Knowing and Making

...and why the Bank of England and Fed are right to have done so already. I'm not talking about whether the European Central Bank should directly buy eurozone government bonds. This causes a moral hazard problem - it might encourage governments to be profligate and reduce incentives for structural reform. It's, at the very least, debatable. I'm talking about a more general question: why should central banks print money in a recession? This post won't have much new to say to macroeconomists, but it attempts to address a concern of many non-economists - won't printing money just cause more inflation? First, let's run a thought experiment. Imagine that your national government has decided that profligate use of fossil fuels is a problem. Probably because of the risk of climate change. Instead of using a carbon tax, the government decides to restrict the supply of oil coming into the country. It could allow more oil in if necessary - in fact it has a large res...

Ben Goldacre  ( @bengoldacre ) does some amazing work combatting folk mythologies in favour of science and real data. He has tens of thousands of readers and twitter followers who - mostly - agree with his philosophy. They spread the message at skeptics meetings, atheist book-signings and the pages of the Guardian. He is a leader in showing how to expose and falsify unsubstantiated claims - not just those of homeopaths, fake-medicine enthusiasts and psychics, but also those of journalists, pharmaceutical companies and anyone at all who makes public claims. So what happened today? Goldacre made the following assertion on twitter this evening: What's the difference between this and a homeopath who doesn't need evidence because he "just believes" that his medicines work? Not much. What's especially notable is that dozens or hundreds of his followers - science aficionados all, I would have thought - replied with their own stories about which particular pr...

Rising German bond yields over the week since the Irish bailout have been interpreted ( here  and here ) as an increase in default risk to the German government. But surely there is another "risk" much more likely to explain this increase. And that is the simple risk of inflation. The Irish bailout must make inflation more likely - through one of two routes. One : ECB liquidity support, i.e. lending to Irish and other banks, might not be repaid - which will result in an effective increase in money supply unless the ECB then tightens monetary policy to reduce it, which would be politically quite difficult. The ECB lending is secured on bank assets, but we know that those assets might not be worth 100% of their nominal value. So in the case of a bank default, the ECB has printed a billion euros to buy an asset which repays less than a billion euros of principal. Two : monetary policy may be deliberately loosened, either to help reduce the pressure on sovereign borrower...

The Wall Street Journal's RTE blog (via Paul Krugman) has been spluttering about being misrepresented by Sarah Palin. RTE criticised her for saying "everyone who ever goes out shopping for groceries knows that prices have risen significantly over the past year or so". In fact, RTE pointed out, inflation in food prices has been at a record low this year, of just 0.6%. General inflation is also low, at 1.1%. Palin - and I have to give her credit for this - responded quite cleverly to RTE by citing the Wall Street Journal itself, which said in an article last week : "an inflationary tide is beginning to ripple through America’s supermarkets and restaurants…Prices of staples including milk, beef, coffee, cocoa and sugar have risen sharply in recent months" RTE correctly points out the facts of the matter: beef is up, but bananas are cheaper; producer prices are up but retailers have not yet passed them on; the catering industry is increasing quality and offeri...

Another example of how Austrian economics is nearly right but, at the last minute, gets it all wrong. This article from Peter Boettke on Coordination Problem makes an insightful distinction between order and complexity in two different dimensions. He says: I often use a 2 x 2 matrix to communicate to students the different schools of thought in economics. The rows reflect the problem situation we are find ourselves in (simple or complex), the columns reflect the outcome of our interactions (order or disorder). Neoclassical economics is found in the simple/order cell; Keynesian and market failure theory is found in the complex/disorder cell; Marxism and critics of economics are found in the simple/disorder cell. What does that leave? The complex/order cell and that is the intellectual home of the Classical economists such as Smith-Say, the Austrian school from Menger to Mises to Kirzner, and the New Institutional school of Alchian, Buchanan, Coase, Demsetz, North, Olson, Ostrom,...

The French MEP and ex-justice minister Rachida Dati has entertained legions of Youtube viewers  with a slip of the tongue - intending to state that "inflation" was close to zero, but instead claiming "fellatio" was close to zero. Fortunately, we hear, the European Central Bank is responding in a timely manner to this problem, with a "moral easing" or ME policy. In contrast to its attitude to inflation, the ECB board - especially its French and Dutch members - are quite concerned about a shortage of fellatio in the economy. They are willing to print as many euros as it takes - and distribute them wherever necessary - to return fellatio to its trend rate. As precedent they have cited Oval Office policy during the Clinton administration. Some economists have claimed that fellatio targeting is not the appropriate measure, and instead the overall level of orgasms in the economy (also known as NGDP, or Number of Groans Derived from Poking) should be the con...

Nick Rowe has come up recently with a couple of nice analogies for monetary policy: the pole balancer and the farmboy . And for those of you not reading the other economics blogs, there's a bit of an uproar right now about Narayana Kocherlakota, president of the Minnesota Federal Reserve, and his claim that long-term  low  interest rates will lead to deflation , when surely every schoolboy knows low rates lead to inflation . I've been trying to work out why Kocherlakota's argument is so intuitively wrong and yet theoretically consistent with standard monetary models. I think I've got it, with a bit of inspiration from Nick, Karl Smith , Andy Harless and Scott Sumner . So here's my contribution to the monetary analogy industry: You're driving a truck, one of those big articulated lorries with a trailer full of goods and services. There are three main variables which determine the truck's acceleration: how much you push the gas pedal (let's call...

Andrew Sentance (yes, sorry about that) writes in the Sunday Times about inflation and in particular, why it is stubbornly high in the UK compared to the rest of the world. Taking out the VAT rise, strong oil price and fall in the pound, he notes that: It appears that instead of pushing down significantly on cost and price increases, the impact of spare capacity on domestic inflation has been muted. Assuming this is correct - and we must remember that there is  an economic recovery under way, so we'd expect some inflation - we are left with an important question. Why is there so little spare capacity in the UK? It's important not just in order to keep inflation down. More deeply, it matters because real growth in the economy only happens when more productive capacity comes into use. If there is no spare capacity, we can't have growth until we invest in new production, and that takes time. Sentance points out that: Unemployment has risen to a lower level than...in t...

Another month, another inflation figure, and another short BBC interview. This time I managed to capture the video for your entertainment - sorry about the low quality. I will figure out how to improve it for next time. Assuming there is inflation again next month...

I'll be on the BBC News channel at about 6.40pm today talking about the newly released UK inflation figures. Inflation has risen to 3.5% in January, driven by VAT, oil prices and lower retail discounting. It's interesting to see some analysts comment that the VAT rise has not been fully passed on, and yet consumer prices show a less-than usual level of discounting in the January sales. I am not sure how these two are meant to be disaggregated (or if they even can be). Overall, higher inflation is a good thing for the economy and will help us to get out of recession faster. While it will have a short-term impact on savers, if it helps to work out some of the inflexibilities in the economy, they will benefit in the long term along with borrowers and wage-earners. What is interesting is the Bank of England's pause to the QE programme - I suspect the inflation rise is the main reason for this (after all their job is to target inflation at 2%). I hope they will signal a wi...

Something just struck me when reading Scott Sumner's latest (this often happens - if you're genuinely interested in macroeconomics and not subscribed to Scott's blog yet, you should be). For instance, if wages are sticky it may lead to suboptimal real wage movements. The reason why we think inflation is good for solving recessions is we believe it helps to overcome wage stickiness (NGDP, Scott's preferred target, does the same but also has a useful extra effect on the incentives for, and risks of, investment). In other words, recessions sometimes happen when people are in jobs which are no longer as productive as they used to be (or making products that people don't want so much). In a completely efficient market, their wages would fall, product prices could fall too, some people would move to other jobs and supply and demand would balance at the point of highest output. But in reality it's hard to reduce wages - because of both employment contracts and hab...