AS or AD??

Worthwhile Canadian Initiative: Banks, Aggregate Demand, and Aggregate Supply: can understand how bad banks could affect the AS curve. Long-run growth comes from the Long Run Aggregate Supply curve moving slowly rightward over time as savings create investment that adds to the stock of capital and increases productivity. A good banking and financial system will encourage savings and investment, make sure the investments are the most productive ones, and make the LRAS curve move rightwards more quickly over time.

Even in the short run a good banking and financial system will be important in re-allocating capital between growing and declining sectors, if there are shifts in relative demand. If people want fewer cars and more restaurant meals, but banks cannot shift loans from car manufacturers to restaurants, the Short Run Aggregate Supply curve may shift left, because the restaurants won't be able to expand to meet demand, and car manufacturers' prices or wages may be sticky downwards. If you see the financial crisis as causing the recession by shifting the SRAS curve left, then monetary and fiscal policies, which shift the AD curve right, are not the appropriate cure...

Grasping Reality with Both Hands: "But if bad banks have shifted the AS curve inward, then right now we should have stagflation: depression and inflation, as output falls and prices rise. We don't. The argument that fiscal and monetary policies won't reduce unemployment to normal levels because we have a supply side problem is completely incoherent in an AS-AD framework."

Dani Rodrik's weblog: When textbook macro pays off

Dani Rodrik's weblog: When textbook macro pays off: "Until the current crisis hit, Chile's economy was booming, fueled in part by high world prices for copper, its leading export. The government's coffers were flush with cash. (Chile's main copper company is state-owned, which may be a surprise to those who think Chile runs on a free-market model!) Students demanded more money for education, civil servants higher salaries, and politicians clamored for more spending on all kinds of social programs.

Being fully aware of Latin America's commodity boom-and-bust-cycles and recognizing that high copper prices were temporary, Velasco stood his ground and decided to do what any good macroeconomist would do: smooth intertemporal consumption by saving most of the copper surplus. He ran up the largest fiscal surpluses Chile has seen in modern times."

The U-Turn - Inequality

Economic Principals » Blog Archive » The U-Turn: "[Saez's] most striking finding has been to confirm the widespread intuition that income inequality has been increasing – that one of the key regularities of post-World War II economics had fallen apart. It was in 1955 that Simon Kuznets, then of the Johns Hopkins University, observed that inequality in developing countries tended to describe an “inverted-U,” rising substantially for a time as workers moved from farms into industrial cites, then steadily diminishing as output grew and gains from increased productivity were more evenly distributed."

Bloggingheads.tv - Economics 2.0

Bloggingheads.tv - Economics 2.0: "Are macroeconomic models just hogwash? (12:01)"
Is Macroeconomics "hogwash"? Mark Thoma and Arnold Kling. Begin at 22:30.

deflation

The graph below shows when each nation formally abandoned the gold standard, industrial production almost immediately recovered ostensibly because the money supply could expand more.  Unfortunately for France, they entered WWII shortly after they abandoned the gold standard.

Grasping Reality with Both Hands: "All of the five major economies of the world started out the Great Depression pursuing for the most part the orthodox gold-standard non-New Deal policies of the 1920s. All five of them had fierce political debates about whether to switch to a 'New Deal.' All eventually switched to their own version of the New Deal--Japan and Britain in 1931, Germany and the U.S. in 1933, and France not until 1937. Japan and Britain recovered fastest and most completely; Germany and the U.S. were in the middle; and France was the worst."

Econbrowser: Consequences of the Oil Shock of 2007-08

Econbrowser: Consequences of the Oil Shock of 2007-08: "The implication that almost all of the downturn of 2008 could be attributed to the oil shock is a stronger conclusion than emerged from any of the other models surveyed in my Brookings paper, and is a conclusion that I don't fully believe myself. Unquestionably there were other very important shocks hitting the economy in 2007-08, first among which would be the problems in the housing sector. But housing had already been subtracting 0.94% from the average annual GDP growth rate over 2006:Q4-2007:Q3, when the economy did not appear to be in a recession. And housing subtracted only 0.89% over 2007:Q4-2008:Q3, when we now say that the economy was in recession. Something in addition to housing began to drag the economy down over the later period, and all the calculations in the paper support the conclusion that oil prices were an important factor in turning that slowdown into a recession."

Geithner declared the "vast majority" of banks are solvent

Economics and Politics - Paul Krugman Blog - NYTimes.com: "After all, there are a lot of banks in America. There are 1,722 institutions on the Fed’s list of “large commercial banks”. And I have no doubt that most of these banks — indeed, the vast majority — are in fine shape. That’s because they’re regional institutions that never got into the risky games played by the big guys. But the big guys are where the money is. The top 10 institutions on that list have 58 percent of the assets. (If we looked at bank holding companies rather than only commercial banks, assets would be even more concentrated.) So it’s perfectly possible that the “vast majority” of US banks are well-capitalized, but that banks with, say, a third of the system’s assets are insolvent."