Saturday, October 17, 2015

Government Intentions and the Zero Bound

Market monetarism is beginning to make gains, as Scott Sumner has noted in some recent Econlog posts. On one front, there is progress regarding consideration of negative interest on reserves. Even more important, is a growing realization that instead of being accommodative, monetary policy has been exactly the opposite relative to demand.

However I have to concur with Bonnie Carr's response to the referenced paper from Vasco Curdia of the San Francisco Fed. Even though the Fed paper is good news, as a CNBC report suggests, this is true insofar as the Fed may begin to provide more honest communication. According  to Bonnie Carr:
And there really isn't anything dovish here. It's basic macro and simply to the point of showing that the ZLB is the new normal...
For instance, an acknowledgement of the need to go to negative interest rates to stimulate monetary policy, is not the same dynamic as the supply side reforms which could have the potential to broaden marketplace possibilities. In the latter, greater capacity in aggregate supply would cause the natural Wicksellian rate to gradually rise. Consequently, negative interest rates on IOR would not be needed for any long period because real gains toward closing the output gap would have been realized, instead. However - that said - a negative interest rate is nonetheless expansionary, as Scott Sumner explains in this helpful and clarifying post.

The remaining problem (beyond not yet having gained a nominal target rule, of course)  is that zero bound territory extends into the future as far as the eye can see. This is also an issue of government intentions, for more than a passive response towards long term growth expectations is involved. Since potential supply side solutions are difficult to contemplate - given today's norms and status quo - policy makers have resorted to telling the public that this is as good as it gets.

Thinking about this, I was reminded of discussions at Scott Sumner's blog about four years earlier re the zero bound. Basically, he explained that the zero bound was not just an anomaly, it was a most unnecessary construct. In 2011, I don't think many of us realized that too many policy makers would abandon attempts to improve long term growth prospects. Who could have imagined then, that the zero bound would come to appear as "real" as it does now. As a result - even as market monetarism gains more advocates - the real economy will continue to generate problems for economic stability.

How might one think about present day government limits to growth in a broad framework? Government activity represents a substantial part of the marketplace, through redistribution and the financial gains of asset formation. Even so, assets result from income aggregates, which affects the wealth potential of assets relative to traditional production. Presently, knowledge based services, which could also be organized as direct wealth (hence marketplace growth), are still secondary in the sense of compensation from traditional manufacture and asset formation.

Even though developed nations were able to build services economies through increased consumption (more income parked in housing), consumers need access to production roles just the same. Too little attention has been paid to the production potential of aggregate supply, which in turn encouraged policy makers to short aggregate demand.

So long as government and special interests maintain control over services formation (in the U.S.) there are additional burdens on income aggregates. Given the fact too much services income is meritocracy based, income aggregates have become somewhat limited by default. Housing assets in particular are a reflection of this reality, as individuals are faced with limited choices for living and working environments. Where one observes tight monetary circumstance for housing aggregates, there is an insufficient marketplace for time value (as opposed to skills value) as well.

It is not necessary for governments to limit long term growth, even if they give the impression there is no other choice. Likewise, austerity is not necessary, but policy makers also need to be more upfront as to what they think austerity even represents. How do austerity concerns square with the misplaced notion that the world has seen "enough growth", for instance? Strange as this juxtaposition may seem, one often hears both arguments from the same vantage point. Perhaps the zero bound is little more than zero incentive to cooperative with anyone else, to get anything done. If so, those incentives need to be changed. The prosperity of future generations depends upon doing so.

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