{"id":440679,"date":"2010-03-17T11:50:35","date_gmt":"2010-03-17T15:50:35","guid":{"rendered":"tag:www.economist.com,21005438"},"modified":"2010-03-17T11:50:35","modified_gmt":"2010-03-17T15:50:35","slug":"of-liquidity-traps-and-surpluses","status":"publish","type":"post","link":"https:\/\/mereja.media\/index\/440679","title":{"rendered":"Of liquidity traps and surpluses"},"content":{"rendered":"

PAUL KRUGMAN continues to push back against my criticism of his get-tough approach to the Chinese dollar peg. New posts on the subject are here<\/a>, and here<\/a>. The first concerns the question of how much of the world is in a liquidity trap, which is important because<\/a>:<\/p>\n

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We\u2019re currently living in a world in which both central banks and governments are unable or unwilling to pursue sufficiently expansionary policies to eliminate mass unemployment; so it\u2019s a paradox of thrift world, in which anyone who tries to save more reduces demand, reduces employment, and \u2013 because investment responds to excess capacity \u2013 ends up actually reducing investment. By exporting savings to the rest of the world, via an artificial current account surplus, China is making all of us poorer.<\/p>\n<\/blockquote>\n

To take this apart a little:<\/p>\n

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In my analysis, you\u2019re in a liquidity trap when conventional open-market operations \u2014 purchases of short-term government debt by the central bank \u2014 have lost traction, because short-term rates are close to zero.<\/p>\n

Now, you may object that there are other things central banks can do, and that they actually do these things to some extent: they can purchase longer-term government securities or other assets, they can try to raise their inflation targets in a credible way. And I very much want the Fed to do more of these things.<\/p>\n

But the reality is that unconventional monetary policy is difficult, perceived as risky, and never pursued with the vigor of conventional monetary policy.<\/p>\n

Consider the Fed, which under Bernanke is more adventurous than it would have been under anyone else. Even so, it has gone nowhere near engaging in enough unconventional expansion to offset the limitations created by the zero lower bound.<\/p>\n

A while back Goldman estimated that if it weren\u2019t for the lower bound, the current Fed funds rate would be minus 5 percent, and that to achieve the same effect as a further 5 points of Fed funds cuts the Fed would have to expand its balance sheet to $10 trillion; I wouldn\u2019t stake my life on those estimates, but they seem in the right ballpark. Obviously, the Fed isn\u2019t doing that.<\/p>\n

Or put it a different way: suppose the real economic outlook were the same as it is \u2014 with all indications being that unemployment will stay very high for years to come \u2014 but that the current Fed funds rate were, say, 4 percent. Clearly the Fed would feel obliged to engage in a lot more expansion, cutting rates sharply and rapidly. But with short-term rates at zero, the Fed is instead merely on hold \u2014 it is not<\/em> expanding its quantitative easing, and is in fact in the process of pulling back.<\/p>\n<\/blockquote>\n

And, he says, by this standard much of the developed world is in a liquidity trap. It certainly seems like the zero bound has a constraining effect on monetary policy, if not in theory than at least in the minds of central bankers. Only, I’m not sure that’s what we’re actually observing. The fact is, both the Bank of England and the Federal Reserve engaged in unconventional monetary policy; the Fed is just now wrapping up its purchases of $1.25 trillion worth of MBS, and it also purchased hundreds of billions of dollars’ worth of Treasuries and agency debt.<\/p>\n

Now, the Fed might easily have done more, and as Mr Krugman notes, others, myself included, have argued that more action is justified. But the fact that central bankers haven’t done more isn’t necessarily an indication that they’re unable to do more, or lacking the courage to do more. They might just think that more isn’t necessary. Ben Bernanke has said pretty explicitly<\/a> that additional easing would have created an inflation threat. And while both Mr Krugman and I believe that additional expansion is necessary, fed funds markets appear to expect at least one rate increase by the end of the year. Given Mr Bernanke’s Depression scholarship and his comments through the recession, I believe you can’t ignore the possibility that the Fed eased precisely as much as it wanted to. I honestly don’t think that the Fed would be cutting rates now if it had room to cut rates. If the Fed has policy where it wants it, it’s not in a liquidity trap. And it may well react to additional sources of stimulus by offsetting them.<\/p>\n

Meanwhile, Mr Krugman has been using one particular number to illustrate the stakes of this debate:<\/p>\n

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[B]y running an artificial current account surplus that is 1 percent of the combined GDPs of liquidity-trap countries, China is in effect imposing an anti-stimulus of that magnitude \u2014 which plausibly means 1.5 percent of GDP. This is not a small issue.<\/p>\n<\/blockquote>\n

According to the IMF, China ran a record-high current account surplus in 2008, of $426 billion. Mr Krugman says that “almost all advanced countries” are in a liquidity trap, and adding up their GDPs gets us something like $40 trillion, so it seems that Mr Krugman is declaring that the entirety of china’s surplus is “artificial”. But there is no way that any conceivable RMB revaluation would eliminate China’s surplus entirely, and Mr Krugman provides no real evidence that it would. There are, very clearly, structural issues generating excess savings in China. Even something like a 30% appreciation in the RMB wouldn’t eliminate their effects.<\/p>\n

Meanwhile, the list of liquidity-trap afflicted countries harmed by China’s persistent trade surpluses includes a number of persistent surplus countries. In 2008, Germany ran a surplus of $235 billion. Japan ran a surplus of $157 billion. And both of those nations, along with other rich east Asian countries like Singapore and Taiwan, have been running current account surpluses for years. Surpluses aren’t just an issue for China, or of China’s currency. And if China revalued, then those countries would presumably run even larger<\/em> surpluses, which wouldn’t be helpful to America’s economy. Should we then throw up punitive tariffs on Germany and Japan until they resolve the issues that contribute to their persistent surpluses?<\/p>\n

I continue to think that Mr Krugman’s proposed policy is wrongheaded and based on an incorrect assessment of potential benefits. But I also think it’s important to once more point out that it probably wouldn’t work<\/em>; China doesn’t want to be seen as a weakling to be pushed around by America. Even if it didn’t retaliate, it might just depreciate its currency further to compensate for the effect of the import surcharges. And it might retaliate. It should be clear; this is neither the time nor the way to approach this issue.<\/p>\n","protected":false},"excerpt":{"rendered":"

PAUL KRUGMAN continues to push back against my criticism of his get-tough approach to the Chinese dollar peg. New posts on the subject are here, and here. The first concerns the question of how much of the world is in a liquidity trap, which is important because: We\u2019re currently living in a world in which […]<\/p>\n","protected":false},"author":4534,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[7],"tags":[],"class_list":["post-440679","post","type-post","status-publish","format-standard","hentry","category-news"],"_links":{"self":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts\/440679","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/users\/4534"}],"replies":[{"embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/comments?post=440679"}],"version-history":[{"count":0,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/posts\/440679\/revisions"}],"wp:attachment":[{"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/media?parent=440679"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/categories?post=440679"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/mereja.media\/index\/wp-json\/wp\/v2\/tags?post=440679"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}