Facing or creating?
During the 2010s, Jim Bullard was probably my favorite Federal Reserve bank president. David Beckworth has an interview with Bullard, in which he makes a number of insightful observations. As usual, I’ll focus on an area where I seem to spot a difference of opinion:
Bullard: So, the mentality at the time [2020] was, still, that this shock was going to be like the global financial crisis shock, in the sense that it would take many, many years for the economy to fully get back to trend, and a lot of the rhetoric at the time was that this is not going to be V-shaped. This is going to be an L-shaped recovery, and all of those kind of things. So, there’s a lot of fighting the last war, and I would actually give credit to former Chair Ben Bernanke, who, I think, had a better analogy for the pandemic. He said that it’s like a big snowstorm, and you have to wait for the snow to melt, but it’s really just waiting for the snow to melt.
So, it’s not a fundamental disruption, the way that the financial crisis was, and you shouldn’t necessarily expect this very long recovery. Well, if you look at the data now— it’s about GDP anyway— It’s about as V-shaped as anything that you’ll ever see, and so I think that just this misreading of it and this kind of rhetoric around the idea that we were going to be in a very, very long recovery period, and so, therefore, if that’s what you thought, then you should say, for monetary policy, look, we’re not going to deviate from our balance sheet policy or our interest rate policy for a couple of years at least, because we think that the recovery is going to be so slow.
I would expect a slow recovery if a recession were caused by “real” or supply-side factors, and a fast recovery if the recession were a demand side problem. After all, demand shortfalls can be easily addressed with monetary stimulus. So was the 2008-09 more of a real shock whereas 2020 was a demand shock? I’d say the exact opposite. In 2008, the problem was a lack of aggregate demand (falling NGDP), whereas in 2020 the problem was real—much of the economy shutdown by Covid. That’s a harder problem to resolve.
Now of course the advent of vaccines in early 2021 made the real shock less persistent than expected in 2020. Even so, I cannot see why we’d expect a faster recovery from Covid than from the 2008 recession.
I worry that the Fed is too fatalistic. The Fed sees itself facing problems like an L-shaped recovery, whereas I see the Fed creating problems like an L-shaped recovery.
Bullard is a smart guy, and presumably would have a good response to this line of argument. He might argue that while inadequate NGDP was the problem after 2008, there was nothing the Fed could do about it. Or perhaps that there was something the Fed could have done about it, but it would have required such a rapid and radical regime change as to be politically impossible. If that is the argument, then I’d agree.
But my goal is not to discuss what’s politically feasible at a point in time; it’s to make people rethink the way the macroeconomy works so that ideas that once seemed politically infeasible (say NGDP level targeting), can move within the Overton window.
Later in the podcast, Bullard makes a strong argument for NGDP level targeting, which centers on the observation that almost all of our contracts are specified in nominal terms.
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26. July 2024 at 05:54
“I would expect a slow recovery if a recession were caused by “real” or supply-side factors…in 2020 the problem was real.”
But the 2020 recession was short.
Do you think money creation in 2020 create demand-side stimulus so powerful that it pulled the economy out of the supply shock by inducing economic activity in non-shocked sectors? This is a serious question, not sarcasm or trolling.
26. July 2024 at 07:55
Todd, The real problem (Covid) faded faster than expected due to vaccines, which helped. Yes, the stimulus made the recovery faster, but it was still hard to recover from Covid than from the GFC.
As an analogy, an olympic sprinter can run faster uphill than I can run downhill. But it’s still hard to run uphill.
26. July 2024 at 13:04
There was a substantial and persistent contraction in N-gDp during Bernanke’s reign that led to the GFC.
And the 1st qtr. of R-gDp during 2020 was already negative before Covid. Powell overcorrected and jacked up N-gDp for many years too long.
Chairman focused on interest rates instead of N-gDp.
26. July 2024 at 21:37
RE: nominal debt contracts.
Have you changed your thoughts on the relative importance of sticky wages to sticky debts in propagating an NGDP downturn? If I recall correctly you put much more weight on sticky wages though I have been known to be wrong from time to time.
I still think the sticky debt story is underrated. In a recession the X percent end up unemployed seems relatively small to the Z percent of people who have debts with a fixed payment schedule (not to understate that the plight of those the X percent may be far greater). The Z percent, if given little prospect for nominal income to revert to its pre-recession path will experience an increase in their real debt burdens that affects their ability to repay and/or their ability to spend on current final goods and services for a longer duration—arguably taking longer to sort out than for the wage-to-NGDP ratio to return to a more solid level.
One might think that the loss of borrowers is offset by gains to lenders. However the prospects for repayment become riskier and the lost gains from trade in credit from a sluggish recovery probably leave lenders on net in a worse position than with a quick reversion back to pre-recession NGDP growth.
26. July 2024 at 22:07
Alex, No, I still think the problem is mostly sticky wages. If nominal wages moved with NGDP then I’d expect employment to remain fairly stable.
But yes, I can see how nominal debt could create a sort of real shock even beyond the fall in NGDP, making the recession somewhat worse.
27. July 2024 at 00:45
Btw, I wonder if we could get partially towards ngdp targeting by indexing our (otherwise) nominal contracts to ngdp?
A bit like inflation indexing for some contracts or pensions, but with ngdp instead?
27. July 2024 at 17:24
A great example of the ways that the oversupply myth makes GR macro GIGO. After the Fed righted ship in early 2008, the extreme tightening of mortgage credit created a $5 trillion regressive wealth shock, turned temporary unemployment permanent, and ultimately left us missing about $4 trillion less than a sustainable path of residential investment.
But that extreme phase 2 demand shock is misinterpreted as a real shock because of the myth of oversupply. So belief in something that never happened leads macroeconomists to ignore the sledge hammer smacking the economy across the face.
27. July 2024 at 18:54
Matthias, It would help on the financial stability side, but labor contracts are unlikely to be indexed to NGDP–so unemployment would still be an issue.
Kevin, Yes, an AD shock was misdiagnosed as a real shock.