Long run money

Continuing in the Il Sole series on Italy and the Euro, Alberto Bagnai writes that the euro is a "big defeat for the economics profession'' here in English, here in Italian.  He takes particular issue with my earlier case for a common currency, here in English, in Italian, and blog post.

"John Cochrane’s idea that money is irrelevant for growth (economists say that money is “neutral”) not only clashes with major scientific results, such as Dani Rodrik’s analysis of the role of excessively strong exchange rates in slowing the growth of a country, but also with what the European institutions are finally admitting through clenched teeth: the reforms are causing deflation and failing to promote employment in any decisive way (footnote 23 in the above-mentioned ECB Economic bulletin).

The best economists had also addressed this point: the negative consequences of structural reforms on the productivity of labour were illustrated by Robert Gordon in 2008. For Cochrane, money is like oil in a motor. The metaphor is (unwittingly) correct. Bad management of oil has long-period consequences like bad management of currency: in the first case the head fuses and the motor stops; in the second a continent, and the world economy stops.

If De Grauwe is incoherent with data and Cochrane with theories,..."

I have long been accused of being theoretically pure but incoherent about the "real world." (As if the real world could ever conform to no theory, rather than a better theory). This is the first time I, or the proposition of long-run monetary neutrality, have been accused of theoretical incoherence.


First let's be clear what we're talking about. My article was clearly about long-run growth. And I wittingly made the oil comparison -- and also said that bad monetary policy, like not enough oil, can drag an economy down.

"For today, let's focus on the long-run question, leaving out for now the transition and any immediate benefits and costs...  

Remember first that monetary policy cannot substantially improve long-run growth. Long-run growth comes from people and productivity, how much each person can produce per hour of work.... Improvements in long-run growth come only from structural reform, not monetary machination. 

Money is like oil in a car. Bad monetary policy, like too little oil, can drag an economy down. But after a point more oil will not help you to go faster — you need a bigger engine."

We shouldn't be arguing about things I didn't say!

But to the substantive point.  How about "the idea that money is irrelevant for growth (economists say that money is “neutral”) not only clashes with major scientific results, such as Dani Rodrik’s analysis of the role of excessively strong exchange rates in slowing the growth of a country"

The clearly stated proposition is that money is irrelevant for long-run growth. Italy's postwar miracolo economico was not the result of a finely calibrated monetary policy under the Lira. The fact that Italians today are so much better off than their ancestors in 1917, 1817, or, heck, 1217, is just not centrally about better monetary policy under the Lira than under gold coins.

Rodrik? Sure. Out of whack anything can cause trouble for a while. A stack of dishes in the kitchen causes a spat. That's not a reason to divorce.

Structural reforms not working? What structural reforms? In my view, they haven't started. Call me when you can hire and fire people, government spending is under 50% of GDP, marginal tax rates are less than half, rent control is gone, it takes less than a decade to get a building permit, or when the World Bank ease of doing business ranking doesn't look like this

Update: Alberto Mingardi graciously came to my defense in the arguments following this post. Yes, I got rent control wrong (it was a big problem the last time I lived in Italy, but this tells you how long ago that was.) Alberto points out that it's still hard to evict people, as it is in the US. And he goes over a number of detailed sands in the Italian gears.