Scott Sumner points to David Glasner, who writes,

So, if the ability of the central bank to use its power over the nominal rate to control the real rate of interest is as limited as the conventional interpretation of the Fisher equation suggests, here’s my question: When critics of monetary stimulus accuse the Fed of rigging interest rates, using the Fed’s power to keep interest rates “artificially low,” taking bread out of the mouths of widows, orphans and millionaires, what exactly are they talking about?

I am not the person to whom this question is addressed. Anyway, read his whole post. Another excerpt:

Either the equilibrium real interest rate has been falling since 2009, or the equilibrium real interest rate fell before 2009, but nominal rates adjusted slowly to the reduced real rate.

In a number of posts, I have been saying that the closer you look at mainstream macroeconomics, the more incoherent it becomes. The issue of nominal and real interest rates is a case in point. Suppose you believe the following:

1. The Fed controls the short-term nominal interest rate, or at least a short-term nominal rate.
2. The long-term real interest rate is fixed by market conditions.
3. When the Fed lowers its interest rate, expected inflation goes up.

If you believe those three things, then when the Fed lowers the short-term rate,

(4) the long-term nominal rate has to go up.

Essentially everyone believes (1) and (3). But hardly anyone believes (4)*, so clearly (2) is what economists are least attached to. At least implicitly, macroeconomists believe that when the Fed lowers the short-term nominal interest rate, the long-term real rate goes down as well.

(*I tend to think of Scott Sumner as having coherent views, with which I disagree. Accordingly, I think of him as believing (4). What taking this view means, though, is that relative to other macroeconomists, one needs higher expected inflation to do most of the work in driving up aggregate demand. Expecting more inflation, people attempt to unload their money holdings onto goods. Since you don’t get a drop in real interest rates, it seems to me that the only reason for stock prices to go up is if you think that investors like it when people unload money and go into goods.)

My own idiosyncratic view is that I prefer to hold onto (2) and let go of (3). I would explain the drop in long-term real interest rates since 2009 by appealing to a drop in demand for investment relative to the supply of (savings minus government deficits). I assume this is worldwide, not just limited to the U.S. I would not credit the Fed with any of it. I am not sure that I would label it as an “equilibrium” phenomenon, because I think that bond buyers were not entirely rational. I know that for a while I had a really big exposure to TIPS, but as they went up in value (because real rates were declining), I thought to myself, “Hmm. Capital gains on a ‘risk-free’ asset. How nice. But if they can go up, can they not also go down?” So when the recent bond market sell-off hit, I had much less exposure (not that what I switched into worked out any better).

I view QE as the Fed swapping short-term debt (interest-bearing reserves) for long-term debt. The Fed gets to ride the yield curve in exchange for taking on huge market risk in its portfolio. This might reduce long-term real rates a bit, although I have always leaned toward skepticism on that score.

I lean to the view that inflation is a fiscal phenomenon. I have never heard of a country that cranked up the printing presses while running a balanced budget. I have never heard of a country running hyperinflation that was not fiscally profligate. There might be instances of countries running deficits of 100 percent of GDP or more who were able to return to balance without undertaking a formal default or going through a period of high inflation, but I cannot think of any.

Taking the view that inflation is a fiscal phenomenon does not help with short-term inflation predictions. For example, in the U.S. these days, we don’t know exactly when or how the fiscal imbalance will be resolved.

They will tear up my libertarian union card for saying this, but I do not believe that the Fed’s buying and selling of securities are a big distortionary factor in the financial markets. I think that the Fed could get us above the 0-2 percent inflation rate if it really wanted to, and maybe it should try, in case the AS-AD model turns out to be correct. But if you believe PSST, it could turn out that higher inflation would produce no increase in employment, and it might even make it worse.