September 14, 2003
Note: Strong Views Weakly Held

In comments, A. Pressler asks: I've always wondered why inflation is such a huge bugaboo to AG and many corporate economists (other than their tendency to see things from the POV of lending institutions.) In my relatively short life, the only serious inflation problem was the supply-shock inflations created by energy costs in the 1970s.... I understand the theoretical arguments, but what is the worry when the inflation rates are still under 5% (as they were in the late '80s) or under 3% as for most of the Clinton administration? Well, the argument that inflation above 10% per year does serious harm to resource allocation and economic growth (as incentives get scrambled by an inflexible tax system, as nobody is sure what relative prices really are, and as perceptions of risk rise substantially) seems solid. And then you can argue that you need to keep inflation at 5% or below in order to eliminate the risk that a couple of bad shocks will land you in the bad zone of more than 10% annual inflation. You can also argue (and Larry Summers and I did argue back in 1992) that you want to avoid deflation and the liquidity trap--you want...

Posted by DeLong at 02:04 AM

September 06, 2003
Note: From Arminio Fraga

Something Arminio Fraga said at the Federal Reserve Bank of Kansas City's 2004 Jackson Hole Conference, approximately paraphrased from memory: It is certainly the case that a highly-intelligent and highly-competent central banker can have a better sense of what is the appropriate level of interest rates than a rather-mechanical rule of thumb of the style set out by John Taylor, and it is certainly the case that monetary policy in the United States over the past several decades has been conducted by highly-intelligent and highly-competent central bankers. Rather-mechanical rules of thumb can cause difficulty for such central bankers. But can we count on such a degree of central banking skill to be present always? At the Bank of Brazil, what we tried to do was construct a system--of expectations, of operating procedures, of rules of thumb and behavior--so that even a not-very-skilled group of monetary policy makers would nevertheless be able to conduct monetary policy relatively well....

Posted by DeLong at 10:53 AM

August 15, 2003
Little Fear of Accelerating Inflation in Europe

More bad news about the pace of economic growth in the euro zone. It leaves me, once more, scratching my head and trying to figure out what the ECB thinks that it is doing. WSJ.com - German Economy Shrank 0.1% In Quarter, Confirming Recession: FRANKFURT -- The euro zone, collectively the world's second-largest economy, stagnated during the second quarter, highlighting its relative weakness against the U.S. and even perennial laggard Japan. Although economists say the worst may be over, several major European nations -- Germany, Italy and the Netherlands -- saw their economies shrink, the European Union's statistics agency said. For Germany, it was the third straight quarter of contraction; Europe's largest economy is in its second recession in two years......

Posted by DeLong at 03:55 PM

July 28, 2003
Mervyn King Coos Like a Sucking Dove

With its new Governor, Mervyn King, at its head, the Bank of England cuts interest rates: FT.com Home US: Before yesterday, some suspected that Mervyn King, the new governor of the Bank of England, would be a more dogmatic "hawk" on interest rates than Sir Edward George, his predecessor. He has refuted those suspicions, it seems, in the best possible way: by showing that when the facts change, he is prepared to change his mind. It is theoretically possible that Mr King was out-voted on the Bank's monetary policy committee yesterday, in the way that Sir Edward never was. But since his comments last week identifying the rise in the pound as the most significant development of the past month, Mr King has always looked likely to mark his accession by voting to cut rates. The only debate was over whether the MPC would move this week or next month. The argument for expecting a delay was that by the next meeting, on August 7, the MPC will have the result of its new quarterly forecasting round, which will give a better sense of where its members believe the economy is going. But the committee clearly had no need of...

Posted by DeLong at 09:19 PM

June 05, 2003
The Economist Sounds... Shrill

The Economist sounds "shrill"... like Paul Krugman, in fact... as it contemplates the state of European monetary policy, the start of a new recession in the industrial core of western Europe, and the still-low but non-zero dangers of deflation. I wish it had come to the party earlier, but the refreshments the Economist is bringing are still very welcome: Economist.com: ...The euro-area economies are caught in a bind. The ECB has been consistently reluctant to use monetary policy to provide the sort of short-term stimulus which countries like Germany urgently need. Europe?s largest economy is now technically in recession, and the growth outlook for the euro area as a whole is grim this year and next. Careful examination of what the ECB has said about the role of monetary policy and what it has actually done shows that it has in the past been prepared to pay attention to broader economic objectives and not confine itself only to questions of inflation. Rate cuts have sometimes been implemented when inflation was above the target range. But what appears to be, at best, the ECB?s own confusion about its role has ensured that, on balance, monetary policy has been less effective in...

Posted by DeLong at 10:07 AM

April 23, 2003
Fear the Euro

Edward Hugh approvingly quotes from a Marty Feldstein piece in the Financial Times, as Marty tries to warn Gordon Brown and company against taking Britain into the euro zone without thinking very, very, very carefully about it: Financial Times: ...Here are the facts. Germany's gross domestic product rose only 0.5 per cent last year, the lowest of all the leading European countries, and ended the year in decline. Germany also has the lowest inflation rate, just 1.2 per cent. Because the single currency means that all eurozone countries have the same nominal interest rate, Germany's real interest rate is the highest in the eurozone. This is a very dangerous situation in which the high real interest rate weakens the economy and causes inflation to fall further. As the inflation rate falls, the real interest rate rises, creating the potential for a dangerous downward economic spiral. If the German economy were not constrained by the single currency, natural market forces would cause interest rates to decline, thereby boosting all kinds of interest-sensitive spending. Weak demand in Germany would also cause the D-mark to decline relative to its trading partners, boosting exports and helping producers to compete with imports from the rest...

Posted by DeLong at 08:12 PM

April 17, 2003
Uncle Milton

Just spent an hour and a half being interviewed for a documentary about Milton Friedman to air (hopefully) sometime in 2004... Some after-the-fact notes: Friedman... how great an influence on my thought? Let me think who has had more... Smith, Keynes, Summers, Shleifer... I would put Friedman fifth: only four other economist have had a greater influence on how I think... I'm not atypical at Berkeley in finding myself moving under the influence of the intellectual field generated by Milton Friedman--at least, I don't think I am... Friedman as a pragmatic libertarian, perhaps: believing that market failures are atypical, tending to generate profit opportunities and creating institutions to route around them, and that government failure is pervasive--that any expansion of government beyond the classical liberal state is likely to cause more troubles than it solves... Thus a big difference with Arrow, Samuelson, Akerlof, and company: who see market failure as much more common and hard to route around, and democratic governments as much more competent... One problem for us American liberals is certainly that Republican administrations tend to provide excellent demonstrations of Friedman's claim of governmental incompetence/capture/counterproductive behavior--massive government failure that outweighs probable estimates of market failure and creates a...

Posted by DeLong at 12:59 PM

April 03, 2003
Europe's Business Cycle and Monetary Policy

As time passes, and as the European periphery becomes richer and richer, its real exchange rates vis-a-vis the European industrial core have to rise. This is the Balassa-Samuelson effect: poor countries have low real exchange rates because international trade is concentrated among the capital- and technology-intensive goods in which rich countries' absolute advantage is greatest, and so as countries catch up to the industrial core, their real exchange rates rise. In the case of poor countries inside the euro zone, convergence and the consequent rise in real exchange rates requires faster inflation than in the industrial core. If development on the European periphery is successful, and if growth on the European periphery is rapid, then inflation on the European periphery will be rapid too. This means that, if eurozone-wide inflation is to be low, there must be deflation--falling prices--in the German-Belgian-French industrial core of the euro zone. Deflation is, in general, a bad idea for lots of reasons, one of the chief of which is the catastrophic consequences of nominal wage cuts for worker morale. Yet as long as the ECB takes its goal to be low inflation eurozone-wide--rather than low inflation in the eurozone's industrial core, with the developing...

Posted by DeLong at 07:41 PM

March 23, 2003
Notes: Basics of Monetary Policy

Date: Sat, 22 Mar 2003 10:19:05 -0800 To: bianj01@lycos.com From: Bradford DeLong Subject: Re: Question Status: Professor, >I came across your name on your website. I am a beginner >learning Macro Ecomnics. I would like to know Why the Federal >Reserve try to reign in the economy in a boom. When the >economy grows too fast, why is a bad thing, why Fed wants >to cool it down? >Thanks for your help! It's not the growth the Fed objects to. It's the inflation that comes with it. The Federal Reserve is scared that inflation will damage the efficiency of the price system in the long run, and thinks that it will be easier to control inflation if everyone expects the Fed to take a very tough line to stop even small amounts of inflation. Brad DeLong...

Posted by DeLong at 02:36 PM

March 18, 2003
Germany's Interwar Hyperinflation

The Nine-Year-Old: Dad? I've been reading the Twelve-Year-Old's World War II books... Me: Yes? The Nine-Year-Old: And was there really a time when if you had 200 German marks the most you could trade them for was one cent? Me: Yes. And worse than that. At its worst--at its worst, at the peak of the German hyperinflation, one dollar would buy you four trillion marks. The Nine-Year-Old: Why did this happen? Me: Well, the government had bills to pay and wanted to spend money--to spend money on the unemployed, on public works, on payments to those who had quit their jobs in protest over the French army's moving into the Ruhr Valley. The German government didn't want to tax enough to cover all its spending. And nobody would let the German government borrow from them. So they printed money, and there was inflation. The Nine-Year-Old: What is inflation, exactly? Me: When everyone thinks they have more money in their pockets and bank accounts than they need, and everyone tries to spend it at once, and so prices in terms of money rise: money becomes worth less--and, in the German case in the early 1920s, worthless. The Nine-Year-Old: Dad? Me: Yes?...

Posted by DeLong at 07:25 PM

February 13, 2003
Hal Varian Sees Inflation in Our Future

Hal Varian (whom I rarely see on the Berkeley campus, even though his office is only one building over) offers his prescriptions for what should be done in the short run, the medium run, and the long run as far as U.S. fiscal policy is concerned. Most interesting, however, is his forecast that feckless politicians combined with the structural features of American politics are likely to push us toward much higher inflation--once the president has obtained "a pliable Federal Reserve Board" which "can probably be arranged." Deficits and Political Pain: ...let me offer my own prescriptions for the short, medium and long term. Though there is a good chance that the economy will be significantly stronger this year, it wouldn't hurt to have some modest short-run fiscal stimulus. Consumers have kept on spending; the real budget shortfall is coming from business spending and state government cutbacks. A sensible stimulus package would involve a temporary investment subsidy, like accelerated depreciation or even an old-fashioned investment tax credit, along with direct grants to the states. State tax increases and budget cuts could well exert a significant fiscal drag on the economy in the next year, so some attempt to moderate their impact...

Posted by DeLong at 11:02 AM

February 11, 2003
The Increasingly-Strong Case for National Health Insurance

Daniel Davies points out that the rapid approach of genetic screening makes national health insurance inevitable--at least if we don't want to have a *huge* problem as those whose genes are bad for expensive-to-treat diseases find themselves very, very poor indeed. D-squared Digest -- A fat young man without a good word for anyone: ...Solutions? Sorry, don't really have one, unless one seriously thinks that the genie of genetic screening can be pushed back in the bottle. I'd note, however, that the engine of most of these "problems of asymmetric information" (in this case, the adverse selection problem which makes the pooled equilibrium solution with private information untenable) is usually an embedded option. In this case, it's the option of the insured party to choose whether or not to buy insurance. Since you can't force them to buy the product, they will only do so when it's to their advantage, and this turns out to be enough to knock down the existence of the market. I speak as a member of a health insurance scheme (the National Health Service) which doesn't have the property that you can refuse to buy it if you don't want it, and would humbly suggest...

Posted by DeLong at 06:24 PM

What Alan Greenspan Will Say This Week

The G-7 Group predicts: Greenspan will do a two-step... He will say that he opposes the double taxation of dividends on principle, and that ending such policy represents good long-term tax policy. But he will also concede that eliminating dividends does little to stimulate the economy in the near term and does so at the risk of high deficits. This is what he told moderates behind closed doors and he will not be able to go soft on this point. He will likely warn against a return to long-term budget deficits while stressing the need to curb spending. Greenspan will try to avoid endorsing one party's stimulus package over the other's. But anyone paying attention will understand that he believes the Democrats? smaller package aimed at 2003-04 is better for the economy....

Posted by DeLong at 03:10 PM