone takes the presidents advice and uses their credit cards and goes shopping.
I want to simply para phrase Mosler and say its all about sales. A recession is a fall in sales. A fall in the number of new things being sold leads to unemployment. Sales are a real thing that require money. Sales are not like barter. They can only occur in an economy with money. Non monetary economies have trades, monetary economies have sales. Sumner seems overly concerned with the quality/quantity of our money but I think the crucial thing is distribution. If too many people arent using the money sales will fall and since credit is the dominant form of money in our economy, when people max out their credit cards and equity lines we see a recession.
BTW, his question about the fall in housing construction by 50% leading to a small blip in unemployment might be explained by noting that many construction workers do not become officially "unemployed" because they are not receiving UI. This is a problem with our econometrics.
The BSR view, it seems to me, is the only one consistent with the data and with the nature of modern money as a credit instrument that is best understood via accounting.
Wow, every time I look at Sumner it makes my blood boil. Silly little weasel words like 'everyone knows' or 'all serious economists believe' with little more than selectively interpreted stylised facts to back them up.
ReplyDeleteAnyway, in this case, Greg is of course right. Declines in real GDP almost always precede declines in nominal GDP. Sumner would get out of this by appealing to expectations but look at the state of expectations just before the financial crisis! Politicians and even economists were talking about the great state of the economy and how it would go on forever. The fact is expectations are just a way to render a theory unfalsifiable.