Paul Krugman — A Teachable Money Moment

Trying to slither his way out without having to admit he is wrong about monetary and banking operations.

Uh, what about when the cb adjusts rates by paying IOR or setting the overnight rate to zero? How does that r* to B* thing work then? Like now. With the amount of excess reserves the overnight rate would be expected to be zero in terms of the size of the base. But it's not, because the Fed chooses it not to be zero by paying IOR.

OK, say, the Fed did set the quantity of the base and let price — the interest rate — float. This is actually the way things used to be when there was a fixed amount of money in an economy. Then the economy is restricted to using velocity to expand the supply of money, and that is not only inefficient but ineffective at achieving growth. Moreover, increasing demands drive up the cost at the same time. It's a Rube Goldberg machine. We evolved the system we have, because we discovered from experience that quantity approaches did not work very well.

The American colonialists issued their own monies to supplement the deficit of British money available in the American Colonies. There was not enough of it to support growth, and velocity did not make up the difference. When this practice was forbidden by the Crown, the colonial economies went into tailspin. This is regarded as primary cause of the American Revolution.

Read it at The New York Times | The Conscience of a Liberal
A Teachable Money Moment

by Paul Krugman

I'll just comment specifically on one assertion and leave the rest to others.

In particular, the Fed can always choke off a private-sector credit boom by moving [A] up and to the left.

Krugman is probably thinking of Volcker here. Yes, the Fed can increase the interest rate to such a degree that it chokes the economy along with the credit boom. That's different from "choking off a private sector credit boom." This is why Greenspan and Bernanke did not want to intervene in the housing boom that even the FBI had been warning about as a vast Ponzi scheme. But the cb still has to provide quantity to clear.

Quantity setting is not a viable operational tool in modern monetary economics. It's not. Get over it already.