Over at Equitable Growth: A correspondent writes:
It makes no sense for Bernanke to: 1. Have pounded his chest about the success of QE; 2. Now be claiming that he never had any effect at all, that he was just seeking the natural rate; and 3. If this IS in fact the natural rate, then it makes NO SENSE to suggest Summers is wrong on secular stagnation.
Do you really want to know how Ben Bernanke thinks?
OK. But, remember: you asked for it! READ MOAR
I think the key is that Bernanke is--or should be--claiming not that his policies had no effect but that they had no distortionary effect. He is, really, I think, claiming that his policies in fact helped un-distort an economy that had already been grossly distorted by the financial crisis.
To follow Bernanke's thinking, start with the fact that people can do three things with their incomes. They can:
- buy things to consume,
- invest--that is, buy things that will boost their income in the future
- hoard--that is, hold on to some of the cash they were paid, or park more of their wealth in something else they value not because it gives them utility or boosts their future income, but rather simply serves as a safe-and-liquid-store-of-value, so they can boost their spending above their income at some point in the future.
Continue with John Stuart Mill's 1829 insight: when the quantity demanded of safe-and-liquid-store-of-value assets to hoard is greater than the quantity supplied, demand for consumption goods and services and for real produced capital assets will be less than the supply. Businesses will then lose money and people will get fired. When people get fired and you lose full employment, incomes and planned spending both drop economy wide.
Let the situation stew for long enough, and eventually somebody in the private sector will probably figure out some circuitous and way to put the unemployed to work making the safe-and-liquid-store-of-value assets people want to buy to hoard. But that may take a very long time. And it takes an especially long time when nobody sane trusts anybody in the private sector when they promise that this asset is in fact a safe-and-liquid-store-of-value asset, one that you can hoard and then sleep easy on.
It is much simpler for the central bank to just expand the supply of safe-and-liquid-store-of-value assets when demand for such goes up. It can then shrink the supply back down when demand goes down. It can and does do this via database entries, instantaneously, costlessly.
But how does the central bank know whether it is feeding the private economy the right amount of safe-and-liquid-store-of-value assets? How can it know whether the supply matches the quantity that would be demanded if the economy were at full employment?
Well, the way Bernanke looks at it, the central bank has to calculate what the relative price of consumption goods and services relative to real capital assets--that is, what the interest-rate--would be if the economy were at full employment, and the central bank were succeeding at doing its job. Then it looks to see whether the actual 10-year Treasury bond rate out there is equal to this natural rate of interest.
In Bernanke's mind, when the 10-year Treasury bond rate is at the value it would have when the quantities demanded and supplied of safe-and-liquid store-of-value assets were equal at full employment, then by logical necessity the interest-rate cannot be distorted. The equality of the market and the natural rate of interest is, by the metaphysical necessity of the case, the true and undistorted value. The Federal Reserve only distorts the capital markets when it either provides too little in the way of safe-and-liquid-store-of-value assets and allows the interest rates to rise above its natural value, or provides too much and pushes the interest-rate below its natural value.
You may say that this is all very metaphysical and mystical and weird. And were you to say so, you would be right.
Summers, Bernanke, Krugman
You may say: A 10-year nominal Treasury bond rate no higher than inflation is supposed to be the current value of the natural interest-rate? Good God! That is absurd! Something is wrong with our economy, and wrong at a much deeper level than a simple shortage relative to demand of the supply of safe-and-liquid-store-of-value assets that can be hoarded! It makes no sense that real capital assets must be at such a premium valuation in order to induce wealthholders not to hoard but rather to invest in the future!
And if you were to say that, you would be Larry Summers.
You may say: In the mid-2000s, it was all because wealthholders in China had this extraordinary and not-entirely-rational demand, and today it is because wealthholders in Germany have an analogous extraordinary and not-entirely-rational demand, for the safe-and-liquid-store-of-value assets by the US government.
And you may say: Those extraordinary foreign demands for dollar assets as safe-and-liquid-stores-of-value are, today, reflections of insane austerity and secular stagnation in Europe, and were, last decade, reflections of the global imbalances caused by China's rapid development and potential political instability.
And if you were to say that, you would be Paul Krugman.
And, of course, all three are right.
Larry is right in that it looks like there is something deeply wrong with our economies. Ben is right in that, from the U.S. perspective, most of our difficulties are severely aggregated by capital inflows. And Paul is right that those capital inflows are not themselves the primary dysfunction we face.