“2 x inflation in 2 years, 2 x monetary base, 2 x amount bonds purchased”
The announcement followed the declaration back in November by the then leader of Japan’s opposition that when elected he would force the Bank of Japan to end its tight monetary policy and the almost immediate revival this caused. It also reflected the willingness of the newly appointed Governor of the Bank of Japan to implement that policy.
Here’s a key passage:
Under this guideline, the monetary base — whose amount outstanding was 138 trillion yen at end-2012 — is expected to reach 200 trillion yen at end-2013 and 270 trillion yen at end-2014.
The monthly flow of JGB (Japanese Government Bonds) purchases is expected to become 7+ trillion yen on a gross basis.
The Bank will achieve the price stability target of 2 percent in terms of the year-on-year rate of change in the consumer price index (CPI) at the earliest possible time, with a time horizon of about two years. In order to do so, it will enter a new phase of monetary easing both in terms of quantity and quality. It will double the monetary base and the amounts outstanding of Japanese government bonds (JGBs) as well as exchange-traded funds (ETFs) in two years, and more than double the average remaining maturity of JGB purchases.
Hours later, the Bank of England’s Monetary Policy Committee chose to make no change to its policy, despite the tightening effect of the recent decision to increase capital requirements placed on commercial banks and the scope offered to it in the budget by an arcane and timid change in the Bank’s targeting regime.
Over the need for radical change to that regime, Clegg and Alexander sided with Cameron and Osborne. Over those capital requirements they did so once more against the strong advice and publicly expressed economic views of Vince Cable, who once again found himself sent to the ‘naughty step’.
Could our new Governor, Mark Carney, who starts his job in July, make a difference?
Back in February he told MPs,
The flexible inflation-targeting framework should remain broadly in place, but details need to be reviewed and could be changed.
In December, he had advised the Bank of Canada;
When policy rates are stuck at the zero lower bound, there could be a more favourable case for NGDP targeting. The exceptional nature of the situation, and the magnitude of the gaps involved, could make such a policy more credible and easier to understand.
By Carney’s reckoning such a move “could eliminate more than half of the losses associated with the impossibility of providing additional monetary stimulus through a lower policy rate.”
Whilst we dither, Japan has taken that step. Whilst we sleepwalk into our lost decade, Japan is at long last powering out of theirs.
* Bill le Breton is a former Chair and President of ALDC and a member of the 1997 and 2001 General Election teams
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38 Comments
Japan is at long last powering out of theirs.
A very strong assertion based on what evidence? None at all. In fact it will take 2 years before the effects of the radical and potentially risky policy can be measured. Not only that, but Japan’s policy move is so vast it actually has considerable knock-on effects for the rest of the world. We’d better pray that it works, because if it doesnt this could be enough to push some parts of the world back into recession.
Mboy, exactly how is the world imperiled by a Japanese economy returning to growth after 15 years of stagnation – and boosting international trade?
There are huge risks in doing this. Just blasting away with money supply growth is a potential hostage to fortune.
Remember MV=PT or money supply times velocity of circulation equals price times the number of transactions.
In order to “power out” of recession, there has to be a guarantee that the increase in M will result in a rise in T, transactions, rather than in P, prices. There is no such guarantee and there are major risks, namely that V varies over the economic cycle and if you get V and M rising at the same time, you have a real problem. Monetary easing is an “extrema ratio” measure to be taken only when there is a danger of rapid contraction in the monetary base in the short run. It is not a general tonic for economic ailments.
Furthermore, the reasons why the UK economy is not growing or is growing only slowly are not the same as the reasons why the Japanese economy is not growing.
This shows yet another person obsessed with dangerous quick fixes for the UK when in fact there are none, because the underlying fundamental factors facing the UK have not changed:
1) Households are deleveraging from their massive pre-2008 debt mountain, which is holding back consumption, although this factor is now lessening as retail sales figures are showing;
2) The government is engaged in reducing its deficit, which means government spending cannot, by definition, act as a net stimulant to the economy;
3) Exports are being held back by the collapse in Eurozone demand;
4) Factors 1-3 above are restricting the profitability of business investment, which is also only slowly recovering.
These are the fundamentals of the UK economy and no amount of jiggery pokery with the money supply will solve them and in fact, it could make them worse.
This is all based on a set of economic theories that should have been buried in 2007. There are only two ways that the Japanese monetary policy will work. One is that another prong of the three part government strategy (why so silent about the other two?), structural reform, removes productivity blockages and this monetary easing helps get things moving. Second is that employers start paying their employees more, ahead of productivity, and a wage-price spiral gets going. This won’t help real growth except that it will make Japan’s debt mountain more affordable. Otherwise it will go the same way as UK’s monetary easing: higher import costs (energy and raw materials) causing consumer price inflation that runs ahead of wages making everybody even more miserable while all the surplus money piles up unused.
Japan’s stagnation is the result of an aging workforce and zero immigration. I fail to see how monetary policy and alone can fix these issues.
Of course, triggering inflation might devalue the Yen, which could aid exports. Unless China considers it a competitive devaluation and pushes down the Yuan in response. Which would trigger a global round of devaluations, and would look a lot like the 1930s…
So in short, this is clearly a policy with no possible downsides, eh?
Mrs Watanabe might take a different view from you, Bill, when she looks at her retirement income. Also by deliberately plunging the yen Abe is importing inflation e.g. since Japan must import all of its oil – priced in dollars of course.
I have this persistent mental image of Abe as a boy holding on to the tail of a tiger while poking it with a stick.
MBoy, the devaluations of the 30’s were not ‘competitive’. They resulted each time a currency came off the gold standard (which was keeping their monetary policy too tight. And it worked! “England” as it was then known, came off first and was the first to benefit. As each country followed, recovery spread. The last to come off the gold standard was France and the last to recover was France.
Japan is leading the way now.
How would other currencies ‘devalue’ their currency if they thought they needed to in response? By loosening their own monetary policy. Exactly what is required.
Devaluation in a time of world slump does not beggar a neighbour or harm a trading partner – it boosts the neighbour’s/trading partner’s quality of life. The new jobs it creates at home leads to imports i.e. their exports.
RC, at last you are trying to use the equation of exchange. Try MV=PY rather than MV=PT. You must have been at Cambridge a long time ago. Our present problem is V has plunged.
Y of course is NGDP/Aggregate Demand/ or nominal income. As I have said before, a central bank in a fiat currency can set whatever level of NGDP it wants and it is nominal income that drives the economy. Why are firms failing to use the very high level of their deposits they have stored up at present? They detect no demand. Why increase inventories? They won’t until someone or something convinces them.
But when their PM and Governor of the Central Bank spells it out loud and clear – see the amazing photo above of a central banker actually explaining what he is going to do 2 x 2 x2 x2 firms and consumers will get the message.
Matthew, apart from probably being a bit of a hippy in the 70’s I can’t see what you have against MV=PY? 😉 Every reason why you were against monetarism then is a very good reason why you should be in favour of it now.
You Austerians and you Keynsians have had nearly five years and got nowhere. Just as austerians, followed by Keynsians, followed by austerians followed by Keynsians got Japan 15 years of stagnation and 200% Debt to GDP.
Japan is going to double the monetary base in two years. It is going to fill pension company coffers with cash that they won’t need. They are going to use that cash on their stock market. Those firms are going to use that cash to invest because they know that the incomes of their customers are going to double in nominal terms.
Output will start to rise, confidence will propel their economy and real GDP will rise further. Tax revenues will rise, debt to GDP will fall.
That seems ok to me. And to me it sounds very Liberal. What isn’t Liberal is destroying life chances, setting one part of our society against another and preaching despair.
Paul, I take it that what I am suggesting will very soon raise interest rates. So … would Mrs Watanabe want .005% on her savings for another 15 years or 2% ?
Was FDR riding a tiger when he bought all the gold in the USA one day, changed its price overnight and got prices rising? Or was he a great leader?
Abe is doing the same thing in a system of floating currencies.
@ Bill
Graduated in 1989, so a fair while ago, but I can assure you that MV=PT is still current and correct usage.
http://blogs.reuters.com/uknews/2009/03/05/can-mvpt-solve-credit-crisis-for-boe/
I must add that T is equivalent to real GDP (i.e. excluding inflation, P) while Y is PT (average price level times the number of transactions), which is nominal GDP.The two things are different and should not be confused.
The problem at the moment is we have too much P and not enough T. I don’t think tinkering around with the money supply is going to solve that, because the constraints on T are to do with households’ need to correct their balance sheets, banks setting onerous terms for business borrowers, lack of infrastructure and skills in sectors where growth is taking place etc.
Until we can solve the factors limiting T, adding a great extra dollop of M will just mean even more P (inflation).
Timely… Executive Order 6102 was signed 80 years ago today. Coming off the gold standard is not quite in the same league as doubling your monetary base in 24 months, or is it?
The extraordinary – indeed unprecedented – volatility seee in JGBs last night indicates that no-one knows how this strategy will play out in 24 hours much less 24 months. Combine that with a corresponding drop in yields on Euro periphery bonds and it looks like we’re seeing the start of an aggressive carry trade as widely predicted. Last time the Watanabe money went looking for real returns we got housing bubbles, Iceland and subprime.
To say we are in terra incognita would be a gross simplification. I wish I had your confidence in the correctness of the action.
I would also add that lack of internal consumer demand is increasingly not a problem for the UK economy if you look at the latest figures.
Retail sales are rising and consumer confidence is (very) gradually returning ( http://yougov.co.uk/news/2013/04/04/brits-feeling-cautiously-optimistic-about-economy-/ ) as debt relative to income slowly declines.
Where there is a problem is with the other components of demand, namely net exports and business investment. The first is really not controllable by the government and the second, which tends to revive later than other sources of demand in a recovery, depends on how optimistic business are, which in turn depends on confidence internal consumer demand and exports.
The UK economy is undergoing a very slow, difficult and challenging healing and rebalancing process while contending with big shifts in real world variables (a contracting financial services sector, plummeting North Sea oil and gas, more expensive world energy and food prices etc.). We need to focus on adapting the underlying UK economy to this new reality and not try any dangerous quick fixes.
The above should read “PY of course is NGDP/Aggregate Demand/ or nominal income”.
Bill,
there is a good roundup in the economist of Japan’s current efforts to kickstart economic growth Appraising Abenomics .
The important points to note is that monetary easing is only one part of the overall package, as Matthew Green notes above, that includes a 10 trillion Yen fiscal stimulus together with structural reforms, deregulation of the electricity market and free trade agreements. The jury is still out as to whether these measures can overcome the demographic constraints and tensions with China that may act as an ongoing impediment to sustained economic growth.
The argument that communication by a central bank of its efforts to increase the monetary base will of itself create sufficient expectations to spur output is neither proven nor observable in the real economy. It can certainly spur asset inflation in the stock and property markets as a corollary to the lowering of long term interest rates, but that does not equate to real economic growth.
There is a good criticism of the underlying assumptions behind the quanity of money theory here The Quantity Theory of Money: A Critique .
Even Milton Friedman changed his mind “The use of quantity of money as a target has not been a success,” concedes the grand old man of conservative economics. “I’m not sure I would as of today push it as hard as I once did.
Simon London, “Lunch with the FT – Milton Friedman,” Financial Times (7 June 2003).
Let’s take Mr. Friedman’s advice and quit relying on money supply targets as some sort of panacea.. If we are to have more quantative easing in the UK, let’s apply it directly to the purchase of private assets – housing or infrastructure bonds and focus on making the funding for lending scheme more effective. More imporantly we need to overcome our overly cautious approach to borrowing for infrastructure investment while interest rates are at record lows. This infrastructure investment needs to be part and parcel of longer term structural and competitive reforms aimed and developing the UK’s physical and human resources.
Paul – what an appropriate anniversary! Well spotted. I think it has the same affect. It is how you trigger the same reaction in a floating exchange rate system.
Market confusion? Only if the market didn’t understand Market Monetarism. This was exactly Carney’s concern (see above December ’12 guidance): the markets’ lack of understanding of the process means that the new guidance would therefore not necessarily trigger the right reactions until there was further comms and more time for people to to work it out.
You will know more of the market for JGBs, even before yesterday’s announcement it was puzzling that a 45% increase in equities had not been matched by a fall in the price of bonds. I asked Sumner for his view on that a couple of weeks ago.
Mikio Kumada responded yesterday writing, “I don’t see the fall in bond yields as a problem, but as an intended consequence. Japan’s bonds have consistently offered positive real yields, and still do. Whereas all other advanced economies, since 2008/2009, have negative real yields. Even many emerging economies have (or have had long periods of) negative real yields. The only exceptions are the über-austerity-suffering euro periphery countries which don’t have their own central banks…”
RC an increase in equities without a change in bonds would suggest that the market expected an increase in Y without an increase in P. That may be the early indicator or success or failure.
However, the big lesson from Japan is that events since Abe made his first speech back in November is that the country could not have been stuck in a liquidity trap. It was at the lower bound because the previous regime at the B of J wanted it to be there … because it wanted zero inflation more than it wanted growth.
Ditto here … any sensible firm would expect the (pre Carney) Bank to tighten even more than at present at the first hint of recovery. What the Quad needed to do when changing the regime was sack the hawks from the MPC. Sack each one that was calling for higher interest rates just as we were about to enter the second dip. Sack each one that didn’t vote with King at the March meeting. That would send a message to the markets that the Quad was as serious as Abe and that it was giving its new Governor the same level of support that Abe has given his new appointment.
Joe, the whole point of Market Monetarism is that it doesn’t target a level of M – it targets NGDP.
So … there is nothing to stop this policy being enhanced by infrastructure spending. So, let’s look what our Coalition Budget did on that score. It found an extra £3.5 billion (by cuts to current spending of a similar amount) and programmed them for 2015!
Surely, what Abe has concluded (rightly) is that if you do try some infrastructure spending (which does take time) you MUST ensure that the central bank’s target changes or it will simply offset any fiscal easing by monetary tightening.
I don’t think we have that time …
Labour is even more illiterate on this subject – witness Balls this week. At least we have Cable, who is the ONLY politician who gets this, but who has to sit by as Clegg and Alexander follow Cameron and Osborne into austerity, austerity, austerity: scapegoat the poor, scapegoat the poor, scapegoat the poor.
Bill,
NGDP targeting relies on the same basic quantity of money theory and cental bank tools, including crucially expectations management, as do other targets.
My view is that it could be a more useful target than inflation targeting in guiding monetary policy during a period when direct fiscal stimulus in the form of housing and infrastructure investment is applied to kickstart the economy. However, I do not believe that monetary policy in the form of lower interest rates or further open market operations wlll have any significant impact on consumer confidence or real output in the UK’s current circumstances. Hybrid monetary/fiscal policy efforts on the other hand, in the form of credit easing such as the purchase of securitirised business loans, housing and infrastructure bonds and more effective use of the funding for lending scheme would be worthwhile measures.
We have now settled on a more flexible mandate for the Bank of England for the forseeable future that makes the Banks frredom to ‘look though’ temporary overshoots of the inflation target explicit and rubber stamps the use of intermediate thresholds to support growth targets in the economy. That mandate gives the bank the freedom to maintain a loose money policy in support of an economic recovery for an indefinite period – continually rolling forward the inflation target for as long as necessary.
When the economy returns to more normal times the case for NGDP targeting may recede as argued in the Economist article NGDP targeting will not provide a Volcker moment .
The author notes:
An NGDP target has some advantages over an inflation target, especially in responding to supply side shocks. But it could dangerously complicate policy making in more normal times. As inflation rises, the Fed tightens to keep nominal GDP on track; output then falls, but then so does inflation; the Fed must quickly loosen again. In a model developed by Larry Ball in 1996, NGDP targeting produces systematic over- and under-shooting of both inflation and output. It is “not just inefficient, but disastrous. It causes both output and inflation to wander arbitrarily far from their long-run levels.”
What I would like to see in the Libdem manifesto is a committment to a direct economic policy that aims to restore the UK to as near a full employment position as can be achieved with an unemployment rate below 6%. To achieve that we need real investment in the real economy – in both tangible goods and human resources. An effective monetary Policy is one that is accommodative of this real investment in infrastructure and people.
RC says :
“The UK economy is undergoing a very slow, difficult and challenging healing and rebalancing process while contending with big shifts in real world variables (a contracting financial services sector, plummeting North Sea oil and gas, more expensive world energy and food prices etc.).”
RC correctly points to the root of the problem. For some strange reason, economists don’t ‘get’ energy. And their weird belief that a fiat currency lives in an ethereal world, whereby it can just be created (with nothing to back it), either by paper printing or creating ones and zeroes on a computer, is I find, astonishingly naive.
Money is a proxy for energy (work done), or in the case of debt (the promise of work yet to be done at some future date). Economists rarely mention energy and in particular oil, in their thinking, and when they do, it is usually in the form that, ‘there will be substitutes’, and that renewables will come to the rescue as the world staggers from cheap oil to expensive oil. But anyone who understands oil (and its BTU content), knows that there is NO equivalent substitute for the energy derived from oil. In short, we built our economy on decades of cheap oil, and the dilemma we now face is that we struggle to maintain, upgrade, and continue to grow that economy, on expensive oil.
And as RC rightly concludes :
“We need to focus on adapting the underlying UK economy to this new reality and not try any dangerous quick fixes”
A couple of quick points as I’m unfortunately unable to give this the time it merits:
Firstly, I agree whole-heartedly with the comments that Joe Bourke makes. And I second Bill’s comments about the Tories return to their roots as bashers of the poor and defenders of the rich – with the tacit complicity of the so-called leadership of the Liberal Democrats whose silence is traducing a decent party’s heritage. The UK should embark on a massive (dare I say “FDR-ish new deal-ish”) programme of public works to reduce the scourge of unemployment and provide significantly more durable value for the nation than can be achieved by getting people to buy random junk that they don’t need.
Secondly, you may have seen (zerohedge is now carrying it) that last night’s JGB move was 13.4 sigmas. As Tyler Durden points out, the algos are not designed to deal with swings like that. We are in a new world thanks to Mr. Abe. It will be interesting to see what develops…
For those (rightly) moaning that QE (our version of monetary expansion) not stimulating our economy, they are of course correct. What is needed is to massively inflate the levels of benefits & wages on those less than the 45% rate so that those who will spend the money will get it rather than a few individuals and corporations that won’t.
I strongly object to this for several reasons:
1. QE is cruel to fixed income pensioners.
2. QE is cruel to people approaching retirement who decide to purchase an annuity.
3. QE can harm businesses financially who have to purchase pension incomes for their employees.
4. Inflation has other negative effects such as price changing costs.
5. QE is cruel to cash savers (but not to the same extent as pensioners).
6. All of this global QE is arguably reinflating the asset bubble, which will burst when it comes to tightening the economy back up again. Unless they don’t plan to tighten it up and are happy to make pensioners bear a disproportionate cost.
Overall, I think the costs outweigh the benefits. Japan have come to a different conclusion, but I fear this is partly due to having a vested interest to get the GDP figures up, even if they aren’t sustainable and come at a human cost.
Forget about the technical arguments, common sense says you can’t make the world richer by printing money – the public understands this and it is all that needs to be said!
Printing money does not increase the number of resources in the world, it just changes their prices! I am sure someone has an economic statistic saying otherwise, but I am going to stick to logic.
Eddie, good morning. I am not a night owl, I am afraid.
You seem to think it powerful logic that “Printing money does not increase the number of resources in the world”
Can you ever increase the number of ‘available ‘ resources in the world and how?
What is investment? What is it for?
What drives investment?
In a system with a fiat currency; When a company funds investment with borrowed money what happens to the quantity of money?
It seems pretty clear to most people that MV=PY. The argument is: assume V constant (for a moment) what happens on the other side of the equation when M rises? In the short run, because it is difficult to change P, firms will respond by increasing output. If you communicate this as the Governor of the Bank of Japan is doing in the photo above and you do so with the conviction that comes from a united Central Bank and political leadership, consumers expect new jobs to be created/existing jobs to be safeguarded/their income to rise and are more willing to consume. Simultaneously firms expect custom for their goods and services to rise and try to get in first to the market to supply these (probably restocking inventories). Wholesalers and suppliers are also anticipating that their B2B customers will be doing the same and they too try to get in first among their competitors.
You will see from the above scenario that consumers and firms stop ‘sitting on cash’ and start spending – which raises V (the velocity of exchange) which will lead to an increase in the other side of the equation (MV=PY)
Now, here is the really interesting bit: If you think about it, if you can, as a central banker and political leader, cause these expectations to occur and because V will rise in the process, you may actually have to do very little increase in M – you just convince people that you will increase M by as much as it takes.
That is, to some extent what the FED is doing with its Bernanke/Evans rule and it is what the Japanese establishment has set out to do.
Over here, our Coalition has managed expectations in the other direction. We have talked down prospects.
Paul, I hope you have time this weekend to come back and share your expertise on the bond markets.
It would seem that equity markets get it easily that the process started by Abe will see share price rises – but the bond traders are uncertain as to its effects on inflation/output. Is that how you see the volatility? Will it be P or Y or in what proportion?
If so, it is no exaggeration to say that the story of the next ten years of world history is being played out in that arena. Market Monetarists say the traders will ‘get it’ and develop the right expectations. RC and others have argued here that the results will be highly inflationary.
We live in interesting times. But I have argued consistently that if monetary stimulus works (and it works far quicker and more reliably (even at the ZLB) than fiscal stimulus, the country and the Party that leads the way are entitled to reap the benefits.
John B, I have written an article for the soon to be published Liberator that explains how monetary stimulus can deliver in the manner you suggest. I hope you are a subscriber to this important publication 😉
The UK central bankers and their political scrutinizers have been far too timid and unimaginative because they are inept. You might be surprised to know that Milton Freedman wrote in 1948 that all Government expenditure should be funded either by tax or by money creation – and none of it by the sale of gilts/treasuries. Thus all Government expenditure so financed would assist the people as a whole and not wealthy minorities and monopolists.
The Great Recession has been a failure of a global elite – a self-appointing and self-serving meritocracy that Liberals across the world need to help sweep away. Sadly here our Party has used its power to sustain that elite – but that’s another matter.
OK lets pare this back a little.
At its most simplistic a fiat currency can only function when it is trusted. If you threaten to thieve from depositors (Cyprus style), or double the amount (Japanese style), it WILL destroy the trust in the currency, and by definition, destroy the currency.
Is this basic reasoning flawed?
How many here would be happy to convert all their wealth into Euros, and deposit it in a Spanish, Italian, or Portuguese bank right now.
Japanese bank anyone.?
While there are clearly short term interactions between the stock of money, asset markets and expectations, the fundamental global economic question is one of distribution of limited resources. The UK, along with other developed nations, has been making excessive claims on those resources relative to its ability to pay for them through the production of goods and services. Furthermore, its claim on the world’s limited resources is being challenged by other economies like China. Until we can make a step change in our efficiency, organisation and productivity as an economy, in terms of our skills, use of technology and standards of training and education, our ability to pay our way in the world will not improve.
Simply inflating the stock of money will not overcome this fundamental problem.
And whilst the Japanese are busy, doubling their fiat ‘chips’, on the economic roulette wheel, how’s this for creating confidence in a currency.?
This is the latest wheeze by the Spanish government. It seems that by the 30th April this year and in subsequent years by the 30th March, everyone has to make a declaration about their assets overseas worth over 50,000 euros. There are three categories – property, investments and savings. If you have nothing over 50,000 euros in any category, you still have to sign a declaration to that effect. Failure to declare that you have nothing to declare will be a CRIMINAL offence! If there is found to be any omission or understating of your assets, there is a minimum automatic fine of 10,000 euros for each of the three categories. It makes you wonder, why do they want to know? What are they planning next?
More tea, and Euro-integration, vicar?
@John Dunn
“Failure to declare that you have nothing to declare will be a CRIMINAL offence!”
Errr, what’s your beef, mate?
Ever tried not sending the Revenue a tax return when they want one. Even if you think you have nothing to declare?
Keep walking, folks. Nothing to see here.
“More tea, and Euro-integration, vicar?”
Errr, what? In attempting to ascertain the meaning of this verbiage, two words draw my attention. “Euro”. Hmm,, could be one of those rancid Kippers. And “vicar”. Perhaps has read some pointless fable in the Sun about cross-dressing prelates or something. Scratches head and ponders the elliptical nature of opacity.
All these skillful economists leave me puzzled. MV=PT seems to have been a nonsense for years because (a) measurements of M are many and varied, and whichever one is targeted changes its behaviour – the whole concept is fraught and (b) there seems to be no obvioyus relation between M and T or V. Money is used for transactions, and for measuring comparative values etc; but is also used as a safeguard and for storing value: and the moment you introduce liquidity preference you explode the simplicities of the equation, it would seem.
Also as long as M defines bank debt as money, AND bankks indulge in proprietary trading , M no longer relates to real (not virtual) transactions. It might be more effective to disintermediate lending and direct QE to targeted real growth expenditure? and split “banking proper” from the rest where P can chase M in an endless chain of paper profit ponzi schemes off piste, so to speak. No doubt the fundis can explain.
Bill,
“It seems pretty clear to most people that MV=PY.”
Try the algebra the other way round (PY=MV) and you get closer to seeing the reality of what is actually happenng. Surely it is growth in national income/aggregate demand i.e the economy at large that is the cause of increases in money supply – whether the increase is attrbutable to new money creation in the form of increases in net bank lending or government deficit spending or whether the increase is attributable to increased velocity as a consequence of declines in the net savings ratio.
The primary purpose of monetary policy is to ensure that there is an adequte supply of money circulating in the economy to facilitate the level of economic transactions demanded. That level of transactions will grow as the real drivers of economic growth increase National Income – public and private investment directed at what RC has identified as the necessary structural changes – as step change in our efficiency, organisation and productivity as an economy, in terms of our skills, use of technology and standards of training and education.
NGDP targeting can aid in ensuring that monetary policy fulfils its primary purpose of accommodating economic growth but monetary policy alone will never be a substitute for the real drivers of improvements in living standards – innovation, increased efficiency in the use of resources, increased productovity and competitiveness.
This is consistent with the findings of the Radcliffe commission which undertook a comprehensive review of UK monetary policy in the 1950’s and concludedthat the central bank had little control over the expansion of the money supply and that the velocity of money was extremely variable. Basically, what the commission found was that the banking system was largely passive in relation to the economy. Central banks did not ‘drive’ the economy at all and any policies they did implement, if they were in any way effective at all, would be wholly subordinate to real economic variables such as levels of private investment, consumer demand and government spending and taxation policies.
RC is of course right to state there are clearly short term interactions between the stock of money, asset markets and expectations. However, these have a limited impact on the underlying real economy.
In a 2011 interview with Nobel Laureate Economist Chris Sims Federal Reserve Bank of Atlanta had this to say about the impact of monetary policy on the economy:
“Over the course of about 10 years, things that I did and other people followed up on managed to sort out what the effects of monetary policy changes are and distinguish those from co-movements in money and prices and income that didn’t have anything to do with policy. There’s now pretty much a consensus on how monetary policy affects the economy, and on what the size of that effect is. The general conclusion is that it accounts for maybe somewhere between zero and 20 or 25 percent of the fluctuations we see, but if you try to trace out historically, you can’t blame any recession on monetary policy.”
I thank Joe Burke’s entry as a reinforcement of my question. Monetary growth may be permissive but not causative in Y changes, it seems.
My puzzle is still that increases in M (counted as increases in bank indebtedness) do not seem to have any necessary relation to increases in real product, b ut indeed to proceed by their own internal motion driven by the search by banks for mark-ups on securities. Profits, bonuses and salaries can be escalated by inflations of asset prices – such as the 1972 London property-price boom – which far from seeing bank-money growth and huge speculative ‘profits’ responding to a growth of real assets seems to have refleceted the opposite. Indeed, Centre Point’s value iflated because it was “new”, and continued to do so as long as it was CentrePoint itself was unlet and unused.
Since prices today are related to securitised assets they are not tied to real performance are they? A bank acquires the Parthenon not in order to charge tourists pennies per view, but to sell Parthenon paper(virtual) securities to other banks that trade them on, with mark-ups and bonuses, amidst fake claims o prosperity. Since international credit-creation has no minimum cash-ratio frequirement (which could be fobbed-off by injecting further funds as a base anyway, along with the usual run of misaccounting, hyper-re-rehypothecation etc). banks have created funds(bank-debt money) many times greater than total global output. How could this ever be a “response to the needs of real growth’? I mean even a failed mortgage loan is a monetary asset in that world – as a non-performing loan on the books its value rises as the unpaud interest counted as ‘due’ mounts up, and it can be bundledup and on-sold for ever continuing mark-ups: as long as the system can acqure access to increased amounts of real savings from pensions, governments etc – – which the banks can then crash to grab assets while ranking depositors after claims by other creditors (especially financial ones ) and so in effect stealing depositorrs money – not just in Greece either of course.
Gold held in banks in hypothecated (re-lent onwards many times over) to provide a bogus base for further credit creation – how soon will Hermany ever het its gold back from USA, for example?) so even gold not safe unless it is locked away and only you have the key. Money growth seems to operate in a world very remote from dear little Milt’s demand curve.
Blll,
in your article you quote the new Governor of the Bank of England, Mark Carney, who starts his job in July, and ask could he make a difference?
“The flexible inflation-targeting framework should remain broadly in place, but details need to be reviewed and could be changed.” Is this not what precisely has taken place with the announcement of the new mandate and does not the rubber-stamping of the use of intermediate threholds such as NGDP or unemployment/nominal wage growth provide the MPC with the flexibility Mr. Carney desires ?
The economist has recently suggested just such an approach recommending the MPC promise to keep monetary conditions loose for a temporary period until Nominal income has risen by 10%, with the aim of returning to the committment to an explicit inflation target in more normal times Shake ’em up, Mr Carney.
When Carney said “When policy rates are stuck at the zero lower bound, there could be a more favourable case for NGDP targeting. The exceptional nature of the situation, and the magnitude of the gaps involved, could make such a policy more credible and easier to understand.” – he appeared to be referring to the point that it is politically more pragmatic to adopt a higher inflation target by adopting a seemingly new target measure rather than simply increasing the inflatiion target. Scott Sumner males a simliar point in his 2011 article for National Affairs magazine Re-Targeting the Fed.
“Nominal GDP targeting is, of course, not the only possible solution to the problems bedeviling monetary policy today. But the solution that offers the most economically plausible alternative — a higher inflation target, between 3% and 4% — is not politically viable.”
Sumner has expessed his views on the UK’s positon in the same article:
“Recent events in Britain provide a perfect example of the confusion generated by drawing this sort of false dichotomy between monetary and fiscal policy. The government of Prime Minister David Cameronhas been sharply criticized for its policy of fiscal austerity. The recovery from the recent recession has been even weaker in Britain than in the United States, and there are fears that budget cuts will lead to a double-dip recession. At the same time, the press has been highly critical ofthe Bank of England for allowing inflation to rise far above the 2% target. But these criticisms cannot both be correct: Either Britain needs more aggregate demand or it does not. If it needs more, then the inflation rate in Britain needs to rise even higher, because the Bank of England needsto provide even more monetary stimulus. If inflation is too high and Britain needs less aggregate demand, then Britons should desire fiscal austerity that would slow the economy. The press seems to believe in some sortof policy magic whereby fiscal stimulus can create growth without inflation and monetary tightening can reduce inflation without affecting growth.
The way to clear up this muddle is to stop talking about the effect of monetary stimulus on inflation and the effect of fiscal stimulus on growth, and to start talking about how each affects nominal spending. Then we can focus on the fundamental issue: Does Britain need more NGDP growth or not? Most observers would agree that Britain needs both more NGDP growth (because its recovery from the last recession has been anemic) and less government spending (because its deficits and debt threaten its credit and potential for growth). The only way to achieve both goals is to combine monetary stimulus with fiscal austerity. And that can occur only if the Bank of England is free to focus on NGDP growth, rather than on inflation.
It is likely that Britain faces very unpleasant short-term tradeoffs, regardless of what happens with nominal spending. Monetary policy cannot solve real structural problems, and massive growth in government over the past decade has hurt the supply side of the British economy. Britain is likely to end up with an unfavorable inflation-to-output split regardless of what monetary policy it chooses — but at least NGDP targeting can provide a stable spending environment in which the Cameron government can pursue fiscal reforms. As those reforms reduce government spending, private spending will need to increase. Under this approach, the key is to remember that, if the Cameron government tries to shrink the state at the same time the Bank of England is trying to reduce aggregate demand, the British may end up with a double-dip recession that discredits the policy of fiscal austerity.”
Well!
“NGDP targeting can provide a stable spending environment in which the Cameron government can pursue fiscal reforms. As those reforms reduce government spending, private spending will need to increase.” Tell it to the fairies!
There are huge company idle deposits, imnse amounts of global bank-debt money; schemes for inflation, trade off or not,surely. like low interest rates, cut domestic real savings returns and consumer real spending power.
Surely we’ve been here before and know the answers – in the 1930’s: separate retail from investement banking, and aim direct State spending at real investment, if necessary with import controls to increase the local impact.
Thius means taking back openly State control f money-creation instead of fudging that through CB bond purchases etc. The State, unlike households and private business, does not have to market its services or products, or borrow to purchase goods, since it can raise taxation: but taxes can only be paid if the State creates the funds for doing that, surely. The fact of taxing creates a demand for money which the State supplies. This basic power of money-creation is evident in that if the State had not issued funding we would have no big “global banks” left to bribe and influence policy decisions in favour of monetarist theories. State debts are of a different order to private corporate ones. The social implication of “structural adjustments” and “culture change” when these mean cutting real wages by a third or more to be “competitive” on the IMF bail-out primnciple are only upward transfers to the 1%. Increasing M to create more funds that simply lie dormant in corporate accounts (as of now) does not increase effective demand, and since it may be contratdicted by expectations-generated “market reaction” will not encourage private investment., surely.
So the answer is the one we already have: direct State investment spending on domestic output generation, taregeted at geographic areas of high unemployment and at skills generation (no student fees for goodness’ sake).
Perhaps I could get an explanation by asking a diferent way: if we collect tax and use it to “reduce debt” all that means is that banking book-entries are cancelled. That is, it is the equivalent of taking money and burning it. How does “getting the debt down” help an economy? It might strengthen the hand of orivate bankers against the State by making out more borrowing it needed to raplace the lost cash, but a simple transfer of power away from the democracy is no remedy, just a bid by the oligarchy for more powere even still. As a liberal democrat I see that as the opposite of radical liberal policies.
Michael,
I would certainly agree that CB directed efforts to increase the money supply are by no means guaranteed to increase either output or real incomes. Prices can be inflated while wages remain stagnant and real incomes squeezed in an economy with high levels of structural unemployment and under-employment.
I would also concur with your assertion that we should separate retail from investement banking, and aim direct State spending at real investment – specifically State investment spending on domestic output generation, taregeted at geographic areas of high unemployment and at skills generation.
It is also been readily apparent for some time now that Increasing M (in a liquidity trap) to create more funds that simply lie dormant in corporate accounts neither significantly increases effective demand or spurs private investment.
Glies Wilkes published a report for Centreforum before the election in March 2010 Credit where its due:making QE work for the real economy
Wilkes, former CentreForum’s chief economist and currently aid to Vince Cable said at the time:
“In deploying quantitative easing, the Bank may have forestalled a total collapse in our financial system. But QE has been less successful at stimulating the real economy. Now it needs reform if it is to restore the confidence needed for sustained growth. Money that is subsidizing the borrowing costs of the state should instead be helping smaller businesses and households”.
“The Bank should start by targeting a high level of nominal growth until the economy is performing at its potential (Wilkes suggested an NGDP target for a temporary five year period). This will reassure the private sector that liquidity won’t dry up in the near future, and so encourage more investment now. The second step should be for ‘credit easing’ to replace ‘quantitative easing’. The Bank’s independence of action on traditional monetary matters should be respected. But by putting taxpayer’s money at risk, QE is as much fiscal as monetary policy. So it is quite right for the government to direct the Bank to deploy the funds in the private economy, which is where it is really needed. For example, the money could help guarantee loans to small companies, or alleviate the dearth of financing for long-term infrastructure”.
“With incomes stagnating and huge spending cuts in prospect, the Bank is right to ignore scare stories about spiralling inflation. It should even consider expanding the programme if the economy stays weak. What it should not do, however, is increase the size of QE without changing the way it works. It is time that politicians realised that QE is their business, and that failure to make it work properly will be their failure.”
Vince Cable in a recent Guardian interview Vince Cable: a turning point in politics?made the following comments:
“I have always supported the argument that the big bazooka is monetary policy, and the big problem has been that the way monetary policy has been operating has been very conservative. Just buying government securities does not take you as far as you should, and so what we need is a much more creative monetary policy. He favours ideas put forward by former monetary policy committee member Adam Posen for the bank to purchase bundles of small business loans in an effort to boost the supply of credit, and end an ‘investors’ strike’.”
“The bank does not need just an inflation objective, but also a growth objective. How it does it is a technical issue. I don’t want to get into silly arguments of cabinet ministers dictating whether nominal GDP targets are better than something else. The bank clearly should have and must have an objective to support growth and should be flexible in the kinds of things that they do”.
Bill,
I had a look at Professor Sumner’s article Money and Output (The Musical Chairs model).
He argued, that although money is neutral in the long-run, that because wages and prices are sticky in the short-run a drop in NGDP caused by tight money will lead to a fall in output and hours worked. He argues that the Central Bank can counter this effect by simply increasing the supply of base money.
The basic approach is whay Sumner calls the “hot potato model.” He argues, people have a certain demand for non-interest bearing money. When the Central Bank increases the supply of base money, people try to get rid of excess cash balances. Individually they can do so, but collectively they cannot. The paradox is resolved by the fact that when people try to get rid of excess cash balances, prices rise until the public wants to hold those extra cash balances.
The cites the correlation of money supply with inflation and NGDP as proof of the Quantity of Money Theory and concludes that recessionary effects are all about NGDP and hourly wage growth.
Keynes’s analysis of the Great Depression of the 1930’s included an attack on the Quantity Theory of money. In the 30’s, interest rates on safe assets had been at approximately zero over long spans of time, and Keynes explained why,
under these circumstances, expansion of the money supply was likely to have little effect. The leading American Keynesian, Alvin Hansen included in his (1952) book A Guide to Keynes a chapter on money, in which he explained Keynes’s argument for the likely ineffectiveness of monetary expansion in a period of depressed output. Hansen concluded the chapter with, “Thus it is that modern countries place primary emphasis on fiscal policy, in whose service monetary policy is relegated to the subsidiary role of a useful but necessary handmaiden.”
Noble prize-winning Princeton Economist has undertaken careful and detailed reserarch over a number of years developing a consensus on how monetary policy affects the economy, and on what the size of that effect is. The general conclusion is that it accounts for maybe somewhere between zero and 20 or 25 percent of the fluctuations we see, but if you try to trace out historically, you can’t blame any recession on monetary policy.
I think as political activists it is incumbent on us to seek out the best available evidence there is in determing optimal economic policy. It is neither possible or desirable to divorce economics from politics because any economic policy will have winners and losers. Indeed a recignition of this basic fact and a return to the principles of what was once refereed to as ‘Political Economy’ may well serve us better than an abstract focus on the gross aggregate values to the detriment of distributional and general standard of living issues.