A Brief History of Macroeconomics

A nice little slideshow, with useful discussion here.

When the Positive to Normative Two-Step Goes Wrong: Scientists, Engineers, and Ideologues

Noah Smith has a nice post running down the history of modern macroeconomics through the lens of Greg Mankiw's "scientists vs. engineers" taxonomy. This is another way of framing the Saltwater vs. Freshwater debate, but instead of calling it a "debate" Mankiw wants to make it a division of labor. Smith, however, is having none of it:

Note that if the microfoundations are misspecified, it doesn't matter whether a model satisfies the Lucas Critique or not. Even if "tastes and technology" really are policy-invariant things, if tastes and technology don't really work the way the model says they work, the model will not give you useful advice about policy. 

Now, terrible microfoundations might not lead to a terrible model. But if by some lucky happenstance, crappy microfoundations produce a model that matches the macro facts, then it might as well be one of those "aggregate-only" models that Greg Mankiw labels "engineering". In this case, RBC has no theoretical advantage over a New Keyneisan model.

Emphasis added. On another day I might have wanted to get involved in this discussion on its own terms, but for now I'm interested in something else: the shift from positive argument to normative argument. It's a subtle two-step, but it happens all the time in the social sciences. Here's how it generally works. Some social scientist will say: "Given that the world works according to mechanism X (as I've just demonstrated), we should do Y." Often the "we should do Y" is masked by caveats, hedges, and other devices which allow one to walk back the initial claim; nevertheless it is almost always there in some form in almost every piece of social science research. Or if not in every particular research article, in the paradigm within which the article operates.

The problem arises when when the positive argument -- the part that goes "Given that the world works according to mechanism X" -- isn't true. And by "not true" I don't mean "not strictly true but true enough as an approximation of reality that the model works out alright". By "not true" I mean sufficiently false that the model doesn't actually work out alright. In that situation, the positive argument goes away and the normative argument is all that remains. When people advance normative arguments as if they had a valid positive argument underlying them, but they do not actually have such a positive argument, they are not doing anything like science, as Smith rightly notes:

So basically, I charge that the New Classical/RBC/freshwater macroeconomics paradigm is not really science, and not really like science...not yet, anyway. In science, evidence rules all; if a model doesn't fit the evidence you toss it out.

Once again, I'm less interested in the particulars of Smith's case than about the phenomenon he's highlighting. To go back to Mankiw's taxonomy, if the "scientists" aren't doing science and they're not doing engineering either, then what are they doing? Restated, once the foundation of the positive to normative two-step crumbles, what intellectual project remains? It is ideology, and its practitioners are ideologues.

Take an example closer to (my) home. Stephen Walt writes a blog with the grandiloquent subtitle "A Realist in an Ideological Age". This is meant to suggest that Walt recognizes the world as it actually is whereas his opponents are in denial or a state of intellectual confusion. It is a claim that the positive argument is on his side -- the world works according to mechanism X, which in this case means that (all) states pursue their national interest above all else, especially security as measured by relative power differentials -- therefore his normative prescriptions (and perhaps his frequent proscriptions as well) -- that therefore the United States should do Y, which is to also maximize its national interest, especially security as measured by relative power differentials -- are sound wisdom. This attitude is made clear by the William Arthur Ward quote at the top of his page:

The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails.

Walt is clear on which of these he believes himself to be. The realist cannot change the wind. The realist can only adjust to it. And in fact the realist only should adjust to it, since complaint is wasted effort and optimism is folly. Yet in almost every one of his blog posts Walt writes something like this:

Instead of harping on our "global responsibilities," Americans ought to focus instead on their national interests. The litmus test of any foreign policy commitment is not what it will do for others, but rather what it will do for us.

Walt has spilled quite a lot of ink describing how and why the United States has lost its way, has forgotten its national interest, and how this has caused a series of catastrophic mistakes in both foreign and domestic policy. Can you tell the problem?

The problem, simply, is that if the United States is not pursuing its national interest, as defined by Walt, then there is no reason to believe everyone else is either. And if everyone else is not, then the "wind" is not blowing in the direction that the realist believes it is: the positive argument that supposedly justifies the normative claim is false. Perhaps some conception of "national interest" other than maximizing one's relative power is in operation. Perhaps states pursue a range of interests at different times and in different places. Perhaps the entire notion of a singular "national interest" is misguided. Perhaps different groups or individuals use the power of the state to pursue group or individual interest. Whatever. Something about Walt's foundational positive argument is not correct. As a result his normative advice is a non sequitur.

When this happens the positive to normative two-step is reduced to just one step: make a normative claim, advance it whenever you can, and defend it at all costs. This is not science and it is not engineering; it is ideology. For the purpose of this post I do not claim that ideology is inferior to science or engineering, but I do claim that ideology which masquerades as science or engineering should be resisted in order to preserve the latter two categories as distinct and worthwhile.

This is something that social scientists struggle with, because it involves admitting that we could be wrong. About everything. Nobody likes being wrong but intellectuals hate it because our status and income is predicated on our not being wrong. So, sometimes, we transition from scientist or engineer to ideologue -- probably without realizing it -- and once we've gotten there it's very hard to find our way back. Eventually we end up advancing arguments that are contradictory in order to defend our ideology, rather than casting aside the ideology in favor of science or engineering, all the while continuing to claim the mantle of science as our own. This is a grave mistake.

Poking Macroeconomists with a Stick

In one small part of a longer discussion Scott Sumner says something interesting:

Macroeconomics is the study of policy failure. Once an issue goes away the field loses interest.

Leave aside for now whether or not that is strictly true, or whether it was inadvertent. When I read the first of those sentences I immediately thought "then why not study why the policies fail, dammit!" After a bit of reflection I've realized that macroeconomists think that's what they're doing. They have models, to which they are wedded ideologically and/or reputationally, which are internally coherent but externally invalid.* When they try to explain why they are invalid they claim that policymakers aren't doing what the models tell them they should do. That's what Sumner means by "policy failure". And they explain why policymakers aren't doing what the models tell them they should do by either demonizing them, calling them ignorant, or claiming that they are members of cults believing in confidence fairies, bond vigilantes, the hive mind of the Borg, or some discredited or otherwise objectionable ideology.

The assumption here is that policymakers are, or should be, utilitarian Philosopher Kings whose goal is to maximize output and employment while minimizing inflation. But maybe, just maybe, that assumption is false. If we get rid of it then we don't have to appeal to superstition or metaethics to explain the behavior of policymakers. Instead we can treat policymakers as being interested in gaining or retaining office, and that the best way to do that is not necessarily to bring unemployment down to its natural rate as quickly as possible.

In other words, we can treat macroeconomic outcomes not as "policy success" or "policy failure", but as things that benefit some groups of people and harm others. From the viewpoint of a policymaker a policy success is one in which the policymaker retains office, and a policy failure is one in which she does not. To remain in office she must appease some number of people (what we often call a "minimum winning coalition") and that's all. In advanced democracies that coalition is largely comprised of relatively affluent people who own some type of equity whose value is more sensitive to inflation than whether the marginal unemployed worker gets her job back. So when policymakers set policy to win over that person it isn't a "failure"... it's the whole purpose.

This is what Steve Waldman was driving at in his "choosing depressions" posts. This is the dynamic that I blog about in almost every post. This is what I was writing about in a prior post, "The Problem with Macroeconomics Is the Macroeconomists". If the world doesn't work the way that macroeconomists think it should, then maybe that's because macroeconomists don't understand how the world works.

That doesn't mean that macroeconomists, or anyone else, can't have their own preferences. Krugman's blog and associated book is titled Conscience of a Liberal, not Explaining How the World Works. But that's quite a different thing from saying that "macroeconomics is the study of policy failure". To acknowledge that different groups have different preferences over outcomes is to acknowledge that the definition of "policy failure" is a not a constant but a variable, and macroeconomics has nothing to say about that.

That's why we need political economists.

*Of course they will all protest that their pet model is not externally invalid, only everyone else's is. However no macro models have performed very well in this crisis. No macro models can explain the global nature of this crisis, why countries with similar characteristics have had vastly divergent outcomes, etc. The best argument that most macroeconomists can put forward in support of their preferred model isn't "it worked" but "it hasn't been sufficiently tried".

A Debate I'd Like to See

I haven't yet had a chance to read Alex Tabarrok's new e-book, Launching the Innovation Revolution, but judging from this Atlantic precis of it as well as a number of blog posts I'm wondering if we can goad him into a debate with Tyler Cowen. The debate could be had either at MR or some other forum (Bloggingheads?), and could be conducted along the following lines:

The sort of infrastructure investment that Tabarrok wishes to see -- e.g. nationwide wi-fi, more/better airports, a smarter electricity grid -- are intended to harness human capital in an effort to spur innovation. Cowen argues that the innovations we see right now, particularly in the area of information technology, may improve the human condition but do not boost material resources. Given that, it is unwise to invest more of our stagnating resource base on infrastructure investments that will not replenish it.

If Cowen agreed with something close to this proposition he could affirm it and Tabarrok could adopt the opposing side. Cowen has argued that he expects innovation to resume in the future; perhaps as part of the discussion he could more clearly articulate what policies he would adopt to hasten that day.

I'm less interested in the areas where the two agree, e.g. over a massive revision of the regulatory code. I'm more interested in where they do not agree, which seems to include their macro views of the economy and the relative likelihoods of different possible futures.

Elementary Questions About Keynesianism

I think I asked this question back in '09 or early '10, but I didn't get a satisfactory answer so I'll ask it again. I am certain that there is a simple answer to it, but I haven't yet seen it. I know some Keynesian economists occasionally read this blog, so I'm hoping they'll set me straight.

As far as I can tell, the whole Keynesian framework depends on the existence of a liquidity trap. Without it, as Krugman keeps repeating, normal rules of macroeconomics apply: trade is good, monetary policy is effective, etc. But in Depression Economics all that is turned upside down. The rules of the game change because of the constraint imposed by the liquidity trap. Normal macroeconomics doesn't work.

In the Keynesian framework monetary policy is ineffective at the zero lower bound because people (banks, businesses, households) hoard cash. Thus there is a decrease in aggregate demand, economic activity slows, unemployment increases, etc. I get all of that. Here's the leap that I can't make: why isn't that true of fiscal policy as well? If I use monetary policy to give people money and they hoard it, why would they not hoard money if I use fiscal policy to give them cash?* The whole idea of Depression Economics depends on a psychological model of mass peoples -- what Keynes called "Animal Spirits"** --  that would seemingly apply universally to all public policy intended to stimulate demand. I see no reason why businesses or households would respond to cheap/free money from the monetary authorities by not hiring, but respond to cheap/free money from the fiscal authorities by hiring.

In other words, if the monetary multiplier is small because of the hoarding impulse derived from animal spirits, then the fiscal multipler should be no greater and probably smaller, for a few reasons. Cash transfers on the fiscal side only moves the money once, and then it should be hoarded in the same way as cash from monetary policy (which is also moved once). But fiscal policy also incurs new debt, which must be serviced. That imposes real future costs in the form of interest -- which is admittedly quite small or even negative in the present environment -- and fiscal drag from future taxation, both of which can be anticipated. Tack on some waste/corruption/deadweight loss and it's hard to see how fiscal policy would be more effective than monetary policy at the zero lower bound or anywhere else. Even at a high discount rate monetary policy can always be cheaper than fiscal policy, so it should seemingly have a higher multiplier.

I freely admit my ignorance and stupidity in this matter. I understand that economics often makes no sense until someone explains it to you, and my economics education effectively ended with my undergrad major. So I'm asking someone to explain it to me: why do animal spirits negate monetary policy at the zero lower bound but not fiscal policy? I'm guessing it has something to do with financial intermediaries, but then doesn't that require an additional, separate assumption about psychology?

*The closing scene in the HBO adaptation of Sorkin's Too Big to Fail has Poulson muttering to one of his deputies something like "We gave the banks the cash; now they better spend it and get the economy moving". I'm sure that's apocryphal, but the whole point is that they didn't. They hoarded it, as a Keynesian would expect from monetary policy, but not from fiscal policy. Poulson, of course, was most concerned with the fiscal intervention.

**While I'm here, there's something else I don't understand: Why is it that Keynesians smirk at assertions that businesses aren't hiring between of "uncertainty" when their entire underlying model depends on precisely that claim? Partisans on the right surely miss part of the story when they attribute this uncertainty only to Obama's policies -- I agree with Summers when he said that the biggest uncertainty is over the entries on the order books, i.e. aggregate demand --  but the uncertainty that matters is over expected profits. One part of that equation is revenue, the other part is costs including regulatory and tax costs. Decreasing uncertainty over the former (in a positive direction) increases confidence and thus investment, but so does decreasing uncertainty over the latter (in a positive direction). Both sides seem to be right and wrong. Or, rather, incomplete without the other.

"Ohhh Buh-yam!" of the Day

Stephen Williamson, on the Krugman-Cochrane rivalry:

It's likely that, in the absence of his Krugman-critique, Cochrane would never have appeared on Krugman's radar screen, much like the rest of the the economics profession or, indeed, economics in general. However, Cochrane now has a place of honor on Krugman's list of bad guys, and serves as a convenient foil, particularly given his University of Chicago affiliation.

I still think this is basically theater.

US: Still a Global Leader in Manufacturing

As part of a back-and-forth in comments to this post, LFC (of the excellent Howl at Pluto) wrote:

But on US mfg not having declined in raw terms: are you saying e.g. that roughly as much steel is produced today in Youngstown, Pittsburgh, etc. as was produced in, say, 1968, just with many fewer workers and fewer plants? That would surprise me.

Surprise!



Via. I'm not sure about steel in Youngstown per se, but overall the US manufactures more now than it ever has. As a percentage of global manufacturing output the US hasn't declined too much either. Until the subprime crisis/Great Recession the US had stayed around 25% of global manufacturing output since 1975.



Despite that downtick, the US was still the largest manufacturer in the world in 2009 (more graphs and discussion at that link). The view that the US just doesn't produce anything anymore is common, but it's wrong. We still produce quite a lot, in both raw terms and as a share of global output, and we do it with fewer workers than ever before. That's bad for the unneeded workers in the Rust Belt, but not for the broader economy.

A Schumpeterian Take on Our Macroeconomy

What is the likelihood that this from Tyler Cowen and Jayme Lemke is true:

In essence, we have seen the rise of a large class of "zero marginal product workers," to coin a term. Their productivity may not be literally zero, but it is lower than the cost of training, employing, and insuring them. That is why labor is hurting but capital is doing fine; dumping these employees is tough for the workers themselves -- and arguably bad for society at large -- but it simply doesn't damage profits much. It's a cold, hard reality, and one that we will have to deal with, one way or another. ...

In other words, the U.S. economy is going through some major structural shifts. It's not a question of getting back to where we were, but rather that the economy must solve a new problem of re-employing a lot of people who were not, in reality, producing very much in the first place. That's a steeper challenge than we had realized early in the stages of this recession -- and so far policymakers have failed at meeting it.

It's impossible to know for sure of course, but I'd put the number at at least 50%. Note that this is a Schumpeterian view of this recession, much maligned by Keynesians but that contains an internal logic, in which a period of "purging" and reorganization of the economy is required for full recovery*. If true, it begs questions: do all recessions have similar underlying causes? If not, is there a standard policy playbook that can be applied at all times?

I don't agree with the title and one of the conclusions: 10% unemployment is unlikely to be the new normal. Even the liquidationists and Schumpeterians thought that once the purging was over the economy would adjust. Maybe that takes 5 years or 10, but in the grand scheme of things that's not forever.

In terms of politics, it seems clear to me that the U.S. is being fragmented in many more ways than just divergences in income. Capital has recovered from the recession, and business income and profits are now very high. Skilled labor never suffered all that much (in terms of employment, if not loss of financial wealth), and the unemployment rate for those with college degrees is now below 5%. For those with postgraduate degrees it's under 3%. Almost the entire brunt of the recession has been felt by those with less education and fewer skills. It's not just income inequality -- as The Economist noted in a much-discussed recent article, PhDs often don't make a lot of money -- but also inequality of job stability or perhaps mobility.

What does this sum up to, politically? It leads me to think that college education should be much more accessible (at lower cost) than it currently is. This could include vocational schools, but we should encourage broader educations more. In primary and secondary schools we should definitely emphasize teaching skills that are broadly applicable, like mathematics, rather than just teaching facts and knowledge. It makes me think that we should reduce or eliminate programs that encourage home ownership for everyone, including the mortgage interest deduction, and promote mobility in other ways**. We should definitely cut payroll taxes (as the recent tax compromise finally does), or even better eliminate them entirely. Replace them with a VAT or higher marginal income rates if necessary.

I'm sure the Keynesians will rebut this over the coming days, but right now the recession only exists for less-skilled labor, not for capital or high-skilled labor. It's been that way for some time. If that's not a structural recession than I'm not sure what would be.

*Schumpeter put it thus: "Depressions are not simply evils, which we might attempt to suppress, but forms of something which has to be done, namely, adjustment to change."

**Krugman and others say that structural factors are not important because there is not a deficit of labor in any sectors, while there is a surplus in most. But structure could be about location rather than just industry. Clearly too many people live in Detroit. Probably too few live in Bismark.

UPDATE: Finally getting around to reading Chrystia Freeland's profile of the nouveau riche in The Atlantic, and it opens with this from Alan Greenspan:

IF YOU HAPPENED to be watching NBC on the first Sunday morning in August last summer, you would have seen something curious. There, on the set of Meet the Press, the host, David Gregory, was interviewing a guest who made a forceful case that the U.S. economy had become “very distorted.” In the wake of the recession, this guest explained, high-income individuals, large banks, and major corporations had experienced a “significant recovery”; the rest of the economy, by contrast—including small businesses and “a very significant amount of the labor force”—was stuck and still struggling. What we were seeing, he argued, was not a single economy at all, but rather “fundamentally two separate types of economy,” increasingly distinct and divergent.

Why Imbalances Will Persist, For Awhile At Least

Martin Feldstein is bullish on macroeconomic imbalances, and walks through the relevant savings-over-investment accounting identities (pdf available here). I recommend reading the whole thing, as its short and gives a very good overview of the situation. Basically, what he's saying is that the U.S.' current account deficit can be, and likely will be, shrinking sharply over the coming years, and it may disappear entirely:

Feldstein imagines the U.S. national saving rate rising by 2% of gross domestic product and budget deficits declining to 3% of GDP from 8%, producing a combined saving rise of 7% of GDP.

“These assumptions about private and public saving may be too optimistic but they indicate that closing the U.S. current account deficit is potentially feasible,” he said.

Meanwhile, China is directing more investment internally–spending more on health care, education and housing–as it looks to raise living standards.

“If China reduces its national saving rate from the current 45% of [gross domestic product] to 40% without a corresponding fall in investment, the result would be to shift China from having a current account surplus to a current account balance or even a small deficit,” he said.

If savings increase in the U.S. and investment does not, our current account deficit necessarily narrows. Likewise, if savings shrink in China and investment does not, their current account surplus necessarily narrows. It's as simple as that, and yet the political and economic forces behind those movements are a bit more complex. So as an outline of what is feasible his analysis is correct. As an outline of what is likely I'm not so sure. I do think imbalances will shrink some over the coming years, but probably not as much as Feldstein alleges. Here's why.

It will likely take five or more years for the U.S. to get back to full employment, which means that the public deficit is not likely to shrink to 3% of GDP any time soon. Politicians talk a lot about that, and so do voters, but I haven't seen any real momentum to get it done. In the meantime, as the financial sector strengthens and the real economy stays weak (prompting the Fed to continue to make cash available at low rates), credit will likely become more available more rapidly than incomes rise. When that happens I would expect savings rates to grow less slow or even decline. Moreover, the continuing aging of the population means that more and more of us will be drawing down private (and public) savings rather than building them up.

It's true that China is allowing the RMB to appreciate at 5% a year, and that internal inflation changes the real exchange rate faster than that, but it's not clear how long those two things will persist. If China has its own property bubble that then pops, we may see savings rates there increase or at least hold steady. Or we may see lower growth rates that again cause savings to go up as wealth creation drops. To me, political reform will have to happen in China before major economic reform happens, and that doesn't seem likely over any short time horizon. In any case, China is only one country, so even if the bilateral Sino-U.S. imbalance lessens, U.S. imbalances with other countries might increase. If enough of that happens simultaneously the overall effect is not clear.

Consider Europe. Europe's real exchange rate has depreciated fairly significantly over the past few years, and Germany has benefited from that as an export-oriented economy. Is it likely that the euro will appreciate much over the next few years? It doesn't look that way to me. How about Africa? While not without problems, several African countries have been growing recently, and the medium-run prospects for the region appear to be improving. This development will likely occur by running current account surpluses with Europe and the U.S. Meanwhile, resource-exporters in the Middle East and elsewhere will continue to benefit from increasing demand and will maintain high current account surpluses.

The politics of current account imbalances is clear: there is no coordination now, and as the global economy remains weak there is not likely to be. Everyone wants everyone else to adjust. Eventually this will change, since things cannot persist this way forever. But over the time period Feldstein is talking about I'm not so sure.

Slutting My Way Through Macro Theory

Munger deals with me like he deals with all graduate students: he slaps me around while calling me an "ignorant slut". He somewhat mischaracterized my position, which I think he had to do to run far and fast from the part of his first post I was criticizing, but also could have been because I wasn't clear enough. I wrote that post after being at the bar celebrating the end of finals grading. Anyway, I want to clarify. But first here's his response:

Consider three offers to sell a car.

A. You can buy this car for $10,000
B. You can buy this car for a 60% discount, or $4,000
C. You can buy this car for $4,000 down, and finance $6,000

My claim was that the Republican tax cuts pretended to offer us deal B (big free discount), but in fact offered us deal C (borrow part of price). Deal B is WAY better than Deal C, but it was fake. If someone offered you B, but your contract said C, that would be fraud.

Kindred's objection was that many people prefer Deal C (borrow part of price) to Deal A (pay full price). Um...yes. That's why it is, as he rightly notes, very common. But his objection is a non sequitur. (He's a smart guy, and knew this, I'm pretty sure.)

I never said A was better than C. I said it is a lie to offer B, and then get C.

Munger's point here (which was what prompted his post) is that both Republicans and Democrats are promising option B: Democrats promise a Keynesian multiplier greater than one, Republicans promise supply-side voodoo. His point is that it was a lie to offer B then give C. That may be the right conclusion if you agree that bait-and-switch accurately describes events, but it's a completely different conclusion than what I was driving at. What he said in his first post was something closer to "Offering someone C instead of A will not change their behavior, because they know they'll have to repay the $6k loan so the cost is $10k in either case". I know he didn't say A was better than C, because I know that what he meant is that A and C are functionally equivalent. If you offered someone A they will take it or leave it. If you then added C as an option, Munger is saying that the people who accepted A would be indifferent, and that all the people that rejected A would also reject C.

This is the intuition behind Ricardian equivalence, which must be what Munger was referencing when he said "To have an effect on economic activity, tax cuts have to be credibly permanent". But if anyone would choose option C but not A then the assumptions underpinning Ricardian equivalence don't hold. Obviously some people do choose C, perhaps because they're too cash-constrained to choose A or for some other reason related to time inconsistency etc, so those assumptions do not hold.

I'm not saying that there is no Ricardian equivalence, just that there isn't full Ricardian equivalence. I saw cash for clunkers. It altered behavior. Banks operated differently post-TARP than they would have in the absence of it. Presumably Angus is excited about keeping 2% more of his income because he plans to spend or invest it. Therefore, to have an effect on economic activity, tax cuts do not have to be credibly permanent. That doesn't mean the multiplier is bigger than 1. That doesn't mean that promising B and delivering C isn't disingenuous.

So yes, this is a non sequitur when applied to Munger's objection to the Obama/GOP compromise: that B is not C. But it is not a non sequitur when applied to theories of taxation more generally. Just because B is not C does not mean C doesn't change things. Hopefully that all made sense.

Finally, I don't know who Wimpy is. I hear Wimpy and I think this. Someone needs to write a damn glossary for KPC, because I can't keep all the nicknames straight. I tried to find out by using Google Books to track down the reference to Munger's book (I don't own it) but there's no preview on there.

Tyler Cowen on the Past and Future

Tyler Cowen gave a talk at UNC today, in what appeared to be a class taught by Mike Munger. It was open to the public, so I went. Cowen introduced it as a mix of his last book and what will become his next one. The former considered micro and micro-micro economic development; the latter concerns the macro economy. He closed by discussing implications for the American political economy.

Cowen began by arguing that the most notable economic developments in the U.S. in recent times has been the ability to collect and manipulate information, especially what he calls "cultural information". The ability of individuals to collect and readily access culture at very low marginal cost through social networking and digitized media has allowed us to create our own economies. These have dramatically improved our quality of life, but unlike previous inventions they have not increased GDP by much or employed many people.

Then he shifted to his macro view, which is most heavily influenced by two events: the stagnation of median wages since 1973, and the financial crisis. The former indicates, to Cowen, that we haven't been as innovative as we thought. Most of the important inventions (which he loosely defines as mixing fossil fuels with machines) occurred well before 1973, and we've spent the time since making marginal improvements to the same technologies. As we've done so we've increased productivity, and that's why everyone has a refrigerator and a telephone. But we haven't really come up with new innovations; we've just improved the old ones. The exception to the rule -- information technology -- has improved quality of life but not measured GDP.

Cowen brings this together by saying that he is a "utility optimist" but a "numbers pessimist". He thinks that we'll continue to improve the ways we can collect and manipulate information and this will have important real benefits for people, but they will not create many jobs or provide a large boost to GDP. He says that we cannot expect to maintain a trend rate of real GDP per capita growth of 3% a year; 1% -- which is more than what the median earner has had since 1973 -- is the new normal. That doesn't mean we're stagnating; it just means that we have poor measures of progress. He recommends the Wolfers/Stevenson happiness research as an ongoing attempt at correction.

But this divergence between numbers and utility is where he sees the problem for political economy. Voters will demand 3%, rather than accepting 1% plus non-monetary improvements in standards of living. Politicians will thus promise 3%, and will pursue policies that generate it. That means encouraging a debt-based economy, encouraging too much consumption, and encouraging bubbles in asset prices that lead to financial crises. He didn't explicitly say it, but it sounds like he expects boom-and-bust cycles to continue until the American public is willing to accept 1% growth, or until we break through the "innovation plateau" that we've been stuck in since 1973.

I think I've summarized his argument correctly, and I'm sure he'll be writing much more about it in the future. I think it's a compelling story, but I'm not yet completely convinced. Here's how I see the world since 1973:

1. The natural advantages of the U.S. economy post-WWII had mostly dissipated by 1973. This was inevitable, indeed it was something the U.S. strove for, so the previously-high growth rates were simply not sustainable. This isn't about innovation; it's about competition. As W. Europe and and Japan "re-industrialized" and were able to productively mobilize labor, they narrowed the U.S.'s margins. At the same time, the U.S. had mostly already reaped most of the GDP benefits of mobilizing female workers and integrating minorities by 1973.

2. Somewhat related to #1, I think Cowen has the wrong level of analysis. While it may be true that median incomes have stagnated in the U.S. since 1973, real global GDP/capita has nearly doubled since 1973. Even allowing an increase in inequality, global median incomes has certainly increased markedly, probably well more than 3% a year. (A quick search didn't turn up a global median income growth time series, but I can't imagine this isn't true.) We would expect this to happen as more countries employ their populaces in industrialized work. In other words, the experience of the U.S. from 1900-1973 has become the experience of the world from 1973-2010. This has put pressure on American middle class wages, as we should expect it would: when the supply curve of less-skilled labor shifts right, the returns to less-skilled labor goes down. But the returns to more-skilled labor have not gone done, which is why the American mean and median have diverged.

3. I don't think the new normal has to be 1% growth. It could also be 3% growth, but not broadly dispersed. That has, in fact, been the story of American post-1973. Not all of that growth was a myth. After all, before we got the micro-micro innovations like Twitter and iTunes we also got the micro-macro innovations like the PC. These did raise the real productivity of the economy, but not necessarily for the factory worker or custodian. Those initial innovations made Bill Gates much richer in monetary terms than Joe the Plumber, but Joe the Plumber got psychic benefits that he would not have otherwise had. In Cowen's language, numbers and utility went up, but not necessarily in equal amounts for everyone. I don't see that that process has run its course. Facebook and Twitter may hire many fewer people than GM and Ford hired when they boomed, but Mark Zuckerberg is the youngest billionaire in history.

4. If #3 is correct, then the political economy dimension becomes about distribution of monetary gains, not divergent perceptions of utility vs. numbers. Interestingly, this will not be a battle between capital and labor, but between labor and labor. (It doesn't take much capital to create Facebook; Zuckerberg did it in a few months on an IBM.) Maybe labor becomes more of a lottery. If that continues to happen, I'd expect the political equilibrium to be a strengthened welfare state. I don't think recent political swings necessarily contradict this, since the best political models are the most structural political models. Additionally, public anger over the bailouts is much stronger and deeper than many expected, and no one is interested in weakening the major entitlement programs.

I'll have to think about this more for than just an afternoon/evening to form stronger conclusions, but that's where I'm at now. Perhaps as Cowen develops his thesis more fully he'll address some of this, and especially consider if/how the story changes when we think globally. Either way I'm looking forward to seeing how his thoughts develop.

P.S. I live-tweeted the lecture, and asked the Twitterverse for questions. Daniel Davies asked me to ask Cowen what he thought of Keynes' "Economic Possibilities for Our Grandchildren". Cowen's response was essentially "It is one of the more interesting intellectual mistakes of the 20th century." I don't think Davies liked that response too much, but I'll let them speak for themselves if they like. I'd never read the essay before. It is interesting. And it is, I think, mistaken, although not entirely. A pdf is here.

Brad DeLong Thinks Macroeconomics Is Easy

I'm looking forward to reading DeLong's long-in-the-works Slouching Towards Utopia whenever it ends up coming out:

Is macroeconomics hard in this sense? I confess that I do not think so. I think that macro is pretty easy...

What, exactly, the excess demand was in financial markets became a subject of dispute, with different economists placing the cause of the "general glut" that was excess supply of newly-produced goods and of labor at the door of different parts of the financial system. We have:

1. Fisher-Friedman: monetarism: a depression is the result of an excess demand for money--for those liquid assets generally accepted as means of payment that people hold in their portfolios to grease their market transactions. You fix a depression by having the central bank boost the money stock. Eliminating the excess demand for money also brings the goods and labor markets into balance and out of excess supply.

2. Wicksell-Keynes (Keynes of the Treatise on Money, that is): a depression happens when there is an excess demand for bonds--for ways of moving purchasing power from the present into the future. The workings of the banking system lead the market rate of interest to be above the natural rate of interest which balances the supply of funds saved and the demand for funds to finance business investment. You fix a depression by either reducing the market rate of interest (via expansionary monetary policy) or raising the natural rate of interest (via expansionary fiscal policy) in order to bring them back into equality. Then, with no more excess demand for bonds, the goods and labor markets will also be back in balance and out of excess supply.

3. Bagehot-Minsky-Kindleberger: a depression happens because of a panic and a flight to quality, as everybody tries to sell their risky assets and cuts back on their spending in order to try to shift their portfolio in the direction of safe, high-quality assets--which, of course, everybody cannot all do at the same time. The excess demand is an excess demand for high-quality AAA assets in particular, not of money (although outside money and some inside money are AAA assets) and not of bonds (some of which are AAA assets, but not all). You fix a depression by restoring market confidence and so shrinking demand for AAA assets and by increasing the supply of AAA assets. Eliminating the excess demand for high-quality assets is eliminated will bring the goods and labor markets out of excess supply and back into balance.

From the perspective of this Malthus-Say-Mill framework Keynes's General Theory is a not entirely consistent mixture of (1), (2), and (3)...

[I]t is not rocket science. It is, however, cutting-edge economics--beyond the cutting edge, in fact--for 1829.

The whole thing is word reading. Keep in mind that this discussion ends before it begins. It's not just interesting what governments could do in a perfect world with no constraints, but what governments can do (and do do) in the real world with lots of constraints. Someone else will have to write that book. Still, interesting stuff.

Monetary Policy Is Not Magic

Felix Salmon says something that makes no sense:

Shahien talks to former Fed governor Laurence Meyer, who reads this as a protective move by the Fed: the regional Fed banks, in particular, would have a much harder time justifying their existence as large institutions if they lost their supervisory role. And Meyer is surely right. Yes, information from bank supervisors can be used in FOMC meetings — but the Fed could have people supervising any sector of the economy and then use that information in its meetings. The point of supervising banks is to supervise banks, not to set monetary policy.

(emphasis added)

What's wrong with this? It doesn't think about how monetary policy works, or the mechanisms by which the Fed influences the economy. So how does it work? When the central bank raises (lowers) interest rates on funds available to banks they are effectively reducing (increasing) the supply of funds into the banking sector; banks respond by demanding fewer (more) funds, which means they have fewer (more) funds to loan out to borrowers; a leftward shift in the supply curve raises (lowers) the price of funds, when means raising (lowering) the interest rates charged to borrowers and paid to depositors. If interest rates rise (fall), demand for funds will fall (rise), so the money supply increases (decreases) through interest rate management. If the money supply increases (decreases), then economic activity also increases (decreases).

But all of that depends on the banking sector. In order for interest rate management to influence the broader economy, the banking sector must be healthy enough to issue new loans when interest rates are low and survive when interest rates are raised. If the banking sector isn't healthy, then the central bank has no traction over the economy: it can pump cash into the banking sector during downturns, but if banks just hoard it then it won't help get the economy moving again. In fact, we've seen a lot of this occurring since 2008; monetary policy has actually been contractionary, since banks have just hoarded the cash the Fed is trying to move through the system:

Indeed, one of the most notable features of the present crisis has been the explosion of banks simply keeping their money on deposit at the Fed. During 2008, these deposits increased by a factor of more than 40: from $21 billion to $860 billion.

All to say, the central bank really does need to know what's going on in the banking sector in order to set monetary policy, for reasons that have nothing to do with regulation. (Although that's also related, and I may blog more on that point soon.)

Note that this is not the same thing as being in a liquidity trap; I didn't mention the "zero bound" at all above.

An Appeal to Better Natures

Given his infrequent, never productive, hit-and-run appearances on this blog, I was amused by this:

DeLong, true to form, ignored the content and jeered like a third grade bully. Most sadly, whenever he indulges this habit, DeLong sacrifices a chance to teach a little economics. Fortunately, the web is a big place and there are plenty of alternatives for readers who care about ideas.

True. The problem is that when DeLong is on, he's really on. Like when he maps the intellectual evolution of certain economic principles in time in ways that link history, sociology, politics, and economics. He's got a better sense of the history of political economic thought of anyone in the blogosphere (that I know of, at least). Or when he really gets down to business and parses macro. He's great at that, and so he can't be ignored. He simply has too much to offer. It's worth plowing through 20 of his "everyone who disagrees with me and/or doesn't have a PhD in econ is Satan" posts a week just to get the one or two golden ones. But it is tiresome when he steps on his bully pulpit, paints his opponents in the worst possible light, and neglects every opportunity to disseminate his knowledge to his audience in favor of demagoguery.

On his best days he's a moderate, with a pragmatist's technocratic sensibility. On his worst days he's a sophomoric would-be Beltway assassin, and therefore has nothing to contribute. I'd love to see more of the former and less of the latter.

The OECD in Nominal Spending Perspective

The above picture, from David Beckworth, is shocking. It shows that nominal spending (total demand in an economy) among OECD countries had a jarring drop last year, and that this is the proximate cause of the economic slowdown. (For a short post on why nominal spending matters, see this post). Beckworth is arguing that the Fed screwed up majorly by targeting inflation rather than spending, and is still making the same mistake.

Krugman hates this, although he admits it' power with this parenthetical: "monetary policy doesn’t matter (unless it can affect expected future inflation, but that’s another story)". BUT THAT IS THE STORY! As Beckworth writes:

If an economy is running at full employment, then any sudden increase or decrease in nominal spending will give rise to changes in real economic activity that are not sustainable. This is because there are numerous rigidities that prevent prices from adjusting instantly. There is simply no way to suddenly jar nominal spending (i.e. create a nominal spending shock) and not have real economic activity move as well.

Note that the key here is not to aim for inflation stability, but to aim for nominal spending stability. This is because inflation is merely a symptom of nominal spending shocks.

Krugman tries to trump this as he always does, by saying that in a liquidity trap monetary policy cannot get any traction. But it can if it commits to a certain nominal target over time. This is what Scott Sumner has been saying since his first post (and he does not disappoint in his response to Krugman). And as the Free Exchange blog argues, Krugman cannot possibly prove that the central bank is powerless when they haven't even tried to affect inflation expectations. Instead, the Fed has repeatedly sounded hawkish when it comes to inflation. If Bernanke came out tomorrow and said "inflation is soon going to spiral upwards, and there's nothing we can do about it" then present spending would almost certainly jump. Instead, the Fed is committing to holding inflation down when if anything it should be committing to holding it up. Given the Fed's anti-inflationary history, this commitment is viewed as credible. Faced with that reality, spenders are quite rationally holding on to cash, and this has depressed the economy.

In other words, Krugman is arguing that something that hasn't been tried cannot succeed. But there are very good reasons for thinking it can: if the Fed were to make a commitment to future nominal spending (or even explicit inflation targets), it would move money in the present. If money moves in the present, then nominal GDP goes up. If nominal GDP goes up, then the economy grows back into full employment.

You're So Vain, You're Prolly Think This Article Is About You

Krugman and DeLong need to read more carefully. When Ned Phelps wrote "Keynesian economics, which had been nearly forgotten inside the macro field, has found new voices from outside" (bold added) he wasn't talking about them, unless they think that they are outside of macroeconomics. He was talking about non-macroeconomists who don't understand Keynes and misappropriate him to advance political agendas. Which is why he put "Keynesians" in sarcastic scare quotes.

Krugman says that "nobody, and I mean nobody" holds the position that fiscal stimulus is effective in all kinds of slumps. And yet here is Robert Reich a decade ago:

Keynes’ basic idea was simple. In order to keep people fully employed, governments have to run deficits when the economy is slowing. That’s because the private sector won’t invest enough. As their markets become saturated, businesses reduce their investments, setting in motion a dangerous cycle: less investment, fewer jobs, less consumption and even less reason for business to invest. The economy may reach perfect balance, but at a cost of high unemployment and social misery. Better for governments to avoid the pain in the first place by taking up the slack.

No discussion of monetary policy, or liquidity traps, or any of the conditions Krugman laid down. In fact, he applies the argument to Germany in the late-1990s, which was very far away from the zero-bound on monetary policy!

Want more? Here is Krugman accusing Keynes' biographer Robert Skidelsky of missing Keynes' best point (and in the process accusing Keynes himself of the same thing). And here is Brad DeLong saying that the Romers believe that "all types of fiscal stimulus are more potent than conventional estimates would lead us to believe" (in this paper, in which the words "liquidity trap" and "zero-bound" are not found, and monetary policy shocks are controlled for), but the period under study contains no occasions of a liquidity trap.

I could go on but the point is that many people, including some macroeconomists and many non-macroeconomists, do believe the things that Krugman says nobody believes and many other things besides. Phelps was talking about them, not Krugman or Mankiw.

Spoke Too Soon

Krugman in 2007, on Milton Friedman:

For example, the Fed responded to the 2001 recession by slashing interest rates and allowing the money supply to grow at rates that sometimes exceeded 10 percent per year. Once the Fed was satisfied that the recovery was solid, it reversed course, raising interest rates and allowing growth in the money supply to drop to zero.

[S]ince the early 1980s the Federal Reserve and its counterparts in other countries have done a reasonably good job, undermining Friedman's portrayal of central bankers as irredeemable bunglers. Inflation has stayed low, recessions... have been relatively brief and shallow. And all this happened in spite of fluctuations in the money supply that horrified monetarists, and led them—Friedman included—to predict disasters that failed to materialize.

That is in defense of the sort of Fed "tweaking" that led to the loose money of 2001-2004 -- and inflation of the housing bubble -- that Krugman now derides. I'm not a moneterist, but I'm just sayin': if in 2007 you say the Fed was right to pursue expansionary monetary policy (and you said the same thing in 2001, 2002, 2003, 2004, 2005, and 2006), and in 2009 you say the Fed was wrong to pursue those same policies because they led to bubbles, then maybe you should stop lobbing hand grenades at your ideological opponents for not being omniscient.

Just sayin'.

Nevertheless, that whole article is worth reading. It's a eulogy of sorts, and Krugman shows a fair bit of respect (though it comes with several accusations of intellectual dishonesty). It's basically the story of a very smart guy grabbling with the ideas of another very smart guy that he very much disagrees with but is forced to respect. And there's also a distinct note of admiration for Friedman's ability to steer public policy, a level of influence that Krugman has often yearned for but seldom achieved. Here's his conclusion, which applies every bit as much to Krugman as to Friedman:

The answer, I suspect, is that he got caught up in an essentially political role. Milton Friedman the great economist could and did acknowledge ambiguity. But Milton Friedman the great champion of free markets was expected to preach the true faith, not give voice to doubts. And he ended up playing the role his followers expected. As a result, over time the refreshing iconoclasm of his early career hardened into a rigid defense of what had become the new orthodoxy.

In the long run, great men are remembered for their strengths, not their weaknesses, and Milton Friedman was a very great man indeed—a man of intellectual courage who was one of the most important economic thinkers of all time, and possibly the most brilliant communicator of economic ideas to the general public that ever lived. But there's a good case for arguing that Friedmanism, in the end, went too far, both as a doctrine and in its practical applications.

Perhaps the only difference between the two in this regard is that there is no such thing as "Krugmanism".

Krugman vs. Cochrane

Paul Krugman stirred up a lot of conversation in the blogosphere and in the Ivory Tower recently with his NY Times article on the state of macroeconomics. Will has done a very good job covering Krugman's piece and John Cochrane's response for this blog. I wanted to throw my unsolicited two cents out there and engage the pieces that have been written.

I agree with Will and John Cochrane that Krugman is using his recently awarded Nobel Prize, along with his tenured, endowed Princeton professorship and his NY Times blog and column to push a partisan agenda and has been quite misleading in many of his writings as of late (which Will also covered here). Many of the claims/arguments he puts forward in the NY Times article are not well informed, incoherent, at times disingenuous and some even border on personal attacks on well-intentioned economists. However, I do believe that if he wants to turn himself into a money-making political hack, that's his business. I don't see anything wrong with him using his column and Nobel fame to convince others that Keynesian economics is the answer to all of the world's problems; I just wish he was more honest as he goes about it.

Cochrane does a good job calling out Krugman for the mistakes in his article and taking him to task for personally attacking other economists. He also provides a very good defense of mathematical economics, model creation and assumption building. His arguments for using advanced mathematics as a way of checking and proving logical arguments is quite good. He's right in that there are things we can't do with prose that can be done quite well with math, economics being one of them. And I'm sure he'd also agree that there is still a need to translate these models and equations into words so that the rest of the mathematically challenged world can understand what is going on; this is what Krugman should be doing with his column as Cochrane makes clear. His explanations of the economics, especially where Keynesians and Monetarists differ were sound and enjoyable, and showed key differences in positions between the camps and where he believed Krugman was wrong.

Even with all of the good things Cochrane does in his piece, he fails in some of the same ways Krugman does. They're both deeply ideological (which is clearly evident in their writing) and obviously have an agenda that they each want to promote. They both take extreme positions, Cochrane for unfettered, free market capitalism and Krugman, an expansionary view of government's role in society and expansionary government spending. Granted Krugman does it misleadingly in a NY Times article with a veiled political agenda, but Cochrane also has his own political agenda and interests that he seeks to promote.

It's pretty clear that unfettered, free market capitalism just does not work and his attempt to put a large part of the blame for the economic collapse on government intervention is clearly misleading. Moral hazard and government promoted excessive risk-taking are definitely to blame. But denying that the idea of self-regulation of banks was a bad one, as well as believing that a lack of regulation and oversight in other markets were solely the fault of the government is misleading and wrong. He criticizes the role of the government as regulator and argues that the problem started with the over-regulation of commercial banks. He believes that government did a poor job with its regulatory responsibilities (he's correct there), but denies the role that business interests and the push for unfettered capitalism played in dismantling the regulatory structure that had previously been in place as well as the culture and ideological leanings within regulatory agencies that believed a lack of oversight was a good thing because it was in the best interest of the banks and other large financial corporations to not be overexposed and take on too much risk and that they could police themselves. He would also have us believe that the market alone, with a little bit of help from the Fed, would have pulled us back from the brink last fall. It's pretty clear that without massive government intervention one year ago this weekend, the meltdown surely would have been much, much worse, not better.

Cochrane's portrayal of Krugman as equivalent to that of a "global warming skeptic, an AIDS-HIV disbeliever, a creationist" within his field is both ignorant and wrong. There is much consensus in medicine, environmental science and evolutionary biology on those three issues. In economics, I don't believe that sort of consensus exists, nor should it at the moment. There is much within economics that is not black and white, that simply cannot be proved with the rather limited toolbox that we have as scholars and the limited data that we have at our disposal to study such convoluted and difficult problems. It is not a verifiable fact that Neo-Classical Economics holds the key to knowledge within the field of economics and I hope even Neo-Classicists can acknowledge that. In my opinion, the Keynesians and the Neo-Classicists are both well short of the truth and have a lot to learn from each other as well as from emerging fields like behavioral economics.

Both of these men have been doing great scholarly work in economics for a long time. One, Krugman, has gained vast fame and fortune as of late, is trying to disseminate his work and beliefs to the masses and entrench his position in economic lore for many years to come. The other, Cochrane, sees his life's work, his beliefs and his ideology being poo-pooed on by a Nobelist he feels is being misleading, by government officials whom he feels are making bad economic decisions and by other lay people whom he believes are blaming the wrong people for the recent economic misery. Both have their own agenda and both are trying to ensure that their view of the economic world survives to breathe another day. Be careful how much stock you put into each of their viewpoints.

Cochrane: Against Krugman's View of Macroeconomics

John Cochrane, one of the prominent "freshwater" economists that Krugman assaulted in his screed last week, has responded. (My feeble response to Krugman is here.) As much as anything, it reminds me of Kenneth Rogoff's famous rejoinder to Joseph Stiglitz's hit-piece on the IMF from years ago (which ended with a tart "Other than that, I enjoyed the book" just two sentences after calling for Stiglitz's book to be removed from store shelves).

But Cochrane's retort is much more thorough. He hones in Krugman's caricature of "efficient markets" research, the modern interpretation of Barro-Ricardian equivalence, the fundamental causes of the economic collapse (which Krugman also did not predict), his newfound disdain for mathematics, his newfound preference for political advocacy over economic rigor, and his numerous character assassinations. Moreover, unlike Krugman, he actually bothers to cite research in support of his claims.

I would love to quote from Cochrane's piece at length, but it demands to be read in full: all 4,435 words of it. The text may be downloaded from Cochrane's site or from Economix in the form of a .doc file. Even though I do not fully agree with Cochrane, I truly think this should be required reading for anyone who read Krugman's essay. This is especially true for those who agreed with it but cannot verbalize why. Either way, it should not be taken for granted that Krugman's view of the state of macroeconomics is the only view or even the predominant one.

Here's Cochrane's intro, and then his conclusion, but please read the whole thing:

Imagine this weren’t economics for a moment. Imagine this were a respected scientist turned popular writer, who says, most basically, that everything everyone has done in his field since the mid 1960s is a complete waste of time. Everything that fills its academic journals, is taught in its PhD programs, presented at its conferences, summarized in its graduate textbooks, and rewarded with the accolades a profession can bestow, including multiple Nobel prizes, is totally wrong. Instead, he calls for a return to the eternal verities of a rather convoluted book written in the 1930s, as taught to our author in his undergraduate introductory courses. If a scientist, he might be a global-warming skeptic, an AIDS-HIV disbeliever, a creationist, a stalwart that maybe continents don’t move after all. ...

Krugman wants people to swallow his arguments whole from his authority, without demanding logic, or evidence. Those who disagree with him, alas, are pretty smart and have pretty good arguments if you bother to read them. So, he tries to discredit them with personal attacks.

This is the political sphere, not the intellectual one. Don’t argue with them, swift-boat them. Find some embarrassing quote from an old interview. Well, good luck, Paul. Let’s just not pretend this has anything to do with economics, or actual truth about how the world works or could be made a better place.

Other than that, Cochrane enjoyed the article.

I Fear for the Finance Students at Washburn University

My post on Krugman's essay on macroeconomics got picked up by Seeking Alpha, and generated a decent bit of discussion. Most comments there are of the wing-nut variety -- and both political poles are well-represented -- but a decent number of academics and professionals post and comment there too. So I was disheartened to see the following comment from Robert Weigand, an endowed professor of finance at Washburn University:

Sounds like more of the same: Many words devoted to attacking Krugman and Keynes; few words devoted to proposing an alternative path to economic recovery. Are you implying that we should cut taxes and . . . then what? Your comparative intellecutal advantage is supposed to be providing insights into the connection between economics and politics. Reaganomics blew up because, even when Republicans controlled Congress, no one could get them to reduce of even slow federal spending. Thus the $14 trillion deficit. Now that the Dems are in charge (thanks to a huge anti-Bush turnout at the polls) . . . they're not going to cut spending, either -- tax cuts are therefore out of the question. That leaves Keynesian solutions. Lets just hope the fiscal stimulus works and we don't wind up stuck in a Japanese-style liquidity trap, or slow-growth stagflation scenario. Additionally, the reaction from European and Asian financial markets today was telling. Their governments announced continuation of the stimulus programs and stocks rose on the news. So the market obviously likes stimuli.

I responded to Weigand in that thread, but the response was substantive enough that I thought I should reproduce it here:

Nice straw man, but I'm not "implying" anything. I said quite clearly that Fed policies (including QE) have so far been sufficient to arrest the downturn and begin the recovery. So far as I know, no one disputes this. So any case for fiscal stimulus (including tax cuts, which I oppose) has been severely weakened. That doesn't mean that fiscal stimulus can't have positive effects (i.e. the multiplier is probably greater than 1), but it does mean that it is probably unnecessary, so the negative aspects of stimulus (inflation, the debt burden, deadweight loss from future taxation) should be given greater weight.

The rest of your comment makes even less sense. We have debt problems... so we should engage in more deficit spending? Fiscal stimulus (in the form of tax cuts) doesn't work... so we should enact more fiscal stimulus? We face deflation... AND stagflation? Financial markets are all screwed up... so we should set public policy based on day-to-day market fluctuations in Europe and Asia? These are all non sequiturs.

You're right about one thing: my comparative advantage is in examining the links between politics and economics, and most of my posts are oriented towards that nexus. But that requires having an understanding of basic economic theory; apparently that's not a prerequisite for finance professors.

I'd add only one thing: Even though I didn't mention it, I do know that tax cuts and spending programs have different multipliers. Acknowledging that changes the substantive argument very little, but even if it did I doubt Weigand would know the difference.