Tuesday, January 18, 2022

Fed Nominees

I salute President Biden's nominations for the Federal Reserve Board, especially Sarah Bloom Raskin and Lisa Cook. (Philip Jefferson seems straightforward and uncontroversial, but other than reading a CV I haven't looked that hard.)

We can now have an honest conversation about where the Fed is going, and whether and how the Fed should use its tools, primarily regulation, to advance the Administration's agenda on climate, race, and inequality.

The Wall Street Journal nicely assembled crucial quotes on Ms. Raskin and climate. In 2020,

The Fed established broad-based lending programs to prevent businesses that were otherwise sound from failing due to the shutdowns.

Writing in the New York Times in May 2020,

Ms. Raskin wanted the Fed to exclude fossil-fuel companies from these facilities. “The Fed is ignoring clear warning signs about the economic repercussions of the impending climate crisis by taking action that will lead to increases in greenhouse gas emissions at a time when even in the short term, fossil fuels are a terrible investment,” she wrote. ...

“The Fed’s unique independence affords it a powerful role,” Ms. Raskin added. “The decisions the Fed makes on our behalf should build toward a stronger economy with more jobs in innovative industries—not prop up and enrich dying ones.”

Monday, January 3, 2022

Fiscal Inflation.

This is an essay, prepared for the CATO 39th annual monetary policy conference.  It will appear in a CATO book edited by Jim Dorn. This is a longer and more academic piece underlying "The ghost of Christmas inflation.Video of the conference presentation. This essay in pdf form.

FISCAL INFLATION

John H. Cochrane

From its inflection point in February 2021 to November 2021, the CPI rose 6 percent (278.88/263.161), an 8 percent annualized rate.  Why?

Starting in March 2020, in response to the disruptions of Covid-19, the U.S. government created about $3 trillion of new bank reserves, equivalent to cash, and sent checks to people and businesses. (Mechanically, the Treasury issued$3 trillion of new debt, which the Fed quickly bought in return for $3 trillion of new reserves. The Treasury sent out checks, transferring the reserves to people’s banks. See Table 1.) The Treasury then borrowed another$2 trillion or so, and sent more checks. Overall federal debt rose nearly 30 percent. Is it at all a surprise that a year later inflation breaks out?  It is hard to ask for a clearer demonstration of fiscal inflation, an immense fiscal helicopter drop, exhibit A for the fiscal theory of the price level (Cochrane 2022a, 2022b).

What Dropped from the Helicopter?

Thursday, December 16, 2021

Fiscal theory update

Whew. The penultimate draft of The Fiscal Theory of the Price Level is now done, and in the hands of the copy-editors at Princeton. There is still time to send me typos, thinkos, wrong equations, excessive repetition and more!

Do we live in China?

Google/Youtube's "misinformation" policy.

You may not "contradict... local health authorities' (LHA) or the World Health Organization."  But read the note, they might change their mind, so watch truth/misinformation change in real time.

Really? Scientific discussion never contradicts the edicts of "authorities?" Political discussion never does so?

HT Martin Bazant's six foot rule lecture

Sunday, December 12, 2021

I have been emphasizing the Fed's dilemma: If it raises interest rates, that raises the U.S. debt-service costs. 100% debt to GDP means that 5% interest rates translate to 5% of GDP extra deficit, $1 trillion for every year of high interest rates. If the government does not tighten by that amount, either immediately or credibly in the future, then the higher interest rates must ultimately raise, rather than lower, inflation. Jesper Rangvid points out that the problem is worse for the ECB. Recall there was a euro crisis in which Italy appeared that it might not be able to roll over its debt and default. Mario Draghi pledged to do "whatever it takes" including buying Italian debt to stop it and did so. But Italian debt is now 160% of GDP, and the ECB is still buying Italian bonds. What happens if the ECB raises interest rates to try to slow down inflation? Well, Italian debt service skyrockets. 5% interest rates mean 8% of GDP to debt service. Friday, December 10, 2021 FTPL article I wrote a short-ish article for the Journal of Economic Perspectives on Fiscal Theory of the Price Level. It tries to summarize the 700 page book in a readable article with no equations. Let me know how I'm doing -- comments most welcome. Wednesday, December 8, 2021 Debt Video This is a short video summarizing papers r<g? and (better) section 6.4 of Fiscal Theory of the Price Level. Do low interest costs on the debt mean the government never has to pay it back? If the government doesn't have to repay debts, why do any of us citizens have to repay debts? Let the government borrow, pay off our student, mortgage, and auto debt. Let it send us checks and we can all stop working, paying taxes, and just order things from Amazon. Hmm. Something is wrong here... The main point. We have 5% of GDP primary deficits, and bigger coming. A r<g of 1% is a fun possibility for government with 1% of GDP deficits and 100% debt to GDP. But it still leaves us 4% in the hole, and then the next crisis, pandemic, war, or social security and medicare come along. Kudos to the Hoover Policy-Ed team (This video on their website, with additional material) and especially Shana Farley and Tom Church, who managed to boil down a complex subject to an understandable video. The animations are impressive. Yes, the guy talking needs acting lessons (it's a lot better at 1.25 speed) and a haircut. Next time... Wednesday, December 1, 2021 Inflation speculation I'm working madly to finish The Fiscal Theory of the Price Level. This is a draft of Chapter 21, on how to think about today's emerging inflation and what lies ahead, through the lens of fiscal theory. (Also available as pdf). I post it here as it may be interesting, but also to solicit input on a very speculative chapter. Help me not to say silly things, in a book that hopefully will last longer than a blog post! Feel free to send comments by email too. Chapter 21. The Covid inflation As I finish this book's manuscript in Fall 2021, inflation has suddenly revived. You will know more about this event by the time you read this book, in particular whether inflation turned out to be transitory,'' as the Fed and Administration currently insist, or longer lasting. This section must be speculative, and I hope rigorous analysis will follow once the facts are known. Still, fiscal theory is supposed to be a framework for thinking about monetary policy, so I would be remiss not to try.  Figure 1. CPI through the Covid-19 recession. Figure 1 presents the CPI through the covid recession. Everything looks normal until February 2021. From that point to October 2021 the CPI rose 5.15% (263.161 to 276.724), a 7.8% annual rate. What happened, at least through the lens of the simple fiscal theory models in this book? Well, from March 2020 through early 2021, the U.S. government -- Treasury and Fed acting together -- created about$3 trillion new money and sent people checks. The Treasury borrowed an additional $2 trillion, and sent people more checks. M2, including checking and savings accounts, went up$5.5 trillion dollars. $5 trillion is a nearly 30% increase in the$17 trillion of debt outstanding at the beginning of the Covid recession. Table 21.1 and Figure 2 summarize. ($3 trillion is the amount of Treasury debt purchased by the Fed, and also the sum of larger reserves and currency. Federal debt held by the public includes debt held by the Federal Reserve.)  M2, debt, and monetary base (currency + reserves) through the Covid-19 recession. Some examples: In March 2020, December 2020, and again in March 2021, in response to the deep recession induced by the Covid-19 pandemic, the government sent stimulus'' checks, totaling$3,200 to each adult and $2,500 per child. The government added a refundable child tax credit, now up to$3,600per child, and started sending checks immediately. Unemployment compensation, rental assistance, food stamps and so forth sent checks to people. The paycheck protection program'' authorized $659 billion to small businesses. And more. The payments were partly designed as economic insurance, transfers from people doing well during covid to those who had lost jobs or businesses, and efforts to keep businesses from failing. But they were also in large part, intentionally, designed as fiscal-monetary stimulus to boost aggregate demand and keep the economy going. The massive infrastructure'' and reconciliation'' spending plans occupied the Congress through 2021, adding expectations of more deficits to come. From a fiscal-theory perspective, the episode looks like a classic fiscal helicopter drop. There is a large increase in government debt, transferred to people, who do not expect that debt to be repaid. It is afiscal shock,'' a decline in surpluses s_t, with no expectation of larger subsequent surpluses. Of course it led to inflation! Sunday, November 28, 2021 Inflation Explainer Bari Weiss asked me to write a short post for her substack offering some inflation explanations on the occasion of post-Thanksgiving shopping. It’s Black Friday, ‘70s-Style Black Friday begins tonight, and Americans, after emerging from our collective turkey coma, will dive into our sacred, national ritual: shopping. Those who haven’t shopped lately are in for a rude awakening: Many items will be out of stock, delayed or cost a lot more than they used to. Welcome to inflation, back from the 1970s! As you look for a deal on a Peloton to work off your pandemic paunch, here is a brief explanation about what’s going on with our economy, why so many things are becoming more expensive, why this hurts all of us, and why the government can’t spend its way out of this mess. Why are prices rising? The news is full of “supply chain” problems. Shipping containers can’t get through our ports. Car-makers can’t get chips to make cars. Railroads look like the 405 at rush hour. What’s underlying many of these problems is the fact that businesses can’t find enough workers. There aren’t enough truck drivers, airline pilots, construction workers and warehouse workers in the “supply chain.” Restaurants can’t find waiters and cooks. There are 10 million job openings and only seven million people looking for work. About three million people who were working in March 2020 are no longer working or looking for work. But supply chains wouldn’t be clogged if people weren’t trying to buy a lot. The fundamental issue is that demand is outstripping supply. Tuesday, November 23, 2021 Grumpy on inflation at CATO I had a great time at the CATO monetary policy conference last week. A brief view on why we're having inflation and the chance it will continue: Briefly, a helicopter dropped. The Fed fell flat. And here we go. Grumpy got steamed up on this one. If the embed doesn't work, try the direct link or the above conference link. Greg Ip moderated well, and stick around for insightful comments from Fernando Martin, Mark Sobel, and David Beckworth. Friday, November 19, 2021 A convenient myth: Climate risk and the financial system A Convenient Myth: Climate risk and the financial system. At National Review Online. In an October 21 press release, Janet Yellen — Treasury secretary and head of the Financial Stability Oversight Council (FSOC), the umbrella group that unites all U.S. financial regulators — eloquently summarized a vast program to implement climate policy via financial regulation: "FSOC is recognizing that climate change is an emerging and increasing threat to U.S. financial stability. This report puts climate change squarely at the forefront of the agenda of its member agencies and is a critical first step forward in addressing the threat of climate change." You do not have to disagree with one iota of climate science — and I will not do so in this essay — to find this program outrageous, an affront to effective financial regulation, to effective climate policy, and to our system of government. Thursday, November 18, 2021 Inflation meditation The discussion about inflation is pretty confused. There is a lot of confusion about aggregate demand vs. individual demand, aggregate supply vs. supply, and about relative prices vs. inflation. My theme: Inflation is entirely about "demand," not "supply." Fixing the ports, the chips, the pipelines, the labor disincentives, the regulations, are all great and good, and the key to economic growth. But they will not on their own do much to slow inflation. We are having inflation because the government printed up a few trillion dollars, and borrowed a few trillion more, and wrote people checks. People are spending the checks. At a superficial level this is obvious. If people weren't spending a lot of money, the ports would not be clogged. But it's deeper than that. Inflation is all prices and wages going up at the same time. Relative price changes are when one price goes up and other prices go down. Reality combines the two, but let's use terms correctly for each element. Supply shocks cause relative price changes, not inflation. Suppose the ports clog up, and you can't get TVs off the boat from China. Then the price of TVs has to rise relative to other prices. The price of TVs has to go up relative to restaurant food, for example, so people buy fewer TVs and go out to eat more. Or the price of TVs has to go up relative to wages, so people buy less overall. Now the world is a bit more complex. If prices and wages moved instantly, the price of restaurant food, or wages, would go down, the price of TVs would go up, and the overall price level would not change. In reality the other prices go down slowly. So the price of TVs goes up, and other prices and wages only slowly go down. We measure a little bit of inflation, followed by a slow period of lower measured inflation. This is one of the mechanisms people have in mind when they refer to supply shocks, and say inflation will be transitory. But that's clearly not what's happening now. Everything is going up, though some things more than others. Likewise what happens if people decide in a pandemic that they want to buy more TVs and go out to dinner less? That's a relative demand shock. It drives up the price of TVs, and down the price of restaurant food with no inflation. But restaurant prices go down more slowly than TV prices go up, so we measure a bit of inflation and then less inflation. But that's not what's happening now. Restaurant prices are going up too. "Aggregate supply" is the question, how much more does the economy produce when all prices and wages are moving up at the same rate -- true, pure, inflation? That's a tricky and slippery concept! Sure, if wages rise more than prices, workers might work harder and produce more. If prices rise more than wages, companies might produce more in pursuit of higher profits. Since I told the same story both ways, you can see even this is slippery. But these stories are still about relative prices and wages, not both prices and wages rising together. If prices rise 10% and wages rise 10%, why does anybody do anything different? Welcome to the mysteries of "aggregate supply." It only makes sense if you think prices or wages were sticky and one or the other was stuck at too low a level. Then a bit of inflation can unstick one of the two, getting the economy back to a more productive level. Aggregate supply is about sticky prices and wages, not about the actual productive capacity of the economy. Another way to see it: Why was the economy not already producing as much as it could, so that money raises output rather than immediately raising inflation? Well, something had to be wrong that inflation could fix, and in macro theory that's "sticky prices." Yes, this is slippery, but let's not get too far down the rabbit hole. The central point, as intuitive as it sounds, it is not true that unclogging the ports will soak up demand and stop pure inflation. It will lower the relative price of TVs, but that "more supply" doesn't do much about all prices and wages rising together. All prices and wages rising together means that one thing is falling in value -- money, and government debt. Inflation is a change in the relative price of money and government debt relative to everything else. Inflation comes thus, fundamentally, from the overall supply vs. demand for money and government debt. We seem, sadly, to be repeating all the confusion on these affairs that prevailed in the 1970s. Oil price "supply" shocks will surely be "transitory." President Biden is sending the FTC to hound the oil companies to lower prices. Can "guideposts" be far behind? For a thousand years, inflation has led to a witch hunt after "speculators" and "middlemen" and price rising conspiracies. Here we go. Tuesday, November 16, 2021 Academic Freedom at Stanford -- commentary This is a follow up to a post on the Stanford faculty petition on free speech. I place my comments here, in a separate post. I want to be super-clear that the signatories signed the letter of the last post, and endorse nothing else. What does it say? Free speech, free inquiry, academic freedom. Period. Not free speech so long as nobody feels hurt. Not free speech so long as you don't disagree with or are viewed as not fully supporting Stanford's policy on Diversity, Equity, and Inclusion. Not free speech except if you disagree with Stanford's or the County of Santa Clara's covid policies, or Stanford's "sustainability" principles. Not free speech, but limited to your domain of academic expertise, determined by some bureaucratic process. There are other faculty groups and committees working on all these "free-speech but" policies. This group endorsed free speech, period. Academic Freedom at Stanford Academic Freedom at Stanford [This petition was sent to the president of Stanford on April 13th, 2021] The signatories of this letter are concerned about the state of academic freedom in American universities. Freedom of expression and open inquiry are vital to the search for truth, which is the core mission of the academic enterprise. To preserve the integrity of our mission, and to signal the importance of free speech in universities everywhere, we urge the president and board of trustees of Stanford to join the more than 80 other universities to publicly endorse the University of Chicago statement on free expression, and to state that it is Stanford university policy. Sincerely, The undersigned ********* The Petition and signatories are here. 185 faculty signed the original; 7 have asked that their names be dropped from the public version. Monday, November 15, 2021 Fed courage. How Bad Are Weather Disasters for Banks? Kristian S. Blickle, Sarah N. Hamerling, and Donald P. Morgan Federal Reserve Bank of New York Staff Reports, no. 990 November 2021 Abstract Not very. We find that weather disasters over the last quarter century had insignificant or small effects on U.S. banks’ performance. This stability seems endogenous rather than a mere reflection of federal aid. Disasters increase loan demand, which offsets losses and actually boosts profits at larger banks. Local banks tend to avoid mortgage lending where floods are more common than official flood maps would predict, suggesting that local knowledge may also mitigate disaster impacts. Key words: hurricanes, wildfires, floods, climate change, weather disasters, FEMA, banks, financial stability, local knowledge Hoover Fellows It's time to get those applications in for the Hoover Fellows program This is a program for young scholars. It's a real job, not a postdoc -- 5 year contract, renewable for another 5 years. No teaching required. It's appropriate for new PhDs but especially for people several years out of PhD. The current Hoover Fellows are here, an impressive group. We hire in history, political science, and related fields as well as economics. The point is scholarship; you're expected to develop an academic career. It's not a policy job and there are no requirements, though people with interests and research that bear on public policy are obviously going to be a better fit and get more out of being here. There are few rules or strings attached. Take it from me, working at Hoover is a wonderful job! Please pass the word on to people you may know who would make a good fit. For those of you who would like to spend a year at Hoover, it's time to apply to the National Fellows program Tuesday, November 2, 2021 Woke week The institutions of civil society are now thoroughly politicized. "Wokeness" is their ideology and religion, and mastering an ever-changing arcane vocabulary is now the key to access to the elite, as well as making sure you're not the next one sent to the proverbial Gulag. I can't keep up with everything in this vein. Still, I've been silent long enough, so I think it's worth passing along interesting tidbits as they come. A few items on this theme came across the transom last week, that seem fun to share. The American Medical Association issued an official 54 page document instructing all doctors on proper language. (Twitter source with more commentary.) Mind you, as in other cases, this isn't just opinion -- I'm a radical free speech advocate, say and write what you want. It's the official opinion of a scientific professional society, formerly a-political. It starts: I found this document interesting, among other reasons, because I thought I already spoke woke. I thought the left hand column was already the Proper Terminology. They are, after all, already in the mandatory passive voice. How wrong I was! How many more mouthfuls of word salad it is going to take to get through a sentence. Or.. last point, to get an article accepted in a medical journal. Wednesday, October 27, 2021 Transitory Inflation: A Fisherian Fed? Should the Fed raise interest rates fast? Or should it leave them alone, figuring inflation will be "transitory?" Lots of models, including ones I play with, predict that a constant unchanging interest-rate peg leads to stable inflation. If there is a fiscal shock, it leads to a one-period price-level jump, but no further inflation, so long as the interest rate stays where it is. The models in the first few chapters of The Fiscal Theory of the Price Level have this feature, also "Michelson Morley, Fisher and Occam.'' Martin Uribe has also written about this issue, here for example. The simplest example is $i_t = E_t \pi_{t+1}$ $(E_{t+1}-E_t) \pi_{t+1} = -(E_{t+1}-E_t) \sum_{j=0}^{\infty} \rho^j \tilde{s}_{t+j}$ where $$\tilde{s}$$ denotes real primary surpluses scaled by the value of debt. If the interest rate $$i_t$$ does not move, expected inflation does not move. A fiscal shock (negative $$\tilde{s}$$ ) gives a one-period unexpected inflation, devaluing outstanding debt; essentially a Lucas-Stokey state-contingent default. Sticky prices smooth all this out over a year or two. You can replace the latter with standard new-Keynesian equilibrium-selection rules if you want. This isn't really about fiscal theory; the key is rational forward-looking expectations in the first equation, which also hold in the standard sticky-price extensions. This "Fisherian" property is a common though widely ignored prediction of most new-Keynesian models. It certainly seems plausible that we are seeing an inflationary fiscal shock, from trillions of money printed up and sent to consumers, while interest rates stay fixed. These models predict that such inflation will indeed be transitory if the Fed does not raise interest rates, and will rise if it does! However, like all lower-rates-to-lower-inflation arguments, there are lots of warnings here. In particular, the "transitory" inflation could last a long time once we put in sticky prices. The trick only works if the Fed is completely committed to not raising rates, to waiting as long as it takes for inflation to settle back down on its own. If people suspect the Fed will raise rates, inflation rises. There are lots of temporary forces that go in the other direction. And there may be more fiscal shocks -- I sort of see one brewing in Congress -- so we may not be done with the unexpected inflation term. FTPL section 5.3 has a long discussion of all the preconditions for lower interest rates to bring down inflation, which still obtain. But we haven't been talking about this issue much since the low-inflation zero-bound era ended, and the discussion that maybe determined, permanent, pre-announced interest rate rises could eventually bring up inflation. The opposite sign works as well. In these models, with a few more ingredients than I show above, the Fed can also lower inflation by raising rates. Raising rates gives a temporary inflation decline before going the other way. So, the Fed has to raise rates, push inflation down, then quickly get on the other side. That's the historical pattern, and what it will likely do. But it's only honest, and fun, to remember the prediction of the opposite possibility and to think about how it might work out. ****** Update. A second try, with more English. The government, Fed and Treasury, basically printed up about$5 trillion of new cash and treasury debt -- these are largely perfect substitutes so the composition doesn't really matter -- with no change at all in plans to repay debt. By simple FTPL, a 25% increase in debt with no increase in expected future surpluses generates a 25% rise in the price level, 25% cumulative inflation. It basically defaults on outstanding debt and transfers that value to the recipients of stimulus.

But then it ends. If there is no more issue of nominal debt, without additional surpluses, then there is no more inflation.

Additional issues of nominal debt can come from more unbacked fiscal expansion, or it can come from monetary policy. Monetary policy also puts extra government debt (same thing as interest-paying reserves) out there, with (of course) no change in fiscal policy.

So there is the FTPL case for "transitory."In the long run, no change in interest rate puts no extra government debt in the system, and higher nominal interest rates must mean eventually higher inflation and hence more unbacked government debt in the system.