Saturday, January 3, 2015

What's Wrong With a Little (Marketplace) Faith?

For market monetarists, it was encouraging to get a response from Simon Wren-Lewis to Tony Yates, after Yates summarily dismissed NGDP in recent posts. Granted, Wren-Lewis mostly sees NGDP as a useful intermediate aid, which in turn raises its own set of questions.*

Nevertheless, a Wren-Lewis endorsement represents a bit of progress for all concerned. Indeed, particulars for a nominal target depend on both the central bank in question, and the nature of any given economy. How, then, to think about his assertion that "faith based" beliefs need to be replaced with models? Or the further implication that economic heavyweights need to "take it from here"?

While models are important, that's true mostly in the sense of the economists who need them as reference points. Those reference points of course need to be distinguished from events "on the ground". For example, central bankers need to focus on and respond to what is happening in the marketplace in real time.

Under normal circumstance, the input of the layperson might not seem necessary in either instance. But these are not normal circumstance and the present day economy is very much in a state of transition. In the years ahead, there will be times when governments need to "give the floor" to citizens who seek to redefine life in the 21st century.

As a result, economists won't be the only ones debating what represents useful models. Some of those "unnecessary " faith based components, include the marketplace expectations of any given year. When central bankers are willing to be faithful to aggregate spending capacity, people have more confidence that they are able to meet the obligations and contractual arrangements which are already in place.

In recent years, different factions have vied for economic supremacy, often with governments and financial interests at the top of the heap. Just the same, every financial instrument and government program ever devised, can be thought of as a result of wealth created by people in their interactions with the world. When central bankers refuse to follow the nominal intersections of time and resource use, they eventually lose the trust of populations which depend on accurate monetary representation.

Part of the faith based aspect of a nominal target is its simplicity, for it has the potential to make extra targets completely unnecessary. Granted, NGDPLT in and of itself is not what leads to greater growth, and work participation levels need to rise before a more substantial growth level becomes possible. Just the same, too much growth is being lost in the present, as central bankers continue to adhere to a level of inflation targeting which is increasingly asymmetrical.

The expectations associated with any given growth level, need to be matched with supply side and production reform which could lead to increased output. While developed nations made great strides in growth in the 20th century, completely different definitions of growth are needed now. What's more, preexisting commitments make it difficult for governments to assume the active roles they previously held. Still, the marketplace can do this in government's stead, if it is given a chance - particularly for much needed services formation.

For anyone who still harbors doubt, Have a little faith in the marketplace. Allow monetary policy to express that faith, so that long term growth potential will not continue to decline.

*Commenter James in London asks Simon Wren-Lewis how he would address:
1) The "single monetary and fiscal authority question", a key part of the monetary offset critique of fiscal policy.
2) The effectiveness of G question. Put another way, isn't there an upper level of G/GDP that becomes sub-optimal?
3) Do you agree with Market Monetarists that obsessive IT was the prime cause of the Global Financial Crisis?

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