Nick Rowe Unwittingly Case for Hicksian IS-LM: Thinking About Macroeconomists Blogging
Nick Rowe unwittingly makes the case for Hicksian IS-LM:
Worthwhile Canadian Initiative: Identity Economics: Here are two macroeconomic identities: (1) Y=C+I+G+NX (20 MV=PY
Both are true by definition.
If you start with Y=C+I+G+NX you can immediately see why fiscal policy works. An increase in G works directly to increase Y. "Look, there's G, right there in the equation!". It's only a little bit less obvious to see how tax policy works, and it's only a little bit less direct. "A cut in T increases C, and look, there's C right there in the equation!". It's hard to see how monetary policy works. I can't see M anywhere in that Y=C+I+G+NX equation. If M does work, it can only work indirectly, which means whether or not it does work is uncertain and unreliable. "So, what exactly is this monetary policy transmission mechanism supposed to be?" Of course, if you aren't stupid, you recognise the logical possibility that fiscal policy might not work. "Sure, I suppose an increase in G might cause an equal decrease in C+I+NX, but why exactly would we expect that to happen?" The burden of proof is on those who say that an increase in G would cause an equal decrease in C+I+NX, and that transmission mechanism is not at all obvious. And after all, when we talk about fiscal policy, aren't we assuming "other things equal"?
If you start with MV=PY you can immediately see why monetary policy works. An increase in M works directly to increase Y. "Look, there's M, right there in the equation!" It's hard to see how fiscal policy works. I can't see G or T anywhere in that MV=PY equation. If G does work, it can only work indirectly, which means whether or not it does work is uncertain and unreliable. "So, what exactly is this fiscal policy transmission mechanism supposed to be?" If fiscal policy does work, it must work either by increasing M or increasing V, which means it's really just backdoor monetary policy. Of course, if you aren't stupid, you recognise the logical possibility that monetary policy might not work. "Sure, I suppose an increase in M might cause an equal decrease in V, but why exactly would we expect that to happen?" The burden of proof is on those who say that an increase in M would cause an equal decrease in V, and that transmission mechanism is not at all obvious. And after all, when we talk about monetary policy, aren't we assuming "other things equal"?…
It is common to see amateur "internet economists" placing too great a reliance on identities. But maybe the only real difference is that they are not as good at hiding it as professional economists. (I did see one very very good professional economist recently resort to the purely gratuitous use of Y=C+I+G+NX in the middle of an otherwise respectable argument for why fiscal policy works. It was on Brad Delong's blog a few months back, but now I can't find it. It wasn't Brad himself.) It is easier to see the disease on others' faces. The parallel with "Identity Politics" is deliberate, but I'm not sure how far I can push that parallel.
The nice thing about Hicksian IS-LM is that it forces both Y=C+I+G+NX and Y=(M/P)V under your nose and forces you to pay attention to both of them.
Y=C+I+G+NX by itself pushes you toward a two-commodity model in which the commodities are (i) currently-produced goods and services and (ii) bonds. Y=(M/P)V by itself pushes you toward a two-commodity model in which the commodities are (i) currently-produced goods and services and (ii) cash. IS-LM makes you think in a three-commodity model with (i) currently-produced goods and services, (ii) cash, and (iii) bonds--and if you are smart enough to introduce a wedge between the LM interest rate i and the IS interest rate r, (iii) subdivides into (iiia) short-term safe nominal bonds and (iiib) long-term risky real bonds, for a four-commodity general equilibrium model.
The things that complicate the simple monetarist or Paleokeynesian story, the things which the basic quantity-equation or NIPA frameworks hide, are all brought out and placed on the table for examination...
