What’s your take on the claim that NGDP targeting basically ends recessions?
No longer true with Covid, but Australia went an impressively long time without a recession basically by adjusting their FX rate to do NGDP targeting. China too seems to have adopted the policy “the government will decide on the rate of growth and take whatever means necessary to achieve it”.
The best counterargument I’m aware of is that China’s exploding debt will cause a problem in the future. But it seems that this is much more likely to result in Japanification than a traditional debt crisis.
You talk about the “half of debt crises that are deflationary” and at the very least it seems that the central bank could guarantee that 100% of debt crises are inflationary by promising to mint however much money is needed to keep creditors solvent. Perhaps this would make it easier for agents to “trade the cycle” by always buying hard assets (gold, land, stocks..) when the debt is “too high”. This should push inflation earlier in the cycle, allowing the Central bank to respond by raising interest rates and popping bubbles sooner.
First, your idea at the end is amazing and I hadn’t noticed it. It seems totally possible that more monetary stimulus earlier would make it easier to trade the cycle, moving inflation up, raising interest rates earlier. I like it. However, I’m not sure about a promise to keep creditors solvent, that seems like enough moral hazard to increase debt crises; perhaps you just mean giving them loans, which seems fine. Also, I’m not convinced that this would work as great as you’d expect, just because you still have to have people bet a ton of money in the right direction (the epistemic issues I’ll talk about in the next post).
Regarding NGDP targeting, I do think it would go a long ways toward eliminating “recessions” by reducing the magnitude and duration of disruptions. But, not knowing much about the details of NGDP-level targeting and where the stimulus canonically comes from, I am concerned that some sources of continued monetary injection could be bad. For example, if all of the cash creation was going into QE, I’d expect to see not enough trickle-down. And I think if the money came in ways that created much additional national debt, it would indeed cause Japanification or worse.
I think national debt mechanics and potential catastrophes require a much longer discussion than this comment, but the short version is that 1) you can only reasonably print much money if you have a reserve currency or you end up with crazy inflation because your foreign debts require more of your currency to pay them off 2) even if you have a reserve currency, there’s an important question about whether adding 5% to NGDP causes more or less than 5% of national debt growth that year. If it requires more, your debt:GDP ratio will just keep going up in an unsustainable fashion. And whether you can succeed at keeping this ratio from growing obviously depends on a lot of factors, like your background GDP, whether you make cash by lowering inter-bank interest rates by fiat vs lowering interest rates by buying bonds in QE (which adds debt), whether interest rates are even high enough to lower, etc etc. While I agree with most people that we sometimes have a shortage of cash in the economy to make transactions and this causes huge deleterious effects, I’m also concerned that we have such low interest rates that we’re “pushing on a string” and going to be unable to do anything if a debt crisis does hit. I don’t know how to raise interest rates to give us more slack without crashing the economy, or how to get out of this mess, but one idea is to increase monetary velocity by improving the SWIFT system or other parts of the settlement layer (crypto might come in handy here, though 99% of the time when that’s uttered it won’t pan out).
Anyways, I’d certainly want to try NGDP-level targeting and see how practical you can make it, but I think there are a lot of other parameters that you have to also get right. especially regarding national debt. Regarding Australia, I don’t understand how FX can target NGDP and everything I can find just says that Australia is considering doing NGDP targeting after 25 years of inflation-targeting; also, their population growth and mining boom both seem like the kind of economic boons that would make things go well under a variety of macro policies they could enact, so I’m a a bit hesitant to take that as a real example without further evidence. Maybe you can explain more?
I am concerned that some sources of continued monetary injection could be bad. For example, if all of the cash creation was going into QE, I’d expect to see not enough trickle-down.
This is absolutely a valid concern. My preferred version of NGDP targeting would pair a VAT with a UBI. Any time the central bank wanted to raise NGDP, it would increase the UBI or decrease the VAT and anytime they wanted to lower NGDP they would decrease the UBI or increase the VAT. I actually do think that you can do NGDP targeting using interest rates/QE alone, but this requires a much stronger “signaling” component from the central bank where they commit not to raise interest rates/pull back on QE until NGDP is back above target.
1) you can only reasonably print much money if you have a reserve currency or you end up with crazy inflation because your foreign debts require more of your currency to pay them off
You can’t actually get out of control inflation simply by doing NGDP targeting. Reserve currency or not, sustained (above target) inflation occurs when the government spends more than it taxes and overrides central bank independence in order to monetize the debt.
2) even if you have a reserve currency, there’s an important question about whether adding 5% to NGDP causes more or less than 5% of national debt growth that year. If it requires more, your debt:GDP ratio will just keep going up in an unsustainable fashion.
The debt:GDP ratio is determined by the savings rate and productivity growth rate of the underlying economy. Unfortunately in the developed world, we’ve seen the savings rate grow and productivity growth stagnate due to a combination of wealth inequality and an aging population. These are both serious concerns, but raising interest rates and driving the economy into recession is definitely not going to help. Looking at the 2008 recession, the result was to drive down fertility and wage growth for the bottom 20% didn’t really happen until we reached near-full employment in 2019.
Regarding Australia, I don’t understand how FX can target NGDP and everything I can find just says that Australia is considering doing NGDP targeting after 25 years of inflation-targeting
I think I was just misremembering here. However one way you could target NGDP (if you aren’t a reserve currency) is just to raise/lower your exchange rate target when you want to adjust NGDP. This solves the “pushing on a string” problem with low interest rates, since it is always possible to lower your exchange rate by selling domestic currency and buying the reserve currency.
Oops, you’re obviously right about not getting runaway inflation from NGDP targeting. Not sure if there’s still an issue there with printing when not a reserve currency, but maybe not.
Oops, I actually meant public_debt:GDP. I think growth there continues to be a concern, because it’s not “determined” in the way you said afaik, and e.g. COVID?
Ah, the FX idea is good! I still don’t actually understand some of the core of NGDP targeting—my reasoning runs into a contradiction because it seems like if you lower your FX, your nominal GDP should go up because your produced goods are now worth more of your own dollars, but that would mean that you’ve actually increased the amount of cash needed to make all the transactions go through the economy, such that you’ve created a cash bottleneck where there wasn’t one, which is the opposite of what is supposed to happen. Perhaps the lowering of your FX requires increasing the currency in circulation to a greater extent than the drop in its value, such that you end up with more currency x value at the end?
I actually meant public_debt:GDP. I think growth there continues to be a concern, because it’s not “determined” in the way you said afaik, and e.g. COVID?
NGDP targeting theoretically doesn’t care one-way or the other about the amount of public debt (assuming an independent central bank). If the government spends too much money (due to a crisis like Covid), the interest rates it has to pay will rise and it will face a sovereign debt crisis. Two outcomes are possible: 1) the government declares bankruptcy, can no longer borrow on the public markets, and is forced to raise taxes or cut spending 2) the government mandates that the central bank buy public debt, monetizing the debt and producing above-target inflation. Case 2) (which is by far the more common one) is no longer NGDP targeting since the central bank ceases to independently follow its NGDP target.
I actually can’t think of a real-world example of case 1). When governments face a sovereign debt crisis and respond with austerity, NGDP generally falls well below trend. See, for example, Greece. I’m not sure why this is, but probably because austerity is forced on the country by an outside institution (usually the IMF or in Greece’s case the ECB) which cares more about getting its debts repaid than about making sure NGDP stays on-trend.
if you lower your FX, your nominal GDP should go up because your produced goods are now worth more of your own dollars
If the central bank sells FX and buys domestic currency, this will cause the value of you domestic currency to rise, meaning the price (in domestic dollars) of goods produced in your country will fall.
Obviously the central bank can only do this if it has FX reserves to sell. If not, then it has to raise interest rates, which should similarly cause the value of the domestic currency to rise (and nominal GDP to proportionately fall).
What’s your take on the claim that NGDP targeting basically ends recessions?
No longer true with Covid, but Australia went an impressively long time without a recession basically by adjusting their FX rate to do NGDP targeting. China too seems to have adopted the policy “the government will decide on the rate of growth and take whatever means necessary to achieve it”.
The best counterargument I’m aware of is that China’s exploding debt will cause a problem in the future. But it seems that this is much more likely to result in Japanification than a traditional debt crisis.
You talk about the “half of debt crises that are deflationary” and at the very least it seems that the central bank could guarantee that 100% of debt crises are inflationary by promising to mint however much money is needed to keep creditors solvent. Perhaps this would make it easier for agents to “trade the cycle” by always buying hard assets (gold, land, stocks..) when the debt is “too high”. This should push inflation earlier in the cycle, allowing the Central bank to respond by raising interest rates and popping bubbles sooner.
First, your idea at the end is amazing and I hadn’t noticed it. It seems totally possible that more monetary stimulus earlier would make it easier to trade the cycle, moving inflation up, raising interest rates earlier. I like it. However, I’m not sure about a promise to keep creditors solvent, that seems like enough moral hazard to increase debt crises; perhaps you just mean giving them loans, which seems fine. Also, I’m not convinced that this would work as great as you’d expect, just because you still have to have people bet a ton of money in the right direction (the epistemic issues I’ll talk about in the next post).
Regarding NGDP targeting, I do think it would go a long ways toward eliminating “recessions” by reducing the magnitude and duration of disruptions. But, not knowing much about the details of NGDP-level targeting and where the stimulus canonically comes from, I am concerned that some sources of continued monetary injection could be bad. For example, if all of the cash creation was going into QE, I’d expect to see not enough trickle-down. And I think if the money came in ways that created much additional national debt, it would indeed cause Japanification or worse.
I think national debt mechanics and potential catastrophes require a much longer discussion than this comment, but the short version is that 1) you can only reasonably print much money if you have a reserve currency or you end up with crazy inflation because your foreign debts require more of your currency to pay them off 2) even if you have a reserve currency, there’s an important question about whether adding 5% to NGDP causes more or less than 5% of national debt growth that year. If it requires more, your debt:GDP ratio will just keep going up in an unsustainable fashion. And whether you can succeed at keeping this ratio from growing obviously depends on a lot of factors, like your background GDP, whether you make cash by lowering inter-bank interest rates by fiat vs lowering interest rates by buying bonds in QE (which adds debt), whether interest rates are even high enough to lower, etc etc. While I agree with most people that we sometimes have a shortage of cash in the economy to make transactions and this causes huge deleterious effects, I’m also concerned that we have such low interest rates that we’re “pushing on a string” and going to be unable to do anything if a debt crisis does hit. I don’t know how to raise interest rates to give us more slack without crashing the economy, or how to get out of this mess, but one idea is to increase monetary velocity by improving the SWIFT system or other parts of the settlement layer (crypto might come in handy here, though 99% of the time when that’s uttered it won’t pan out).
Anyways, I’d certainly want to try NGDP-level targeting and see how practical you can make it, but I think there are a lot of other parameters that you have to also get right. especially regarding national debt. Regarding Australia, I don’t understand how FX can target NGDP and everything I can find just says that Australia is considering doing NGDP targeting after 25 years of inflation-targeting; also, their population growth and mining boom both seem like the kind of economic boons that would make things go well under a variety of macro policies they could enact, so I’m a a bit hesitant to take that as a real example without further evidence. Maybe you can explain more?
This is absolutely a valid concern. My preferred version of NGDP targeting would pair a VAT with a UBI. Any time the central bank wanted to raise NGDP, it would increase the UBI or decrease the VAT and anytime they wanted to lower NGDP they would decrease the UBI or increase the VAT. I actually do think that you can do NGDP targeting using interest rates/QE alone, but this requires a much stronger “signaling” component from the central bank where they commit not to raise interest rates/pull back on QE until NGDP is back above target.
You can’t actually get out of control inflation simply by doing NGDP targeting. Reserve currency or not, sustained (above target) inflation occurs when the government spends more than it taxes and overrides central bank independence in order to monetize the debt.
The debt:GDP ratio is determined by the savings rate and productivity growth rate of the underlying economy. Unfortunately in the developed world, we’ve seen the savings rate grow and productivity growth stagnate due to a combination of wealth inequality and an aging population. These are both serious concerns, but raising interest rates and driving the economy into recession is definitely not going to help. Looking at the 2008 recession, the result was to drive down fertility and wage growth for the bottom 20% didn’t really happen until we reached near-full employment in 2019.
I think I was just misremembering here. However one way you could target NGDP (if you aren’t a reserve currency) is just to raise/lower your exchange rate target when you want to adjust NGDP. This solves the “pushing on a string” problem with low interest rates, since it is always possible to lower your exchange rate by selling domestic currency and buying the reserve currency.
Oops, you’re obviously right about not getting runaway inflation from NGDP targeting. Not sure if there’s still an issue there with printing when not a reserve currency, but maybe not.
Oops, I actually meant public_debt:GDP. I think growth there continues to be a concern, because it’s not “determined” in the way you said afaik, and e.g. COVID?
Ah, the FX idea is good! I still don’t actually understand some of the core of NGDP targeting—my reasoning runs into a contradiction because it seems like if you lower your FX, your nominal GDP should go up because your produced goods are now worth more of your own dollars, but that would mean that you’ve actually increased the amount of cash needed to make all the transactions go through the economy, such that you’ve created a cash bottleneck where there wasn’t one, which is the opposite of what is supposed to happen. Perhaps the lowering of your FX requires increasing the currency in circulation to a greater extent than the drop in its value, such that you end up with more currency x value at the end?
NGDP targeting theoretically doesn’t care one-way or the other about the amount of public debt (assuming an independent central bank). If the government spends too much money (due to a crisis like Covid), the interest rates it has to pay will rise and it will face a sovereign debt crisis. Two outcomes are possible: 1) the government declares bankruptcy, can no longer borrow on the public markets, and is forced to raise taxes or cut spending 2) the government mandates that the central bank buy public debt, monetizing the debt and producing above-target inflation. Case 2) (which is by far the more common one) is no longer NGDP targeting since the central bank ceases to independently follow its NGDP target.
I actually can’t think of a real-world example of case 1). When governments face a sovereign debt crisis and respond with austerity, NGDP generally falls well below trend. See, for example, Greece. I’m not sure why this is, but probably because austerity is forced on the country by an outside institution (usually the IMF or in Greece’s case the ECB) which cares more about getting its debts repaid than about making sure NGDP stays on-trend.
If the central bank sells FX and buys domestic currency, this will cause the value of you domestic currency to rise, meaning the price (in domestic dollars) of goods produced in your country will fall.
Obviously the central bank can only do this if it has FX reserves to sell. If not, then it has to raise interest rates, which should similarly cause the value of the domestic currency to rise (and nominal GDP to proportionately fall).