Must-Read: [And no sooner do I write:]
There are three possible positions for us to take now:
- In a liquidity trap, monetary policy is not or will rarely be sufficient to have any substantial effect—active fiscal expansionary support on a large scale is essential for good macroeconomic policy.
- In a liquidity trap, monetary policy can have substantial effects, but only if the central bank and government are willing to talk the talk by aggressive and consistent promises of inflation—backed up, if necessary, by régime change.
- We are barking up the wrong tree: there is something we have missed, and the models that we think are good first-order approximations to reality are not, in fact, so.
I still favor a mixture of (2) and (1), with (2) still having the heavier weight in it. Larry Summers is, I think, all the way at (1) now...
But Paul Krugman goes full (1) as well:
Living with Monetary Impotence: "Check our low, low rates...:
... Fiscal policy has been effective but procyclical.... Monetary policy has been countercyclical but ineffective.... Lender of last resort matters.... Otherwise, not so much.... Open market vs. open mouth operations.... String theory is hard to explain.... Surprise implication: stagnation is contagious.