Romer, FDR and regime shift

Monetary Policy in the Post-Crisis World by Christina Romer

Roosevelt staged a regime shift—by which I mean he had a very dramatic change in policy. A month after his inauguration, he took the United States off the gold standard, which had been the basis for our monetary operations since the late 1800s. Then the Treasury, not the Fed, used the revalued gold stock and the gold that flowed in as means to increase the U.S. money supply by about 10 percent per year.  

This regime shift had a powerful effect on expectations. Figure 5 shows stock prices, which can tell us about expectations of future growth, and a measure of expected inflation. In each panel, I have drawn in a line at March 1933, just before the dramatic change in policy. Stock prices surged instantly, suggesting that expectations of future growth improved dramatically. And price expectations also switched radically. These estimates were derived by James Hamilton, an economist at the University of California, San Diego, who backed out estimates of inflation expectations from commodity futures prices in the early 1930s. Hamilton finds that people went from expecting deflation of close to 10 percent a year early in 1933 to expecting inflation of 3 percent just a few months later.

Kocherlakota

Fed official: It is time for resolve in fighting unemployment by Neil Irwin

The U.S. economy has the opposite problem now: too-high unemployment and too-low inflation. But Kocherlakota is arguing that, again, resolve by the central bank is the solution. Here is his key argument:

I’ve spent a lot of time talking about 1979, because I see three key parallels between the economic situation in 1979 and the economic situation in 2013. First, just like in 1979, the Federal Open Market Committee faces a challenging macroeconomic problem—although this time, the problem is stubbornly low employment as opposed to stubbornly high inflation. Second, there is a widespread perception that monetary policymakers lack either the tools or the will to solve this problem. 

And third, the perception of monetary policy ineffectiveness is itself a key factor in generating the problem. Let me elaborate on this last point. If the public thinks that monetary policy is ineffective, then it will expect relatively weak macroeconomic conditions in the future. But these expectations about the future have a direct impact on current macroeconomic outcomes. If households expect their incomes to be low in the future, they will save more and spend less today. If businesses expect low future demand for their products, they will invest less today and hire fewer people today. In this way, any perceptions of future FOMC ineffectiveness in generating favorable macroeconomic outcomes are hurting current employment.

Rooseveltian resolve! Reiterating Christina Romer. Bullard and Kocherlakota have really impressed me with how they altered their views as new evidence came in. They dispaly some realy integrity.

Narayana Kocherlakota's Brilliant Speech by Matthew Yglesias

Christina Romer on Learning from the Great Depression

What we learned from the Temin and Wigmore paper is that one way out of a recession at the zero lower bound is by changing expectations. To do that, often what is needed is a very strong change in policy – something economists call a “regime shift”. The most effective way to shake an economy out of a terrible downturn when we’re at the zero lower bound is an aggressive change in policy that makes people wake up, say “this is a new day” and change their expectations. What the Fed has done since early 2009 is much more of an incremental change.

I think that what the Fed needs instead is a regime shift. A number of economists have suggested that the Fed adopt a new framework for monetary policy, like targeting a path for nominal GDP. If the Fed adopted such a nominal GDP target, they would start in some normal year before the crisis and say nominal GDP should have grown at a steady rate since then. Compared with that baseline, nominal GDP is dramatically lower today. Pledging to get back to the pre-crisis path for nominal GDP would commit the Fed to much more aggressive policy – perhaps more quantitative easing and deliberate actions to talk down the dollar. Such a strong change in the policy framework could have a dramatic effect on expectations, and hence on the behavior of consumers and businesses.

(via Thoma)

A Financial Crisis Needn’t Be a Noose by Christina Romer


Olivier Blanchard Isn't Very Serious by Krugman

What Do We Know About the Effects of Fiscal Policy? Separating Evidence from Ideology by Christina Romer

(via DeLong)


Obama and Zuccotti Park: What He Didn't Say by John Cassidy

(via Dean Baker)

Commenting on Romer's article, Yglesias writes

But even though unemployment was still very high in 1938-39, it fell dramatically during the 1933-36 period thanks overwhelmingly to things that were done on the banking/monetary side. Fiscal policy during the early Roosevelt administration, somewhat like fiscal policy during the Obama years, largely served to offset ongoing fiscal contraction at the state and local levels. Today, additional aid to state and local governments to forestall the creation of new restructuring problems would be very welcome. But today, as in the 1930s, the monetary lever could be very powerful.

Well in the Eggertson paper Romer links to, he writes

By any measure, the increase in government spending was dramatic, but the spending spree clearly violated the prevailing policy dogma of small government. Table 1 records several measures of government spending. The federal government’s consumption and investment, for example, was 90 percent higher in 1934 (Roosevelt’s first full calendar year in office) than in 1932 (Hoover’s last).14 Other measures of federal spending also increased substantially. Table 1 also reports total government expenditures. This measure includes several transfer programs and the gold purchases of the Treasury that are not included in the consumption and investment statistic, but which had an important impact on the government budget.15 This spending campaign was financed not by new taxes but by running budget deficits, thus violating another important policy dogma of the time: the budget should be balanced. Deficit spending plays an important role in the model of the paper because it measures the change in the inflation incentive of the government, which is crucial to determining expectations about the future money supply. The deficit during Roosevelt’s first fiscal year is one of the highest in US history outside of wartime. This helped to make a permanent increase in the money supply credible, thus firming up inflation expectations, because it was a critical strategy to finance the government debt payments. The deficit is defined as the difference between the government’s expenditures and tax revenues. Table 1 shows three estimates of the deficit, further described in the Appendix C. The estimate that corresponds most closely to the deficit in the model is the third one.16 The deficit, according to this estimate, increased by 66 percent in the fiscal year June 1933 to June 1934 and stood at 9 percent of GDP in that fiscal year. The other estimates show a smaller, yet significant, increase. Leaving measurement issues aside, however, there is even stronger evidence for the regime change than reported in Table 1.

It is quite likely that fiscal policy played a key role in firming up inflation expectations, since it was well understood at the time that deficit financing could lead to future inflation. In fact, the belief that deficits caused inflation was a foundation of the balanced budget dogma. Many commentators at the time, especially in the conservative press, were worried that Roosevelt’s deficit spending would in fact be too inflationary.19 As proof, many “sound money men” pointed toward the deficits of several European countries after World War I and the resulting hyperinflation.20 

Right now the government is engaged in deficit spending so more actions by the Fed could change inflation expectations.  But it looks like the government did a lot of deficit spending during the Great Depression, but maybe Matt is right that it was offset by cuts at the state and local level.

With unemployment at 9.1 percent, government cutting back spending, and the mortgage market in the dumps, could it be that QE1 and 2 helped prevent deflation> Would we have 2.5 percent annualized growth in Q3 (granted it may be revised downwards later)?

Well the economy grew at 2.5 percent so there is demand. Maybe unorthodox monetary policy can help. It helped during the Great Depression.

Christina Romer Joins Team NGDP Level Targeting by Yglesias

I like how Yglesias remembered to put "Level" in there.

Dear Ben: It’s Time for Your Volcker Moment by Christina Romer

Wow, I remember DeLong writing this back on the 7th.

Let me be the first to say that I really, really wish the Federal Reserve would pull a Paul Volcker--would change its operating procedures--and announce that it will buy as many risky and long-duration assets for cash as it needs to in order to push market expectations of nominal GDP five years hence back to its pre-2008 trend level of $18 trillion/year.

Evans and Rosengren can quote from the piece and wave the physical New York Times about at next week's FOMC meeting.

Obama's Jobs Plan Deserves a Hearing by Christina Romer

The Hope that Flows from History: From World War II, Economic Lessons by Christina Romer

Krugman comments on it

Inflation: "Empiricists" versus "Theorists" by Christina Romer

By 1933, short-term interest rates were near zero -- just as they are today. As I described in a 1992 academic article, Franklin D. Roosevelt took the United States off the gold standard in April 1933, and rapid devaluation led to huge gold inflows and a large increase in the money supply. Roosevelt also made it clear that the monetary expansion would not be reversed. Expectations of deflation, which had been enormous, abated quickly. As a result, with nominal rates at zero, real interest rates (the nominal rate less expected inflation) plummeted.

The first types of demand to recover were ones that were sensitive to interest rates. Automobile production, for example, jumped 42 percent from March to April in 1933. Inflation did pick up somewhat in the mid-1930s, in part because of other New Deal measures like the National Industrial Recovery Act. But the inflation was modest, and after the crushing deflation of the early 1930s, widely celebrated.

THE triumph of hawkish views on inflation means that there is no appetite today for a Roosevelt-style, inflationary monetary policy.

Christina Romer is My Heroine.


Earlier I noted Yglesias linked to her farewell speech she gave at the National Press Club.

DeLong quotes from her farewell speech.

Thoma links to DeLong and adds a few words.

She ended it with:

On election night almost two years ago, my husband and I did a most uncharacteristic thing. We’d had friends over to watch the returns and had celebrated the Obama victory with a sedate glass of champagne around 8:00 California time. By 8:30 our friends had gone home and we were left wondering what to do with our joy. I finally declared that I needed to be part of a crowd.

So, we hopped in the car and followed the sounds of honking horns into downtown Oakland. We stopped at the first street corner where people were gathering. There we were, two middle-aged economists, dancing in the street with the Oakland teenagers. Like so many that evening, we were celebrating the promise of a new President who shared our values and our dreams for a better America.

I did the same thing! We went to Chicago's Grant Park to celebrate with Obama and Oprah on that fateful evening.

She didn't mention the $1.2 trillion number they came up for the stimulus which Summers didn't pass on to Obama, but did say that Congress only wanted $500 billion. So anyway, it doesn't look like she'll speak out of school and add to Ryan Lizza's classic account.

Atrios was a dick about the famous unemployment chart and today of course some jackass is being ungracious once more which is why I don't read Eschaton. When your're right it's okay to be rude. It's Okay if You're a Hardcore Liberal.

Maybe Obama will pick another woman to chair the CEA like Laura Tyson? Hopefully he'll pick Elizabeth Warren for the Consumer Financial Protection Agency.

Strangely, DeLong links to an Arcade Fire video. Here's a "Ready to Start" house party:

Christina Romer's farewell speech.

(via Yglesias)

Nice lengthy post by Tobin Harshaw on Obama's endangered economists.

If the businessmen drink my blood
Like the kids in art school said they would
Then I guess I'll just begin again
You say, "can we still be friends?"

If I was scared... I would
And if I was bored... you know I would
And if I was yours... but I'm not

All the kids have always known
That the emperor wears no clothes
But they bow to down to him anyway
It's better than being alone

I'm Ready to Start. 
(or we wish Bernanke was running the place)

No helicopter drop, but the Fed has signaled it's on alert and ready to do more. Krugman blogs:

What the FOMC announced was a slight change in policy: rather than allowing its balance sheet to shrink as the mortgage-backed securities it owns mature, it will maintain the balance sheet’s size by reinvesting the proceeds in long-term government bonds. Roughly speaking, it has gone from a completely crazy policy of monetary tightening in the face of massive unemployment and incipient deflation, to a policy of standing pat in the face of same. Whoopee.

...In effect, reinvesting the funds from expiring securities became a focal point, an essentially arbitrary location in the space of policy responses that nonetheless had come to have "salience", because it was what everyone was watching.

...

So why am I even slightly encouraged? Because the critics did, at least, succeed in moving the focal point. Not long ago gradual Fed tightening was the default strategy; but as I said, at this point the Fed realized that continuing on that path would have unleashed both a firestorm of criticism and a severe negative reaction in the markets.

What we need to do now is keep up the pressure, so that at the next FOMC meeting the members are once again confronted by the reality that not changing course would be seen as dereliction of duty. And so on, from meeting to meeting, until the Fed actually does what it should.

And via DeLong, Obama/Pelosi/Reid pass $26 billion aid to the states legislation. Not much but at least they're doing something.

What happened was that liberals were expecting unemployment to top off at 8 percent and then drift down again. Instead it hit 10 percent and might remain at 9 percent for a while. Liberals are depressed about this and what it might mean for November.

Krugman criticized Romer-Bernstein's chart and Atrios made fun of it.

At the time I thought they were being unfair. Yes they got it wrong, but economic forecasting is extremely hard and nobody foresaw the Greek debt crisis. The Fed and Congress are reacting to the change in circumstances but not enough.

Krugman pointed out that Romer had recommended a larger stimulus package but that Summers didn't include it in the presentation to Obama. I also liked how she would assert there is no "new normal" of lowered expectations so it is good to read speculation that she might be nominated to run the Federal Reserve Bank of San Francisco.