I started this blog last year because I was deeply frustrated about the level of discourse on UK macro policy. The debate I saw raging in the media followed a simple template:
The UK economy clearly has excessive/deficient* aggregate demand growth. This should be blindingly obvious – just look at the CPI/real GDP* figures! Monetary policy is too expansionary/impotent*; what we need looser/tighter* fiscal policy.
* = Delete as appropriate
When I see people utter the magical words “nominal GDP” I am encouraged that we are moving on a bit, but mostly we are still stuck in the gutter. And from that gutter comes the accusation from Ed Balls in today’s Guardian that George Osborne is not “economically literate”.
Having read the New Keynesian literature on macro policy at the zero lower bound, I think this is a disgusting attack from Mr. Balls. If you accuse your opponents of being illiterate you better be damn sure your position is watertight.
Michael Woodford, Paul Krugman, Ben Bernanke, Lars Svensson, and others, spent the last decade and a half writing the literature on macro policy at the ZLB. They did not produce papers with titles like “How To Fine Tune Aggregate Demand Using Capital Spending”. They produced papers on optimal monetary and fiscal policy. Most of them actually had an emphasis on monetary policy, not fiscal policy.
If Balls was saying we need a higher inflation target (Bernanke/Krugman), or a price level target (Woodford/Svensson), or a nominal GDP level target (new, improved Woodford), and saying we should use fiscal stimulus as a tool with which to help hit those targets – I think that would be consistent with the literature. But Balls is not saying that. Instead he is on the record saying all the following:
a) UK monetary policy is “pushing on a string”; and
b) The change in the MPC remit will not produce higher inflation because the Bank will keep hitting its symmetric 2% inflation target, and
c) Oh, yes of course we need a fiscal stimulus package!
I see no indication that any of the above are different from what Balls “really believes”. Yet (a) and (b) are clearly contradictory, and the literature hardly endorses the idea of doing (b) and (c) as optimal policy. Raise or replace the inflation target and do fiscal stimulus, sure.
Would any of the New Keynesians above embrace Osborne’s fiscal policy? Surely not, though Svensson was moderately “Ricardian” in doubting the efficacy of deficit spending as stimulus, in contrast with the absolute position of today’s “fiscalists”. Osborne is at least nudging the MPC towards a Woodfordian “forward guidance” regime, and embraces Woodfordian “credit easing”. (And what about Mervyn King, is he “economically literate” in Balls’ eyes? Or Martin Weale, Spencer Dale and the rest of the hawks?)
The level of debate to which Balls and others have descended, a purely “fiscalist” position is, I believe, highly damaging. We tried a fiscal stimulus in 2008/9 and at the end we were still at the zero lower bound, reliant on inflation-targeting central bankers. In fact, we weren’t at the ZLB when the fiscal stimulus was announced, so I could say it had the opposite of the desired effect.
It is certainly laughable to imagine that £10bn of extra borrowing will lift the UK off the ZLB. £10bn is a rounding error in a £1.5tn GDP. The idea of using capital spending as an appropriate way to “fine-tune” UK demand policy is similarly absurd. Krugman ridiculed that idea when it was applied to Japan, and having seen the “success” of Japan after two decades using fiscal policy to raise debt/GDP while the BoJ successfully targets 0% inflation, it seems even more ridiculous today. Yet the policies of pre-Abe Japan are roughly those which Balls endorses… plus 2%.
In my opinion, those who claim support in (New Kenyesian) macro theory should be openly and clearly advocating for the macro policies endorsed by Woodford et al. That means raise the inflation target, set a price level or NGDP target, etc. If you want to advocate for fiscal stimulus as well, sure, fine; make that argument. If you want to say QE is a useless tool, sure, fine; make that argument.
But ignoring the CPI data (and the labour market data) and claiming that UK monetary policy is “impotent” because of the real GDP data, while simultaneously arguing we need to keep the inflation target and pretend the MPC hawks don’t exist and commit to fiscal stimulus, I find that position completely inexcusable. “Economically illiterate”, if you like. Particularly when you also celebrate a fall in the CPI rate, and I will spare the blushes of those who joined that celebration and should know better.
p.s. I am going to have to take a break from the econoblogotwittersphere to concentrate on real life. I’ll return in August to see whether Carney has brought enlightenment to the Bank with the “forward guidance” review.
The Month 2 GDP figures are out for 2013 Q1. Demand growth was very strong in the quarter, although the quarterly growth rates have recently been erratic, so it is perhaps better to concentrate on the wider view. The Q1 figures were enough to push the annual NGDP growth rate up to (a still weak) 3.4% over the four quarters to Q1, from just 1.5% in the four quarters to 2012 Q4.
If anything it is surprising that output growth was not stronger in the quarter; the recovery in demand brought mostly inflation. I was saying the same thing last year and the deflators ended up getting revised down, though I’ve no particularly reason to expect that will happen again.
The usual tables and charts follow. % growth quarter-on-quarter, seasonally adjusted annual rates:
And here’s the wider view of GVA:
I had not realised the extent of UK household deleveraging until I looked at the household income data. Using the normal definition of leverage (the ratio between the stock of outstanding debt and the annual flow of income), household leverage has fallen from a 2008 peak of 175% to 144% by the end of 2012 – a level last seen in 2004.
Using that ratio obscures the underlying movement of the two series, so if we split them back out we get this:
Those who assert that households “need” to deleverage (which is really an argument about expected future income) must address the question of the desired level of leverage. Is 144% too high or too low; how should we decide where to draw the line? Should we let central
plannersbankers decide by plucking numbers out of the air?
And because debt is just (ah ha) money we owe to ourselves… let’s not forget household assets, which continue to dwarf liabilities; household net worth was up from £6tn in 2008 to £7tn in 2011 in the last Blue Book estimate, mind-boggling numbers.
When the OBR forecasts for household debt and debt/income were published in 2011 there were some rather hysterical responses from Labour MP Chuka Umunna and others. (Krugman’s claims there are surely too strong; income is just money that we pay to ourselves, so what has debt got do with it? There was no debt in the babysitting co-op!)
The OBR have in any case now revised down their estimates and predict household debt/income will rise only to 153% by 2018 (previously 175% by 2015). This revision was celebrated by nobody at all, as far as I can tell.
Monetary policy: maintain accommodative stance
The monetary policy response has been vigorous and appropriate
Monetary policy should remain accommodative
Over the last five years the average rate of UK nominal GDP growth has been 1.8%; to find a similar period of slow nominal growth we have to look back to the 1920s. Is that the kind of nominal growth which a “vigorous” or “accommodative” or “appropriate” (seriously? “appropriate”?) monetary policy produces? Hardly.
So close and yet so far. This is a comment on safe assets from this month’s MPC minutes:
This improvement in risky asset prices came at a time when the underlying risks to the global economy remained material. Much of the increase could be attributed to lower rates on safe assets, such as some government bonds, which raised the current value of future flows of income from risky assets. These low rates, in turn, reflected both a global mismatch between strong desired savings and weak investment plans, and the policies undertaken by various central banks to underpin nominal demand and meet their inflation targets. At some point, higher prices of risky financial assets would in all probability make investing in the real economy a more attractive proposition, leading to higher aggregate demand. A sustained rise in demand would, in due course, mean a rise in interest rates on safe assets and, potentially, some unwinding of the rise in risky asset prices.
If only some central banks could work a little harder to “boost” nominal demand rather than just “underpinning” it. The doves (King, Fisher, Miles) say ease, noting correctly that easing monetary policy now will mean interest rates rise sooner than otherwise:
Earnings growth had fallen and there was little sign of any de-anchoring of inflation expectations. Further asset purchases now would facilitate an earlier normalisation of the monetary stance when that became appropriate. Against that backdrop, it was appropriate to reduce labour market slack more quickly than was envisaged in the Committee’s central projections. The impact of such a policy on inflation was uncertain. The initial impact of faster demand growth might be to reduce cost pressures by improving productivity.
But the hawks say no, and the hawks win:
Inflation had been above the target for a considerable period and there was tentative evidence that measures of medium-term inflation expectations were becoming more sensitive to short-term news in inflation. Moreover, financial markets were not expecting further asset purchases at this meeting and might, at the margin, reassess the Committee’s tolerance of elevated inflation should additional stimulus be injected.
In other words, the most important thing for UK monetary policy is that everybody believes that the MPC are inflation hawks.
Last week’s ONS bulletin with the catchy title of “Measuring National Well-being, The Economy – International Comparisons” attracted some attention in the press, several papers picking up on the decline of UK real household income relative to other countries.
The ONS do have a hackneyed discussion of inflation in their bulletin, but I thought it was worth exploring. Using the usual ONS measure of “gross disposable income” for the household sector, there is a rather surprising statistic: nominal household income has grown at the same rate in the five years since 2008 as it did in the five years to 2008.
Gross disposable income is only one of many available measures of household income. The ONS bulletin mentioned above uses an OECD series for “Household Actual Disposable Income” but I think these two are roughly equivalent. (Maybe I am wrong; I could not find a current price series in the OECD database during a brief search, to compare. Comments welcome.)
This can be illustrated as follows:
If you look further back at the household income series, there is a break in the trend growth rate at 2001; household income grew at c.5% p.a. between 1993 and 2001 and has grown at only c.4% since then; Phil over at the World of Interest blog picked up my chart showing this.
This view of the data certainly doesn’t tell us a convenient AD story about 2008-2012, more a supply-side story. (The deflator which the ONS apply to produce “real” household income is almost identical to the CPI itself.) Looking at a narrower measure of income, wages and salary compensation, per my previous post on Scott Sumner’s “musical chairs” model of the business cycle, that does show an AD story; I’ll expand on this again in another post.
It’s a Tuesday and it’s CPI day, so it is “never reason from a price change” time…
The Labour Shadow Treasury Minister Cathy Jamieson MP like everybody who thinks inflation is just a nasty thing which lowers real wages, bizarrely welcomed the fall in the inflation rate:
“This fall in the inflation rate is welcome, but the squeeze continues as prices are still rising much faster than wages.
Don’t worry Ms. Jamieson, Iet’s “hope” the government’s macro policy of large fiscal deficits and tight monetary policy will slow AD growth and get that inflation rate down even further, just like Ed Balls wants. Here are are my favourite statistics, updated for April 2013:
Number of months during fiscal austerity at the ZLB in which the Bank of England has undershot its nominal target: zero
UK price level: all time high
Number of macroeconomists who think the Bank of England is impotent at the zero lower bound: absurdly high
Update: Lest anybody accuse me of being selective, an idiotic inflation hawk at HM Treasury said the same thing as Labour; “This is good news for families and businesses”.