Thursday, November 21, 2013

AS and AD: Balance and Coordination are Possible

Granted, this may seem - to some - like a somewhat unusual argument to be making. How does one take a free market, i.e. our supply side realities, and expect them to take action with anything resembling the organizational capacity or focus of a central bank? After all, markets are supposed to be free to act on their own and uh...yeah, me too, much of the supply side doesn't look very free to do so, lately. That's just the point, for there is presently no shared purpose or vision to move ahead in spite of countless investments in knowledge and skills potential.

Many skills investments today remain in a holding pattern, in large part because of the outdated forms of institutional structures that skills use is expected to maintain. Mostly, everyone has been "free" to deny growth or opportunity to everyone else, in a struggle over tight money and long term indecision over growth paths. Not only has Washington been short on any substantial agreements for some time, but focus on combined AS and AD efforts (as needed by an entire population) for economic stability are no one's responsibility, right now.

After reading Scott Sumner's recent post, it would probably be helpful to explain what I mean by aggregate demand. Presently, the underlying structure of multiple product and asset formations are fragmented at a basic level, and that fragmentation stands in the way of economic progress. For instance, Washington faces gridlock by trying to factor in a percentage of the public to a healthcare system which was never designed for lower incomes or centralized mechanisms. Efforts to force this imbalance are not only making life more fragile for millions of individuals, but for businesses in general.

People with lower (or less certain) incomes will need to be able to create their own systems of economic access: systems which will not impose on the fought over systems of those in middle to higher income ranges. A major component of such systems would be to bring local economies (in terms of resource and knowledge use) back into better balance with global economic elements. Such systems would also need to keep AS and AD in balance through localized nominal targeting, so as not to suffer from the (endogenous) inflation spirals that local economies tend to otherwise create.

Balance and coordination are needed, which are also capable of matching the needs of various income levels and aspirations. After all, there is a sorting process in some regions and areas which makes it more difficult for all income levels to work within the same perimeters of economic access. Nor should everyone be expected to do so, as it forces too many square pegs into round holes and encourages political divisions which only work at cross purposes to resource use in general. While economists are not generally used to thinking in such terms, the traditional hands off approach has led to considerable astonishment, at the potential linear future trajectory which becomes more unsettling by the day.

Even though such coordination sounds "too complicated" to many, the fact remains that most governments are simply not ready to provide economic access to lower income or unemployed individuals through other means, and prisons need to be scaled back in the years ahead. There are just too many unresolved infrastructural issues that remain between the middle to upper income ranges, where in fact little progress is being made. In other words, individuals outside of governments could go ahead now and work on the tasks which are important to them, while Washington for instance is still attempting to take care of what it considers more pressing matters.

While representatives of aggregate demand (economists and individuals at the Fed) catch most of the heat these days, proponents of aggregate supply have mostly stayed out of the of the kitchen, even as they demand what meals are going to be served, and how said meals "must" be cut back (overall AD or NGDP). And increasingly the "meals" - while providing an adequate marketplace for those with higher incomes, leave too few points of economic entry for those at lower income levels. Hence, a marketplace all too often does not exist, except of course the default zone of prisons. How can anyone realistically hope for full employment, if there is not even a variety of marketplaces and infrastructure to represent all income levels?

Thus, the relationship between policy makers, Wall Street and Main Street has become ever more dysfunctional. Too many economic participants are not even able to come to the table, thus the economies of nations continue to fall further out of balance. It is past time for proponents of the supply side to acknowledge the very real role they have played - in combination with governments, of creating unnecessary limits of economic participation for all involved. This exclusionary strategy has created an unbalanced economy and a decrease in societal trust, yet too few have the desire to attack the underlying problems which keep it that way. However until people come to terms with this reality, more QE will be needed - in that more deflation would certainly occur, without it.

Regular readers here know that I have no qualms about being a "burr in the saddle" of some supply side representatives, who put most of the blame on the Fed in the present. Unfortunately there are also tight money advocates who are in the position of supposedly being proponents of aggregate demand, via roles in the Fed. Yet instead of finding ways to work with supply side interests throughout the nation to coordinate and balance AD efforts, they focus on shooting down potential solutions, instead.

Their demands for tighter money, and do-nothing attitudes towards structural problems and dropping workforce participation, are nothing but dangerous and irresponsible. What's more, the willingness of some within the Fed to encourage the public to view the institution itself with dismay, is inexcusable. Tight money advocates are presently adding on unnecessary blame, division, and confusion all around for their own short sighted goals. All of this is escalating into a problem which also means higher unemployment and more businesses losses in the future. How so?

Restrictions on the marketplace in terms of operating costs and regulations mean that neither businesses or individuals can meet the growing demands of the government. But instead of working together to undo the growing unbalance, both political parties continue to up the ante on the other, which only continues the economic conditions so intractable to begin with. The lack of a marketplace for lower income options in basic areas of life, is now leading to demands for higher minimum wages and "living wages". That in turn only puts more pressure on business which were already forced to factor in higher healthcare costs.

While it can be tempting for supply side interests to serve the needs of mostly higher incomes, that leaves society in general needing more liquidity for overall needs, than many in society are able to contribute to. However, when too much of the marketplace becomes defined for higher incomes over time, the liquidity which bears initially bears little risk, finally starts to appear as too much of a burden, and the lower bound begins to affect monetary policy in ways quite different from normal circumstance of multiple generations. Even though the process can be reversed by innovations at basic levels of product and asset formation, people are too entrenched in earlier patterns to be able to think of this as a solution.

Just the same, the way back to economic stability is to find ways to include people of all income levels in basic economic participation. While a straight, undifferentiated (national) level nominal target (NGDPLT) does not address lower incomes specifically, it is able to check the tendency of middle and upper range income levels re waging economic battles of constantly higher expectations. For when upper income levels do this for too long, they find themselves saddled with somehow finding provisions for the lower classes whose incomes are no longer adequate at the margin for basic economic needs. While government does shift incomes at lower levels in a number of ways, this argument is especially intended for the many who do not rely on any sort of government redistribution in a normal sense.

Part of creating balance is recognizing the embedded product formations and valuations which exist between environment structures, and the services which exist alongside them. Not only is balance needed between these local or traditionally non tradable elements of the economy, but also between global or tradable elements of the economy. Presently, the balance is broken in at least two important respects - between local and non local elements, and  between levels of local access utilization. While government redistribution presently obscures the differences between income levels and well being, the majority of government redistribution needs to be cleared out of the way, so that all income levels can once again become active contributors to both consumption and production in more understandable terms.

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