I happen to agree with Krugman that one test is not decisive. The economy is very complex and we don’t have controlled macro-experiments so lots of things are going on at the same time.
Read the whole thing, especially if you do not know the austerity-test controversy to which Alex is referring. And if you want more, you can read Mark Thoma or Scott Sumner either at EconLog or at MoneyIllusion.
My comments.
1. Don’t throw all your eggs at Paul Krugman. Save some for Mark Zandi, of Macroeconomic Advisers Moody’s, who also forecast dire consequences from the sequester.
2. You don’t have to believe the fiscal austerity was a non-event. You can believe that the economy was about to expand rapidly, and trimming the budget deficit held it back. Although, as Alex points out, telling this story makes it a little harder to say that we were in a liquidity trap/secular stagnation. Anyway, believing that austerity held back a boom is just the mirror image of believing that the stimulus worked, and the only reason that unemployment ended up higher than what was predicted without the stimulus is that the economy was in a deeper hole than we thought. The “deeper hole” theory is now the conventional wisdom among Stan Fischer’s 72 Ph.D advisees and their descendants. That is the beauty of macro. Even something that is defined ahead of time as a “test” is not a controlled experiment.
3. Even if you believe that fiscal austerity was a non-event, you do not have to believe that it was “monetary offset” that made it so. I would suggest that the process of business creation and business destruction did its thing without regard to fiscal and monetary policy.
4. Try to explain why nominal interest rates went up. If austerity matters, then interest rates should come down. If monetary offset works the way it does in old-fashioned textbook models, then interest rates should come down even more.
5. In Scott Sumner’s floofy world where the Fed directly controls NGDP expectations, you would expect nominal interest rates to go up with monetary offset. But I am still trying to come up with even a thought experiment that would refute market monetarism. If 2013 had been a down year, it would just have shown that the Fed failed to maintain NGDP expectations. This is uncharitable, but I think of market monetarism as a theory that can only be confirmed, never rejected.*
Is there anyone I haven’t offended yet?
*To be less uncharitable, let Scott speak for himself.
In my view the now famous Krugman “test” of market monetarism is an indication of the pathetic state of modern macro. We are still in the Stone Age. Future generations will look back on us and shake their heads. What were they thinking? Why didn’t they simply create a NGDP futures market? They’ll look back on us the way modern chemists look back on alchemists. It’s almost like people don’t want to know the truth, they don’t want answers to these questions, as then the mystical power of macroeconomists with their structural models would be exposed as a sham. Remember when the Christian church produced bibles and sermons in a language that only the priesthood could understand? That’s macroeconomics circa 2013.
“Mark Zandi, of Macroeconomic Advisers, ” Do you mean or Macroeconomic Advisers. Both forecasted quite dire consequences of the sequester, but I thought Mark Zandi was with Moody’s.
Offend schumpeter. Go.
Market Monetarists view their focus on outcomes, rather than transmission mechanisms, as a strength. But it also makes it difficult to sort out monetary effects. What is the MM interpretation of what Australia is doing to achieve a stable NGDP path that America failed to accomplish?
According to Sumner, Australia was running higher inflation the whole time so they never hit zero interest rates and lost interest rates as their method of steering nominal growth. In other words, higher inflation in Australia meant higher nominal rates so the RBA could simply cut rates to boost nominal growth instead of having to try quantitative easing.
Given that inflation in the U.S. was running around 5% in mid-2008, I don’t think the rate cuts Sumner advocated in late 2007 and early 2008 would have been feasible.
WRT “deeper hole”, seems an odd theory. On one hand it is close to an admission that we cannot even know what is going on around us in the here and now, let alone predict the future. On the other hand, if we can be wrong about the situation today, what sense does using that incorrect knowledge to make important planning decisions make? It seems bankrupt epistimogically, ontologically, and teliologically.
Moreover, I might ask if one were wrong about the situation then, why do should knowledge of the current situation today be any better?
Which is the answer to those who said the stimulus wasn’t large enough after the fact, such as the Obama admin… if their models predicted X dollars would raise the GDP by Y, and they don’t… they can’t come back to the same models and say “well, it was because we were in a worse position in the past than our models predicted we were, but our models are still valid and our information and conclusions correct”.
My point is deeper, the models are not relevant if one cannot reliably measure the dependent or independent variables. Yesterday’s “X” is todays “Y”.
Y isn’t where we expected because X was worse than we thought is ludicrous if you measure X and Y the same way.
I suppose there may be a lag in when X or Y become somewhat reliable., in which case even a perfect model will be of limited use as a policy tool.
We had austerity? I call BS.