David Glasner on Monetary Régime Change

David Glasner enters the lists in the Omega Point discussion, making two big and important points:

1. There is an equilibrium in which the long-run comes quickly, and an equilibrium in which it comes so slowly that other things inevitably intervene. We do not know very much about what determines which the economy settles in, but we do strongly suspect from the Great Depression that sufficiently aggressive monetary régime change can eliminate the permanent-depression equilibrium

2. 1931 was the once-in-a-century time for a monetary régime change in the twentieth century (and, if we are allowed one every half-century, 1978 was the time for the second). And it looks to him very much like 2009 was the time for a monetary régime change in the first half of the twenty-first century. That the Federal Reserve did not realize this in late 2009–that it expected a rapid recovery from the economy’s self-equilibrating forces even without additional fiscal and monetary stimulus–is our sorrow today.

I agree with two. I am less certain about (1). I would say probably, and note that sufficiently aggressive in this case is a weasel phrase, and admit that I am surprised that Abenomics in Japan has not been more successful. But more on that anon.

David Glasner: Repeat after Me: Inflation’s the Cure not the Disease | Uneasy Money: “The question… depends not on an abstract argument about the shape of the LM curve…

…but about the evolution of inflation expectations over time. I’m not sure that I’m persuaded by DeLong’s backward induction argument–an argument that I like enough to have used myself on occasion while conceding that the logic may not hold in the real word–but there is no logical inconsistency between the backward-induction argument and Krugman’s credibility argument; they simply reflect different conjectures about the evolution of inflation expectations in a world in which there is uncertainty about what the future monetary policy of the central bank is going to be (in other words, a world like the one we inhabit)…. The problem with monetary policy since 2008 has been that the Fed has credibly adopted a 2% inflation target… [which it] prefers to undershoot rather than overshoot…. With the both Wickselian natural real and natural nominal short-term rates of interest probably below zero, it would have made sense to raise the inflation target to get the natural nominal short-term rate above zero. There were other reasons to raise the inflation target as well, e.g., providing debt relief to debtors, thereby benefitting not only debtors but also those creditors whose debtors simply defaulted….

Monetary policy is impotent at the zero lower bound, but that impotence is not inherent; it is self-imposed by the credibility of the Fed’s own inflation target…. Changing the inflation target is not a decision… the Fed [should] take lightly… [but] in a crisis, you… take a chance… hope… credibility can be restored by future responsible behavior….

1930… Hawtrey… suggested that the Bank of England reduce Bank Rate even at the risk of endangering the convertibility of sterling….

MACMILLAN…. the course you suggest would not have been consistent with what one may call orthodox Central Banking, would it?

HAWTREY. I do not know what orthodox Central Banking is.

MACMILLAN…. when gold ebbs away you must restrict credit as a general principle?

HAWTREY…. that kind of orthodoxy is like conventions at bridge; you have to break them when the circumstances call for it. I think that a gold reserve exists to be used…. Perhaps once in a century the time comes when you can use your gold reserve for the governing purpose, provided you have the courage to use practically all of it.

Of course the best evidence for the effectiveness of monetary policy at the zero lower bound was provided three years later, in April 1933, when FDR suspended the gold standard in the US…. Maybe it’s too much to expect that an unelected central bank would take upon itself to adopt as a policy goal a substantial increase in the price level…. But even so, we at least ought to be clear that if monetary policy is impotent at the zero lower bound, the impotence is not caused by any inherent weakness, but by the institutional and political constraints under which it operates…. Maybe… nominal GDP level targeting… offers a practical and civilly reverent way of allowing monetary policy to be effective at the zero lower bound.