tag:blogger.com,1999:blog-582368152716771238.post1284831950042032575..comments2022-09-30T03:39:43.399-05:00Comments on The Grumpy Economist: Inflation explainerJohn H. Cochranehttp://www.blogger.com/profile/04842601651429471525noreply@blogger.comBlogger31125tag:blogger.com,1999:blog-582368152716771238.post-8614864890062978812022-08-06T22:10:38.305-05:002022-08-06T22:10:38.305-05:00John, thank you for explaining to the ecoomicly i...John, thank you for explaining to the ecoomicly illiterate public the difference between price levels and the rate of change in prices caused by fiscal and monetary policy. That’s lesson one for our economically illiterate public.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-34634539736372731022022-08-06T19:50:55.402-05:002022-08-06T19:50:55.402-05:00Apart from a scale factor effect, the ratio RRPONT...Apart from a scale factor effect, the ratio RRPONTSYD:M2SL and the ratio RRPONTSYD:WDDNS are essentially identical series.<br />cf.: https://fred.stlouisfed.org/graph/?g=SxK6<br />The scaling factor is approximately 1-in-4, M2SL being roughly 4 times larger than WDDNS.<br /><br />I did look carefully at https://fred.stlouisfed.org/series/RRPONTSYD/ , earlier, and compared it to M2. The ratio RRPONTSYD:M2SL ranged from 0.00633:100 (Feb. 2021) to 9.979:100 (June 2022) versus an earlier period (8/13 to 3/18) when it ranged from a low of 0.0293:100 (Aug. 2013) to a high of 1.8377:100 (Dec. 2016). There is a clear difference in the scale of activity from 2/21-6/22 versus the earlier period of significant activity, 8/13-12/16.<br /><br />My impression (uninformed, except for what I can take away from the FRED graph) is that FOMC has been attempting to keep the Federal Funds rate under control since 2021 through the NY FRB's open market activity.<br /><br />Using WDDNS in the denominator, in lieu of M2SL, doesn't alter that impression.<br /><br />Independently, in 2021, I worked out the estimate of future inflation using the quantity theory (velocity = 1) and arrived at an estimate of 5% for the future inflation rate (2021-2022) on an admittedly thin premise of rate of change in supply of money arising from the stimulus of 2020-21. This was a 'back-of-the-envelope' type of calculation, not a formal analysis.<br /><br />Last month I undertook a simple OLS regression on the rate of inflation against M2 growth rate (year-over-year) lagged by six calendar quarters and four calendar quarters together of the form Y = b0 + b1 X1 + b2 X2 + w'. Y = current period rate of inflation, X1 = M2 growth (yr-yr) lagged 4 quarters, X2 = M2 growth (yr-yr) lagged 6 quarters, for the period 2018:Q4 thru 2022:Q1, out of curiosity. <br /><br />The t-values were significant at 5%; the coeff. of determination was fair at 80%; and the F-statistic was significant, but more so because of the use of two independent variables than for any other reason. <br /><br />The result was satisfactory insofar as it conformed to the general rule of thumb that monetary policy acts with a lag of at least a year and often with a longer lag period. However, I couldn't recommend wagering serious money on the model's predictive power. The result is valid for the period examined but not generally so, as a cursory examination of the longer time series of CPI core inflation rate and M2 growth will amply demonstrate. <br /><br />This post-pandemic period is probably unique for any number of reasons, including (but not limited to) monetary policy and its knock-on effects.<br /><br />Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-77759507571950334852022-08-04T12:06:23.709-05:002022-08-04T12:06:23.709-05:00Monetarism has never been tried. Monetarism invol...Monetarism has never been tried. Monetarism involves controlling total reserves, not non-borrowed reserves as Paul Volcker found out. Volcker targeted non-borrowed reserves (@$18.174b 4/1/1980) when total reserves were (@$44.88b).<br /><br />Inflation was derived from a 24mo rate-of-change in required reserves (unbeknownst to the FEDs' technical staff). Now the FED is without a rudder or an anchor.Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-89523413040928156082022-08-04T08:56:03.975-05:002022-08-04T08:56:03.975-05:00You're referencing the change in currency.You're referencing the change in currency.Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-52208427537742559372022-08-02T20:56:37.102-05:002022-08-02T20:56:37.102-05:00When invoking "rational expectations", t...When invoking "rational expectations", take a minute to consider the chart provided by Torsten Slok, chief economist at Apollo Global Management. The latest rendition is found by navigating to https://johnhcochrane.blogspot.com/2022/01/interest-rate-surveys.html<br /><br />Although Mr. Slok is tuned into the interest-rate surveys, the surveys include other measures of importance to economists and financiers, such as the unemployment rate forecast and the inflation rate forecast. The forecasts in the periodic surveys of economic forecasters (cf., The Wall Street Journal survey of economic forecasters) are illustrative of the inputs--the conditional expectations of the "output gap", x(t+1), and the "rate of inflation", pi(t+1). These are inputs that we should be using in the new Keynesian IS and PC equations that appear in John's current blog post (see above). To assume, as he does in the 5th slide (chart) in the blog post, that the IS and PC equations can be turned into dynamic discrete-time difference equations (analog of the continuous time first order differential state equations) is a misapprehension. In both the IS curve (eqn.) and the PC curve (eqn.) the equals sign should be replaced by a horizontal arrow pointing towards the left, e.g., xₜ = Eₜ{xₜ₊₁} – σ∙( iₜⁿᵒ ͫ – Eₜ{π ₜ₊₁} – ρ ) is replaced by xₜ ← [ Eₜ{xₜ₊₁} – σ∙( iₜⁿᵒ ͫ – Eₜ{π ₜ₊₁} – ρ )], and so on for the PC curve.<br /><br />The discrete-time state difference equations have a different form, e.g.,<br />xₜ₊₁ - xₜ = g(xₜ , πₜ , iₜⁿᵒ ͫ , iₜ₊₁ⁿᵒ ͫ , Eₜ{xₜ₊₁}, Eₜ₊₂{xₜ₊₁} , Eₜ{πₜ₊₁}, Eₜ₊₂{πₜ₊₁}, ε̃ₚ ₜ , ε̃ₚ ₜ₊₁ , ε̃ₓ ₜ , ε̃ₓ ₜ₊₁ ) where the last four variable are forecast error terms having non-zero means and positive variances and covariances of the error terms with one another and with the state variables are not all zero. Does this make the model intractable? Possibly; but, it makes it more interesting than a simple first-order (or, second-order) lag response function. Why more interesting? Because, it forces the analyst to consider more than just the mathematics of mechanical or physical control systems. Or, stated, in Mr. Torsten Slok's vernacular -- (paraphrasing) how could economists get it wrong (the forecast) so consistently? And, we shouldn't take the FOMC "dot plots" as the input to the conditional expectations of the one-period ahead output gap and rate of inflation, but put those aside and look to the outside indicators ('leading' indicators in the old vernacular, and others). <br /><br />The 5th slide is comforting, but misleading. C'est la vie.Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-81226376437589335192022-08-02T19:31:30.893-05:002022-08-02T19:31:30.893-05:00The ratio used in the FRED Chart at https://fred.s...The ratio used in the FRED Chart at https://fred.stlouisfed.org/graph/?g=Sk97 (referenced in my earlier remark) is (TOTBKCR)/(M2SL).<br /><br />The time series M2 is discontinued (2017), but the time series M2SL is identical and the ratio is indistinguishable from (TOTBKCR)/(M2SL) plotted previously.<br /><br />If you only consider the TOTBKCR measure, you will draw the wrong inference. The measure will always look either too high or too low, but only in relation to "trend" (or, extrapolation of prior period values). The economy grows or shrinks over time, the amount of money in the banking system increases or declines depending on the phase in the business cycle the economy is in--waxing or waning. If M2SL is not to your liking, suggest another measure to use as the denominator.Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-85479454055526926662022-08-02T13:29:54.297-05:002022-08-02T13:29:54.297-05:00Nothing significant in older periods. And M2 is b...Nothing significant in older periods. And M2 is both empirically and theoretically discredited. Dan Thornton is correct. “Money Supply and Inflation: Where’s the Proof?” WSJ July 21, 2022<br /><br />The problem is that the reporting error impacts my "means-of-payment" time series.<br />https://fred.stlouisfed.org/series/RRPONTSYD/<br /><br />Since the FED discontinued legal reserves, and thus "total checkable deposits", I use DDs. The distributed lag effect of money flows, the volume and transactions' velocity of money, are mathematical constants. But the correlation has for the first time broken down.Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-60781679845727306372022-08-02T13:26:47.884-05:002022-08-02T13:26:47.884-05:00Mykel, if a rising oil price is partially responsi...Mykel, if a rising oil price is partially responsible for inflation, how much then, is rising electricity prices responsible?CoRevhttps://www.blogger.com/profile/10273561793039479820noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-166631619587021042022-08-01T20:44:47.056-05:002022-08-01T20:44:47.056-05:00In econ 101; i was told economics is always a pict...In econ 101; i was told economics is always a picture of the past. While some things hold true others change. <br /><br />Time is the important unknown factor in two dimensional economics. A few years of adjustment may be needed as large shifts in demand occur. Ie highest housing inflation in southern and no tax states and deflation in northern states. Flat here in chicago for 20 years, 200% in florida or texas.<br /><br />So making time dependent decisions on shifts in the supply demand pricing curve on a notion wide basis is fraught with short term term poor decision making.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-66494011946805558212022-08-01T17:59:12.712-05:002022-08-01T17:59:12.712-05:00Is inflation not simply demand and supply shocks? ...Is inflation not simply demand and supply shocks? Supply shocks cause temporary deflation or inflation, or permanent inflation or deflation if the shock is permanent (eg minimum wages above market rates or technological improvements that increase productivity). Demand shocks typically stem from government intervention, like price controls from ww1 and ww2, which caused massive inflation after they were released. If the fiscal policy or monetary policy stimulate more demand than there is supply, we get inflation as we see now (the government can also reduce supply as with price controls, causing inflation). The pandemic shut down the economy and lockdowns made people save more money, thats a supply shock (supply of goods and supply of money). Then there's the demand shock from monetary and fiscal policy, resulting in an explosion of demand post pandemic. <br />Why did inflation not occur in Europe and Japan in the years you mentioned? Is it not possible that the demand doesn't necessarily stay within the country? In essence, could a country not offload its inflation to other countries through investments or purchases? Could it be that demand pull inflation results when the demand is constrained within a country, yet kept low when the demand can be met in other countries? <br />Perhaps I'm horribly mistaken. It just seems to me that inflation is the result of people adapting to their circumstances, which can't be explained by any one theory. To me, inflation is the necessary result of attempting to mastermind the economy, and being mistaken. Nature reasserts itself and shows the folly in our hubris.Axelhttps://www.blogger.com/profile/07721353474074835004noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-22665478377837563412022-08-01T17:30:55.681-05:002022-08-01T17:30:55.681-05:00Very clear and interesting synthesis that even a n...Very clear and interesting synthesis that even a non-macro person like myself can follow. Doesn't exactly give me the greatest confidence in macro though... Cokerhttps://www.blogger.com/profile/02631288439451432057noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-29978340963178897242022-08-01T17:10:46.967-05:002022-08-01T17:10:46.967-05:00Great post. One question: you stress that we don&#...Great post. One question: you stress that we don't know whether inflation is stable or not. Yet the stability/instability comes from the expectations formation process. Are you saying that fundamentally we don't know how expectations are formed and hence we don't know the implications for inflation dynamics? What about the implications in a hybrid PC? Secondly, what about other less parsimonious expectations formation processes, like diagnostic expectations? Can anything be extrapolated from those as far as inflation dynamics are concerned? thanksAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-34032721334715208672022-08-01T15:30:18.315-05:002022-08-01T15:30:18.315-05:00John, especially appreciate your last sentence. Th...John, especially appreciate your last sentence. There are still some of us around (like yourself) that think that a IS + Phillips Curve (even in much fancier presentations of it) is a poor foundation for understanding macro outcomes. The Fed's perspective (both explicitly in the FRB model and implicitly) isn't independent of this foundation (along with a RE or consistent expectations view) so hard to take these as truly different "data points". The market's view, as you note, is both independent and interesting. Like you, I don't just disregard it but am concerned about a "Peso Problem" kind of event where market's views change rapidly. Brian Goffhttps://www.blogger.com/profile/17773479726250383064noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-24796384546774340302022-08-01T12:55:53.683-05:002022-08-01T12:55:53.683-05:00Economists should have taken their lead from Dr. M...Economists should have taken their lead from Dr. Milton Friedman: “The Lag from Monetary Policy Actions to Inflation: Friedman Revisited” 2002<br /><br />“We reaffirm Friedman’s result that it takes over a year before monetary policy actions have their peak effect on inflation… Similarly, advances in information processing and in financial market sophistication do not appear to have substantially shortened the lag”<br />Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-63967910387364406752022-08-01T10:35:23.265-05:002022-08-01T10:35:23.265-05:00What proportion of the year-over-year increase in ...What proportion of the year-over-year increase in M2 is attributable to O/N RRP volumes in 2020-22 and in earlier periods, e.g., 1983-2016?Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-35914373146475533242022-07-31T19:38:35.082-05:002022-07-31T19:38:35.082-05:00John, it would be helpful to have high resolution ...John, it would be helpful to have high resolution charts posted (especially the ones courtesy of Arvind KrishnamurthyPhilhttps://www.blogger.com/profile/09051431678747534211noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-72122897207482465052022-07-31T10:25:17.808-05:002022-07-31T10:25:17.808-05:00The BOJ's QE is a monetary offset. Banks don&...The BOJ's QE is a monetary offset. Banks don't lend deposits, deposits are the result of lending. Ergo, all bank-held savings are frozen, lost to both consumption and investment, indeed to any type of payment or expenditure.<br /><br />“Japanese households have 52% of their money in currency & deposits, vs 35% for people in the Eurozone and 14% for the US.”<br /><br />The impoundment of monetary savings, and all monetary savings originate in the payment's system, is responsible for the deceleration in the velocity of circulation (secular stagnation).Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-90050616670803942952022-07-31T10:19:34.147-05:002022-07-31T10:19:34.147-05:00re: "The 2020-2022 period is far and away lar...re: "The 2020-2022 period is far and away larger than any comparable period prior to 2020"<br /><br />That's an understatement. But M2 is overstated by O/N RRP volumes. Just because its overnight, “The bond underlying the repo transaction is still recorded on the Fed balance sheet”.<br /><br />see: June 03, 2022 “Understanding Bank Deposit Growth during the COVID-19 Pandemic”<br />https://www.federalreserve.gov/econres/notes/feds-notes/understanding-bank-deposit-growth-during-the-covid-19-pandemic-20220603.htm<br /><br />“the deposits may leave the banking system if the holder of the deposits exchanges them”… “in the Federal Reserve’s Overnight Reverse Repurchase (ON RRP) facility.”<br />Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-55512362891326078572022-07-31T10:06:19.564-05:002022-07-31T10:06:19.564-05:00The FOMC's proviso "bank credit proxy&quo...The FOMC's proviso "bank credit proxy" used to be included in the FOMC’s directive during the Sept 66 - Sept 69 period.<br /><br />"1966 A new measure, the bank credit proxy, was developed during the year in order to get current information about the operating guide more frequently. This measure infers changes in member bank loans and investments (assets) from changes in member hank deposits (liabilities). Deposit data are available weekly on a daily average basis, whereas bank credit data are available less frequently."<br /><br />Your ratio is more of a reflection in the "demand for money".<br />Salmo Truttahttps://www.blogger.com/profile/13910212017849902362noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-82449616913297174622022-07-31T09:24:18.108-05:002022-07-31T09:24:18.108-05:00Retrospective contemplation often proves useful. ...Retrospective contemplation often proves useful. Here is Robert Lucas, Jr., summing up the lessons of the 1970s:<br /><br />'In his Nobel lecture, one of the most readable Nobel economics lectures of the last twenty years, Lucas summed up his and others’ contributions in the 1970s: <br /><br />"The main finding that emerged from the research of the 1970s is that anticipated changes in money growth have very different effects from unanticipated changes. Anticipated monetary expansions have inflation tax effects and induce an inflation premium on nominal interest rates, but they are not associated with the kind of stimulus to employment and production that Hume described. Unanticipated monetary expansions, on the other hand, can stimulate production as, symmetrically, unanticipated contractions can induce depression." ' -- See http://nobelprize.org/economics/laureates/1995/lucas-lecture.pdf, p. 262. <br /><br />David R. Henderson, https://www.econlib.org/library/Enc/bios/Lucas.html .<br />Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-7375398272774271222022-07-30T22:50:28.233-05:002022-07-30T22:50:28.233-05:00See response to last comment. Great to see ex stud...See response to last comment. Great to see ex students here! John Cochranenoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-41294088603819997532022-07-30T22:49:16.827-05:002022-07-30T22:49:16.827-05:00It is true that the Fed did massive QE. Just enoug...It is true that the Fed did massive QE. Just enough hyperinflation to exactly offset the deflation spiral, so we saw nothing? As I joked in seminars, you sleep quietly through the night. The captain comes down to tell you of his huge adventure--the hurricane of hyperinflation on the port bow, the whirlpool of deflation on the starboard, and he just nailed it down the middle. Maybe. Or maybe QE is just changing 2 $5 and a $10 for each 20, and inflation is stable at a zero interest rate. This is a much much shortened version of a long argument here https://www.johnhcochrane.com/research-all/michelson-morley-fisher-and-occam-the-radical-implications-of-stable-inflation-at-the-zero-bound which takes up that and many other epicycles to account for the zero bound era. John Cochranenoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-29956031256726759032022-07-30T21:11:20.302-05:002022-07-30T21:11:20.302-05:00John, in the “zero bound era”, the Fed and BoJ cou...John, in the “zero bound era”, the Fed and BoJ couldn’t lower rates any lower. But they were doing “unlimited” QE to try and reinflate the economy and asset prices. Isn’t this the explanation for why we didn’t observe a deflation spiral? Btw, I’m a former student of yours - GSB ‘96.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-7801623637675780552022-07-30T16:56:18.998-05:002022-07-30T16:56:18.998-05:00In the zero interest scenario is it not true that ...In the zero interest scenario is it not true that other/related dramatic interventions were at play such as QE that countered deflation despite fixed interest rate ? Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-62023779121575903392022-07-30T15:52:01.331-05:002022-07-30T15:52:01.331-05:00Throw the theories away. Compare the rate of chan...Throw the theories away. Compare the rate of change in M2 from the value of M2 a year earlier, and consider the magnitude of the percentage-change. The 2020-2022 period is far and away larger than any comparable period prior to 2020. Cf., https://fred.stlouisfed.org/graph/?g=SkaA<br /><br />Local maximum bi-weekly average %-change from year earlier M2 illustrate the phenomenon.<br />Date %-change from year earlier period M2<br />7/18/1983 12.9%<br />10/1/2001 10.2%<br />1/12/2009 10.5%<br />1/23/2012 10.26%<br />11/21/2016 7.42%<br />5/18/2020 21.84%<br />2/22/2021 27.2%<br />7/12/2021 12.0%<br />8/13/2021 13.5%<br />12/27/2021 12.7%<br />5/30/2022 6.48%<br />6/27/2022 5.97%<br /><br />The simplified New Keynesian 2-equation model without the tacked on fiscal theory of the price level, and the simplified New Keynesian 2-equation model with the tacked on fiscal theory of the price level, fail when the fundamental assumption on which the model is based is violated. The fundamental assumption is that the model measures small perturbations from the assumed stationary steady-state. The simplified 2-eqn NK model, with or without, the tacked on fiscal theory of the price level equations doesn't fit the 2020-2022 circumstances. The year-over-year %-change in M2 points that out, in no uncertain terms.Old Eagle Eyehttps://www.blogger.com/profile/05270080708077871311noreply@blogger.com