Economics and Politics - Paul Krugman Blog - NYTimes.com

Economics and Politics - Paul Krugman Blog - NYTimes.com:

Mike Konczal has has another excellent post, this time on the whole question of why employment remains so low. As he points out,

Why is unemployment so bad in this recession? There are two theories at work. The first is a story of aggregate demand. The second theory is one of a mismatch in skills.

What he doesn’t say explicitly, although it’s clearly implied, is that these two theories have very different policy implications. If it’s aggregate demand, we should be doing everything we can to raise demand, including fiscal expansion and unconventional monetary policy. If it’s mishmash mismatch, we should do nothing, because any effort to create jobs leaves part of the work of depressions undone.
So how would you decide between these theories? The answer is to look at the evidence — specifically, to ask whether what we see bears the “signature” of one story or the other. The aggregate demand story suggests that we should see depressed employment in all industries, that we should see workers of every skill type facing a poor job market. The mismatch story says that we should see surpluses of labor in some places, but shortages in others.
And Mike shows that the data overwhelmingly fit the demand story, not the mismatch story; Every single major industry has seen a rise in involuntary part-time work; so has every major occupation. There’s no hint that any major kind of labor, in any sector, is in short supply.
Let me add another piece of evidence. We’ve been talking a lot lately about the NFIB data on small businesses, and how weak sales — not concern about taxes or regulation — has soared as the perceived biggest problem. But there’s something else these data show: concerns about quality of labor have plunged:

National Federation of Independent Businesses

This strongly suggests that it’s a weak labor market for everyone out there, and businesses have no trouble finding the workers they need; they just don’t know what to do with those workers, given weak demand.
The evidence, then, is overwhelmingly in favor of a demand story. But the mismatch people don’t want to hear that — and they have substantial influence. And so the slump goes on.

Yglesias: [Also] see the new paper from Arjun Jayadev and Mike Konczal showing that a big shortfall in demand (PDF) rather than a sudden uptick in skill mismatch is the main story of the recession. 

Fannie / Freddie Acquitted « Modeled Behavior

Read the whole thing:

Fannie / Freddie Acquitted « Modeled Behavior: "being creepy, a bad person, or even a usual suspect does not make one automatically guilty of any particular crime. In this case government subsidies in the housing market are a bad idea for a host of reasons and have been for years. I will testify to this with vigor and passion.

However, that does not mean that Fannie or Freddie caused the housing bubble. Indeed, by my count they were among the biggest victims of it."

Matthew Yglesias » In Praise of TARP

TARP was a smashing success EXCEPT that its benefits were skewed towards the benefit of wealthy bank executives and shareholders. That is the big problem. That problem also creates the moral hazard that increases chances of a repeat of the same kind of crisis.

Matthew Yglesias » In Praise of TARP: "TARP, the Troubled Asset Relief Program, looks set to go down in history as one of the most unfairly maligned policy initiatives of all time. The government took hundreds of billion dollars, gave it to banksters, and in exchange all we got was this lousy$7 billion in profit. Which is to say that even if TARP had no positive impact on the economy whatsoever, it had a negative cost to taxpayers. How many programs can you say that about? And how many of them are toxically unpopular? ...TARP was both a good idea and nothing less than an exposure of the myth of the free market. There’s an idea out there about a free market that operates “naturally” and produces a certain distribution of wealth and income. Any further interventions into that marketplace to ensure that prosperity is broadly shared constitutes some kind of illegitimate “redistribution” of wealth and income from its natural state. This is not, however, an accurate description of how any economy featuring a modern banking system works. A world in which we simply didn’t have banking and finance would be, overall, a much poorer world. But a world with banking and finance requires various forms of management—monetary policy, regulation of the financial system, and intervention amidst panics and crises. TARP and the associated activities of the Federal Reserve were examples of such intervention and were good ideas. But they highlight that public policy decisions are integral to the creation and sustainment of modern capitalist economies. Under the circumstances, wise and moral policymakers will necessarily attempt to ensure that the prosperity they create is broadly shared by law-abiding members of the community.

Matthew Yglesias » Inflation Targeting vs Price Level Targeting

Matthew Yglesias » Inflation Targeting vs Price Level Targeting: "I want to try to keep doing posts that explain some basic monetary policy concepts, since I think these issues are important but most people aren’t very familiar with them. Today, let’s consider the difference between two kinds of targets a central bank can set for itself. One would be inflation targeting and the other would be price-level targeting. The inflation rate is the rate at which the price level increases, so these are similar ideas. Indeed, in a world of perfect execution they’d be equivalent. This is what the world looks like if the central bank is successfully hitting a two percent inflation target:

And here’s how things look if the central bank is successfully hitting a target for two percent growth in the price level:

It looks the same. Because these are the same thing. But it looks different if you factor in the inevitable occurrence of problems.

For example, suppose the economy has a sharp unexpected burst of deflation:

Here the blue line represents somewhat successful inflation rate targeting—after a few problems, the inflation rate regains stability at two percent. The green line, by contrast, represents somewhat successful price level targeting—after a few problems the price level catches up with its previous two percent annual growth path. That means a couple years of below-trend inflation are met with some years of faster-than-usual inflation to make up the lost ground. This is a subtle distinction, but for someone who signed a long-term contract denominated in nominal terms back in 2007, it has big implications for the financial state of things in 2011, 2012 and beyond.

The Slump Goes On: Why? | The New York Review of Books

The Slump Goes On: Why? | The New York Review of Books: "Books on the Great Recession are still pouring off the presses—but for the most part they are backward-looking, asking how we got into this mess rather than telling us how to get out. To be fair, many recent books do offer prescriptions about how to avoid the next bubble; but they don’t offer much guidance on the most pressing problem at hand, which is how to deal with the continuing consequences of the last one. ...In what follows, we’ll provide a relatively brief discussion of a much-belabored but still controversial subject: the origins of the 2008 crisis. We’ll then turn to the ongoing policy debates about the response to the crisis and its aftermath. Not to keep readers in suspense: we believe that the relative absence of proposals to deal with mass unemployment is a case of “self-induced paralysis”—a phrase that Federal Reserve Chairman Ben Bernanke used a decade ago, when he was a researcher criticizing policymakers from the outside. There is room for action, both monetary and fiscal. But politicians, government officials, and economists alike have suffered a failure of nerve—a failure for which millions of workers will pay a heavy price.

A Productivity Boom-in-Waiting? - Project Syndicate

A Productivity Boom-in-Waiting? - Project Syndicate: "In the US, there was zero growth in bank lending between 1933, the trough of the Depression, and 1937, the subsequent business-cycle peak. Investment suffered. Stocks of both equipment and structures were actually lower in 1941 than in 1929.

...The result was a disappointing, all-but-jobless recovery. In the US, unemployment was still 14% in 1937, four full years into the recovery, and in 1940, on the eve of the country’s entry into World War II.

But there was another side to this coin. Output expanded robustly after 1933. Between 1933 and 1937, the US economy grew by 8% a year. Between 1938 and 1941, growth averaged more than 10%.

Rapid output growth without equally rapid capital-stock or employment growth must have reflected rapid productivity growth. This is the paradox of the 1930’s. Despite being a period of chronic high unemployment, corporate bankruptcies, and continuing financial difficulties, the 1930’s recorded the fastest productivity growth of any decade in US history.

...As the economic historian Alexander Field has shown, many firms took the “down time” created by weak demand for their products to reorganize their operations. Factories that had previously used a single centralized power source installed more flexible small electric motors on the shop floor. Railways reorganized their operations to make more efficient use of both rolling stock and workers. More firms established modern personnel-management departments and in-house research labs.

...So, even if there are good reasons to expect a period of sub-par investment and employment growth, this need not translate into slow productivity or GDP growth.

Does The Money Have to Come From Somewhere?

Matthew Yglesias:

I recently unveiled my jobs program, namely that the government should spend a bunch of money to hire unemployed people to do some stuff. ...
This naturally prompted some smart-ass retorts about how the money has to come from somewhere. A fallacy that’s so commonsensical that even reasonable well-informed conservative economists sometimes fall into it. The problem, I think, is that because one of the functions of money is to serve as a unit of account we tend to measure wealth in terms of its dollar value, which leads people to confuse money and wealth. We say things like “Bill Gates has a lot more money than your average NBA player” when what we actually mean is that Bill Gates owns a ton of valuable Microsoft stock not that he carriers more cash around in his pockets or is pointlessly stockpiling billions of dollars in checking accounts. But valuable resources and money are actually different things.
To see the relevance of this, imagine what happens if you’ve got a country with full employment, and suddenly some guys show up with suitcases full of really good counterfeit money looking to buy stuff. Well, since people mistake the counterfeit for money, they’re happy to exchange goods and services for it. But the mere arrival of counterfeit hasn’t increased the quantity of goods and services the country can produce. The counterfeiters want a maid, so they need to find someone’s existing maid and offer her higher wages to go work for them. The counterfeiters buy some shoes, so there are fewer pairs of shoes for everyone else. What “has to come from somewhere” in this case isn’t the money (which is fake) it’s the maids and the shoes. There are only so many to go around.
But suppose the counterfeiters come to a country that’s fallen into recession? Here it’s a different situation. If they want to hire a maid, they can find one who was laid off a month ago. If they want to buy some shoes, this creates a very temporary shortage and the shoe-factory quickly un-cancels that extra shift. Then the guys at the shoe factory have higher wages and celebrate with a night out at the bar. Suddenly, the brewery needs more manpower and the bar needs to re-hire that waitress they had to let go. It’s the miracle of counterfeiting.
But still, that’s counterfeiting. We can’t just counterfeit. The money still has to come from somewhere, right? Well, yes, literally speaking any money spent doing anything has to have an origin. But the government can do something even better than counterfeit—it can create real money. And if banks are holding excess reserves, the government can adopt policies that discourage them from doing so. If banks aren’t holding excess reserves, the government can adopt policies that reduce the quantity of reserves they’re required to hold. And if people have money that’s just sitting around because they like safety and liquidity, the government can offer to sell them safe & liquid treasuries and then redeploy the money for other purposes.
Long-term economic prosperity is determined by how much value a country is capable of creating. America can create a lot more value per person than China can, and China can create a lot more value than India. But in the short-term, gaps can arise between what could be produced and what’s actually being produced. If that gap is small or nonexistent, efforts to “stimulate” production will lead to inflation or mere shifting of resources around. But if the gap is large, then policy needs to induce people who are currently not doing anything to start producing goods and services again. This requires money and the money does have to “come from somewhere” but it’s easy enough to obtain, and obtaining it can increase the overall quantity of wealth in the economy.

fiscal stimulus debt

NYTimes.com: "Whenever the issue of fiscal stimulus comes up, you can count on someone chiming in to say, “Only a moron could believe that the answer to a problem created by too much debt is to create even more debt.” It sounds plausible — but it misses the key point: there’s a fallacy of composition here. When everyone tries to pay off debt at the same time, the result is contraction and deflation, which ends up making the debt problem worse even if nominal debt falls. On the other hand, a strong fiscal stimulus, by expanding the economy and creating moderate inflation, can actually help resolve debt problems.

Let’s go to the tape here. Below are two time series. The first is total US debt from 1929 to 1948 — public plus private — in billions of dollars. The second is total debt as a percentage of GDP:

From 1929 to 1933, everyone was trying to pay down debt — and the debt/GDP ratio skyrocketed thanks to contraction and deflation. During and immediately after WWII, there was massive borrowing — but GDP grew faster than debt, and the debt burden ended up falling.

Yes, it seems paradoxical — but that’s the kind of world we’re living in. And the refusal of so many people to face up to the fact that we’re in a world where conventional rules don’t apply makes it likely that we’ll stay in that world for a long time come.

Update: Left scale for both series — debt in 1933 was $169 billion, and 299 percent of GDP.

Inflation, Deflation, Debt

Krugman: "even granted that inflation reduces the real liabilities of debtors, it also reduces the real assets of creditors. So why is there any benefit to the economy?

The answer is, I think, easier to understand by considering the reverse case: the problem of debt-deflation. Here a falling price level increases the real value of all debts — and Irving Fisher famously argued that this has a contractionary effect on the economy, possibly turning into a vicious circle. Why?

The answer is that on average, debtors are more likely to be constrained by their balance sheets than creditors. The 1929-33 plunge in prices made heavily mortgaged farmers poorer, while making wealthy people sitting on cash richer; but while the farmers were forced to slash spending to make their payments, the people sitting on cash merely had the option of spending more — an option many didn’t take. Or, to lapse into economese, the marginal propensity to spend out of wealth is surely higher for debtors than for creditors, so the redistribution of real wealth caused by deflation is contractionary. And conversely, redistribution through inflation raises overall demand.