Hoisted from Comments: Robert Waldmann on Principal Reduction, FHFA, and Ed DeMarco

Luke Lea Gets It Wrong, I Think: Assessing John Cochrane Can't I Let Sleeping Dogs Lie? Department

I see that over at Noahpinion, Luke Lea has commented. Let me delay this for a couple of day, to see if I calm down...

Three days later: nope...

Here is Luke Lea:

Noahpinion: Cochrane: Just don't call it "stimulus"!: If economics were truly a science there would be no more disagreement on these points than than there is among physicists on the law of gravitation. We have way too many economists with far to little valuable work for them to do. So they play around forever instead, never arriving at consensus.

Perhaps it is time to downsize the profession? Defund the universities? But that will never happen of course.

Maybe a new insurgent set of colleges and universities starting from scratch, ones that give students better educations at more reasonable prices? (Remember how Edinburgh overtook Oxford and Cambridge back in the day?) There are plenty of billionaires out there who could found them.

Economics will never reform itself from within. That would be against human nature.

I think that Luke gets this a bit wrong.

What I think he gets wrong is that there never was (much) disagreement over the models.

The models say and always said that a debt-financed expansion of government purchases has no effect on production, income, and employment if:

  1. bottlenecks in resource and labor markets are so severe that increases in nominal spending show up entirely as increases in prices and not at all as increases in production; or
  2. the central bank has a nominal GDP target and takes steps to hit it, and so offsets any impact of fiscal policy on nominal spending; or
  3. what the government buys is exactly the same as what the private sector would have bought; or
  4. the government's debt is sufficiently risky that more government debt does not reduce the average riskiness of the pool of outstanding savings vehicles; or
  5. perhaps there are a few other edge cases we could think of if we were sufficiently ingenious, but nobody has focused on them.

There is also a sixth argument in the models--not that fiscal policy is ineffective, but rather that nonstandard monetary policy is superior:

(6) even when interest rates are at their zero nominal lower bound, it is more effective to back your promises that the future money stock will in fact be higher by having the government issue debt and buy risky private bonds and have corporations spend the proceeds than to have the government issue debt and spend the proceeds itself.

I don't see any cogent reasons why any of those arguments should have much if any traction as applied to the U.S. economy right now.

But they are arguments.

We can argue about them.

And I am willing to learn. My position has been moving over the past five years under pressure from events and evidence. I am a lot more "Old Keynesian" now than I was five years ago--but I am sure that I will move my position in the future under pressure from events and evidence and will surely think differently five years from now than I do today.

As Cochrane says most recently:

[Fiscal] stimulus [is] still an economically interesting proposition, and there is a great deal of uncertainty about whether, when, and how well it might work. There is a huge academic literature being produced right now…. Here are the facts. Some economic models do predict a fiscal stimulus effect. Some don't…. The facts are far from decisive…. So, there is a lot of uncertainty and a lot we don't know about how the macroeconomy works…

I wouldn't say "a great deal of uncertainty", I would say "some uncertainty". And I would say that there is good reason to believe that the models that predict fiscal expansion would be ineffective do not apply to the U.S. right now.

But I am not omniscient.

I could have it wrong.

What I do not have wrong is that Cochrane's statements right now that fiscal policy is "an economically interesting proposition" are flatly and totally inconsistant with what Cochrane was claiming three years ago.

Three years ago he was claiming that the possibility that a debt-financed expansion of government purchases could boost employment and output when the economy was at the zero nominal lower interest rate bound was:

not part of what anybody has taught graduate students since the 1960s. They are fairy tales that have been proved false. It is very comforting in times of stress to go back to the fairy tales we heard as children but it doesn’t make them less false…

Perhaps Cochrane misled Michael McKee and Oliver Staley because he had simply not done his homework--had not thought the issues through at an Econ 1 level. Perhaps he was playing for Team Republican and knowingly telling them lies when they called him up and asked him about Jim Tobin.

I really don't care which.

What I do know is that his intervention made Christina Romer and Larry Summers and company's technocratic job more difficult at a crucial moment.

What I do know is that Cochrane owes them--and the country, and whatever journalists and Republican politicians he has talked to and misled over the years--a big, sincere, express, personal apology. And I think that he owes the economics profession a deep and sincere rethinking of how he operates.

The problem is not that economists disagree about the economics.

There is some disagreement about what models are the best first approximations to the world we live in--but actually there is not that much disagreement. The fact that I am happy to endorse (with footnotes, noting what I regard as his evasions) Cochrane's current statement that the effectiveness of expansionary fiscal policy is an "economically interesting proposition" should carry information about how much real disagreement there is about the economics. And if you note that when Cochrane makes his argument that the fiscal-theory-of-nominal-demand applies to the U.S. economy today, he is in fact maintaining a position that debt-financed expansions of government purchases right now have not weaker but considerably stronger effects on nominal demand than I think plausible. That's another piece of information.

The problem is that there are a lot of influential bullshit artists out there. Cochrane is at least willing to try to engage. Lucas, Fama, Prescott, Posner, etc., etc. are not even willing to do that.