Krugman: No Exit

[Kurt_and_Hunter]

November 25, 2009, 8:51 am

No Exit

The latest Fed minutes, together with the forecast, are out. What do they tell us?

Well, the Fed expects unemployment to come down only very gradually — over 9 percent at the end of 2010, over 8 percent at the end of 2011, around 7 percent at the end of 2012. Inflation, meanwhile is expected to remain consistently below the Fed’s target.

Which raises the question, why is anyone talking about an “exit strategy”? On the Fed’s own forecasts, the economy will remain seriously depressed three years from now.

If we apply the Rudebusch version of the Taylor rule to the mean Fed forecasts, I get the following for what the Fed funds rate should be:

End 2009: -6.3%
End 2010: -5.4%
End 2011: -3.3%
End 2012: -0.6%

Yep: three years from now, we’re still in a liquidity trap, with no reason to raise rates above zero and a continuing need for quantitative easing and fiscal expansion.

As far as I can tell, what’s going on in monetary policy debate is a policy in search of a justification. Many central bankers just hate, absolutely hate, being in the position of being so accommodating; yet economic analysis offers no justification for tightening. So they’re inventing new policy doctrines on the fly to justify doing what they want to do.

It’s a familiar story: see Japan’s premature exit from the ZIRP in 2000, and also see 1937 — which was a monetary as well as fiscal bungle.

The truth is that policy should be piling on, not looking for the exit. But central bankers can’t wait to pull away the punchbowl, even though the party hasn’t started, and shows no signs of starting for years to come.

http://krugman.blogs.nytimes.com/2009/11/25/no-exit/

[Kurt_and_Hunter]

1. To the spastic unrecc'ing crew: Are you arguing that the Fed should raise rates?

:shrug:

[Jakes Progress]

3. They aren't unreccing the post

They are unreccing you. They don't read the posts. They don't have an argument about the issues you raise (probably don't understand them). They just unrec anything you post.

Just check the threads for those who defend and laud the unrec system. They are the SUC (Spastic Unrec'cing Crew).

[glitch]

9. I like the unrec feature and I rec his posts.

I especially love seeing the unreality crew get shown reality by double-triple digit recs on posts they unrec.

It happens more than you think. :evilgrin:

[grantcart]

2. what the hell is a negative Fed fund rate?

[avaistheone1]

4. Is that where you get back less than what you paid for Treasury notes?

Is that possible?

[Kurt_and_Hunter]

7. No, it's an estimate of optimal fed policy, not an actual rate

Krugman is not saying rates will be negative. He is saying that economic conditions will be such that that amount of rate cutting would be correct if it were possible to go below zero %.

The implication is that even at zero the Fed funds rate is way to high today. But since you can't go below zero that needed-but-impossible stimulus has to come from elsewhere.

see post below for more

[Kurt_and_Hunter]

6. The Rudebusch version of the Taylor rule is a formula that correlates well with actual Fed policy

But when the Fed hit zero the formula deviated from actual Fed policy because the formula is not zero-bound.

It is a projection of what the Fed would have done in response to economic conditions had they been able to.

Krugman's suggestion (this is a favorite formula of his) is that in response to the 2008 conditions the Fed funds rate would have kept dropping down to negative 5 or 6%.

"When the economy is fucked up by x the Fed cuts rates by y." But since we already had low rates going into this thing the usual responses were impossible. (Unlike the early 1980s where the sharp recession took hold in a high-inflation high-interest-rate environment and the Fed had tons of room to work with. The fact that our current situation did not begin as reigning in inflation is what made/makes the threat of deflation so real.)


This formula became quite interesting last year because there are rough equivalencies of Fed interest rate cuts versus money-printing liquidity and it takes a hell of a lot of "qualitative easing" (money printing) to equal a rate cut.

The conclusion was that rate cuts are surprisingly effective and that once we hit zero % the Fed would have to print staggering amounts of money to offer the equivalent stimulative bang of the needed but mathematically impossible rate cuts. The calculations seem to have been about right because the Fed did keep creating more money than most were expecting, and with surprisingly mild effect.

[HughMoran]

5. Yep, the "second stimulus" needs to start with not bailing out of the first stimulus

The only reason the Republicans want Obama to bail has nothing to do with the deficit (as it will reduce faster if the economy is good), no, they want Obama and the country to fail in order to improve their chances in 2010 & 2012. Anybody who doesn't see this is a fool.

[pokercat999]

8. If this is true, should we be expecting deflation for the next

three or more years?

[Kurt_and_Hunter]

10. Not nominal deflation, but stagnating sub-target inflation

The Fed is projecting inflation below 2% for at least the next year or two.

The reason interest rates ideally "should" be lower than they are (which would make them negative and thus cannot be done in practice) reflects needed stimulus, not inflation expectation.

Since we cannot stimulate by cutting rates (already at zero) that's why we need federal deficit spending to pick up the slack

[lib2DaBone]

11. Inflation below 2%? We've had 10% inflation this month alone...

Has anyone been to the grocery store lately?

The only thing that will save this country is to bring the troops home, get out of NAFTA and start an intensive "America First" rebuilding program.

I don't see the leadership that's necessary in Washington and the American people are not smart enough to demand it.

We are headed into some very dark times.