Tuesday, January 6, 2015

Strange Bedfellows

Jeff Sachs has written a very interesting Project Syndicate piece on Keynesian economics. It's phrased as a critique of Paul Krugman, but his message applies much more broadly. Krugman was mostly articulating fairly standard views on stimulus, "austerity'' and so forth. (We need a better word than "Keynesian'' for what Jeff calls "crude aggregate-demand management.'' But I don't have one handy.)

This is a good example for people outside economics (and quite a few inside) who think all economists line up on an easy right-left divide. If you expected Sachs to support the standard Keynesian consensus because he's "liberal," or to use his words, in favor of "progressive economics," you would be wrong. He looks at the facts, the forecasts, and the Krugman's curious rewriting of history in a "victory lap," and comes to his own conclusions.

Needless to say, I'm happy to find someone else making many of the basic points in my
Autopsy for Keynesian Economics (ungated version). I'm even more happy that someone of a "progressive" political orientation comes to the same conclusions that I do from a more libertarian orientation.  I'll be curious to see if Sachs comes in for the same sort of venomous personal attacks -- with essentially no attempt to argue the content -- as my piece attracted from the politicized lefty economics blogosphere. Do they treat "friends" more nicely, or "traitors" more harshly? We'll see.

On infrastructure, Sachs writes
To be clear, I believe that we do need more government spending as a share of GDP – for education, infrastructure, low-carbon energy, research and development, and family benefits for low-income families. But we should pay for this through higher taxes on high incomes and high net worth, a carbon tax, and future tolls collected on new infrastructure. We need the liberal conscience, but without the chronic budget deficits.
Here too, we can almost agree. We can agree on the principle that infrastructure spending is important, and should be evaluated on the basis whether its benefits exceed its costs, not on the "stimulative" powers of its spending. Then we can go back to evaluating whether all of these particular investments have benefits greater than costs, and whether those particular taxes merit their distortions.


  1. Sachs says “large deficits have no reliable effect on reducing unemployment..” That’s rather disproved by the large deficits we’ve had over the last four years or so combined with a decent fall in unemployment.

    He also says “There is nothing progressive about…a rising debt-to-GDP ratio” Yes there is: rising debt or monetary base (much the same thing) equals a rise in the private sector’s liquid financial assets, and that encourages the private sector to spend, which helps escape recessions.

    Why do I need to explain elementary economics to university professors?

    1. Sachs noticed the rate of change. Declining deficits coincided with declining unemployment. And he is pointing out that the facts belie the second theoretical assertion. Sometimes what you regard as "elementary economics" is wrong. Actually "elementary" economics doesn't make any of these predictions. Supply and demand is "elementary." All sorts of frictions is "advanced."

    2. I'm not sure everyone agrees a rise in the monetary base is the same as rising debt.

    3. Ralph,

      "Sachs says large deficits have no reliable effect on reducing unemployment. That’s rather disproved by the large deficits we’ve had over the last four years or so combined with a decent fall in unemployment."

      Causality cannot be established between government deficits and employment / demand. Suppose government deficits rose at a 5% annual rate, but combined private deficits fell at a 10% annual rate - would "aggregate demand" be rising or falling under such a scenario?

      "He also says - There is nothing progressive about…a rising debt-to-GDP ratio”


      In terms of choosing how to fund government expenditures (debt finance, current tax finance, direct money creation, other), the progressive movement of the early 20th century does not offer much insight. However, from the article:

      "Centralized decision-making by trained experts and reduced power for local wards made government less corrupt but more distant and isolated from the people it served. Progressives who emphasized the need for efficiency typically argued that trained independent experts could make better decisions than the local politicians. Thus Walter Lippmann in his influential Drift and Mastery (1914), stressing the scientific spirit, called for a strong central government guided by experts rather than public opinion."

      Is Sachs taking the opinion that debt financing takes a government's investment decisions out of the hands of experts (don't borrow too much or risk the wrath of the vigilantees)?

      I am struggling to understand why Sachs believes that debt financing by the federal government violates some progressive coda.

      I have my own reasons for reducing the federal debt centering on the incentives of the holders of government securities. But I don't understand Sach's concerns.

    4. James Carlyle,

      Initially, money and debt are created in the same pen stroke (to Ralph's point). However, that debt (bond) can later be sold into a market. And so the money can be recovered by the lender while the debt remains.

  2. Why do we need more government spending as a share of GDP? So we can borrow $1 for every dollar spent?

    I suggest a low-pork diet instead. Let's look at the things he wants to spend more money on.

    education - What's the ROI on this? Close to zero? There are major systemic flaws that can't be fixed by throwing more money at it. I suspect that the budget already pays a hideous amount for administrators instead of education. Pennsylvania spends almost $15,000 per student. Why don't they have a 3:1 student:teacher ratio? Maybe we could assign each pupil a college student who would do home schooling for $15,000/year to pay for tuition. 1:1 ratio and solves the student loan dilemma!

    infrastructure - yes, we need this.

    low-carbon energy - Can you say Solyndra? Once again, terrible ROI for this energy program, both financially and intellectually unless you consider 'finding out what fails" an intellectual achievement. I think we've had enough government incompetence in this area.

    research and development - on what? There are 11 different government agencies doing research on autism without any coordination. We spent over half a million studying the effect of Swedish massage on rabbits.

    family benefits for low-income families - Is there a bottom to this pit?

    With the exception of infrastructure this is all feel-good stuff that doesn't hold up under scrutiny.

    1. Increasing education spending is always a political winner- just like making the rich pay their "fair share." The recent PA governor's race is a perfect example.

    2. JB:

      Not to defend Solyndra examples of government investment, but "finding out what fails" is a huge achievement contra your dismissive tone. Indeed, "confirmed failures" are the very basis of the most successful human enterprise there has ever been (and will ever be), viz. science.

      Science is the graveyard of bad ideas and failed theories.

      I and many others do sympathise with your view that government should stay out of speculative endeavours (e.g. R&D). But this evil form of govt. meddling is dramatically tempered by the inherent short-termism that permeates the commercial world (driven primarily by odious govt. inventions such as the "financial year", "limited liability", "corporate personhood", and "popular sovereignty" etc.).

      Without reshaping the entire legal and political landscape to fully permit the flourishing of "long-term enlightened self-interest" (the ultimate libertarian ideal), then like it or not, Government has a very clear role in funding research projects - they are a (clear and obvious) public good. Even if you may see no potential value in those projects (or are too prejudicial to even rationally evaluate them).

  3. The last quote you have of Sachs sounds great in theory, but so often fails in practice. Better infrastructure sounds great, but then we see spending on football stadiums, broader highways to clear congestion instead of better zoning laws, crony government projects, and so forth. Even on education - we spend a boatload of money and its pretty clear most of it is wasted. Even the so called re-training has shown to do very little. I wish "progressives" would acknowledge how limited our knowledge is at the moment rather than championing for more and more infrastructure.

  4. "Sachs says “large deficits have no reliable effect on reducing unemployment..” That’s rather disproved by the large deficits we’ve had over the last four years or so combined with a decent fall in unemployment."

    I guess its a matter of interpretation, but this is pretty much the exact opposite of how I look at recent history. Obviously correlation isn't causation, but the deficit exploded in 2008 and 2009 and the growth and employment numbers that followed were extremely disappointing. On the other hand, deficits have come down sharply in the last couple years and growth has been somewhat stronger than expected. I suppose some of this comes down to how you define "large" deficits.


  5. DeLong already said Sachs lost his mind.

  6. I haven't forgotten Bruno/Sachs, 1985, essentially thoughts about the relationship between the price of energy inputs and the size of real GDP. A serious contribution to Macro from the supply side. If anybody is interested in the consequences of the current decline in oil prices they can do a lot worse than peruse this book. Ah, but these are only memories... .

  7. Re your last paragraph, (1) time is slipping away while you argue principles instead of specifics -- out of work construction workers are having their skills get rusty and their certifications expire, and they will soon move on to other less rewarding, less productive work, and (2) here you should recognize the Keynesian case for dynamic scoring since that's the "stimulus" argument that the "stimulus" reduces the amount of unemployment and other spending and increases the amount of taxpaying.

  8. Mr. Cochrane:

    There are some arguments that you and those with a philosophical leaning such as yours make with almost as if those arguments are inviolate truths. Two that come to mind are: 1) Ricardian equivalence, and 2) the power of the market to solve all problems. Why must we believe either of them to be inviolate truths? The standard argument against "stimulus" is that people will think that taxes will rise in the future and hence they won't spend any of the stimulus. OK. But does the opposite work too i.e. if the government suddenly and unexpectedly raises taxes (or cuts spending), will people think that there will be future increases in spending (or tax cuts) and hence will folks simply borrow an amount equal to the tax increase? After all if you want to call it "equivalence", shouldn't it operate both ways? Can you show us evidence of this equivalence operating in the other direction?

    Moving on to the infallibility of markets, can you explain why we have business cycles in the first place if the market is always getting it right? Shouldn't the economy always evolve in accordance with productivity changes? If so, why do we see fluctuations?

    1. You're putting a lot of words in my mouth. I never said markets are infallible, or any truths are inviolate. My generally free-market attitude comes form lots of experience and evidence only. Markets do not always get it right. They just get it right more often than Governments do. Or so is the overwhelming lesson of experience. On Ricardian equivalence and stimulus, I can't teach an anonymous person modern macroeconomics (again) in a response to a blog comment.

    2. Re: infallibility/fallibility of markets v. government. One of my very favorite econ quotes:

      “…in the long run the aggregate of decisions of individual businessmen, exercising individual judgment in a free economy, even if often mistaken, is less likely to do harm than the centralized decisions of a government; and certainly the harm is likely to be counteracted faster.”
      --- John Cowperthwaite, Hong Kong financial secretary, 1961-1971

  9. Before we Grumpsters get too worked up over another attack on Paul Krugman we really should in fairness read his dispositive reply


    and also the skeptical commentary on Sachs' strange (as noted) column at Project Syndicate where a majority of readers polled believe Krugman"s analysis of the "Obama Recovery" is correct.


  10. One problem with Ricardian equivalence:
    Let's say I'm getting $1000 today from the government in form of some stimulus. I am 100% certain that when economy gets good enough, taxes will rise so that I'll pay, say, $1100 (to cover for interest) over 2017 - 2021. If I need this $1000 now, I will still spend it, expecting to think about returning it from 2017 on.
    Ricardian equivalence works in the sense it is used if people don't need stimulus. If they don't have the luxury to think several years in advance, they will spend the stimulus even if they firmly believe they will have to return that money. Also, many people don't think logically, so they will spend the money not thinking that they will have to pay increased taxes. Ricardian equivalence fully explains behavior only of upper class (by income).
    Secondary effect of stimulus is that when economy is recovered enough that government starts raising taxes, people who have spent stimulus will have to cut spending, to pay taxes. If timed correctly, this effect can dampen possible overheating, if recovery goes too fast.

  11. Situation: In this economy, now is a good time to invest in infrastructure. The ASCE says the US needs $3.6 trillion spent on infrastructure by 2020. They give US infrastructure a grade of a D+.
    Problem: As 538 notes, decision-makers are the state and local governments.
    Solution: Block grants to the states to be spent on infrastructure according to the ASCE's recommendations (or to the recommendations of the Army Corps of Engineers, if you prefer). Let's not try to raise our grade all the way up to an A, though. How about we spend until the grade is a B- or we've spent $1 trillion, whichever happens first?
    Distraction: Or we could argue about the meaning of words and the characteristics of models. Hey, the Fourier heat conduction model says that heat travels at an infinite speed! Any engineer who uses the Fourier heat conduction model for his/her designs must be like a doctor who uses the 4 humors model for his/her treatment. And don't get me started about Keynesians and their models, whooo!

  12. "Not one of his New York Times commentaries in the first half of 2013, when “austerian” deficit cutting was taking effect, forecast a major reduction in unemployment or that economic growth would recover to brisk rates."

    Major reduction? - http://data.bls.gov/timeseries/LNS12300060

    Brisk? - http://research.stlouisfed.org/fred2/graph/?g=VLa

    "The budget deficit has been brought down sharply, and unemployment has declined."

    The employment/population ratio ticked up in 2014, as did real government expenditure - http://research.stlouisfed.org/fred2/graph/?g=WsZ

    If this Sach's piece is supposed to debunk Krugman, I missed it. Seems like everyone (including Krugman) is overweighting impacts that support their position. Sadly he's better at adding good-sounding context to these numbers than any other economic commentators I've seen, thus is himself overweighted (overrated?) by the trying-to-be-informed electorate. I'm still trying to follow your bouncing ball, Professor Cochrane.


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