The future of central banks

A WSJ Op-Ed. Here is a pdf for non subscribers:

Momentous changes are under way in what central banks are and what they do. We are used to thinking that central banks' main task is to guide the economy by setting interest rates. Central banks' main tools used to be "open-market" operations, i.e. purchasing short-term Treasury debt, and short-term lending to banks.

Since the 2008 financial crisis, however, the Federal Reserve has intervened in a wide variety of markets, including commercial paper, mortgages and long-term Treasury debt. At the height of the crisis, the Fed lent directly to teetering nonbank institutions, such as insurance giant AIG, and participated in several shotgun marriages, most notably between Bank of America and Merrill Lynch.

These "nontraditional" interventions are not going away anytime soon.

Gordon on Growth

Bob Gordon is making a big splash with a new paper, Is US Growth Over?

Gordon's paper is about the biggest and most important economic question of all: Long-run growth. It's easy to forget that per-capita income, the overall standard of living, only started to increase steadily in about 1750. The Roman empire lasted centuries, but the average person at the end of it did not live better than at the beginning.

Gordon's Figure 1, reproduced here shows how growth picked up in the mid 1700s, reached 2.5% per year -- which made us dramatically better off than our great-grandparents -- and now seems to be tailing off.

As Bob reminds us with colorful vignettes of 18th and 19th century living, nothing, but nothing, is more important to economic well being than long-run growth.

And modern growth economics is pretty clear on where the goose is that lays this golden egg: Innovation. New ideas, embodied in new products, processes and businesses. For example, see Bob Lucas' "Ideas and Growth" which starts

CBO and the fiscal cliff

The CBO has released a report warning that a new recession could follow the  "fiscal cliff"

Background: Here's the CBO report and a Washington Post story  A few snippets from the CBO:

Should the Fed risk inflation to spur growth?

The New York Times asked me and two others this question for its "Room for Debate" blog. My answer follows. Not news for readers of this blog, but maybe a fun concise summary

Should the Fed risk inflation to spur growth? The Fed is already trying as hard as it can to spur growth, and to create some inflation. The Fed has created about two trillion dollars of money, set interest rates to zero, and promised to keep them there for years. It has bought hundreds of billions of long-term government bonds and mortgages in order to drive those rates down to levels not seen in a half a century.

Inevitable slow recoveries?

The economy is stuck in slow growth, not the fast growth we should see after a steep recession. (See previous post here, as well as John Taylor on the subject)

But we've heard the defense over and over again: "recoveries are always slower after financial crises."  Most recently (this is what set me off today) in the Washington Times,

Many economists say the agonizing recovery from the Great Recession...is the predictable consequence of a housing market collapse and a grave financial crisis. ... any recovery was destined to be a slog.

“A housing collapse is very different from a stock market bubble and crash,” said Nobel Prize-winning economist Peter Diamond of the Massachusetts Institute of Technology. “It affects so many people. It only corrects very slowly.”

This argument has been batted back and forth, but a new angle occurred to me: If it was so obvious that this recovery would be slow, then the Administration's forecasts should have reflected it.  Were they saying at the time, "normally, the economy bounces back quickly after deep recessions, but it's destined to be slow this time, because recoveries from housing "bubbles" and financial crises are always slow?"

No, as it turns out. I went back to the historical Administration Budget proposals and found the "Economic Assumptions" in each year's "Analytical Perspectives." This gives the Administration's forecast at the time.

Here is actual real GDP (black line) together with the Administration's forceasts (blue lines). The red line is the current blue chip consensus (also as reported in the budget), which I'll get to in a minute.

As you can see, there is nothing like an inevitable, forecastable, natural, slow recovery from a financial crisis or "housing bubble" in the administration's forecasts.

Their forecasts at the time look just like my quick bounce-back-to-the trend line that you see in my previous posts, and John Taylor's, and lots of others'. And they are surprised each year that the fast recovery doesn't happen.

Bloomberg TV Interview

An interview on the Tom Keene's show this morning on Bloomberg TV


I always feel bad after these things, that I could have answered much better or clearer. Or found a better tie. Well, we do what we can. A direct link

The mismeasure of inequality

Kip Hagopian and Lee Ohanian have a wonderful new policy review titled "the mismeasurement of inequality."  Calmly, and with careful grounding in facts and review of research, it destroys most of the current liberal myths about the amount of inequality and its importance. The promise:

We will show that much of what has been reported about income inequality is misleading, factually incorrect, or of little or no consequence to our economic well-being. We will also show that middle-class incomes are not stagnating; in fact, middle-class incomes have risen significantly over the 29 years covered by the cbo study. Lastly, we will address assertions that the rich are not paying their “fair share” of taxes

"Address" should be "destroy", but they're being careful. Some nuggets:

Subsidies for economists?

My colleagues Gary Becker and Jim Heckman have an interesting OpEd in the Wall Street Journal, arguing for Federal funding for economists. I respectfully disagree.