DeLong: Obama turns neo-austrian

*facepalm*

OBAMA ON THE ECONOMY IN GALESBURG: STUBBORN POWER OF FALSE NEO-AUSTRIAN NARRATIVES WEBLOGGING by DeLong

Obama turns neo-Austrian:

Towards the end of those three decades, a housing bubble, credit cards, and a churning financial sector kept the economy artificially juiced up. But by the time I took office in 2009, the bubble had burst, costing millions of Americans their jobs, their homes, and their savings. The decades-long erosion of middle-class security was laid bare for all to see and feel.

This analysis is, you will not be surprised to see, in my view simply wrong.

We have had three things go wrong:

1. A thirty-year failure of economic growth to be equitable growth.
2. A six-year macroeconomic disaster caused by a shortage of aggregate demand that was driven by a collapse of the credit channel.
3. An economy that in the mid-2000s spent too much of its energy building houses and transferring financial assets.

Of these, the first is by far the biggest, the second is also huge, and the third is relatively minor.

But there is no sense in which the level of employment or of GDP that we had in the mid-2000s was unsustainable, or the result of any artificial juicing of an economy. We know what an economy that is artificially juiced beyond its sustainable productive potential looks like: it has rising inflation. That is not what the economy of the mid-2000s looked like:

That is not at all what the economy of the mid-2000s looked like.

And yet there's Dean Baker's point of the $8 trillion housing bubble. That demand was artificial in that it wasn't sustainable and it was "juicing" the economy. It could have been juiced up to its potential instead of beyond its potential.

It needed replacing after it vanished. And yet monetary and fiscal policy in the recovery has been subpar in that there has been the opposite of "juicing" from the state and local governments. Obama's stimulus was by and large canceled out by cuts at the state and local level. After 2010, there were cuts at the federal level as the private sector picked up modestly with help from the Fed.

My half-baked comment (probably will be moderated away):

The housing bubble "juiced-up" the economy in the sense that it wasn't sustainable. Once it popped, the demand generated by the bubble would need to be replaced by something else. I do think there is more to the story which he describes in point 2: "A six-year macroeconomic disaster caused by a shortage of aggregate demand that was driven by a collapse of the credit channel." Before the credit channel collapsed, it was misallocating into an unsustainable area. Now it's not even misallocating.

The Tea Party needs to be driven into the wilderness

March of the Munching Moochers by Krugman

The Output Gap versus the "Wealth Shock"

Missouri gets two Federal Reserve Banks. One is in St. Louis, the other in Kansas City. James Bullard is the President of the St. Louis Bank. (Pizzaman and Lothario Herman Cain had worked at the Kansas City one.) Via Yglesias, Cowen, Thoma, and MacroMania, here is a speech Bullard gave in Chicago on inflation targeting.

The key to the large output gap story is the use of the fourth quarter of 2007 as a benchmark for where we expect the economy to be today. The idea is to take that level of real output, assume the real GDP growth rate that prevailed in the yearsprior to 2007, and project out where the “potential” output of the U.S. should be. By that type of calculation, we are indeed stunningly far below where we should be, perhaps 5.5 percent below, using data through the fourth quarter of 2011.

Is this really the right way to think about where the U.S. economy should be? I do not think it is a defensible point of view. Let me give you some of my perspectives. What is more, we have made little progress in closing the gap defined in this way, because real GDP has only grown at modest rates since the recession ended in the summer of 2009. And furthermore, using current GDP forecasts from, say, the Blue Chip consensus, we have little prospect for closing the gap any time soon.

As I understand it, the trend growth rate used by the Fed, the CBO and Blue Chip private forecaster consensus DOES NOT start in 2007 but starts back many years and even decades. If this is true the economic illiteracy demonstrated by Bullard is both shocking and galling. Or is he a fraud?

Most analysts seem to agree that the middle part of the 2000s was characterized by a “bubble” in the housing sector. Housing prices were high and rising fast compared to nominal GDP. It is not prudent to extrapolate a bubble into the indefinite future and claim that such a calculation provides a good benchmark. Yet, that is what we are doing when we extrapolate fourth quarter 2007 real GDP. Furthermore, we normally have the good sense not to do this in other economic situations.

But they aren't extrapolating from the bubble are they?

For those who take the “large output gap” view, the expectation is for real GDP to grow rapidly after the recession comes to an end, as the economy catches up to its potential. It is like a rubber band, there is supposed to be a bounce back period of rapid growth. In fact, most analysts have been looking for exactly this effect since the summer of 2009. It has not happened. This has led to a lot of analysis concerning special factors and headwinds that might be inhibiting the “bounce back” effect.

The wealth shock view puts a different expectation in play. The negative wealth shock lowers consumption and output. But after the recession ends, the economy simply grows from that point at an ordinary rate, neither faster nor slower than in ordinary times. It is more like an earthquake which has left one part of the land higher than another part. There is no expectation of a “bounce back” to a higher level of output after the recession ends. This is closer to what has actually happened since mid-2009. Output has grown at a moderate rate, but not a rapid rate, since the recession ended.

In the wealth shock view, there is no “large output gap” rationale for keeping interest rates near zero. There is only an economy growing at normal rates following a large shock to wealth.

The growth rates are determined by government policy. They're a political decision. The long term potential growth rate is not a political decision. It's a function of technology, organization, population growth, etc.

But the government determines credit conditions, fiscal stimulus, monetary stimulus, inflation rate, etc. They can bring us to our full potential growth rate more quickly or they can stagnate us at a lower equilibrium.

[I have to take a break. I can't keep reading Bullard's tripe right now.]

Sympathy for Bernanke by Ryan Avent

BINYAMIN APPELBAUM reports today from a meeting of the Senate Budget Committee, which played host to Federal Reserve Chairman Ben Bernanke:

“It seems to me that you care more about unemployment than about inflation,” said Senator Charles E. Grassley, Republican of Iowa.

“I want to disabuse any notion that there is a priority for maximum employment,“ Mr. Bernanke responded.

Instead, he told another questioner, Senator Patrick J. Toomey, Republican of Pennsylvania, that the Fed’s approach to its dual objectives is “fully balanced and symmetrical.”

Mr. Toomey responded that that was exactly what he had expected Mr. Bernanke to say, but he did not seem pleased about it.

The most that core consumer prices have risen in a 12-month period since Mr Bernanke took over is just 2.9%—and that was in 2006, when he'd had less than a year in the top job. Since the financial crisis of late 2008, core prices have risen no faster in a 12-month span than 2.2%. During the second half of 2010, annual inflation stood at its lowest level in over half a century. Unemployment, by contrast, peaked at 10.0%. Only once in the post-war period did the jobless rate rise above that level. Only twice in the postwar period has the country experienced a recession that brought the unemployment rate above its current level, at 8.3%—the downturns of 1973-75 and 1981-82. I'm left to muse that Mr Grassley must say good-bye when he enters a room and hello when he leaves, and wears his shoes on his head. 

Of course, Mr Toomey would be justified in being displeased with Mr Bernanke's "fully balanced and symmetrical" remark. It's wrong; for nearly four years the Fed has been at or below its inflation target while unemployment soared above the natural rate and stayed there. The Fed is failing to meet its dual mandate and deserves to be criticised. Yet these gentlemen aren't unhappy about the actual failures of Fed policy; they're angry about the statistics in some bizarre alternate reality in which the Fed has allowed inflation to run out of control in an effort to maximise employment. They might as well threaten to hold hearings on his troubling habit of hunting down and dining upon unicorns; it would make as much sense.

The Role of Austerity by David Leonhardt

Over the last two years, the private sector grew at an average annual rate of 3.2 percent, while the government shrank at an annual rate of 1.4 percent.

The combined result has been economic growth of 2.3 percent.

The Austerity Debacle by Krugman

Hoover Institute recommends Hooverite Policies by Noah Smith

The Most Important Economic Speech of His Presidency by Robert Reich

(via DeLong)

Obama gave a speech in Osawatomie, Kansas — where Teddy Roosevelt gave his “New Nationalism” speech in 1910. Roosevelt gave his speech at John Brown Memorial Park. I know Obama liked The Wire and his favorite character was Omar.

A similar show "Hell on Wheels" with many characters and plotlines  is on AMC and stars Common.* I wonder if Obama's watching it - I doubt it but who knows?

On last week's episode John Brown was mentioned. One character is a preacher at the railroad camp. He used to ride with John Brown during Bloody Kansas. He tells the main character, a southerner bent on revenge against those who killed his wife, that in Kansas they used swords and axes on slave owners because they didn't deserve bullets, hence the "bloody" in "Bloody Kansas."

I wish the Obama administration wouldn't oppose a financial transactions tax.

The Robin Hood Tax.

Driven by populist anger at bankers as well as government needs for more revenue, the idea of a tax on trades of stocks, bonds and other financial instruments has attracted an array of influential champions, including the leaders of France and Germany, the billionaire philanthropists Bill Gates and George Soros, former Vice President Al Gore, the consumer activist Ralph Nader, Pope Benedict XVI and the archbishop of Canterbury.

“We all agree that a financial transaction tax would be the right signal to show that we have understood that financial markets have to contribute their share to the recovery of economies,” the chancellor of Germany, Angela Merkel, told her Parliament recently.

On Sunday, Mario Monti, the new prime minister of Italy, announced plans to impose a tax on certain financial transactions as part of a far-reaching plan to fix his country’s budgetary problems, and he endorsed the idea of a Europewide transactions tax.

So far, the broader debt crisis engulfing the euro zone nations has pushed discussion of the tax into the background. But if European leaders can agree on a plan that calms the financial markets, they would be in a stronger position to enact a levy, analysts said.

“There is some momentum behind this,” said Simon Tilford, chief economist of the Center for European Reform in London. “If they keep the show on the road, they probably will attempt to run with this.”
...
And Glenn Hubbard, who was chairman of the Council of Economic Advisers under President George W. Bush, said the Robin Hood tax is a “monstrously bad idea.”

“Such a tax isn’t really going to get at the banks,” added Mr. Hubbard, who is now an adviser to the Republican presidential candidate Mitt Romney. “It’s going to hit the people who own the assets that are traded,” like investors.

Supporters of a financial transactions tax note that Britain already imposes a levy of $50 per $10,000 of stocks traded, while Hong Kong and Singapore, with fast-growing financial markets, impose fees of $10 to $20 per $10,000 of the value of certain transactions.

The United States imposed a tiny tax on stock trades from 1914 to 1966.

The British actor Bill Nighy, who has made online videos promoting the tax, calls it a beautiful idea. “It would raise enough money to solve problems at home and overseas, and it could do it without hurting ordinary people,” he said.

---------------------------------
*Common is from Chicago and belongs to Jeremy Wright's church. He sang at Obama's Inaugural Ball.

Quiggin wrote

The finance minister, Rudolf Hilferding was a leading Marxist theoretician, but in matters of macroeconomic management Marxist orthodoxy coincided with the Treasury view. Hilferding argued that, while crises and depressions would inevitably bring about the downfall of capitalism in due course, in the meantime, there was nothing to do but to follow the dictates of capitalist sound money.

Brad DeLong unfinished paper on "liquidationism."

Wikipedia article on Hilferding

Wikipedia is pretty weak on "liquidationism." In its article on the Great Depression, it has:

The crisis had many political consequences, among which was the abandonment of classic economic liberal approaches, which Roosevelt replaced in the U.S. with Keynesian policies. These policies magnified the role of the federal government in the national economy. Between 1933 and 1939, federal expenditure tripled, and Roosevelt's critics charged that he was turning America into a socialist state.

From the WSJ:

Economists expect Thursday’s GDP report from the Commerce Department will show the economy grew at a 2.7% annual rate in the third quarter. That would still leave economic output 6.7% below what the Congressional Budget Office estimates its potential is.  In other words, in a world where employment and economic activity were as high as they could be without the economy running into inflationary trouble, the U.S. would be producing about $900 billion more in goods and services a year than it is now.

Would it have been 2.7% without QE1 and 2?

(via Mark Thoma)

Mike Konczal:

Shorter Richard Fisher, using the phrase Chernyshevsky is reputed to have come up with: “the worse the better.”  The worse it gets for people, the better the opportunities for our ideology to be put into action.  I never thought I’d have to go digging into the immediate influences of Vladimir Ilyich Lenin to get a handle on how “independent” monetary policy works in the 21st century, but here we are.

(via DeLong twitterstorm)

The Beatings Will Continue*

Who'll Stop the Pain? by Krugman (February 19, 2009)

So will our slump go on forever? No. In fact, the seeds of eventual recovery are already being planted.

Consider housing starts, which have fallen to their lowest level in 50 years. That’s bad news for the near term. It means that spending on construction will fall even more. But it also means that the supply of houses is lagging behind population growth, which will eventually prompt a housing revival.

Or consider the plunge in auto sales. Again, that’s bad news for the near term. But at current sales rates, as the finance blog Calculated Risk points out, it would take about 27 years to replace the existing stock of vehicles. Most cars will be junked long before that, either because they’ve worn out or because they’ve become obsolete, so we’re building up a pent-up demand for cars.

The same story can be told for durable goods and assets throughout the economy: given time, the current slump will end itself, the way slumps did in the 19th century. As I said, this may be your great-great-grandfather’s recession. But recovery may be a long time coming.

The closest 19th-century parallel I can find to the current slump is the recession that followed the Panic of 1873.** That recession did eventually end without any government intervention, but it lasted more than five years, and another prolonged recession followed just three years later.

You can see, then, why some Fed officials are so pessimistic.

Let’s be clear: the Obama administration’s policy initiatives will help in this difficult period — especially if the administration bites the bullet and takes over weak banks. But still I wonder: Who’ll stop the pain?

Krugman is prescient again as usual.

I've been rereading William Greider's Secrets of the Temple: How the Federal Reserve Runs the Country. He argues that Arthur Burns - Fed Chairman from 1970-78 - is the original History's Greatest Monster. An economics professor at Columbia, Burns was appointed by Nixon (thanks tricky Dick!) and had a reputation as a real hardass inflation hawk. However he was accused of priming the pump to help Nixon win the 1972 election. Nixon's Federal budget was already highly stimulative and the Fed added rapid money growth which approached 11 percent three months before the election. The following year had runaway inflation followed by the Fed tightening and a painful recession. Greider reports that some governors said Burns and the Fed had made an "honest mistake" and there was no conscious political manipulation of the economy. Later the Bush clan would blame Greenspan for causing Poppy to lose his re-election campaign to Clinton.***

Carter replaced Burns with G. William Miller and as Greider writes:

In Wall Street circles Miller was blamed for the surging inflation of 1978 and 1979, but Fed insiders understood that Miller had inherited errors made earlier by Burns - excessive monetary growth in late 1976 and 1977. One Fed official who worked closely with Burns attributed the mistakes to Burns's deep desire to win appointment to another term as chairman from the new Democratic administration elected in 1976. Money growth accelerated in the months right after Carters election - and Burns began a private campaign to ingratiate himself with the Carter White House. His campaign for reappointment ultimately failed, but monetary economists attributed the subsequent surge in inflation to Burns's overly generous money policy in the opening months of the Carter Adminstration.

There was also the oil shocks of the 1970s and unions could negotiate price hikes into contracts.
-----------------------------
* Until Morale Improves ... or Not.

** Wikipedia entry on the "Long Depression."

Monetary responses

In 1874, a year after the 1873 crash, the United States Congress passed legislation called the Inflation Bill of 1874 designed to confront the issue of falling prices by injecting fresh greenbacks into the money supply.[34] Under pressure from business interests, President Grant vetoed the measure.[34] In 1878, Congress overrode President Hayes's veto to pass the Silver Purchase Act, in a similar but more successful attempt to promote "easy money."[21]

Labor unrest
The United States endured its first nationwide strike in 1877, the Great Railroad Strike of 1877.

*** According to the Wikipedia entry on Burns:

When Vice President Richard M. Nixon was running for President in 1959–1960, the Fed, under the Truman-appointed William McChesney Martin, Jr., was undertaking a monetary tightening policy that resulted in a recession in April 1960. ^{[further explanation needed]} In his book Six Crises, Nixon later blamed his defeat in 1960 in part on Fed policy and the resulting tight credit conditions and slow growth. After finally winning the presidential election of 1968, Nixon named Burns to the Fed Chairmanship in 1970 with instructions to ensure easy access to credit when Nixon was running for reelection in 1972. 

Jonathan Chait on Republicans' rank dishonesty and galling hypocrisy

... Rather, it’s that a McCain presidency would, for purely political reasons, offer the possibility of greater Keynesian demand-side response.

Douglas Holz-Eakin, the chief economic advisor to John McCain in 2008 and the president of American Action Forum, a Republican agitprop group, offers a few tantalizing clues. First, he concedes that economic stimulus does in fact boost economic growth:

“The argument that the stimulus had zero impact and we shouldn’t have done it is intellectually dishonest or wrong,” he says. “If you throw a trillion dollars at the economy, it has an impact. I would have preferred to do it differently, but they needed to do something.”

Holz-Eakin, like most economists, but unlike the entire elected wing of the Republican Party since 2009, understands that economic stimulus does in fact stimulate the economy and is the proper response to a disaster like the one we’re experiencing.

The one truly large-scale response to the crisis that exceeded Obama’s response may have been an attempt to shore up the housing market. This bit, from Holz-Eakin, is also tantalizing:

In late 2008, when the economy was cratering, Holtz-Eakin convinced McCain that the way out of a housing crisis was to tackle housing debt directly. “What we proposed at the time was to buy up the troubled mortgages, pay them off and let people refinance at the lower rates,” he recalls. “That would have filled up the negative equity and healed bank balance sheets.” To this day, Holtz-Eakin thinks the proposal made sense. There was one problem. “No one liked that plan,” he says. “In fact, they hated it. The politics on housing are hideous.”

The politics were, indeed, hideous. But they were horrible in a way deeply aggravated by the political circumstances of the moment. You had an all-Democratic government, led by a charismatic, young, black president. Any measures to alleviate the crisis struck millions of conservatives as a terrifying redistribution of wealth, a frightful and permanent unmooring of the nation from its tradition of liberty. This helped encourage the hyper-partisan response of Republican leaders, who abandoned the belief in Keynesian stimulus that they had previously endorsed in 2001 and 2008. (Yes, Republicans passed a stimulus bill in 2008. Their turnabout against stimulus was rapid and total.)

(via Mark Thoma)

Holz-Eakin is advising Romney, as is Mankiw.

(Mankiw on the IS-LM model)

Tim Duy on one of the 3 Fed dissenters

Bigger Economic Role for Washington by Jackie Calmes and Binyamin Applebaum

Fed officials will consider several options when the central bank’s policy-making committee meets for two days next week. The leading contender is a plan to shift the composition of the Fed’s $2.6 trillion investment portfolio, selling short-term Treasury securities and using the money to buy longer-term securities.

If it works, the shift should modestly cut credit costs for businesses and consumers. Macroeconomic Advisers estimated that the Fed could raise gross domestic product by about 0.4 percentage points over two years, increasing jobs by about 350,000 over the same period.

An impact of that magnitude would be roughly the same as the Fed achieved through its recently-completed purchase of $600 billion in Treasury securities, popularly known as QE2.

Under the new plan, the Fed would be absorbing more risk for each dollar it invests; 10-year Treasury securities are riskier than one-year securities because the investor makes a longer commitment. By shifting its portfolio, the Fed would seek to drive investors into even riskier assets, reducing borrowing costs.

Charles Evans, president of the Federal Reserve Bank of Chicago, said in a speech in London last week that the central bank had an obligation to ratchet up its efforts. With an unemployment rate of 9 percent, he said, Fed officials should be "acting as if their hair was on fire."

But Richard Fisher, president of the Federal Reserve Bank of Dallas, said Monday that the Fed already had "filled the gas tanks of the economy," that he doubted its ability to do more, and that the responsibility now fell on the rest of the government.

via quasi-monetarist Scott Sumner, a National Review piece advocating that the Fed target nominal GDP.

Finally, a nominal-income target not only has economic advantages but is also politically feasible. Replacing the Fed’s dual mandate of promoting low inflation and full employment with an inflation target would be met with strong resistance by left-leaning politicians. However, a nominal-income target would implicitly respond to fluctuations in both prices and real output (and therefore unemployment) in the short run while maintaining a commitment to low and stable inflation over the long run.

Congress has the power to change the Federal Reserve’s mandate. It’s time for conservative politicians to be bold and serious about monetary policy and not simply use rhetoric to capitalize on a popular view of the conservative base. Republican presidential candidates would do well to seize the opportunity of the public’s dissatisfaction with the Federal Reserve and make it part of their campaigns to push for significant and meaningful reform of monetary policy. It is time that the Fed had an explicit target for policy, preferably one for nominal income.

Talk of replacing the Fed's dual mandate makes me nervous. A call for Republican politicians to focus on the Fed makes me nervous. Granted, if the Fed had an explicit target it could be held accountable for not meeting that target and the target itself could be democratically debated.
-----------------
Update: Reading the comments to the National Review piece reassures me that at least the quasi-monetarists are better than Ron Paul and the Austrians. One commenter says, "Certainly the fed shouldn't be worried about unemployment."  Another pissed-off commenter writes

I see that Ponnuru finally got his guru a guest spot on NRO. His arguments still suffer from the same flaw when he delivers them himself as when Ramesh repeats them: An increased demand for money balances is not a demand for a certain number of pieces of paper with presidents on them; it's a decision about how to allocate one's (limited) wealth. If this shift is economy-wide, then the economy *should* shrink temporarily, until there are enough positive-net-present-value investment opportunities that people choose again to deploy their cash reserves.

and

Most irritating is the dishonesty of it. Hendrickson doesn't come out and say, "We should manipulate people into spending or investing now, against their better judgment, by scaring them with the threat of future inflation". Instead, he talks about a "deviation between actual and desired money balances" as though it's some sort of distubance in the Force that we need to correct. Monetarists like Hendrickson are manipulators just like Keynesians; the only difference is that they want to use monetary instead of fiscal policy.

So what should the Fed do? Assuming we have to have a Fed, it should increase the money supply mechanically, with zero discretion, to match long-term average growth rates determined in advance according to a set formula, regardless of short-term fluctuations.

It sounds like the Treasury view and the view held by Treasury Secretary Andrew W. Mellon who supposedly advised Herbert Hoover to "liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate... it will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up from less competent people."

The Beatings Will Continues Until Morale Improves*

The Death of Confidence Fairy by Krugman

*via Wikipedia. "The beatings will continue until morale improves is a famous quotation of unknown origin. It literally denotes how morale, such as within a military unit or other hierarchical environment, will be improved through the use of punishment. More importantly, the phrase is used sarcastically to indicate the counterproductive nature of such punishment or excessive control over subordinates such as staff in the workplace or children living at home. The most commonly cited story for the origin of the phrase comes from the Japanese Imperial Navy during World War II. Supposedly, the phrase was first used by a commander of the Japanese Submarine Force. The quotation was not meant to be taken literally but instead was facetious. Another story relates to a case in Canada over a military officer fired for political reasons in which he uttered a similar quotation."

Steve Bennen on Obama's speech about the American Jobs Act

Krugman: the beatings will continue until morale improves

When the recession officially ended, [government] spending was rising at an annual rate of around $60 billion; now it’s declining at an annual rate of $60 billion. That difference is around 1 percent of GDP, and maybe 1.5 percent once you take the multiplier into account. That makes the turn toward austerity a major factor in our growth slowdown.

Debt, Deleveraging and the Liquidity Trap

Krugman on Casey B. Mulligan an economics professor at the University of Chicago

If Mulligan wants to argue that point, fine -- but he presents as "the New Keynesian position" something that is just what he imagines, on casual reflection (or, again, maybe after talking to some guy in a bar) to be the New Keynesian position.

OK, so from now on I’ll assert that the Chicago position on unemployment is that we can cure it by sacrificing goats. Hey, I heard that somewhere -- no need to actually read anything they say, right?

Arsenal of Democracy

Dean Baker points us to an editorial at the Washington Post.

Nor is Mr. Obama or his economic policy to blame for the economy's inability so far to resume robust, job-generating growth. The economy faces a painful, protracted process of deleveraging. Households and companies must work off a huge overhang of debt built up during the boom, and they can't resume spending and investing in the meantime. That deleveraging will hamper growth for -- well, for as long as it takes. Government efforts may ease deleveraging, but to the extent they succeed, it is generally by postponing the day of reckoning and making it more expensive when it inevitably arrives. 

Baker also notes that those calling for sacrifice failed to foresee the $8 trillion housing bubble which caused the overleveraging of debt. As Krugman argues, we can work off the debt cleanly or ugly. In the meantime the government could boost aggregate demand to utilize excess capacity until the private sector recovers. 

Here Krugman blogs about a new paper which shows that fiscal stimulus worked during the prewar buildup to World War II.

What Gordon and Krenn point out is that we actually have more information than a simple comparison between the depressed peacetime economy and the war economy after Pearl Harbor: there was a period of more than two years when the United States was gearing up for war but not yet engaged in combat -- the Arsenal of Democracy era. Rationing was not yet in effect, and for at least part of this period the economy still had excess capacity despite a very large rise in government spending.

...in the prewar buildup you had a clear-cut expansion of federal spending on the order of 14 percent of GDP. That’s a real experiment with the economy. And the results were clearly Keynesian.

The editors at the Post seems to the think the stimulus bill worked to help prevent another Great Depression - actually it was negated by the "50 little Hoovers" at the state level - but they don't advocate more to get us to full employment and full capacity usage.

It seems to the editors at the Post were a little too complacent about the housing bubble and are currently too complacent about high unemployment, slow growth and disinflation.

Interesting bit from a commenter at Baker's blog:

From Keynes's The General Theory of Employment, Interest, and Money: Chapter 21 - Trade Cycle - Section III:

"Furthermore, even if we were to suppose that contemporary booms are apt to be associated with a momentary condition of full investment or over-investment in the strict sense, it would still be absurd to regard a higher rate of interest as the appropriate remedy. For in this event the case of those who attribute the disease to under-consumption would be wholly established. The remedy would lie in various measures designed to increase the propensity to consume by the redistribution of incomes or otherwise; so that a given level of employment would require a smaller volume of current investment to support it."

Skills Mishmash

There are two competing memes or narratives about the slump's low levels of employment. As Mike Konczal at Rortybomb blogs (via Krugman), "The first is a story of aggregate demand. The second theory is one of a mismatch in skills."

Dean Baker blogs:

Actually, the statistics do not show that the number of job openings is anywhere close to the number of unemployed workers. The most recent data show the number of openings at just over 3 million, a bit more than 1 opening for every 5 unemployed workers. This is still down by more than one-third from pre-recession levels.

It is also worth noting that we don't see evidence of the other factors that would be consistent with growing structural unemployment. This mismatch story would imply that there are sectors of the economy in which wages are rising rapidly and average hours per worker are increasing, as employers increase hours due to their inability to find qualified workers. There is no major sector of the economy that fits this description.

Commenting on Konczal, Krugman blogs:

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 mishmash 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.
...
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.

"Fiscal Gridlock"

Baker was commenting on a New York Times story by Sewell Chan which gave space to Minnesota Fed President Kocherlakota, a leading proponent of the skills mismatch argument. Chan reports he said:

"We are unabashed technocrats, seeking to solve an unabashedly technical problem: how do we manage monetary policy so as to ensure lower unemployment and maintain inflation at an appropriate rate?" he said. Disagreements, he added, "ultimately stem from different assessments of the complicated economic situation and not from political differences"

I disagree with Kocherlakota. It's very political.* Elsewhere in the article Chan writes:

Although the Fed considers that danger [of deflation] remote, it is worried because inflation is running at only about half the desired level of about 2 percent, while unemployment stands at 9.6 percent. 

The committee’s Aug. 10 meeting was dominated by a vigorous discussion over the decision to reinvest the mortgage-related bond proceeds -- an approach Mr. Bernanke favored. The meeting on Tuesday will probably be used to assess actions the committee might take at its meetings on Nov. 2 and 3 and Dec. 14. 

...

Continued "fiscal gridlock" -- an inability to reach agreement on how to handle the impending expiration of the Bush-era tax cuts -- would put pressure on the Fed to act, Mr. Berner added. A second round of quantitative easing could lower the yield on the benchmark 10-year Treasury note to 2 percent, from its current level of about 2.75 percent, he estimated.

Laurence H. Meyer, an economic forecaster and former Fed governor, said additional quantitative easing would have a meaningful effect on the economy but would not be a "game changer." 

The Fed could announce that it was buying an additional $2 trillion in securities -- nearly doubling its $2.3 trillion balance sheet, which is already two and a half times where it stood before the financial crisis in 2008. Or it could take a more incremental approach, by buying a modest amount of securities and leaving the door open for more. 

Mr. Meyer estimated that the "shock-and-awe option" would raise economic growth 0.3 percentage point in 2011 and 0.4 percentage point in 2012, but that unemployment would remain high: 9.2 percent at the end of 2011 and 7.7 percent by the end of 2012. 

...

"For me, the ball is in the fiscal court for now," Mr. Fisher [President of Dallas Fed] said. "Any further action by the Fed must be subject to the kind of rigorous cost-benefit analysis that Ben Bernanke cited in Jackson Hole."

The fiscal court ain't doing nothing. There's "fiscal gridlock." It's not the Fed's fault, but it's the case. So, Mr. Fisher is in fact making a political argument. We shouldn't do anything about the low employment levels caused by the bursting of the housing bubble. We should allow the American middle class to be destroyed. Because why? Fisher doesn't say but it's most certainly a political decision and not a technical one.  The economic evidence is there on what needs to be done. Inflation is at one percent and 9 percent unemployment through 2011? Does Fisher really know what the costs of that is?

Perhaps the political legitimacy of the Fed?
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* A good rule of thumb: if the argument relies on accurate data, it's technical. If it ignores all evidence and data: it's political.

Let Them East Cake
(Or the Heartless Bastards)

Why I don't like Tyler Cowen:

Although the unemployed might prefer such a policy [of higher inflation and full employment], they are not well-mobilized politically. And President Obama is himself politically weak at the moment, so he cannot offer the Fed much cover.

The dubious assertion about Obama aside, full employment should be preferred by most voters in the country. Economists should know why. The only people who don't want full employment are those who prefer labor to have a weak bargaining position and prefer an increase in inequality and all that entails. Voters who don't have full employment as a priority are essentially saying they don't want a middle class. They want America to become a banana republic, with a tiny, greedy, corrupt elite and a mass of the desperate, working poor.