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Saturday, February 15, 2014

Ben Bernanke Proves Sumner's Wrong About the Fiscal Multiplier

     I think Tom Sargent got what monetary offset is all about 28 years ago. 

      "My colleague Neil Wallace has described the scheme for coordinating monetary and fiscal policies that was being utilized at the inception of the Reagan administration as coordination via resort to a "game of chicken." The monetary authority had promised to stick to a tight-money policy of M(t)-M(t-1)=0 for all future t's, come hell or high water, but meanwhile the fiscal authority had set tax and expenditure plans G(t) -T(t) an indefinite future."

    "On the one hand, if the monetary authority could successfully stick to its guns and forever refuse to monetize any government debt; then eventually the arithmetic of the government budget constraint would compel the fiscal authority to back down and to swing its budget into balance on the other hand, if the fiscal authority were to stick to its guns and simply refuse to reduce the stream of G(t)-T(t). then eventually the arithmetic of the government budget constraint would compel the monetary authority to monetize large parts of the deficit. All that is clear is that in this situation, one of the two parties to the conflict eventually has to give in (the party to capitulate is called a "chicken."

     "This situation can be likened to one in which the quarterback on a football team (the fiscal authority) announces that he is going to run the ball and wants the tight end to block, while simultaneously the tight end (the monetary authority) announces  he wants to catch a pass and will run a pass route on the next play. The quarterback and the tight end  point out to one another that the other had better capitulate or else the next play will go badly. About the only thing that is certain about this situation is that it can not long endure.

      http://www.amazon.com/Rational-Expectations-Inflation-Thomas-Sargent/dp/0691158703/ref=sr_1_1?s=books&ie=UTF8&qid=1392422048&sr=1-1&keywords=thomas+j+sargent+rational+expectations+and+inflation

     Pgs. 34-35.

     http://diaryofarepublicanhater.blogspot.com/2014/02/morgan-warstler-gets-mm-so-did-tom.html?showComment=1392467149725#c4233480860481495401

    Mark's answer is: Gee wiz, fiscal policy isn't cool anymore, it's so 60s. 

    "This was written around the time that Thomas Sargent was still pushing the fiscal theory of the price level."

     "The cyclically adjusted budget balance had remained in the relatively narrow range of (-2.7%) to (-1.3%) from fiscal year 1971 through 1982. In fact despite the image of a deficit prone decade the 1970s were one of the most fiscally responsible decades on record with gross Federal debt setting a post WW II record low of 32.5% of GDP in fiscal year 1981 (President Carter’s last budget)."

    ":But NGDP growth was double digit every year from 1976 through 1979, peaking at 13.0% in 1978, and core inflation accelerated to 9.2% by 1980."

    "Under Reagan, cyclically adjusted Federal budget balance was reduced from (-1.5%) in fiscal year 1981 to (-4.6%) in fiscal year 1986 (the largest cyclically adjusted budget deficit since 1960 prior to the Great Recession). And yet from 1981 to 1986 NGDP growth averaged 7.4% and core PCEPI fell to 3.4% by 1986."

     "Sargent's book was published just as his fiscal theories seemed to have been soundly disproven."

      "Fiscal policy reminds of one of those 1960s vintage Deluxe Reading Playmobile toy dashboards:

      http://www.thestrong.org/online-collections/images/Z000/Z00036/Z0003678.jpg

     "It's battery powered with working windshield wipers, turn signals, horn, etc. and even has a key for "starting it up". With its buttons, levers, steering wheel etc. it gives a fiscal policymaker the illusion that what he's doing really matters, but when push comes to shove the dashboard isn't even hooked up to anything."

      He throws in a lot of irrelevant points. My post was not about the truth or lack of regarding the FPL. If it was disproven at that time so was Friedman's money supply rule. Does this mean no one cares what Friedman says anymore? Yet Mark seems to think that since it was written by Sargent we should just dismiss it. I mean this book was written in the 80s and that's too long ago? In the history of intellectual ideas, there are books 200 year old-hell, there are books 2000 years old-that are still read and considered relevant today. That wasn't what the post was about, that wasn't the relevance of the quote, the accuracy of my point here does not rise and fall on whether or not the FPL is true or not. So dismissing it doesn't prove anything. 

    He also gives us a close analysis of the Reagan years that is kind of interesting-but still not the point. I'm not actually debating the Reagan years. It's true that Sargent was wrong about the idea that Reagan's huge deficits would give us galloping inflation.  However, none of this is relevant either.  Does Mark think that Sargent said nothing worth listening to? If he thinks that fine, but that's not Sumner's view. Remember that Sargent's fellow RBCer taught Sumner over at Chicago-Robert Lucas. 

    My point is that Sargent's  game of chicken analysis where both the fiscal authority and monetary authority play a game of chicken both loudly declaring 'I am the quarterback, you do what I say'  nails Sumner and monetary offset here. A quote from Tom Hickey from Ben Bernanke puts Sumner's game to bed. Sorry but the Fed is not the QB, Congress is. 

   "Ben Bernanke to the Joint Economic Committee on May 22, 2113: "...we are the agent, of course, of the Treasury and it's our job to do whatever they tell us to do."

    http://www.3spoken.co.uk/2013/06/bernanke-we-are-agent-of-treasury.html

    Now Sumner's claim doesn't sound wholly implausible as long as we have the unfortunate doctrine of Fed Independence-where the fiscal authority agrees to tie its own hands and not do its job. It's as if the QB is allowing the kicker to call the game. However, the irony is that Sumner says that the only way we don't have a zero fiscal multiplier is if we have an incompetent CB when it's the opposite. We only have a zero multiplier if the fiscal authority is incompetent-which it of course is though we have the very small bore progress that the GOP has given up on its own game of chicken regarding the debt ceiling finally.

   If we have a Congress that isn't totally dysfunctional and derelict in its duty there's no monetary offset and no Fed Independence. Again, to all the MMers out there, Bernanke has given the game away. The Fed is an agent of the Treasury not the other way around. So Sumner is merely bluffing. However, because we have such a dysfunctional Congress, it has plausibility. However, the answer is to get a more competent Congress not allow ourselves to be pigeonholed into any Sumnerian box. 

    P.S. All Mark could do was say fiscal policy isn't cool. Yet the 60s was a much better economy where most Americans had a much better standard of living than in the Scott Sumner Market Monetarist world of today. 

    Hell, the 70s even with double digit inflation was much better than the last 6 years and really better than the Bush years prior to the financial crisis as well. In the 70s most Americans had money and a decent standard of living. In the Bush years we became a nation of burger flippers even those of us with the college degrees we had been told was necessary to success-as it wasn't in the 60s and 70s. Let's have the economy back of the non Sumnerian Fed! Most of us would be much better off. 

    

68 comments:

  1. "Mark's answer is: Gee wiz, fiscal policy isn't cool anymore, it's so 60s."

    No, that's not my point. On the contrary it *is* cool. It's *very* cool. It's just like the Reading Deluxe Playmobile toy dashboard. It's got lots of moving parts, blinking lights, it makes noises and is loaded with buttons and levers and wheels. But it doesn't actually do anything. That's my point.

    Fiscal policy appeals to "the people of the concrete steppes" because they can see all the moving parts, blinking lights and hear the noises it makes and so conclude that it must really work. Monetary policy is like a black box with unseen mechanisms and so doesn't provide the same kind of entertainment, although it merits far more attention.

    "If it was disproven at that time so was Friedman's money supply rule. Does this mean no one cares what Friedman says anymore? Yet Mark seems to think that since it was written by Sargent we should just dismiss it. I mean this book was written in the 80s and that's too long ago? In the history of intellectual ideas, there are books 200 year old-hell, there are books 2000 years old-that are still read and considered relevant today."

    I thought it was important to put Sargent's book in historical context. Krugman did a very similar thing for Robert Lucas here:

    http://krugman.blogs.nytimes.com/2011/09/26/lucas-in-context-wonkish/

    The 1982 recession pretty much debunked Lucas' idea that wages and price stickiness could be explained away as mere rational confusion. Everybody knew what Volcker was trying to do and yet the recession was still long and severe.

    Sargent and Neil Wallace's theoretical ideas about fiscal and monetary policy coordination are significant and worth thinking about. But when you put them in historical context it's clear they didn't pan out empirically. Incidentally, Sargent won the Nobel Prize for his empirical work, not for his theoretical contributions.

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  2. I never said they did pan out historically. It's fine to give historical context if it answers the point being made, Here though you've skated around it. That basically the idea of monetary offset is a kind of game of chicken between the monetary and fiscal authorities.

    You like this analogy to a toy dashboard, but yet Bernanke admits that the Fed is the agent of the Treasury-not the other way around. Pretty impressive toy. Tomorrow the Treasury could clip the Fed's wings. So who's the toy? The point is that the fiscal authority is the QB. Try to actually respond to Bernanke's quote for that's the whole point.

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  3. All you and Scott do is exactly what Sargent described. You're saying "MP is the QB, FP better flollow it's lead or things are gong to go badly.'

    Basically you're trying to convince the fiscal authority that it can do nothing but obey the MA, However, what if it doesn't?

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  4. "A quote from Tom Hickey from Ben Bernanke puts Sumner's game to bed. Sorry but the Fed is not the QB, Congress is.

    "Ben Bernanke to the Joint Economic Committee on May 22, 2113: "...we are the agent, of course, of the Treasury and it's our job to do whatever they tell us to do."..."

    Now there's something that really needs to be put into context.

    Bernanke was responding to a question by Senator Pat Toomey about how the Fed would have dealt with the effect of hitting the debt ceiling:

    Toomey: "So clearly there were plans regarding how to deal with processing of Fed payments, for instance, and other things. Could you give us a sense of what those plans consist of and what you can tell us of those plans?"

    Bernanke's response referred specifically to the processing of payments. When Bernanke said "we are the agent, of course, of the Treasury" he meant that the Fed is the *fiscal* agent of the Treasury, as outlined in Section 15 of the Federal Reserve Act (FRA):

    http://www.federalreserve.gov/aboutthefed/section15.htm

    In brief, funds held in the general fund of the Treasury are deposited at Federal Reserve banks, which then act as fiscal agents of the Treasury.

    The word "agent" in the context of Bernanke's response to Toomey's question thus obviously referred to the processing of Treasury payments, not to the conduct of monetary policy.

    This particular quote was originally tweeted by Stephanie Kelton, who either did not understand its meaning (although she should have), or she is using it for its value as the kind of out-of-context "gotchya" quotes that one finds so typical of adherents of MMT. Neil Wilson, and Tom Hickey are similarly guilty of either being ignorant of its true meaning, or of trying to misrepresent the content of Bernanke's response to Toomey's question.

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    1. So you don't know that the CB is only as independent as the Congress lets it be? It's a pretty new idea. It's only really been through Volcker that we've had this piece of ideology.

      I don't see that it's given us better outcomes. You seem to want to say that the CB has litmitless power. IT doesn't. Greenspan in his book back in 2006 admitted the same thing you claim is a misinterpretation. Fed independence-and monetary offset could be over tomorrow. If the Congress told the Fed not to offset stimulus there's no monetary offset obviously. Do you know this or do you think that the Fed came first and it later allowed there to be a Congress and President, etc?

      If you don't understand this then it's you who is ignorant.

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  5. The new idea if CB independence.

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  6. "Yet the 60s was a much better economy where most Americans had a much better standard of living than in the Scott Sumner Market Monetarist world of today...Let's have the economy back of the non Sumnerian Fed!"

    You know as well as I do that Scott Sumner has been deeply disappointed in the Fed's conduct of monetary policy since at least 2008. I would say this is a misrepresentation of Scott's positions, but since I know you know better, I'll call it what it is, which is a lie.

    But why would I expect anything different from a person who makes his living by separating others from their money through subterfuge.

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    1. A lie? I think it's not that I'm lying but that you're avoiding the issue. The point is that according to him the Fed practices full monetary offset today. So it will offset any attempt by the fiscal authority to improve the economy, The Congress has basically been sumnerian in the sense that we've had a net contraction in fiscal policy since 2010,

      Yet he struts around the place glaoting over a victory over Keynesianism and 'winning a bet.' I'm saying that we've had a net contraction of fiscal policy for 4 years so if he''s unhappy with the result then why is he declaring victory?

      I don't know that he has been disappointed lately. He's too busy spiking the ball. If he and you admit that we've had a disappointing recovery why the religious opposition to fiscal stimulus? There's no reason other than he's ideologically opposed and it's not the health of the economy he cares about but shrinking the size of government.

      As for you getting personal-that's not a surprise, It isn't the first time you've gone there. If it were a better economy i'd have a better job. I guess I can't eat QE.

      When you think about it telemarketing is a pretty victimless crime at least the kind I do. I convince people with much better jobs, and lots of money to buy stuff maybe they do'n't entirely need.

      However, if i don't sell it, I have no job. I never get out of my parents' basement again. I have a co-worker there who is literally homeless. He was living in his car before in a friend's driveway. For now he's staying with a woman friend of his and paying her $50 a week though that may be about to end.

      So when he sells some well to do person with a very good job something maybe they didn't entirely need to buy I'm supposed to feel sorry for them? Just shows that like all conservatives you have a warped sense of right and wrong. Don't bother to answer me that you vote Democrat, that's a conservative sensibility you show no matter who you vote for.

      The other interesting thing about telemarketing is...

      Actually there's few interesting things.

      1. Scripted conversations over the phone may seem more real than 'spontaneous' ones.

      2. It really calls into the question of rational agents as what you do in telemaketing is get people to agree to make a purchase on impluse whereas they would be better off taking their time and makmig a much more comprehensive and informed survey of what's out there before pulling the trigger.

      I wonder how Rational Expectations answers this. How is this rational on the part of our customers?

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    2. However, Scott iwould make a pretty keen TMer himself. You too, are dancing around the point I've made. You have not shown that Sargent's Came of Chicken and I'm the QB analysis doesn't fit Sumner's monetary offset theory.

      You haven't shown that the Fed is only as independent as the fiscal authority allows it to be-which means that Stephanie Kelton and friends are right.

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    3. Mark, do you see yourself as primarily a committed defender of Market Monetarism, or primarily as someone interested in seeing what the evidence supports? How confident are you that the Market Monetarists have it right, and what kind of evidence would it take to convince you otherwise?

      Mike, I'll ask you the same question: what kind of evidence would it take for you to jump on the Market Monetarist bandwagon?

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    4. Note that the positions taken by me and Mark are not symmetrical. He is defending MM from all comers I'm just asking questions. It seems to me that Mark like Scott is just interested in defending MM. He like Scott seems very uninterested in looking at anything that might bring it into question. That he gets personal when he doesn't like what he's hearing. I don't get the sense that anything could change their minds. Certainly not Scott's.

      I certainly just want to follow the evidence. There hasn't been anything from the MMers that I've found persuasive. Certainly not Sumner's alleged 'bet' last year.

      Here again, Mark can't even admit that the Fed is the agent of the Treasury-that the fiscal authority could pull the plug on the Fed tomorrow in any way it wanted if wanted to-so in Sargent's terms there's no way to claim that the monetary authority is the QB.

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    5. So it's my sense that the MMers are basically giving us an unfalsifiable theory. So what could win me over? I'd have to get a much more compelling argument from them that what they are serving up isn't unfalsifiable. Right now, it's just pure confirmation bias-though laughably Sumner has claimed that Keynesians are the one guilty of it.

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    6. Mike, didn't you like my softball question to Mark?:

      "Mark, are you a blind ideologue who ignores all evidence, or a scientist who want's to uncover the truth?" Lol

      Well, the rest is a good question I think (for both of you!). I fully expect Mark to give me a number on his confidence level (e.g. 95%) should he see my question here and respond. Lol.

      But really, there's *nothing* you've found persuasive? Shoot...

      As for admitting that the Fed is the agent of Treasury, I don't think Mark or MMists are alone in that. Run that question past Cullen or JKH or any of the MR guys and see what they say.

      "Note that the positions taken by me and Mark are not symmetrical. He is defending MM from all comers I'm just asking questions. It seems to me that Mark like Scott is just interested in defending MM."

      ... well, that's exactly what inspired my question here.

      But how about you Mike? What kind of evidence would convince you that the MMists have it basically right?

      I'll tell you one certain thing for me: put an MMist in charge of the Fed or some other CB and let's try this NGDPLT thing out already! I'm up for such an experiment. Maybe that bar is too high... but a success there would be sufficient for me. :D

      I also have some ideas about how we might be able to harness a carefully designed online role-playing economics based video game... I ran that past Sumner, but he wasn't too excited about it, saying it would be more appropriate for a micro experiment maybe. Basically I thought of creating identical worlds, and let different schools of thought (Austrians, Woodford-style NKers, MMist, MMTers, etc) write the algorithm controlling monetary (and fiscal?) policy in each world... then assign new players to each world at random. The game would go on for months or years, with players presumably committed to their online alter-egos. You might have to offer cash prizes for relative good performance in each world (it might be a dull game otherwise), and of course you'd have to get some buy-in from plausible representatives of each school writing the monetary policy algorithm... and you'd have to figure a way to keep out saboteurs looking to disrupt the experiment. I wish some billionaire would take an interest and fund such a project... it'd be fun, don't you think?

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    7. ... BTW, if NGDPLT were to be adopted by some nation as official policy, then the very first thing to look for is if they were successful in actually hitting their NGDP level targets. That is an open question for me that I can't imagine being resolved until this is tried. If they are successful in at least hitting their targets, it'll be interesting to see what's required to achieve it, and furthermore if there are any unintended consequences. Seeing if NGDPLT (once achieved) delivers what's promised of it is an entirely different matter... and should there be unintended consequences, we'd have to see if the trade off is worth it. Perhaps it'd be best if some OTHER nation decided to be the guinea pigs for this... like Australia or Sweden perhaps.

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    8. Also, I'm not much for dragging ethics into my science, other than honesty about results. In other words, I'm pro-Dr. Frankenstein... let's see if we can reanimate corpses... don't let the hand-wringing worry warts squash our fun!

      Same goes for economics... if there were some way to play God with whole societies (for the purpose of doing truly scientific experiments in econ), my curiosity would trump all ethical concerns... i.e. if we could build parallel "Matrix-like" simulated worlds... where maybe the people in each world were essentially sentient beings, I'd be 100% in favor of toying with their "lives" to satisfy my curiosity. Lol

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    9. That's my dream actually: parallel Matrix-like worlds: all exactly the same, all filled with simulated people that can easily pass he Turing test. Now we get some buy-in from each economic school as to what constitutes fair measures of success for the experiment... putting a gun to their heads if necessary... and then let them be the monetary/fiscal dictators of each wold and see what happens: let the chips fall where they may!

      Sadly I expect that even if such a scenario were possible, putting a gun to their heads to get the necessary buy in would probably be required. I would expect the different schools to wriggle and squirm as much as possible to avoid being put to any kind of definitive test of their theories.

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    10. ... but as you might guess from my stance on ethics, ultimately putting a gun to their heads is not a problem for me, if that's what's required. :D

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    11. ... and definitely Sumner would be on the top of my list for representing MM: gun to his head or not, the last thing I'd want to let him (or anyone else) get away with is endless blog posts about how "they're not doing it right!"... no way! We'll sit them down at the controls, and they can show us how to do it right. haha... sorry, but that's one of my favorite fantasies... sorting out who's right and who's wrong, once and for all! (no excuses!). :D

      Shoot, with all this talk of guns to heads, I wonder if Sumner will get a restraining order against me now. :(

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    12. Tom Brown,
      "Mark, do you see yourself as primarily a committed defender of Market Monetarism, or primarily as someone interested in seeing what the evidence supports? How confident are you that the Market Monetarists have it right, and what kind of evidence would it take to convince you otherwise?"

      I'm an empiricist by inclination and training. That's one reason why I don't find Sargent's theoretical ditherings persuasive. I'm interested in what the evidence shows, and I've already found loads of empirical evidence that supports MM positions.

      Moreover I've never identified myself as a Market Monetarist. Frankly I dislike the label (Lars Christensen coined it), and I dislike labels in general. They're too confining.

      I started defending Market Monetarism precisely because it was the subject of so much slander. It was never my intent to become a guest on MM blogs and to have so many of my comments pulled into posts. It just happened.

      Mostly I find that people who attack monetarism routinely set themselves up for rebuttal by saying something that obviously false. So it's not that I'm such a committed defender, it's that they're obviously gluttons for punishment.

      If you don't say something that's not true in the first place, then I probably won't take the time to point it out.

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    13. Thanks for your response Mark. But can you imagine some evidence causing you to seriously doubt MM? If so, what would you imagine that being? (I'm not saying that such evidence exists, I'm just asking you to imagine such a scenario and speculate on the most likely evidence to come to light which would cause you to have major doubts).

      Delete
    14. Tom Brown,
      For starters, what if the following things weren't true?

      1) In Japan during 1993-2002 real GDP growth averaged 0.9%, unemployment rose almost consistently every year from 2.2% in 1992 to 5.4% in 2002. CPI fell from 2.5% in 1992 to (-0.7%) in 2002. The Japanese announced their plan of ryōteki kin’yū kanwa (QE) on March 19, 2001 and maintained it through March 9, 2006. Real GDP growth averaged 2.1% during 2003-2007. Unemployment fell every year until it reached 3.9% in 2007. Deflation slowed down to -0.4% by 2007.

      AN INJECTION OF BASE MONEY AT ZERO INTEREST RATES:
      EMPIRICAL EVIDENCE FROM THE JAPANESE EXPERIENCE 2001–2006
      Yuzo Honda, Yoshihiro Kuroki, and Minoru Tachibana
      March 2007

      Abstract:
      "Many macroeconomists and policymakers have debated the effectiveness of the quantitative monetary-easing policy (QMEP) that was introduced in Japan in 2001. This paper measures the effect of the QMEP on aggregate output and prices, and examines its transmission mechanism, based on the vector autoregressive (VAR) methodology. To ascertain the transmission mechanism, we include several financial market variables in the VAR system. The results show that the QMEP increased aggregate output through the stock price channel. This evidence suggests that further injection of base money is effective even when short-term nominal interest rates are at zero."

      http://www2.econ.osaka-u.ac.jp/library/global/dp/0708.pdf

      2) The initial recovery from the Great Depression under FDR was swift. Real GDP growth averaged 9.4% a year from 1933-37 and unemployment dropped from 20.6% to 9.1%. And we know based on analysis by E. Cary Brown, Christina Romer, Barry Eichengreen etc. that the contribution of fiscal policy to the recovery was minor. Thus this was primarily a monetary policy led recovery.

      Real GDP increased by $27.9 billion in 1937 dollars. Let's see how it is divided up (billions):

      Source------Amount-Share
      Durables----$3.2---11.5%
      Nondurables-$7.3---26.2%
      Services----$4.9---17.6%
      Structures--$1.4----5.0%
      Equipment---$3.2---11.5%
      Residential-$1.3----4.7%
      Net Exports-$0.2----0.7%
      Defense-----$0.3----1.1%
      Nondefense--$2.1----7.5%
      State&Local-$0.6----2.2%

      Data comes from here:

      http://www.bea.gov/iTable/iTableHtml.cfm?reqid=9&step=3&isuri=1&910=X&911=0&903=7&904=1933&905=1941&906=Q

      Government spending accounted for 10.8%, nonresidential investment accounted for 16.5%, durables accounted for 11.5%, other consumption for 43.2%, residential investment 4.7% and net exports 0.7% of the increase in real GDP.

      Based on E. Cary Brown's estimates fiscal stimulus contributed less than 5% to the recovery during this time period.

      http://www.jstor.org/discover/10.2307/1811908?uid=3739592&uid=2129&uid=2&uid=70&uid=4&uid=3739256&sid=21101160986841

      Barry Eichengreen has estimated that the fiscal multiplier was 2.5 on impact and fell to 1.2 after a year.

      http://emlab.berkeley.edu/~eichengr/great_dep_great_cred_11-09.pdf

      Thus a midrange estimate might put its level of contribution at about 15-16%. This matches the fact that total government debt actually declined as a percent of GDP by about a sixth during this period.

      WHAT ENDED THE GREAT DEPRESSION?
      By Christina Romer
      September 1991

      ABSTRACT
      "This paper examines the role of aggregate demand stimulus in ending the Great Depression. A simple calculation indicates that nearly all of the observed recovery of the U.S. economy prior to 1942 was due to monetary expansion. Huge gold inflows in the mid- and late-1930s swelled the U.S. money stock and appear to have stimulated the economy by lowering real interest rates and encouraging investment spending and purchases of durable goods. The finding that monetary developments were crucial to the recovery implies that self-correction played little role in the growth of real output between 1933 and 1942.

      http://papers.ssrn.com/sol3/papers.cfm?abstract_id=226730&http://papers.ssrn.com/sol3/papers.cfm?abstract_id=226730

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    15. 3) The UK adopted a zero interest rate policy in 1929. Uemployment rose from 8.0% to 16.4% by 1931. In September 1931 the UK abandoned the gold standard which enabled monetary stimulus. Britain was able to leave ZIRP by 1934. GDP expanded by 23.0% between 1931 and 1937 and unemployment fell to 8.5%.

      What’s interesting about this incident is that it started with a fiscal austerity in which total government outlays fell in both real and nominal terms from 1931-1934. And although it rose afterward it rose at a slower rate than GDP. (UK began a very modest rearmament in 1936.) From 1931 to 1937 general government outlays as a percent of GDP fell from 33.1% to 28.6%. So this expansion out of the liquidity trap owes virtually nothing to fiscal expansion.

      More specifically the UK steadily improved its budget balance from 1931-1934 and ran a surplus in 1933 and 1934. The cyclically adjusted budget balance was in surplus throughout 1929-36. Gross government debt as a percent of GDP fell from 179.2% in 1933 to 147.2% in 1937.

      What about exports? The pound preceded most of the major currencies in depreciating in the Depression. But it had become more expensive than the dollar by 1934 and the franc by 1937. And in fact net exports contributed a very minor amount to the initial expansion.

      So to summarize:
      1) UK was in a liquidity trap type situation
      2) Abandonment of the gold standard permitted quantitative easing.
      3) Fiscal austerity was pursued initially followed by growth in government spending much slower than overall growth
      4) Net exports contributed little to the recovery

      (continued)

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    16. (continued)

      Delivering growth while reducing deficits: lessons from the 1930s
      Nicholas Crafts
      2011

      Executive Summary:
      "In the Great Depression of the 1930s Britain grew strongly despite significant cuts in the government’s deficit, short term interest rates which were already as low as possible, and the international economy being in disarray. That is exactly what policymakers need to achieve today. This paper sets out what happened in the 1930s and what we can learn from that experience.

      Over fiscal years 1932/33 and 1933/34 the structural budget deficit was reduced by a total of nearly 2 per cent of GDP as public expenditure was cut and taxes increased, the public debt to GDP ratio stopped going up while short term interest rates stabilized at about 0.6 per cent. Yet, from 1933 to 1937 there was strong growth such that real GDP increased by nearly 20 per cent over that period.

      In the early 1930s, fiscal consolidation without a compensating boost from monetary policy was not conducive to recovery and ran the risk of prolonged stagnation in a difficult world economic environment which had little to encourage business investment and exports. The potential parallels with today are readily apparent.

      The key to recovery was the adoption of credible policies to raise the price level and in so doing to reduce real interest rates by raising the expected rate of inflation. This provided monetary stimulus even though, as today, nominal interest rates could not be cut further. Fiscal stimulus was not a factor in the UK recovery until after 1935 when rearmament began.

      The ‘cheap money’ policy put in place in 1932 provided
      an important offset to the deflationary impact of fiscal consolidation that had led to the double-dip recession of that year. A major way in which this stimulated the economy was through its favourable impact on housebuilding in an economy without strict planning rules; the private sector built 293000 houses in the year to March 1935.

      The key implication for today is that, if a further policy action is needed in 2012 in the face of sluggish growth or even a double-dip recession, there is an alternative to using fiscal policy or continuing with the present policy of quantitative easing. Even though interest rates cannot be further reduced, monetary stimulus can be delivered by modifying the current inflation-targeting framework under which the Monetary Policy Committee operates.

      A close approximation to the successful 1930s policy would be to commit to a price-level target which might entail an average rate of inflation of about 4 per cent for three years. Crucially, this would have to be clear and credible so that the inflation was fully anticipated by the public and it would work by reducing the real interest rate.
      If the lessons of the 1930s were fully taken on board, a complementary policy would be implemented to liberalize planning rules and encourage private housebuilding.

      It must be accepted that, while implementing these reforms envisaged in this paper would stimulate growth, the outcome is most unlikely to be a repeat of the 4 per cent growth rate seen in the 1930s. The output gap is probably smaller now, consumer spending will surely be less buoyant and the Eurozone crisis threatens to undermine business confidence and exports. Although these are important caveats, the fact that we cannot rely on consumers or the international economy for demand growth strengthens the case for a policy response as it makes an early spontaneous recovery less likely."

      http://centreforum.org/assets/pubs/delivering-growth-while-reducing-deficits.pdf

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    17. 4) Knut Wicksell's norm of price stabilization and Swedish monetary policy in the 1930's
      Lars Jonung
      October 1979

      Abstract
      "This paper examines the conduct and the effects of Swedish monetary policy in the 1930's. Three major conclusions emerge from the study: (1) The conduct of monetary policy specifically the devaluation of the Swedish currency in 1931 and the subsequent program of price stabilization, had a major effect on the aggregative behavior of the Swedish economy in the 1930's. (2) The impact of the new fiscal policy was insignificant compared to the effects of monetary measures and international developments. (3) The framing of Swedish monetary policy in the 1930's was strongly influenced by Wicksell's norm of price stabilization and the recommendations of the old generation of monetary economists represented by Gustav Cassel and Eli Heckscher."

      http://www.sciencedirect.com/science/article/pii/0304393279900102

      This episode is particularly interesting because it is the first and only known example of a country adopting price level targeting, which is closely related to nominal GDP level targeting, as its monetary policy. Lars Jonung has another paper devoted to a more detailed discussion of this aspect of Swedish monetary policy during this period:

      http://swopec.hhs.se/hastef/papers/hastef0290.pdf

      5) The Origins and Nature of the Great Slump Revisited
      Barry Eichengreen
      May 1992

      Abstract
      "More than a decade has passed since the Economic History Society last published a survey of the depression of the I930s. That survey was notable for the lack of consensus it revealed. The events requiring explanation were clearly identified, but for each there seemed to be many potential explanations and little agreement among scholars. Given this state of affairs, the reader may ask what justifies another survey of familiar terrain. The answer is that the last decade has witnessed a hidden revolution in our understanding of the I930s. On many of the central issues raised by the earlier literature, a striking degree of consensus has now emerged."

      http://bev.berkeley.edu/ipe/readings/The%20origins%20and%20nature%20of%20the%20Great%20Slump%20revisited.pdf

      Pages 234-235:
      "Thus, the recent literature, by emphasizing the contribution of domestic and international monetary initiatives to economic recovery in the 1930s, has inverted the previous tendency to dismiss monetary policy as ineffectual and to regard fiscal policy as the critical policy variable. Upon reflection, this is not surprising. In the US, the most important fiscal policy change of the period, in 1932, was a tax increase, not a reduction. Observed budget deficits were small. Cyclically corrected budget deficits were smaller still. Even in the presence of large fiscal multipliers, the increment to aggregate demand attributable to fiscal policy remained modest until rearmament spending got underway in the second half of the 1930s. In contrast, in countries like the US (and to a lesser extent the UK), the expansion of currency and bank deposits was enourmous. The one significant interuption to monetary expansion in the US, in 1937, revealingly coincided with the one significant interuption to economic recovery. Nor is there evidence for Britain of a liquidity trap that would have rendered monetary policy ineffectual. Even in Sweden, renowned for having developed Keynesian fiscal policy before Keynes, monetary policy did most of the work. Clearly the tendency to dismiss monetary policy in the 1930s on the grounds that one 'cannot push on a string' has been pushed too far."

      For an overview of the international monetary history of the Great Depression see this paper. In particular see Table 2.1 on Page 37:

      http://www.nber.org/chapters/c11482.pdf

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    18. Mark, thanks!... I'll read it though

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    19. Mark, thanks for your brief summary of evidence generally supporting MM policies, and for the links to several interesting sounding papers.

      While I appreciate the material, on reflection I guess I should have tried to pin you down a bit more.

      If you were going to speculate on NEW evidence coming to light... perhaps about future events, or the resolution of current events, can you imagine a result or a piece of evidence that would at least cast a bit of doubt on MM?

      For example, one extreme case for me would be if Scott Sumner himself and a hand picked team of advisers were put in charge of the Fed, and were unable to either 1) hit NGDP level targets or 2) despite successfully implementing NGDPLT, were unable to make it deliver on it's promises, or 3) despite being successful in both implementing NGDPLT and having it deliver on its promises, were nonetheless unable to contain serious negative side effects attributable to it, then that would be sufficient for me to doubt MM more than do now. I imagine you'd be capable of coming up with a less ridiculous/extreme/vague example than I am.

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  7. Yesterday the Gatekeeper who answered the phone-our name for the secretary, or whoever answers the phone who is not the person we want to talk to said to me abruptly, "I'm sorry honey we're not hriing right now."

    She's exactly teh kind of person who probably votes for these idiotic Republicans that have kept the economy so depressed. If she and others don't like telemarketers they should have agreed to the kind of policies that would have giving us a better economy. There are more Tmers as there aren't better jobs out there. I have an accounting degree but it gathers dust as there aren't jobs for someone like mysself who has been out of the field a few years due to the economy.

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  8. Let's assume that the Fed starts to get antsy when core inflation touches 2.25%. Then , based on this chart....

    http://media.pimco.com/PublishingImages/Viewpoint_Johnson_Worah_Jan2014_Fig1.PNG

    ..... fiscal policy could have been more expansionary for the past two years without any fear of "monetary offset". Bernanke all but expicitly requested more fiscal spending with his hints in multiple hearings.

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    1. Good point Anon. With 1% inflation FP has had plenty of room to roam. You're also right that Bernanke has asked for more FS but of course Scott knows his mind better than he knows is own and somehow divines he doesn't really mean it.

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  9. "But how about you Mike? What kind of evidence would convince you that the MMists have it basically right?"

    More than they've given so far. I don't know if you missed where I said it but I said they could show me how their theory is falsifiable that'd be a start.

    "I'll tell you one certain thing for me: put an MMist in charge of the Fed or some other CB and let's try this NGDPLT thing out already! I'm up for such an experiment. Maybe that bar is too high... but a success there would be sufficient for me. :D"

    Ie, we basically have to concede they're right first and let them take over the Fed first. To me though they have to persaude me they're right before I hand them the keys to the Fed.

    I mean in the 80s we gave the keys to the Fed to the Old Monetarists and it didn't work-in fact it was a disaster. Still, surely it's a little expensive to let every bad idea be tried and work its damage before we can rule it out.

    I know that standing in front of a speeding train is wrong, I don't need to empirically test it. Then again, sometimes empricial results don't decide anything either as people get into arguments on what the results are, how you measure them, and whether causation proves correlation.

    In economics we simply can't empirically test every idea to see if it works or not. So, to me, let the MMers convince us then they get the keys to the Fed.

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  10. The paper from Sargent you refer to has absolutely nothing to do with government multipliers, but with debt. It develops the so-called Fiscal Theory of the Price Level, and once again, it is not about multipliers.

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    1. Where did I mention multipliers Anon? My point was he does a good job of conceptualizing what Sumner is doing with his monetary offset theory.

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  11. Your video game does sound intaeresting. I mean since we can only get a small amount of empirical evidence we have to do this kind of gaming.

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    1. Re: handing over the keys: I did concede that it'd be nice to have another country volunteer to giver NGDPLT a try first... and maybe we could put 'volunteer' in quotes to facilitate the experimentation: "Hello South Korea, ... nice little nation you have here. It'd sure be a shame if something were to happen to it... like for example we were to abandon you to the North, but perhaps that unpleasantness can be avoided, don't you agree?... we'd like you to meet Dr. Sumner: he's 'volunteered' to show you all how to do your monetary policy correctly, haven't you Dr. Sumner?" ... he then nervously nods his head... as we have a gun to it. :D

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    2. ... the world better hope that some freakish turn of events doesn't leave me in a position of substantial power... I'm pretty sure I'd abuse it.

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    3. My point Tom is there has to be another way of figuring it out short of just saying 'you win, here are the keys.'

      In any case Britain has been doing somethings that MMers like.

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  12. "I'm an empiricist by inclination and training. That's one reason why I don't find Sargent's theoretical ditherings persuasive. I'm interested in what the evidence shows, and I've already found loads of empirical evidence that supports MM positions. "

    Most questions in economics aren't decided by empiricism alone. We don't have enough data and what we do can always be explained in different ways. I mean what you and Sumner do is give us some correlations and just figure we have to assume the causation is as you say it is.

    Empiricism has some real problems in economics and even in other sciences. In truth I think that all science requires theory and empirical data. Empiricism certainly can never carry the day alone as was brought out in an interesting recent piece by Glasner.

    http://uneasymoney.com/2014/01/26/two-cheers-well-maybe-only-one-and-a-half-for-falsificationism/

    "I started defending Market Monetarism precisely because it was the subject of so much slander. It was never my intent to become a guest on MM blogs and to have so many of my comments pulled into posts. It just happened."

    I think any criticism of MM would strike you as 'slander.' Notice the moralistic terms you put it in. It's as if you think that there's overhwelming evidence to believe MM. If so you haven't shared it with me. Yes, I know you talk about Japan and some other events that allegedly prove it. But all these episodes can be explained in other plausbile ways.

    That's why its a laugh when Sumner claims that keynesianis has confirmation bias. Looking at the way you arragne all your facts and figures above is the classica example of confirmation bias. Again, where have you meangiungfully proved causation? Nowhere. Just correlations and correlations.

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  13. "Mostly I find that people who attack monetarism routinely set themselves up for rebuttal by saying something that obviously false. So it's not that I'm such a committed defender, it's that they're obviously gluttons for punishment."

    Well you sure haven't shown anything I've said that's been obviously false. What's obviously true is that the monetary authority is a creature of Congress not the other way around. You skating around this shows that it's you who are saying something obviously false.

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  14. Or at least refusing to face something that is obviously true.

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  15. " BTW, if NGDPLT were to be adopted by some nation as official policy, then the very first thing to look for is if they were successful in actually hitting their NGDP level targets. That is an open question for me that I can't imagine being resolved until this is tried. If they are successful in at least hitting their targets, it'll be interesting to see what's required to achieve it, and furthermore if there are any unintended consequences. Seeing if NGDPLT (once achieved) delivers what's promised of it is an entirely different matter... and should there be unintended consequences, we'd have to see if the trade off is worth it. Perhaps it'd be best if some OTHER nation decided to be the guinea pigs for this... like Australia or Sweden perhaps."

    So basically you've already accepted Market Monetarism. They've already won. Based on what? You can't imagine where it might not work? I guess 35 years ago you would have thought the same thing about Old Monetarism.

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    1. "So basically you've already accepted Market Monetarism."

      No, not at all! I'm saying the opposite: I'm saying that I don't even know if we can really do NGDPLT (i.e. hit the level targets), let alone whether or not it "works" (i.e. has the benefits we anticipate). I'm speaking from the point of view of a Dr. Mengele type mad scientist with no ethical qualms about toying with people's lives to satisfy my curiosity: if I was given a series of identical nations to experiment with, then for the MM test nation the first step is see if NGDPLT can be accomplished. If no, the experiment is over right there. If yes, then does it have the advertized benefits. I'm also interested to know if it has any side effects!

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    2. ... everything I just wrote makes it sound like testing monetary policies is akin to doing drug trials with new medications: See if the drug can be administered and doesn't kill the patients. Then see if it has any benefit over a placebo. Then check to see if there are any other side effects (excluding death, which we've presumably already checked for). In summary, is the proposed drug (monetary policy) safe and effective? Now how much will it cost? Ha!

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    3. ... and I'm saying I don't even know whether or not it can be administered.

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  16. "Many macroeconomists and policymakers have debated the effectiveness of the quantitative monetary-easing policy (QMEP) that was introduced in Japan in 2001. This paper measures the effect of the QMEP on aggregate output and prices, and examines its transmission mechanism, based on the vector autoregressive (VAR) methodology. To ascertain the transmission mechanism, we include several financial market variables in the VAR system. The results show that the QMEP increased aggregate output through the stock price channel. This evidence suggests that further injection of base money is effective even when short-term nominal interest rates are at zero."

    I think plenty of people who aren't too impressed with QE agree that it raises stock prices. The question is how much do you believe in the 'wealth effect?' If you don't then you aren't impressed about stock prices.

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  17. "Same goes for economics... if there were some way to play God with whole societies (for the purpose of doing truly scientific experiments in econ), my curiosity would trump all ethical concerns... i.e. if we could build parallel "Matrix-like" simulated worlds... where maybe the people in each world were essentially sentient beings, I'd be 100% in favor of toying with their "lives" to satisfy my curiosity. Lol"

    Interestingly they did something like that in the early 70s with the negative income tax idea. They had it in New Jersey. It was agreed to have it there in Washington to see what the efffects might be.

    http://www.amazon.com/Work-Incentives-Income-Guarantees-experimentation/dp/0815769768/ref=sr_1_1?s=books&ie=UTF8&qid=1392558719&sr=1-1&keywords=new+jersey+negative+income+tax+experiment

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  18. "That's one reason why I don't find Sargent's theoretical ditherings persuasive."

    Yes, but what he said here about the game of chicken obviously fits what Sumner does with monetary offset. If you deny that then it's you who can't handle the truth. this believe in an omnipotent Fed is just a Monetarist delusion. If you care what the evidence says there is no evidence for it. Tomorrow Congress could amend or end its mandate in any way it likes. Do you deny this? Juding by your previous responses my guess is you'll try to change the subject.

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  19. So you can't be too naive about 'evidence.'-it's always subject to multiple interpretations and there's always the problem of correlation/causation.

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  20. That's why you need theory as well. Empiricism is no more all powerful than is the Fed's institutional mandate.

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  21. "I started defending Market Monetarism precisely because it was the subject of so much slander. It was never my intent to become a guest on MM blogs and to have so many of my comments pulled into posts. It just happened."

    It must be tough being such a martyr for truth. I notice that's a kind of species characteristic of all Market Monetarists-a sense of having the absolute truth and a terrible sense of martrydom that there are all of these great unwashed who can't see it. Sumner is always whining in a pique of martrydom about how he's been so right about everything and still the Keynesians won't come admitting they were wrong on their knees.

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  22. "I started defending Market Monetarism precisely because it was the subject of so much slander. It was never my intent to become a guest on MM blogs and to have so many of my comments pulled into posts. It just happened."

    I'm not going to claim that the idea of palying God sounds terrible-as long as I'm the one getting to do it and not Scott Sumner. However, in all seriousness this is not how science really works. we dont have to empirically try every idea to rule it out. That's why while Mark calls theory mere 'dithering' it has a very important part to play in economics and in all science.

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  23. "As for admitting that the Fed is the agent of Treasury, I don't think Mark or MMists are alone in that. Run that question past Cullen or JKH or any of the MR guys and see what they say."

    I'd say Cullen would agree. Cullen and Mark incidentally didn't play nice together and then I guess he banned Mark-which I don't agree with.

    What exactly do you think that means 'the Fed is an agent of the Treasury?' what we're talking about here is it's actual institutional power. The Fed was created by an act of Congress, The President appoints the chairman and the other Governors-unfortunately there are 5 on the FOMC appointed by banks.

    The Senate confirms these high ranking officials. Congress tomorrow could amend or end the Fed's mandate in any way it likes? Do you deny this Tom? Mark simply won't anwwer this point-I'm supposing it's just too traumatic to him-cognitive dissonance the psychologists call it-to hear that the Fed is not omnipotent after all.

    If that doesn't prove that the fiscal authority and not the CB is the QB then what does?

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    1. Mike I'm not saying one way or the other: I just happen to know that one of the big differences between MR and MMT is in their perception of the Fed. MR conceives of the Fed very much as a hybrid institution: part private part public. MR also tends to see the Fed as beholden to the private banking system more so than anything else. I think Cullen puts it like this: "The Fed's purpose is primarily to serve the private banking system." He has a very sharp disagreement with MMTers who see the Fed as a desk in Treasury. He's forever pointing out the independence of the Fed to the MMTer that venture onto pragcap.

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  24. By the way while I don't agree with them I should thank Tom and Mark for a great comment thread, It's great and is giving me some good reading on a Sunday morning to get through all the comments.

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    1. While I don't agree with Mark and am skeptical that I ever will I don't agree with what Cullen did in banning him.

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    2. I made this comment elsewhere, but Cullen told me a week back or so that Mark is not banned at pragcap. I let Mark know this.

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  25. I do love your simulations idea though Tom. Could something like that be the future?

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    1. I have no idea: certainly some big challenges to deal with, but the biggest I would guess would be getting meaningful cooperation from the various economic schools of thought.

      It'd be like gathering representatives from all the major religions (and atheists) in one spot and announcing that you had a way to tell which of them was correct, and would they mind cooperating in your experiment. hahaha!

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    2. ... actually it'd be worse than that: it'd be like telling them you had a method which would help to indicate which of them was correct, but it would require their cooperation.

      BTW, that's another of my favorite fantasies: get a bunch of legitimate scientists to hoax the world's religions: announce that they'd found a way to very precisely collect light from Earth that was reflected 1000s of years ago, and that it was now possible to focus in and see exactly what happened, and thus to either verify or reject many historical religious claims. I'd love to see their reactions!... Hahaha.... or maybe I wouldn't! Maybe that would start WWIII :(

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  26. "And we know based on analysis by E. Cary Brown, Christina Romer, Barry Eichengreen etc. that the contribution of fiscal policy to the recovery was minor. Thus this was primarily a monetary policy led recovery."

    No, we don't necessarily 'know that.' It depends on how much we choose to see their work as authoritative. It's interesting also to ask why if Romer is saying it was of minor benefit in the 30s she supports it wholeheartedly today. So she doesn't draw a Market Monetarist conclusion from her own paper.

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  27. This is why it's hard to prove causation from a correlation. I mean there are basically three possible explanations for a recovery.

    1. The Monetarist explanation-monetary policy

    2. The Keynesian explanation-fiscal policy, though Keynesians don't oppose MP the way Monetarists appose FP

    3. The RBC or Austrian explanation that the market corrected itself, healed itself. This is tough as Kenesains and Monetarists don't deny that in time there will be some level of self-correction.

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  28. Mark with all your talk of evidence what I find most compelling is that we have had a suboptimal recovery over the last 4 and a half years. As we've done no FS since 2010 this shows that we should have done some. It certainly shows the folly of what we did do-fiscal contraction.

    Meanwhile we've had three rounds of QE. This is why I say we have tried the Market Monetarist solution. Ok, we did QE and not their ideal policy of NGDPLT. Nevertheless we've given them what Scott says works-fiscal contraction and a huge increase in the MB, and three rounds of QE.

    Sumner has now declared victory saying because the economy has improved it shows that Keynesians are wrong and fiscal contraction is not harmful as long as we do QE. Yet, as we all agree this recovery has been slow and subpotimal how can this be a MM victory? It can't. We would be in better shape today without 4 years of fiscal austerity.

    This doesn't mean that we aren't better off than if we had less QE just that we'd be better still with less fiscal austerity. As we agree the recovery has been suboptimal how can this obvious point be denied?

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  29. By the way what was the monetary expansion during the 30s that is supposed to have done most of the work? Just FDR raising the price of gold?

    A Keynesian could still if they accepted this argue it would have been better with more FS

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    1. I mean FDR getting off the gold standard an later raising it.

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  30. I mean the recovery out of the GD was very slow. So if you want to call it a Monetarist recovery I don't know if that's much to brag about.

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  31. " Even in the presence of large fiscal multipliers, the increment to aggregate demand attributable to fiscal policy remained modest until rearmament spending got underway in the second half of the 1930s."

    I mean Krugman himself points out that Keynesianism has never been tried, The GD is notorious for taking a very long time to end. Maybe more fiscal expansion would have made it shorter. Tom maybe that ought to be what you could do to your guinea pigs-have them try actual Keynesianism.

    Our only real experience with Keynesianism until now is war spending-which was very effective but obviously that's not the preferred kind we would want-we don't want needless wars.

    What we don't find is any proof that FS would have made any of these recoveries slower.

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  32. "Mike I'm not saying one way or the other: I just happen to know that one of the big differences between MR and MMT is in their perception of the Fed. MR conceives of the Fed very much as a hybrid institution: part private part public. MR also tends to see the Fed as beholden to the private banking system more so than anything else. I think Cullen puts it like this: "The Fed's purpose is primarily to serve the private banking system." He has a very sharp disagreement with MMTers who see the Fed as a desk in Treasury. He's forever pointing out the independence of the Fed to the MMTer that venture onto pragcap."

    Here I think you're confounding a few different things. MMT agreees it's too beholden to the private banks-this is due to the fact that 5 of the 12 on the FOMC are chosen by the banks.

    I don't think there's any doubt that the Fed is a hybrid institutioni-tis was a compromise back in 2014 between those who wanted it even more a private insittution and those who wanted it 100% state dominated. However, there's no matter of optinion that it exists thanks to an act of Congress and Congress could in theory change this tomorrow. Do you deny this?

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    1. "Do you deny this?" No... I'm saying there's a serious difference of opinion between MR and MMT on the matter (from what little I know of MMT). I know Cullen would be happy to explain the difference.

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    2. I know there some differences. However, on the point that the Fed exists through an act of Congress it's not a matter or opinion. It's a fact. Hickey's quote of the charter is a fact too-the CB in no way infringes on the powers of the Treasury.

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