Palley on Modern Money Tree (MMT) economics

Tom Palley published a new paper on MMT, available here. From the abstract:

Money, fiscal policy, and interest rates: A critique of Modern Monetary Theory 

This paper excavates the set of ideas known as modern monetary theory (MMT). The principal conclusion is that the macroeconomics of MMT is a restatement of elementary well-understood Keynesian macroeconomics. There is nothing new in MMT’s construction of monetary macroeconomics that warrants the distinct nomenclature of MMT. Moreover, MMT over-simplifies the challenges of attaining non-inflationary full employment by ignoring the dilemmas posed by Phillips curve analysis; the dilemmas associated with maintaining real and financial sector stability; and the dilemmas confronting open economies. Its policy recommendations also rest on over-simplistic analysis that takes little account of political economy difficulties, and its interest rate policy recommendation would likely generate instability. At this time of high unemployment, when too many policymakers are being drawn toward mistaken fiscal austerity, MMT’s polemic on behalf of expansionary fiscal policy is useful. However, that does not justify turning a blind eye to MMT’s oversimplifications of macroeconomic theory and policy.

While agreeing on many theoretical principles the paper suggests that oversimplification limits the understanding of the complexities of policy making.

Heterodox Central Bankers

"Virtually every monetary economist believes that the CB [Central Bank] can control the monetary base and…the broader monetary aggregates as well. Almost all of those who have worked in a CB believe that this view is totally mistaken…"

Charles Goodhart (1994, p.1424).

Goodhart, C. A. E. (1994) "What should central banks do? What should be their macroeconomic objectives and operations," Economic Journal, 104, November, pp. 1424-36.

Price controls and horseshit

Argentina has announced that informal price controls will be in place for the next few months. A good thing if you ask me. Yet, you can expect a barrage of criticism about the inefficiency of price controls in the media, and by 'expert' economists to follow. Note, however, that from 1941 to 1946, during World War II, the United States applied a very successful program of price controls. A good description can be found in John Kenneth Galbraith's A Theory of Price Control, in which he describes his experience as Commissioner of Prices.

An interesting story Galbraith used to tell (see here) is that they would have a sign to tell when some industrialist that wanted to hike prices tried to suggest that he would go broke if that didn't happen. They would move their index and middle fingers like the antennas of ants. The story went that this little ant rolled a dung of horseshit up a mound, and when it lost control of it, and the dung rolled down in the direction of the anthill, all the ants nervously signaled each other (moving their antennas) to "stop that horseshit."

Prices increased on average 5.8% annually between 1941 and 1946 (they accelerated a bit in 1947, after price controls were lifted, but didn't get out of control). Note that the rate of unemployment was at very low levels reaching 1.2% in 1944. This is not to say that all price control systems work perfectly, but that under certain circumstances they might be a useful way of controlling inflation.

PS: By the way, the US had an extensive bureaucratic machine to enforce the application of price controls. Also, certain shortages were considered acceptable during a war period. But note that similarly certain shortages should be normal in a developing country with a balance of payments constraint.

Seneca, Selma, Stonewall and Haymarket too

In his second inaugural President Obama referred to iconic events in the history of gender, race and gay rights, putting the idea of equality at the center of his agenda. While several pundits were surprised or offended, depending on their political leanings, with the liberalism of Obama’s discourse, and a few noted the momentous effect of pairing gay rights with gender and race, nobody (at least to my knowledge) complained about the conspicuous absence of workers’ rights.

Okay so maybe citing the notorious Haymarket riot and the martyrs of the Knights of Labor was too much to expect from an American president. In fact, Samuel Gompers and the American Federation of Labor (AFL), as it is well known, never had a positive view of the anarchists associated to more combative labor tactics. In part, that’s why while the whole world, knowingly or not, commemorates the Haymarket affair every May Day, Labor Day in the US is relegated to the first Monday of September. But still a nod to labor would have been essential to really claim that this is a president moving in a liberal direction.

Don’t get me wrong, I think the speech was great, and understand the difficulties of pushing a progressive agenda against a Republican party that refuses to engage in rational politics. But I’m still surprised of how low the idea of labor rights has sunk, that nobody even notices that they are not mentioned at all, this in a week in which we are told that the union membership rate was 11.3 percent, the lowest in almost a century.

Obama did talk about jobs, and the difficulties ahead, it’s true. And we should count our blessings, since things could have been much worse (not really a good campaign slogan though). The graph below shows the recovery in employment now compared with the Great Depression, and although slow, it’s clear that active fiscal and monetary policies stemmed a comparable fall in employment.

But that should not lead us to believe that thinks are all picture-perfect. Not only employment will take a long while to return to the pre-crisis level, but also the rate of unemployment (at 7.8 percent or so) is considerably higher than it is often understood. Since the late 1990s the participation rate, the number of workers in the labor force, has decreased from around 67 percent of population to less than 64 percent. In other words, discouraged workers that cannot find jobs, simply leave the labor market. If one were to recalculate the unemployment rate, but assume that those discouraged workers were still in the labor force (that is, using a participation rate similar to the late 1990s) then the level of unemployment would look like in the figure below.

 

The adjusted unemployment rate would be close to 12.5 percent. More importantly, it is clear that the labor market has been in bad shape throughout the whole 2000s. And, if anything things are getting worse for workers. The so-called “right-to-work” (RTW) laws, which are laws that prohibit unions from requiring a worker to pay dues even when the worker benefits from a union negotiated collective bargaining agreement, continue to expand, and with Michigan’s recent addition, now almost half States passed this union busting legislation. Also, restrictions on the ability of public employees to bargain collectively have been on the rise, as was prominently displayed in Wisconsin.

Note that RTW legislation seems to have a clear negative effect on real wages. If nothing else because union workers make more than non-union workers (the wage premium for union workers is 13.6 percent; see Table 4.33 in EPI’s State of Working America), and discouraging union membership then should have a negative impact on the wage mass. Note also that unionization does NOT really have a negative effect on employment (if this were true Swedes would all be unemployed), as noted by Jared Bernstein. By the way, this suggests that the evidence is that right-to-work legislation is to work creation as right to bear arms is to security of children in school. But we do live in a Doublespeak world in which job creators do not create jobs after all.

To stop this unrelenting campaign by corporations, that use State level legislation to undermine workers’ rights we need a national party willing to stand for those rights. So if not Haymarket, at least a reference to the National Labor Relations Act of 1935, the so-called Wagner Act, which protected the rights of unions, and spearheaded the prosperity of the so-called Golden Age. It’s great to expand the liberties of minorities, but it is also important not to forget that workers’ rights have been undermined by the rise of corporate power, and that work, as much as gender, race, ethnicity and sexuality, define who we are.

Originally published in Bob Pollin's Back to Full Employment Blog

How is that confidence thing working for you?

One comic strip is worth a thousand words. Nough said!

Frank Hahn: 1925 - 2013

Frank Hahn, an old Keynesian that had written a book with Solow, passed away this week. He also signed a famous letter (co-signed by 364 economists) against the austerity policies of Margaret Thatcher in 1981 (other Cambridge signatories were Cripps, Deane, Eatwell, Godley, Kahn, Kaldor, Meade, Moogridge, and Austin and Joan Robinson).

He is best known for his contributions to General Equilibrium (in particular his famous book with Kenneth Arrow), and by heterodox economists for his misguided reply to Sraffians in his "The Neo-Ricardians." After retiring from Cambridge he taught at the University of Siena in Italy.

PS: I know, it's kind of funny that Mr. Booth thinks that those that criticized austerity were wrong, particularly after the recent British experience.

Srinivas Raghavendra on Credit Rating Capitalism

Here is an interesting paper by Srinivas Raghavendra on how the current crisis has led to the consolidation of orthodoxy as the dominant paradigm, and the role of credit rating agencies.

Is income distribution holding up the recovery?

A friendly debate between Stiglitz and Krugman (and also further comments here) on the role of income distribution in the recovery has been getting some attention in the blogosphere. Note that I don’t think neither Krugman nor Stiglitz would deny that worsening income distribution was not relevant for the crisis, even if they were slower than some heterodox economists like Jamie Galbraith or Bob Pollin, to name two, in emphasizing the role of inequality. The question is whether inequality has been central for the slow recovery in the last few years.

Stiglitz’s main reason for suggesting that the recovery has been stifled by inequality is that “middle class is too weak to support the consumer spending that has historically driven our economic growth.” Krugman, for some reason, thinks that this argument is a long run one, and suggests that while: “it’s true that at any given point in time the rich have much higher savings rates than the poor. Since Milton Friedman, however, we’ve known that this fact is to an important degree a sort of statistical illusion. Consumer spending tends to reflect expected income over an extended period.” However, he thinks that “you can have full employment based on purchases of yachts, luxury cars, and the services of personal trainers and celebrity chefs.” In other words, worsening of income distribution might actually help the recovery.

I find Krugman’s proposition highly unlikely, even if it is possible.

Read the rest at Triple Crisis.

Ramanan and Zezza on Europe

Even though pundits at the World Economic Forum in Davos have proclaimed the end of the Global Crisis, the European crisis continues to unfold. Ramanan correctly notes that Draghi suggests that fiscal consolidation [that's Doublespeak for fiscal contraction] is essential for the recovery. Meanwhile Zezza shows that Italy increasingly looks like Greece and other countries that have committed to contractionary policies.

Is This the End for the Deficit Drones?

By James K. Galbraith

In wars, sometimes there comes a moment when the tide turns. The collapse of Ludendorff's offensive in 1918 presaged the Armistice; failure in the Ardennes meant the end for Germany in 1944.

Today we have two drone wars in a similar state. One is mainly in Pakistan. Built on a gee-whiz technology that can't do what it promised, this war has claimed too many victims for too little effect. It is a diplomatic disaster and its days are numbered, almost surely, for that reason.

The other drone war is in Washington. The drones are in groups with names like the Committee for a Responsible Federal Budget and Campaign to Fix the Debt.

Read the rest here.

Urbanization and the Great Divergence

The Great Divergence between Western Europe and Asia, in particular China, according to revisionist authors like Ken Pomeranz, André Gunder Frank and Roy Bin Wong, has been a recent phenomenon, from around the early nineteenth century (and some would argue it will be a short lived one too; I expressed my doubts here). The graph below (source: Persson, 2010) shows rates of urbanization in Western Europe and China for a very long period.

Note that, by the renaissance of the twelfth century, Italy, particularly Northern Italy, shows a significant increase in the rate of urbanization, eventually returning to the levels of the Roman Empire. Chinese rates of urbanization are flat, in comparison, in this period. Mind you, the Song Dynasty period was a period of rapid growth in China. By the sixteenth century the rates of urbanization in Western Europe take off, with nothing comparable in China, until recent times.

Rosenthal and Wong (2011, p. 111) argue that "war was responsible for Europe’s urban manufacturing," while Chinese manufacturing remained eminently rural. And there are good reasons associated with the Military Revolution Theory to suggest Western European hegemonic rise was associated to guns and sails, as famously put by Carlo Cipolla.

From my perspective what is great about the graph is the suggestion that Western European growth, and eventually the Industrial Revolution, can be associated to the growth in demand. Note that urbanization goes hand in hand with the expansion and transformation of the patterns of consumption. In cities, that have to be built and all sorts of infrastructure and services must be provided, people have access to new consumption goods, and the significant expansion of demand is what forces supply to adjust. In that sense, urbanization, more than population growth, is a good measure of consumption expansion. And urbanization is certainly one way in which Western Europe was already diverging from Asia as far back as the twelfth century.

Okun's Law at 50

The IMF has written a good paper on Okun's Law (here), suggesting (from the abstract) that: "Okun’s Law is a strong and stable relationship in most countries, one that did not change substantially during the Great Recession [and] accounts of breakdowns in the Law ... are flawed." nothing new really; I have said so a few months ago (here). Bill Mitchell has good post (here), which suggests correctly that the problem with the recoveries is not Okun's Law, but excessive fiscal austerity. I would add one more thing, not only Okun's Law works well in developed countries (advanced economies according to the IMF paper), but also in developing countries. Figure below is a crude representation of the Law for Argentina.

Note that the coefficient is more or less the same as in the US or other advanced economies. An increase in GDP growth of 1.87% reduces unemployment in 1%. Close to the 2 to 1 ratio. A more sophisticated and better estimatimated version that takes into account trend issues associated with Kaldor-Verdoorn, by Fabián Amico, Alejandro Fiorito and Guillermo Hang is available here (but in Spanish).

Manufacturing matters

It does for sure. But the graph below just shows the varying share of manufacturing since the mid-18th century (source is Robert Allen, 2011). And I don't intend to say much on whay it matters per se, but note that global economic dominance goes hand in hand with manufacturing.

Note that the West, narrowly defined as England the rest of Western Europe, what was to become the US and Russia (called for the whole period USSR) had a share of less than 20% in 1750, it had expanded to more than 80% on the eve of WW-I. If you add Australia, Canada and Latin America (which are all in Rest of the World, but are what Maddison would call Western offshoots), the numbers are even larger. Most of the changes were associated to the squeeze of China. And most of the recent changes are associated with expansion of China and East Asia (which includes Japan). We have not gone full circle, by the way.

In other words, the process of development (or indutrialization in the center) went hand in hand with the process of underdevelopment (deindustrialization) in the periphery, and old lesson from a little book by Osvaldo Sunkel which is still worth reading.