Friday, November 16, 2012

There is Another Solution to the Fiscal Cliff

Have the Federal Reserve work to offset every dollar drop in federal spending with a dollar increase in private sector spending.  The Fed would incentivize the private sector to do this by raising expected future nominal income growth via aggressive open market operations or by helicopter drops.  Rapidly raising the public's expectations of future nominal income growth would cause household and firms to increase current spending and offset the decline in federal spending.  Aggressive open market operations could look like this and helicopters drops like this. The point is, the Fed is capable of keeping total current dollar spending stable if really wanted to do so.  In fact, this stabilizing of nominal spending by the Fed has a name: nominal GDP level targeting.  With a credible version of this target, the Fiscal Cliff should not be a big a deal.  The only question is whether the Fed will act.

Along these lines, Michael Darda of MKM Partners had this to say:
NGDP growth has been quite steady at about 4% per annum despite a 200-300bps swing in the fiscal deficit over the last several years and, over the last five quarters, the weakest real government spending growth since the Eisenhower era. The steadiness of NGDP since 2010 suggests that the Sumner critique is still operative, even at the zero lower bound on short rates. The Sumner critique states that fiscal multipliers converge toward zero if a central bank is NGDP or inflation. In other words, the central bank shifts policy in a way that offsets the effect of spending/tax changes on aggregate demand, or MV. Although the Fed does not currently target a path for NGDP, it is aiming for its dual-mandate contingency based on its forecast of how NGDP growth will evolve: While the Fed cannot currently cut rates to offset a shock, it can ramp up QE (or commit to making some portion of the monetary base permanent) to increase the money supply or to check a decline in velocity. Perhaps this also a reason to not worry too much about demand-side implications of the so-called “fiscal cliff” (assuming Bernanke will do enough QE to offset any potential drag on MV from the cliff).
Come on Fed, you can do this.  Save us from the Fiscal Cliff.

P.S. Yes, I know a helicopter drop is really fiscal policy, but it probably needs to be initiated by Fed operation to make it politically viable. 


  1. "Aggressive open market operations could look like this and helicopters drops like this."

    Both OMOs and "helicopter drops" have the same aim: increase NGDP. As a non-economist helicopter drops (like the one described in the linked-to post) appear that they would have a much more direct effect on demand and NGDP (reduce tax and people will spend and/or invest more) than OMOs (buying up assets would seem more likely to get people first to switch to other assets, and only as a side effect of their perceived increased wealth get them to actually spend more).

    Given this, why do MMist nearly always opt for OMO as the policy of choice ?

  2. Print (digitize) way more money. The Fed should up its bond buying by $20 billion every month. I prefer Treasuries.

    It is a fascinating opportunity ahead: Reduce federal debt and deficits, while prompting economic growth. All by the Fed buying bonds.

    Inflation? The Cleveland Fed inflationary expectations index at all-time low. Japan did QE for five years, and still had deflation. A great time for serious QE.

    Any business dude running the federal government would say, "You mean we can pay down debt scot-free? Why don't we?"

    Add on, Beckworth has said the USA money printing would spur global economy and I agree.

    Bernanke, turn the lever to "highest--red zone" on the printing presses, and then take a long, long vacation.

  3. More money to the rich, less to workers and everything is peachy as long as NGDP is growing?

    I am not, nor is Obama, suggesting that money be taken from the people with money and showered on the people without jobs and debt, but instead that the huge deficits in public built capital and degradation in natural capital be reversed with higher taxes on the rich who were able to get very much richer as this public capital has been pillaged and plundered while the human capital of labor has been priced lower and lower. Even a Phd graduate earns less compared to the cost of that Phd capital investment, so the ROIC on a Phd and all human capital below has been cut significantly by lower return.

    And the private capital is mostly built on increases in rents on capital that costs far less than its costs because of monopoly profits - mostly natural monopolies: facebook and twitter are like English and Spanish, Bantu isn't every going to have the ROIC that English does, just as the laundry cork board isn't going to match facebook. But facebook has demonstrated the phantom capital value of the current hot investments - it just never popped like everyone came to believe was the wealth creation entitlement of Wall Street for doing nothing more than pump and dump, fueled by worker retirement savings.