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About
Welcome to a new blog dedicated to unraveling the intricacies of monetary policy. Although blogging might not come naturally to me, recent events have compelled me to try my hand at it. When I mention “recent events,” I’m not referring to the financial crisis but rather the substantial decline in aggregate demand since last summer. This blog aims to argue that we have misdiagnosed the recession, attributing it to the banking crisis when, in fact, it’s a failure of monetary policy. The intended readership includes professional economists and individuals with a strong interest and background in macroeconomics.
Having dedicated two decades to researching the Great Depression, liquidity traps, and forward-looking monetary policy, particularly policies incorporating market forecasts, I observed in October that the Federal Reserve (and other central banks) had lost credibility. This loss allowed market expectations for growth and inflation to plummet below their implicit target. Essentially, the severe economic downturn seemed to be caused by tight money—though not tight in an absolute sense (more on that later), but relative to what was necessary to meet the Fed’s objectives.
To my frustration, I found few macroeconomists who shared this perspective, despite it being a logical implication of mainstream macroeconomic theory. A blog isn’t the ideal space for a lengthy dissertation, so here I’ll outline three views that form the basis of my unconventional take on the current recession:
Premise 1: The only coherent way to characterize monetary policy as either “easy” or “tight” is relative to the policy stance expected to achieve the central bank’s goals.
Premise 2: Monetary policy can be highly effective in reviving a weak economy even if short-term interest rates are already near zero.
In plain English, the first premise suggests that the Fed should adopt the policy stance most likely to achieve its goals. Remarkably, few economists disagree with my third assumption. If that weren’t the case, why would Bernanke be advocating for fiscal expansion? The logical implication of these three premises is that the Fed has the ability to boost nominal growth expectations. If they allow those expectations to fall far below target, as they did last fall, the subsequent recession (or depression) is their responsibility.
Why do so few others see things this way? That’s a question I’d like to explore. Simultaneously, I assume that a blog should be more engaging than a research paper. Therefore, I’ll lightly circle around these issues, mixing observations on current events, commentary on other economic blogs, and fun facts from monetary history. There will be plenty to discuss regarding misconceptions about Keynes, liquidity traps, the New Deal, and other related topics that have suddenly become highly topical.
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