The other day SW told a joke involving a New Keynesian, an Old Monetarist and a New Monetarist.
"What's the difference between a New Keynesian, an Old Monetarist, and a New Monetarist? A New Keynesian thinks no assets matter, an Old Monetarist thinks that some of the assets matter, and a New Monetarist thinks all of the assets matter."
http://newmonetarism.blogspot.com/2013/12/daily-chuckle.html
I've become more convinced that what 'New Monetarism' really means to be is the answer to New Keynesianism. SW really does consider himself a real Monetarist going back to Milton Friedman and his k percent growth rule. I can't blame Nick Rowe and Scott Sumner being a little frustrated-surely they've done the requisite legwork and if anyone is the 'New Monetarists' it's them.
If nothing else, this is making me think that maybe he really is more serious about the Monetarism in New Monetarism than I have assumed. Maybe NM is kind of a rebuke and answer to New Keynesians upon whom he often heaps scorn.
"Let's start with Krugman, as he's by far the most articulate of the lot - you can actually understand what he's complaining about."
"Me: Well, there are no plans for doing that in the immediate future."
"But maybe you're speaking to someone else. Maybe your intent is to say to other people: "Look, this guy is talking total nonsense." If that's the case, the answer is the same. First write it down in formal economics. Do you think you could give that a try, or are you going to continue taking the "this guy is spouting nonsense" route?"
"Every year, firms increase prices by what they believe is the Bank's inflation target."
"If the Bank wants to validate their beliefs, it sets the nominal interest rate equal to what it believes is the natural rate, plus target inflation."
"The Bank sometimes makes mistakes, because it does not have perfect information on the natural rate, except ex post. Firms know the Bank has imperfect information."
"Firms know the Bank has an incentive to create a boom, by setting the nominal rate too low, given firms' expectations of inflation. (Standard New Keynesian Euler equation IS curve). Because with monopolistic competition the level of output is suboptimal."
"Firms cannot distinguish between the Bank having made a mistake about the natural rate, and the Bank having changed its inflation target. (The Bank has imperfect credibility)."
"In order to signal to firms it has lowered the target rate of inflation, the Bank must create a costly recession. This requires raising the nominal interest rate, until firms adjust downwards their beliefs about the Bank's target."
"Steve: my model-building days are mostly in the past, I'm afraid. And even though I look back on some of my models with some fondness, I have to admit that hardly anybody ever read them. I'm not sure how much use they were to anybody, except getting me tenured. Nowadays I'm just a burned out ex-administrator and blogger. But I really do want to change your mind on this, because you and your students are the future. So I'm going to do my best to change your mind, or at least get you to see the problem."
"I didn't say that. There's always something monetary going on in the background, right? I'm making the argument in terms of nominal interest rates because that's the way everyone seems to want to think about monetary policy these days."
"The model you described to me is a pretty straightforward New Keynesian model, and we're all familiar I think with how that works. So, your first comment seems to be that there is some kind of stability problem somewhere. But in this post I didn't talk about any models - it's purely informal reasoning based on looking at some data. So what exactly is wrong there? How can you argue with the proposition that, if the inflation rate is to go up that, in the long run, the nominal interest rate has to go up?"
"So I'm going to do my best to change your mind..."
"You seem pretty convinced of some truth that you want to get across to me. But I can't figure out what it is, or how you arrived at it. So far you're not doing a great job of convincing me that I should pay any attention. Why should I sit up and take notice when a burned out ex-administrator and blogger tells me there is something wrong with my reasoning?"
"But if we do have to follow the crowd and talk about monetary policy in terms of central banks setting nominal interest rates, we really do need to recognise the difference between: raising nominal interest rates in order to prevent inflation rising above an existing target; and raising nominal interest rates in the context of an increase in the inflation target."
"Agreed. But don't you think it's interesting if the rule that is supposed to deliver the inflation target implies that you get stuck at the zero lower bound and never hit the target?
"What's the difference between a New Keynesian, an Old Monetarist, and a New Monetarist? A New Keynesian thinks no assets matter, an Old Monetarist thinks that some of the assets matter, and a New Monetarist thinks all of the assets matter."
http://newmonetarism.blogspot.com/2013/12/daily-chuckle.html
I've become more convinced that what 'New Monetarism' really means to be is the answer to New Keynesianism. SW really does consider himself a real Monetarist going back to Milton Friedman and his k percent growth rule. I can't blame Nick Rowe and Scott Sumner being a little frustrated-surely they've done the requisite legwork and if anyone is the 'New Monetarists' it's them.
If nothing else, this is making me think that maybe he really is more serious about the Monetarism in New Monetarism than I have assumed. Maybe NM is kind of a rebuke and answer to New Keynesians upon whom he often heaps scorn.
Nevertheless I can't really fault Sumner and Nick Rowe for complaining about SW usurping the New Monetarist label.
"So can we (market monetarists) now have the “new monetarist” label that we deserved all along?
"Update: Nick Rowe had a similar reaction."
On the other hand, when Sumner says things like this I kind of take a little schadenfreude in it all:
"Does that mean progress is not possible? No, at the end of January I plan to do a long post carefully explaining exactly why the market monetarist framework has been far more successful in explaining the past 5 years than any of the competing frameworks. I’ll explain what went wrong with our competitors, and why. I hope that when bright young students at schools like Michigan and Princeton see that we are more successful, market monetarism will gain new adherents. That’s how progress is made. Successful schools of thought get everyone to talk their language."
"The older people stuck in their ways? One funeral at a time . . ."
It's still not really clear what SW is all about. The main thing I felt I knew about him before the recent firestorm on his piece about interest rates and inflation/deflation was that he's absolutely consumed with Krugman-hatred. Nor am I the only one who read him that way. It's because of all the razzing of Krugman over the last few years that Bob Murphy is determined to believe SW is not such a bad guy and definitely not a dope or crazy. After all he hates Krugman!
However, what's been interesting is his comparative respect for Krugman's criticism-compared particularly with how he's treated that of Nick Rowe:
"Students are often confused, and we can't always figure out why. The teachable moment comes when students actually articulate their confusion, and then you can work on trying to help them.Nick Rowe, Brad DeLong, and Paul Krugman are all confused - each in his own way - about my last blog post."
"Let's start with Krugman, as he's by far the most articulate of the lot - you can actually understand what he's complaining about."
He certainly has not seemed very impressed by Nick Rowe over all. Today SW had a new post about Volcker and Bernanke. It's told in an imaginary dialogue between SW himself and a intelligent person from the moon who knows nothing about earth except about Volcker's disinflation. It's quite a novel little skit-I guess he wanted to show the critics that he really can give stories and not just give us lots and lots of complicated looking math.
The little dialogue ends with the intelligent moon person-'MP' in the skit-realizing that the right policy is: for Yellen to raise interest rates when she begins her term. However...
"MP: Whatever. Anyway, it looks like the counterpart of reducing the fed funds rate temporarily has already been done. So, either Bernanke, or Yellen in her new term, should be increasing the fed funds rate. Get that show on the road."
"MP: Are those people d..."
"Me: Don't say it. Things are complicated."
"MP: My head hurts. Let's go to the coffee shop."
"The inflation rate is how far North the top of the broomstick is."
"The nominal interest rate is how far North your hand is."
"The natural rate of interest is the force of the South wind blowing the top of the broomstick North. You need to make the broomstick lean South to offset that force, else it will fall over."
"If you want to increase inflation (move the top of the broomstick North) you must initially move your hand South, and then move your hand North."
"If you hold your hand still, the broomstick will fall over."
The comment thread is electric! New Monetarist SW against Market Monetarist Nick Rowe! Some real sparks flying. This is great stuff! Nothing I like better than a real econ smackdown:
First Nick:
"Consider an inverted pendulum ( balancing a broom stick upright in the palm of your hand). When there's a variable wind blowing from the South."
"The inflation rate is how far North the top of the broomstick is."
"The nominal interest rate is how far North your hand is."
"The natural rate of interest is the force of the South wind blowing the top of the broomstick North. You need to make the broomstick lean South to offset that force, else it will fall over."
"If you want to increase inflation (move the top of the broomstick North) you must initially move your hand South, and then move your hand North."
"If you hold your hand still, the broomstick will fall over."
This evoked a ferocious response from SW:
"Nick, You need to do something other than discussing eggs, cliffs, broomsticks, and such, to communicate with me. You might as well be saying: The purple dog ate some caviar, then flew to San Diego. When speaking to an economist, speak economics."
"But maybe you're speaking to someone else. Maybe your intent is to say to other people: "Look, this guy is talking total nonsense." If that's the case, the answer is the same. First write it down in formal economics. Do you think you could give that a try, or are you going to continue taking the "this guy is spouting nonsense" route?"
"I should add that you're a tenured professor in a university in which, if my understanding is correct, research is important. In my experience, it's normal to think that tenured professors teaching in research universities should be able to put a sound economic argument together. It would be unacceptable for one of our PhD students to answer an exam question by arguing, in the way you have, by analogy. So, it's unacceptable for you too."
An anonymous commentator-Mark Sadowski remarked that so many SW commentators are anonymous-had a good answer though:
"Would it be acceptable for a PhD student to answer an exam question by pretending he's speaking to a made up person from the moon?"
Nick:
"Steve: OK. Let me try (though I may fail)."
"Every year, firms increase prices by what they believe is the Bank's inflation target."
"If the Bank wants to validate their beliefs, it sets the nominal interest rate equal to what it believes is the natural rate, plus target inflation."
"The Bank sometimes makes mistakes, because it does not have perfect information on the natural rate, except ex post. Firms know the Bank has imperfect information."
"Firms know the Bank has an incentive to create a boom, by setting the nominal rate too low, given firms' expectations of inflation. (Standard New Keynesian Euler equation IS curve). Because with monopolistic competition the level of output is suboptimal."
"Firms cannot distinguish between the Bank having made a mistake about the natural rate, and the Bank having changed its inflation target. (The Bank has imperfect credibility)."
"In order to signal to firms it has lowered the target rate of inflation, the Bank must create a costly recession. This requires raising the nominal interest rate, until firms adjust downwards their beliefs about the Bank's target."
Nick then vows to change SW's mind that raising interest rates increases inflation-if that's what SW is saying, and who really knows what he's saying?
"Empirically, the Bank of Canada tells us it raises the nominal interest rate when it fears inflation would be too high if it did nothing, and lowers the nominal rate when it fears inflation would be too low if it did nothing. (That is the exact opposite direction from what you are saying is the true way to raise or lower inflation). And the Bank of Canada has hit its 2% target almost exactly on average. Either the Bank is lying, or this was a total fluke, if you are right about raising nominal interest rates causing higher inflation."
He also assures the anon commentator with the funny jibe about imaginary moon men that he found this fine:
"Anonymous 2: I found Steve's Moon Person metaphor very useful. It makes a good point about the empirics. My own metaphor was intended to make a point about directions of correlations vs directions of causation."
"Steve: my model-building days are mostly in the past, I'm afraid. And even though I look back on some of my models with some fondness, I have to admit that hardly anybody ever read them. I'm not sure how much use they were to anybody, except getting me tenured. Nowadays I'm just a burned out ex-administrator and blogger. But I really do want to change your mind on this, because you and your students are the future. So I'm going to do my best to change your mind, or at least get you to see the problem."
SW remains unimpressed:
"...if you are right about raising nominal interest rates causing higher inflation."
"I didn't say that. There's always something monetary going on in the background, right? I'm making the argument in terms of nominal interest rates because that's the way everyone seems to want to think about monetary policy these days."
"The model you described to me is a pretty straightforward New Keynesian model, and we're all familiar I think with how that works. So, your first comment seems to be that there is some kind of stability problem somewhere. But in this post I didn't talk about any models - it's purely informal reasoning based on looking at some data. So what exactly is wrong there? How can you argue with the proposition that, if the inflation rate is to go up that, in the long run, the nominal interest rate has to go up?"
"So I'm going to do my best to change your mind..."
"You seem pretty convinced of some truth that you want to get across to me. But I can't figure out what it is, or how you arrived at it. So far you're not doing a great job of convincing me that I should pay any attention. Why should I sit up and take notice when a burned out ex-administrator and blogger tells me there is something wrong with my reasoning?"
Nick:
"Yep. (Almost) everyone does want to think about monetary policy that way nowadays. I am one of the few who doesn't. I think it's a very dangerous and misleading way to think about monetary policy. Just because of these reverse-causality- do high nominal interest rates mean loose or tight money? issues. (But we might be on the same side there?)"
"But if we do have to follow the crowd and talk about monetary policy in terms of central banks setting nominal interest rates, we really do need to recognise the difference between: raising nominal interest rates in order to prevent inflation rising above an existing target; and raising nominal interest rates in the context of an increase in the inflation target."
SW ever the contrarian, has no problem with interest rate talk:
"Actually, I think it's OK. Typically you can specify the policy either in terms of nominal interest rates, or in terms of quantities on the central bank's balance sheet. One is just the flip side of the other. Of course when you get into more complicated things like QE, there are more dimensions to how you specify a monetary policy rule. One thing I do think is dangerous is that some people now seem to think that a central bank actually just chooses a nominal interest rate. That's what happens in a Woodford model, as he left all the quantities out. So maybe we agree on that."
"we really do need to recognise the difference between: raising nominal interest rates in order to prevent inflation rising above an existing target; and raising nominal interest rates in the context of an increase in the inflation target."
"Agreed. But don't you think it's interesting if the rule that is supposed to deliver the inflation target implies that you get stuck at the zero lower bound and never hit the target?
Great stuff. I'm not sure what the real issue of contention is. I never liked his Krugman bashing like Bob Murphy did but the policy implications of what he's saying are interesting even if I don't know quite how he gets here-if I read him right he actually seems to think we need an increase of government debt to get the economy healthy again-not exactly a Monetarist prescription if true.
I still don't know what he's getting at on nominal interest rates-is he suggesting that to increase inflation you need to increase the nominal interest rate? If so surely this is wrong: isn't it that rising interest rates are a byproduct of increasing inflation rather than the cause?
Still SW arguments are nothing if not intriguing. He's succeeded at least in garnering more interest in his blog than ever before I suspect-whether or not he'd ever admit to so base a motive. As for who to root for: I'm tempted to root for the New Monetarist over the Market Monetarists only because the former have become so smug and in any case SW seems to support fiscal expansion and in an entirely novel way at that.
Whereas Sumner is constantly defending austerian fiscal policies. In that sense, SW seems quite palatable.
With this clarification, I think I'm in the majority. I'm also a New Monetarist.
ReplyDeleteOk, that's great Aki. Now maybe you could give me some clarification: what does a New Monetarist believe cause I have no real clue.
ReplyDelete