Wednesday, December 31, 2014

Simon Wren-Lewis — On the Stupidity of Demand Deficient Stagnation

In my last post I wrote about “why recessions caused by demand deficiency when inflation is below target are such a scandalous waste. It is a problem that can be easily solved, with lots of winners and no losers. The only reason that this is not obvious to more people is that we have created an institutional divorce between monetary and fiscal policy that obscures that truth.” I suspect I often write stuff that is meaningful to me as a write it but appears obtuse to readers. So this post spells out what I meant.
Mainly Macro
On the Stupidity of Demand Deficient Stagnation
Simon Wren-Lewis | Professor of Economics, Oxford University

My comment there:
Props for crediting MMT.

As you say, this is not innovation in macroeconomics or politics. At the time of the Great Depression, New Deal and WWII, it was advised by Fed chair Marriner Eccles and FRBNY director and then chair Beardsley Ruml, for instance.

As Paul Krugman has noted, what was known previously has been forgotten. MMT economists admit that most of their contribution has been weaving various existing thread together, for example, Wynne Godley's SFC macro modeling using sectoral balances, Abba Lerner's function finance, and Hyman Minsky's analysis of financial instability, as well as his proposal for an employer of last resort-job guarantee similar the the WPA and CCC of the New Deal, which was later the inspiration for the Peace Corps created by JFK.
BTW, as you may have heard, MMT economist Stephanie Kelton has just been hired as chief economist for the minority of the US Senate budget committee, and she is taken a two year leave of absence from the University of Missouri at Kansas City. Hopefully, she can get the ball rolling on some of this in the US Congress.


NeilW said...

He still can't comprehend what the man in the straitjacket could do if you took off the jacket.

In fact he fears it - just like people used to fear going over 30mph in a train.

Matt Franko said...

Right Neil we were discussing this over in the other thread.... (I didnt believe it...)

He says here: "A major reason why this institutional arrangement exists is to discourage non-benevolent governments creating inflation through fiscal profligacy,"

All the govt has to do is monitor the unit prices they end up agreeing to pay for things (ie see if they are getting consistently higher offers...) and also at what prices they let the banks lend against things (housing $/psf, mid-size sedan autos...)... govt just cant end up in a position where they are just paying ever higher prices, THIS is what causes what these people term "inflation"...

Also: "Governments run fiscal policy, so can do bond financed fiscal stimulus, but are not allowed to create money. So a self-imposed institutional setup prevents either central banks or governments doing money financed fiscal stimulus alone."

Scott has shown that 'helicopter drops are fiscal operations'... so I'm not sure if he is together here it looks like he is asserting there is a difference between "bond financed" fiscal vs. "helicopter drop" fiscal...

Key excerpt there: "Let’s realize further that helicopter drops ... are not actually operationally possible unless the Fed pays interest on reserves."

Dont know if they pay IOR in UK or Eurozone (I assume not...)

So for Monetary policy to work (ie if they have a policy IR target...) and if they dont pay IOR, then they actually cannot do fiscal that is "money financed"....

This is an operational impossibility...

So looks like he needs to read Scotts paper above...

His assertion: "Governments run fiscal policy, so can do bond financed fiscal stimulus, but are not allowed to create money."

Is off the mark... its not that they "are not allowed" its that it is an operational impossibility if there is a monetary policy IR target...

It doenst look like he has a complete operational understanding of monetary systems imo...


circuit said...

The way I see it is that if politicians are too stupid to know when it's the right time to spend (i.e., now) then it's likely they would also be too stupid to tell when it's time to curb spending.

Tom is right that the problem is the politico-institutional framework. Perhaps a shorter leash in the form of more direct, participatory democracy would do the job.

Unknown said...

All deficit spending is necessarily "money financed" as we all know. Its just basic accounting:

TSY securities sales do not alter NFAs
QE does not alter NFAs

And yet everyone agrees that NFAs increase with deficits. So where does the increase come from if not from TSY securities operations?

It comes when reserves flow from the TGA into FRB member accounts aka spending.

but I guess its too much to expect a mainstream economist to understand even basic accounting concepts.

Unknown said...


But the two situations are not similar.

Pols dont spend when they should because of an unwarranted fear of deficits, bond vigilantes, debt, these are not real problems

Pols would stop spending spending when necessary due to a warranted fear of something that is true, namely inflation.

So on one side of the coin we have fear of a myth, and on the other we have fear of reality. So there is no way to treat the two situations as comparable.

There is no evidence that Pols will deficit spend to the point of high inflation anywhere in the developed world. So Im not sure what this fear of yours is based on.

circuit said...


One thing is for sure: people don't like inflation (even though most folks tend to benefit from inflationary periods because real wages tend to grow and debt burden shrinks). For this reason, there seems to be a bias today among politicians against spending, as you suggest. So you may be right that there is nothing to fear and that politicians will curb spending in a timely and effective manner that avoids the resurgence of inflation.

Also, I agree inflation is no longer a threat given the secular demand shortage we're facing and will continue to face.

That said, the early attempts at countercyclical policy in the 1960s were not overly positive. While tax reductions in 1962 and 1964 worked well, the increase in taxes aimed at reducing purchasing power were not well timed, which was viewed as fueling inflationary pressures at the time. Does this mean there is no hope? No, of course not, but it does a challenge to those who claim it would be easy to implement under the current politico-democratic institutional framework.

Essentially, I think the challenge is technical and involves the time lag associated with fiscal policy implementation.

Hope this is clear. Gotta go to new year's lunch.

Happy New Year everybody!

Unknown said...


"So you may be right that there is nothing to fear and that politicians will curb spending in a timely and effective manner that avoids the resurgence of inflation. "

Or raise taxes. Im of the persuasion that its better to use taxes to regulate demand and thus inflation than spending cuts. Spending cuts effects are necessarily narrow relative to FICA tax changes. If you cut the federal workforce for example, how many people are realistically affected? A few million including workers families plus multiplier effects. Unemployment insurance, SS payments, Food stamp changes etc obviously affect a greater number of people, but FICA is over 100 million people.

Not to mention that the question of how many DOJ employees and what kind of systems are needed to effectively run our judicial system shouldnt really be determined on the basis of a few billion dollars in non-existent "savings". In fact, running a govt the way we do is probably the least optimal way to administer Govt services for society.

"That said, the early attempts at countercyclical policy in the 1960s were not overly positive. While tax reductions in 1962 and 1964 worked well, the increase in taxes aimed at reducing purchasing power were not well timed, which was viewed as fueling inflationary pressures at the time. Does this mean there is no hope? No, of course not, but it does a challenge to those who claim it would be easy to implement under the current politico-democratic institutional framework."

At the same time, doesnt everyone always mention this period of time as the "golden age of capitalism"? The post war period upto the neo-liberal revolution in the 70's? And if you look at the period, the average inflation rate was just over 3%. Seems pretty good to me.

One thing to keep in mind when comparing deficits necessary today vs the 60's is the worker bargaining power. Workers were strong at the time and received a much higher share of national income and their real median wages were keeping up with productivity. Neither of these two characteristics can be used to describe our modern economy. And as MMTers like to say, the deficit should be large enough to accommodate the non-Govt savings desires. Income inequality effectively increases the savings desires of the non-Govt (along with trade deficits) because wealthier people necessarily save more of their income.

In other words, the more equal society's income, the smaller the necessary deficit that result in full employment.

IOW- if unemployment is too high => the deficit is too small
If inflation is too high => the deficit may be too big (or OPEC might have driven up oil prices 300% like what happened in the 70's)

Tom Hickey said...

It could be that Kalecki was correct in Political Aspects of Unemployment., which should be required reading in high schools.

"The public," the vast majority is working people prefers a full employment policy. Conversely, employers hate full employment not only because it gives workers bargaining power but it loosens the "discipline" that keeps workers in line through the fear of job loss. For employers, work is a privilege for workers that job creators bestow, except in the case of the "right to work" that is double-speak for union busting.

So TPTB need to create rationales for not running full employment even through it is possible economically and they would actually do better in an absolute sense under full employment policy, since the pie would be bigger and so would their profits. But they would lose some control and their relative share would not be as big — the rich would be richer but would not feel as rich since workers would be richer, too. Yeah, I know, psychopathic.

Fear of increased taxes due to government spending "is one of the big clubs that the bourgeoisie uses to beat workers down by getting them and the politicians they elect. As in "small government" versus "big government tax and spend liberals."

Of course, the tax advantage of lower spending is minimal for workers and maximal for owners, but workers don't seem to be numerate enough to realize this, at least if they are fooled by the argument. Then there is also Barro's neo-Ricardian argument that stimulus doesn't work anyway, regardless of what historical empirics show. As in the New Deal delayed recovery from the Great Depression, which was really a monetary phenomenon attributable to the central bank, and the Obama stimulus package didn't do anything but run up the debt, forcing tax increases down the road.

Government spending being inflationary under all circumstances is the other club TPTB uses to beat down workers . Many of the elite and their cohort, minions and entourage actually seem to believe this themselves, because moronism.

Kalecki's paper was published in 1943!!! But he was saying pretty much what Marx and Engels had said long before, and therefore, this observation has been ignored. Keynes and his followers talk around this in terms of demand deficiency, but what is the actual reason for demand deficiency when the capital to labor ratio is over the moon? Not to difficult to figure out that capital share is excessive and conclude that this is due the repression of workers share that his a feature of economic liberalism and neoliberal political theory based on it.

Kristjan said...

It is more about power and less about material wealth Tom. This what the deficit hawk lingo is all about.

Unknown said...


No doubt about it. That Kalecki stuff is still one of the most insightful and well written descriptions of economic reality I've ever seen. Which ties in with the view that one of the main drivers of the middle class power and thus growth of the golden period was the specter of communism and the recency of the capitalist failure that was the great depression. No longer is there a realistic ideological counterbalance to market fundamentalism. It seems the left can no longer make a coherent and appealing economic policy because of its acceptance of the neo-liberal framework (Deregulation, privatization, market preeminence, free trade, and Govt budget as a household budget mythology).

Tom Hickey said...

Yes, this is the Marxist and Marxian contention, which is why it is ruled out as a matter for discussion in economics.

To talk about power in economics is to invite being sent to the boondocks and being marginalized by the profession.

Same with money, as Bernard Lietaer says Krugman warned him.

But this is what it boils down to— power and money.

Inquiring minds wonder why both money ad power are excluded from neoclassical economics, along with economic rent, especially when neoclassical economics was developed following upon Marx and Henry George.

See John Bates Clark, who was comparable to Milton Friedman in his day as a defender of capitalism although he had previously been more to the left of the position he settled on. The reason for his conversion is unknown.

NeilW said...


Politicians have to be permitted to screw up. And when they do they pay the price at the ballot box.

Putting in a system that engages a bunch of individuals who the people cannot boot out is to override democracy.

You may as well give them the title Baron and have done with it. Back to the days of kings and barons

It is 800 years this year since the barons forced King John to sign the Magna Carta and limit his own power over them.

In 2015 it is time that we the people turfed out the new Barons that have installed themselves in their financial ivory towers and put straitjackets on our politicians.

Yes politicians screw up. But when they do they lose their job at the next election.

Mervyn King screwed up, kept his job until he decided to retire and is now drawing a fat pension convince he did nothing wrong.

Politicians and bankers may very well be drawn from the same pool of self obsesses idiots. The advantage with politicians is that we have a way of getting rid of them and changing them for somebody else.

We don't have that luxury with bankers.

circuit said...


Who's talking about replacing the current system of elected representatives by a system of unelected Barons?

Certainly not me.

As mentioned in my comment earlier, the solution is making sure that elected officials become more accountable to the electorate.