In brief

Disappearing the Output Gap

The high and low lines, blue and orange, together show the output gap that developed since 2008. The red and green lines show the output gap, after reworking the numbers.

Click on the graph for a larger view at ALFRED. Click here for the backstory.

So much for brief.

A comparison of the current estimate of Potential Output with one from January 2005:

Graph #1: Estimates of Potential GDP from 2005 (blue) and 2013 (red)

Well that's not right. I cherry-picked the 2005 series (blue) because it is so much higher than the current series. This graph makes it look like the current (red) series was wrong, and they realized it in the 2000s, and pushed it down to where the blue line was. But that's not what happened. Both lines were high until the red line goes low...

Oh -- it's a base-year thing. The red line is given in 2005 dollars, and the blue line is given in dollars from 2000. I have to fix the base-year, again.

Here are price-index numbers for the GDP Deflator.

I'll convert everything to 2009 dollars:

Graph #2, Potential GDP: 2005 Estimate (blue) and 2013 Estimate (red) in base 2009 Dollars

That's more like it. The two estimates are pretty much the same, until the 2013 estimate starts factoring the global financial crisis into the numbers.

Now let me add to the graph two series for Real GDP. I'll add the most recent data, which is already in 2009 dollars. And I'll add the last data before the Comprehensive Revision of 2013, converting it from 2005 dollars to 2009 dollars.

Graph #3: RGDP Before  Revision (orange) and After Revision (green) added to Graph #2

Hard to see much. Everything is too small and faint.

Here. I cropped off everything before 1990, made the lines heavier, and made the text smaller:

Graph #4: Enlarged Detail from Graph #3
The Blue and Orange Lines Show the Output Gap Before the Numbers Were Revised
The Red and Green Lines Show the Output Gap After the Numbers Were Revised

The blue line shows an estimate of Potential Output from before the financial crisis. The red line shows the newest estimate, after several downward revisions.

The orange line shows RGDP before the revision -- but in 2009 dollars. The green line shows RGDP after the revision, also in 2009 dollars. The revision pushed RGDP up just enough to make it line up with the new, lower estimate of Potential GDP (red).

The high and low lines, blue and orange, together show the output gap that developed since 2008. The red and green lines show the output gap, after they reworked the numbers.

The Output Gap Closes in 2014

Enlarged Portion of Yesterday's Graph

Thursday's post left me with questions. At right, in the enlarged detail of yesterday's graph, note that the most recent values for Potential GDP line up nicely with the "real GDP" values in black, where the black line ends. A remarkable coincidence, isn't it?

It's almost like they planned it -- gradually lowering their estimate of Potential Output, and at the same time having that very nice Comprehensive Revision that pushed RGDP up. Almost like they planned it. Couldna ben. Musta benna coincidence.

Below is an ALFRED graph showing the most recent Potential GDP (red) and the last set of RGDP values from before the Revision, both in 2005 dollars. (RGDP switched from 2005 dollars to 2009 dollars in the Comprehensive Revision of 2013, but Potential GDP was left in 2005 dollars, so at FRED the two series are not directly comparable.)

Graph #1: Current Potential GDP (red) and the last RGDP given in 2005 Dollars

Relative to Potential GDP, the blue RGDP here is still much lower than the black RGDP in the enlarged view from yesterday's graph. Significantly lower.

I went back to FRED and checked: The current version of Potential GDP is the 2013-02-05 version. It's the same version in the ALFRED graph and in the clip from yesterday's graph. So, it's not Potential GDP that's different. It is real GDP that differs in the two pictures.

I'm wondering why, and I have a thought. I think it's because of the other changes to RGDP that were made during the Comprehensive Revision, the changes other than changing the base year. (I have some notes on the revision here.)


I see a note on the FRED GDPPOT page:

The CBO (source of the potential GDP data) does not have the necessary data to complete the rebasing of the gdp projections. The data availability have been even more delayed due to government shutdown.
The next issue of the Budget and Economic Outlook will be published in early 2014.

Wow. I never saw FRED make excuses before.

But that's okay. I can do the "rebasing" right now. Let me take Graph #1 and add the incompatible RGDP to it, in green:

Graph #2: The Latest Data for RGDP, base year 2009 (green) added to Graph #1

The green line shows 2009 dollars, which were worth a little less than 2005 dollars. To buy a given amount of stuff, it takes more 2009 dollars than 2005 dollars. That's why the green line runs higher than the blue line.

But really, the green line shouldn't even be on the same graph with the red and blue lines, because the dollars are not the same. (If you make graphs, you have to watch for things like that.) In what follows, I make the dollars the same.


I was saying, I had a thought. Maybe the difference in RGDP is due to the comprehensive revision of 2013. Or maybe it is due to some error in the way I converted between base years for yesterday's graph.

Here's what I did: Take each RGDP value. It is expressed in 2009 dollars. Divide the 2009 price level out of it, and multiply the 2005 price level into it. Now it is expressed in 2005 dollars. That's how I always do it. Maybe I always do it wrong? That's something I would want to know.

I'll do the conversion again. I need the Deflator numbers for 2005 and 2009. The next graph shows those numbers expressed as annual values. The blue bars show the average of four quarterly values; the red show end-of-period values.

Graph #3: Average (blue) and End-of-Period (red) Deflator Values, 2005-2009
The data in an Excel file from FRED

See how for the 2009 values, the blue bar stops just at the 100 level, and the red bar is a little off? Makes me think that the blue -- the average of quarterly values -- is what the professionals use when they do this kind of figuring.

That's what I'll use, then.

The average for 2005 is 91.985. The average for 2009 is 100.000. To convert 2009 dollars to 2005 dollars, I'll divide by 100.000 and multiply by 91.985. (So, for example, something that cost $100 in 2009, divide by 100, multiply by 91.985, it cost $91.99 in 2005 dollars.)

Now I can take Graph #2, take the green line, divide out the 2009 prices, and multiply in the 2005 prices. That'll put everything in 2005 dollars. Then we can compare the green (comprehensively revised) RGDP and the blue (pre-revision) RGDP, and maybe see something interesting.

(It takes a while to work up to interesting, some days.)

Graph #4: Like Graph #3, but with the Green Line converted to 2005 Dollars

The green (revised RGDP) line is only a little above the blue (unrevised) line when both are expressed in the same dollars.

More interesting -- I did promise you interesting, didn't I -- the most recent years of the revised RGDP now show a smooth transition to the red line representing Potential GDP. Exactly like the black RGDP line in the enlarged view at the top of this post.

So I'm satisfied now that I didn't mess up the base year conversion. I'm satisfied that the remarkable coincidence that puts RGDP and Potential GDP back on the same path is something in their numbers, not in mine. And I'm satisfied this post is now interesting.


Graph #1 shows the last pre-revision real GDP running far below the latest estimate of Potential GDP, leaving a massive output gap. Coincidence or no, Graph #4 shows that because of the "Comprehensive Revision", the output gap has closed.

Enlarged Detail from the "Click-On" version of Graph #4

There was a comprehensive revision of economic data in 2013. In the case of "real GDP" certain things were added, causing the number to rise. Meanwhile, CBO has been gradually lowering their estimates of Potential GDP.

These changes work together to reduce the size of the output gap. But because the base year for RGDP changed from 2005 to 2009, and the base year for Potential GDP did not change, the reduced size of the output gap has been hidden from view.

Because the two series have different base years, one cannot make a simple comparison. And the base-year difference complicates the relation between the numbers, so that an analysis is liable to discover things other than what we have discovered here today.

Finally, instead of "rebasing" the numbers to make the two series comparable, FRED offers excuses for the failure to rebase. They suggest it will get done "in early 2014."

Hey, I'm just a hobbyist, I know, but "rebasing" is not the same as a comprehensive revision. Rebasing is just a matter of changing the base year. You know -- divide by one year's price number, and multiply by another. Kids learn how to do that kind of arithmetic in the third grade.

The simple rebasing performed in this post allows us to compare the comprehensively revised RGDP and the unrevised RGDP, in order to see the changes other than price changes. It allows us to see the "real" changes in real GDP. (Is that too much to ask?)

This simple rebasing also allows us to compare real and potential GDP, and to see that the output gap will close the moment real and potential output are expressed in terms of the same base year.

The output gap closes in 2014 when Potential GDP is rebased, because of the revisions that pushed real GDP up and potential GDP down.

By accident or by design, recent changes to real and potential GDP bring the paths of the two lines together, closing the output gap and making things "normal". Before long, then, we shall again be thinking of things as normal, and the present-day concern with output gaps and under-performing economies will all be well behind us. We shall live again, as happy as Stepford wives.

And those of us who know better will have no leg to stand on.

Thankfully, a short one

Following up on mine of 26 November...

Graph #1: RGDP (black) overlaid on several vintages of Potential GDP
The Google Drive Spreadsheet

Happy Thanksgiving

Let's set our sights lower, he says

Oh for crying out loud. John B. Taylor moved from this blog to this one, and evidently didn't bring all his old posts along. So in order to re-read his post of 6 Feb 2012 I had to go there and quickly capture the page source before his timer timed out and deposited me at the error page.

This is what I wanted from JohnBee's post:

The first chart shows real GDP during the 10 quarters since the end of the 2007-2009 recession along with CBOs recently revised estimate of potential GDP. The chart clearly shows that the economy has yet to recover back to its potential. The only real difference from earlier assessments is that CBO has slightly lowered its estimate of potential.

For comparison, the next chart shows the recovery back to potential in the 10 quarters following the 1981-82 recession. The difference between the two charts is striking, and is why one can say that the current recovery is a recovery in name only.

In the second graph, the Reagan years graph, Real GDP quickly works its way back up to Potential GDP. In the first graph it does not, despite the fact that "CBO has slightly lowered its estimate of potential," as Taylor says.

Mmm, they do that, CBO. They have to lower potential GDP if real GDP fails to work its way back up to potential, because

CBO assumes that any gap between actual GDP and potential GDP that remains at the end of the short-term (two-year) forecast will close during the following eight years.

The two lines have to meet in ten years. So if real GDP refuses to go up, potential GDP has to come down. As the creepy guy in Beverly Hills Cop said, "How nice."


John Cochrane looked at Taylor's graphs and said:

We usually bounce back to the trend line. Now, we're not.

Well, he's right about that.


In a speech to the Union League Club of Chicago (PDF, 6 pages) James Bullard said:

The FOMC has adopted an explicit, numerical inflation target. This is an important development, as it may prevent the U.S. from repeating the mistakes of the 1970s, in which a misreading of the size of the output gap led the Fed to maintain easy monetary policies for far too long...

I have argued that the “large output gap” benchmark, in which current economic performance is continually compared to the bubble-influenced mid-2000s, may not be realistic. Instead, one may want to interpret the recent U.S. experience as a one-time, permanent shock to wealth.

In other words, Bullard is saying that we shouldn't draw Potential GDP way up high like it shows on the first of Taylor's graphs. We should draw it lower, to make a reasonable target that real GDP can reach. Let's set our sights lower, he says.

As Taylor noted, that *is* what's happening. We looked at it yesterday.

Historical Revisionism

Okay, I got a few "vintages" of Potential GDP from ALFRED, going back as far as 1991. I got 1991, I got every five years from 1995 to 2010, and I got 2013.

These are "real" values, inflation adjusted values. And as it turns out, there are all different measures of correction-for-inflation used for the various vintages. The README page in the ALFRED file says the 1991 series uses 1982 dollars; the 1995 series uses 1987 dollars; the 2000 series uses 1996 dollars; the 2005 series uses 2000 dollars; and the 2010 and 2013 series use 2005 dollars.

Why make it simple, right?

The first thing I want to do is convert everything to the same dollars, so that when I put them on a graph it's apples-to-apples. I did the work in a Google Drive spreadsheet this time.

I got quarterly data, but the vintage series are expressed in dollars of some year, not some quarter. So I'm taking an average of quarterly values for each base year value that I will need.

I'm using the current GDP Deflator values to convert the vintages. For example, for the data given in 1982 dollars I'm dividing by the 1982 value of the current Deflator series and multiplying by the 2005 value of the current Deflator series. For data given in 1987 dollars I'm dividing by the 1987 value of the current Deflator series, and like that. So I end up with everything in 2005 dollars, based on the most recent data on prices.

(I tell you these things because my method makes sense to me, but I don't know if it would make sense to economists or to others.)

Here's the graph:

Graph #1:
From the "In Uniform Dollars" Sheet of this Google Drive Spreadsheet

If you have trouble telling one series from another on this graph, it helps to know that the data series end in date order. See how that red line splits off low, and ends around the year 2000? That red line is the 1995 series, and it is shadowed by the 1991 series which ends a few years earlier.

Those two series, by the way, were based on economic performance and economic thinking before the macroeconomic miracle of the latter 1990s. By the year 2000, evidently, economists had factored the "miracle" years into their thinking. All of the Potential GDP series shown for the year 2000 and after group together at a much higher performance level than the 1991 and 1995 series.

Were the numbers influenced by the improved economic performance? I would say so, yes. If you put your mouse cursor on the red line and follow it back to where it joins the others, you can see that the numbers changed as far back as 1982. The 1995 prediction still shows no performance improvement, but the 2000 prediction shows a performance improvement that goes all the way back to 1982!


The four later series that all showed improved economic performance through the 1980s and 1990s suddenly break apart in the mid-2000s. You can see the little golden stub of the 2000 series in the crotch there where the others veer apart. That golden stub stops too soon, but the next estimate by date, the 2005 estimate -- green -- runs even higher than the 2000 estimate, and shows no indication of weakening.

That estimate, the green one, was made before the global financial crisis.

The next estimate, the purple one, made after the onset of the global financial crisis, is as much lower than the golden stub as the green line is above it. And what could have caused this change?

The global financial crisis, perhaps?

The most recent estimate of potential GDP, the 2013 estimate, is lower yet. And I think you can see it lower than the others as far back as 2005 -- two or three years before the crisis.

Isn't that odd?

How to Change the Past

I've fiddled with Hodrick-Prescott trend lines a bit, and one thing I noticed is that they have a sorry kind of foresight. They can predict the future -- but only in hindsight.

I did a post a while ago -- a post named Hindsight, actually -- in which I showed this FRED graph:

Graph #1: Natural Log of the Inflation-Adjusted Change in "Total Credit Market Debt Owed"

Then I showed the same graph in Excel, with a Hodrick Prescott trendline added in:

Graph #2: Same as Graph #1, with Hodrick-Prescott Trend thru 4th Quarter 2007

I stopped the trend line at the high point of the blue line, and wrote:

I stopped the HP calc at that point so that the later decline did not drag down the earlier years' numbers.

So that the later decline did not drag down the earlier years' numbers.

The HP calc is entered in Excel as an "array formula". It takes as input a whole series of FRED data. For Graph #2, I fed it data from 4th Quarter 1952 to 4th Quarter 2007.

For Graph #3, I fed it data from 4th Quarter 1952 to 4th Quarter 2012. That's the only difference.

Graph #3: The Blue Line is the Same as on Graph #2, but the Red Line Continues to 4th Quarter 2012

Notice that the red line no longer reaches up to the high blue peak. The red line bends down early now, around 2004, and begins the plunge while the blue line is still trending up to its high peak. The trend line anticipates the future.

Adding data for the years after 2007 to the Hodrick-Prescott calculation changed the results we got for a few years before 2007. If that's not a sorry kind of foresight, I don't know what is!


Another example, this from A second look at the heteconomist post:

Graph #4: Percent Change in the Non-Federal Portion of TCMDO (blue) and the H-P trend (red)

The red line on Graph #4 is a Hodrick-Prescott trend of the debt data through 2007. Graph #5 shows the same debt data, and the H-P trend again, but this time the trend is based on all the data through 2012:

Graph #5: Same as Graph #4, except the H-P Trend is figured through 2012

On Graph #4 the red line trends upward for the last few years before the 2007 end. On Graph #5 the red line runs flat until about 2004, when it starts to fall.

The decline since 2004 on this graph is the result of figuring in data for 2008-2012. Look at it from the start of 2008, and it appears that the future changes the past.


The Excel files, on Google Drive:

NonFederal Debt Growth.xls for the "Change in Non-Federal Debt" graph.
dTCMDO rel GDPDEF.xls for the "Log of Change in TCMDO" graph.

Both files contain Kurt Annen's VBA code for the Hodrick Prescott calculation.

BOGMBASE and AMBSL

They're not identical, but the growth rates are similar. Both show lower growth before the early 1980s, higher growth after.

Seems to be a downtrend between the 1970 and '74 recessions, and a low spot after 1974, during the Great Inflation, oddly. Rumor was, the growth of money caused the inflation.

Looking at graphs... It's what I do

I'm going to double down here on the idea that it's a simple monopoly and the Fed as monopolist controls price and lets quantity float...

- geerussell

The quantity of money -- base money -- I'm going to say it is controlled by the Fed. They target interest rates, but to reach their target they control the Q of M. Open market operations, they call it.

Graph #1: FedFunds (blue) and the Growth Rate of Base Money relative to GDP

The red line on this graph considers base money in the context of GDP. I think it's reasonable to say a bigger economy needs more money, a smaller economy needs less. And that's true not in "real" terms, but at actual prices. "Nominal" terms.

The red line shows the percent change from a year before, of base money relative to NGDP.

(I'm using BOGMBASE, not AMBSL. They two seem to give quite different results. I don't know why, except the "A" in "AMBSL" stands for "adjusted". A future post, perhaps.)

With interest rates generally trending up for the first half of the graph, the trend of the red line is rather flat, and definitely negative. Base money grew more slowly than GDP, and little or no effort was made to boost basemoney growth.

With interest rates generally trending down for the second half of the graph, the trend of the red line is again flat, but about three percentage points higher than before. By eye, the trend runs a bit above zero now, meaning that basemoney is growing faster than GDP.

Look at it a different way:

Graph #2: GDP (blue) and BOGMBASE (red)  Indexed to Mid-1984
Money grew slower than GDP before the index date, and faster after.

A simple six-letter substitution

Marx: "I am not a Marxist"

Keynes: "I was the only non-Keynesian there"

Exactly. Sometimes an idea gets simplified and popularized and changed so much that when it is attributed back to its source, the source refuses to accept the credit.


The so-called Keynesians of the 1960s had already moved away from what Keynes said. They were inventing their own crap and calling it Keynesian. Later then, after they got crushed by inflation, they came back with a new name: the New Keynesian economics.

I didn't know what that was. I didn't know any of that history, then. But when I heard that name, that's when I came up with the name that became the name of this blog.

free association

Michael Leddy, after a bad storm:

The weather is not destructive or unforgiving or violent. It doesn’t care about us. It just is.

Me, summing inflation-adjusted deficits:

The economy works the way it works without regard to our preferences. The economy doesn't give a damn what we want to be true.

America's Adam Smith, in The Roaring 80s:

... in the Great Depression, economists wrote about unemployment as if it were a bad hailstorm; then the Keynesian revolution gave some hope that nations could do something about the 'economic blizzards' that had previously been considered as random as the weather.

A New Style for FRED

Do I detect a change in thinking?

Joshua Wojnilower, 5 December 2012:

In normal times (pre-IOR), the Fed could either control the interest rate or the monetary base, but not both. Typically the Fed elected to target the interest rate, adjusting the monetary base in response to the actions of Treasury and private banks...

Now that the Fed is paying IOR (and IOER), it actually can control both the monetary base and the interest rate separately.

Joshua Wojnilower, 18 November 2013:

A quick comment on the effective Federal funds rate during the period you highlight. Under the "permanent floor" system currently employed by the Fed (explained brilliantly by Scott Fullwiler), the rate of interest on reserves (currently 0.25%) is expected to serve as a lower bound ("floor") for the effective Fed funds rate. This expectation is based on the notion that no firm would sell/loan a reserve at a price below that attainable by simply depositing the reserve at the central bank.

As your chart shows, the effective Federal funds rate has consistently been below the rate of interest on reserves over the period in view.

And a new graph:

Graph #1: Four Discontinued Series (the purple line and three hidden by it) and one current
series (green) showing the "floor" created by interest on reserves at 0.25%,
and the Effective FedFunds Rate, in the Basement since January, 2009

"the incomes flowing to the financial sector come at the expense of the rest of the economy"

In a post that's much too long (and far too political) John Quiggin writes:

society as a whole would be better off if the financial sector were smaller, and received much smaller returns.

Yes, indeed.

Real Accumulated Federal Deficits relative to RGDP

Back on 10 November, I showed Federal deficits corrected for inflation:

Graph #1: Federal Deficits, Corrected for Inflation
From the Inflation-Adjusted Deficits spreadsheet

I said:

I want to add up the numbers and see what the accumulating total looks like. If I add up Federal deficits, I get the Federal debt. So if I add up inflation-adjusted Federal deficits, I get the inflation-adjusted Federal debt.

I want to see what that looks like.

By the end of the post I had done just that. Graph #5 from that post, renumbered:

Graph #2: The Sum of Inflation-Adjusted Deficits as a Measure of Inflation-Adjusted Debt
From the Inflation-Adjusted Deficits spreadsheet

What this gives me is a picture of the Federal debt accumulated since 1947, adjusted for inflation. But it looks nothing like what you usually see when people show the Federal debt adjusted for inflation. Here's Wikipedia's picture of the Federal debt with the numbers "deflated so every year is in 2010 dollars":

Graph #3: From Wikipedia

My Graph #2 does not include World War Two debt, or any debt before 1947. So mine starts at zero where the Wikipedia graph in 1947 is already over two trillion bucks. But that's not the big difference.

The big difference is that the lines are not the same shape. Graph #2 shows continuous increase all through the 1960s, 1970s, 1980s, and into the 1990s. The Wikipedia graph runs flat or even downhill from World War Two to the early 1980s, then suddenly takes off upward.

The Wikipedia graph shows no increase until the end of the Great Inflation in the early 1980s. That is not because there was a sudden massive increase in Federal deficits at that time. It is because the Great Inflation came to an end, and because of the way they figure the inflation adjustment.

The Wikipedia graph adjusts the whole Federal debt as though all of that debt was newly created each year. All the debt existing at the end of the Great Inflation, for example, is adjusted for inflation since the end of the Great Inflation. But some of that debt was created before the Great Inflation, when the value of the dollar was more. The Wikipedia graph understates the purchasing power of older deficits.

The sudden change around 1982 on the Wikipedia graph is due in large part to the sudden slowdown of inflation.


For Graph #1 above, the inflation-adjusted deficits, I took the 1947 deficit and converted it from 1947 dollars to 2009 dollars. I took the 1948 deficit and converted it from 1948 dollars to 2009 dollars. When I got to it, I took the 1970 deficit and converted it from 1970 dollars to 2009 dollars. I converted each year's deficit from that year's dollars to 2009 dollars. That's what I did. Then for Graph #2, I added them up. But that's not how you get a graph like the Wikipedia graph.

To figure the year 1970 for the Wikipedia graph, you take all the deficits from 1947 to 1970, add them up, and convert them from 1970 dollars to 2009 dollars. When you're plotting the point 1971 on the graph, you add up all the deficits from 1947 to 1971 and convert the sum from 1971 dollars to 2009 dollars.

To get a graph like the Wikipedia graph, you take all the debt accumulated up to some date, and you convert from that date's dollars to "base year" dollars, 2009 dollars or whatever. To get a graph like the Wikipedia graph, you ignore the actual value of the money at the time it was borrowed. You just convert from the year you are plotting, to the base year. That's bad arithmetic, I think.


Today I want to look at debt relative to GDP. I want to look at the inflation-adjusted Federal debt, relative to inflation-adjusted GDP.

To do that I'll use a Google Drive graph. But let me start with the FRED graph I used to gather numbers.

Graph #4: Three Measures of the Federal Debt relative to GDP

The red line shows the "Gross Federal Debt" as a percent of GDP.

There are two other lines on Graph #4, green and blue, running close together. The blue line (which starts at 1970) shows the "Federal Debt Held by the Public" as a percent of GDP.

The green line shows Federal Debt Held by the Public, inflation-adjusted like the red line on the Wikipedia graph, divided by inflation-adjusted GDP. The green line is for all practical purposes identical to the blue line, which is *not* adjusted for inflation.

The green line shows a measure of accumulated debt (which is a "stock") relative to GDP (which is a "flow") with both measures adjusted as if they were "flow" variables.

Now I am ready. This post reviews two ways of inflation-adjusting debt: my way, as shown in Graph #2, and everybody else's way, as shown in the Wikipedia graph. Now I take these two measures of debt and show each one relative to inflation-adjusted GDP:

Graph #5: Two Measures of Real Federal Debt relative to Real Output
From the Inflation-Adjusted Deficit Accum and RGDP spreadsheet

The blue line on Graph #5 is the blue line from Graph #2, accumulated real deficits, divided by Real GDP. The green line on Graph #5 is the same as the green line on Graph #4.

The two lines are similar after about 1982. One rides a little higher than the other, but the two share the same general shape. Before 1982 it's a different story. Before 1982 the green line trends down, while the blue line trends upward. These two lines cannot both be correct.

The green line trends down because the calculation ignores the purchasing power of the borrowed money at the time of borrowing. The calculation is visible on Graph #4.

An Explicit Qualifier

Glad to see Josh Wojnilower is active again.

I'm going to assume he is now fully capable of writing things that are fully beyond my comprehension. I'm not going to try to participate in any discussion of his new paper on the endogeneity of money. But I do want to look at one small piece of the abstract that he shares. I think it makes particularly explicit something that needs to be particularly explicit:

The theory behind endogenous money is that banks issue new loans (credit) on demand and look for reserves later. The Federal Reserve must ultimately accommodate increases in demand for reserves from the banking sector to maintain an interest rate target...

In other words, if the Fed fails to "accommodate" the demand for reserves, interest rates are affected.

That is absolutely clear and absolutely true and, to my mind, it is a simple case of supply and demand. If demand increases and supply does not, prices must rise.

If the demand for reserves increases, and the supply of reserves does not, the interest rate on reserves must rise.

It bears repeating, because it is so often left unsaid. It is the way the system works.

Too often, the afterthought "to maintain an interest rate target" is left out of the original text. Leave it out, and you're left with a statement that's not really true. But people say it all the time. People say the Fed must accommodate the demand for reserves.

No, it doesn't "must" accommodate the demand for reserves. No, it doesn't. It depends what the Fed wants to do. As a rule, though, the Fed has been known to let interest rates change quite often. Ha! I just looked at FRED's FEDFUNDS page and guess what I saw:

Averages of daily figures.

The FedFunds rate changes every day.

Graph #1: FedFunds in the ZLB Era

What brings this to a head? Why do I write of it? Because I came across something called Explainer: How does the Fed stimulate the economy? where we read:

Yellen emphasized that one of the Federal Reserve's primary duties is to pursue its dual mandate for maximum employment and stable prices.

The Fed attempts to pursue these two goals through changes in its target interest rate.

See? They like to change the interest rate. It's what they do.

"Financial" and what???

Don't look at today's graph. Just look at the data-set titles in the top blue border.

The two data series shown on the graph are the two main components of total credit market debt owed. The two main components are "financial" and "nonfinancial" debt.

Not "financial" and "real".

Not "financial" and "productive".

Not "productive" and "nonproductive". Nothing like that.

Doesn't this show what the real focus is, among policymakers? And isn't that focus the real problem?

Too late

Some guy comes in at work, a customer, here to check on the progress of the job we're doing for him. I overhear from the next room. One minute they're talking about how wide a load can we put on a truck... the number 8'-6" is mentioned... the word "regulations" is mentioned... and suddenly the guy is joking, "I want bigger government, I want more government."

You can't win the argument for more government. Things have progressed too far. It's a joke now, the call for more government. You're a joke these days, if you're serious about that.

"economics is not a morality play"

Krugman, 25 October 2010:

What can be done? One answer is inflation, if you can get it, which will do two things: it will make it possible to have a negative real interest rate, and it will in itself erode the debt of the Sams. Yes, that will in a way be rewarding their past excesses – but economics is not a morality play.

Incorrect.

Do you see the assumption in the excerpt? Here:

Yes, that will in a way be rewarding their past excesses...

The assumption is that people have debt because of "past excesses". And Krugman doesn't offer this as simple arithmetic, but as "morality". He's not saying spending in excess of income is what creates debt; he's saying people spending more than they should is what creates debt.

That's not how I see things.

To enhance economic growth, our economic policies encourage spending. When spending leads to inflation, our policies restrict the quantity of money. Yeah, yeah, they raise interest rates to fight inflation. But they raise interest rates by restricting the quantity of money.

To encourage growth, we encourage spending; then to fight inflation we restrict money. Do you see how this works? It's not symmetrical. To encourage growth we encourage new borrowing and spending; when all that borrowing and spending leads to inflation we suddenly cut off funding for further expansion.

We have no policy that encourages people to repay their existing debt a little faster, thus draining money from circulation and fighting inflation with a symmetrical response to the borrowing and spending that ended up causing inflation in the first place.

No. Instead we cut off new borrowing and new spending, and create a recession. Meanwhile, all the money we borrowed -- the money that was causing inflation -- continues to circulate! We have no policy to address it.

//

We don't have debt because of moral excess. We have debt because our economic policies conflict with each other. We encourage spending, which means we encourage borrowing, always; then we jack up interest rates so that the things we encourage are more expensive. But we never encourage the repayment of debt.

Policy is the reason we have so much debt. Not morality.

The difference between Macro and Micro

Not long ago, I was watching the price of gasoline go up over $4. (I still bought just as much, can't do anything about that.)

But I was worried about being able to make ends meet. That's micro.

Now, I'm watching the price of gasoline go down near $3.50. (I don't buy any more at the lower price -- Where would I go?)

But I worry now that we'll be getting another recession, like the last time gas prices fell. That's macro.

Another subtle attempt to demolish nation-state borders

Some insurance guy came around at work to tell us how to get our insurance-related costs down and, ever since, the plant manager has been tracking down the new Safety Data Sheets that replace the old MSDS in the dusty binder that nobody ever opens.

You heard of this?

It's an effort to "harmonize" safety standards (or purported safety standards, at least) beyond national borders. A Globally Harmonized System, they call it.

Who is doing this? Anybody who wants to save money, dammit.

Hey -- did you vote for this New World Order crap?

On June 19, 2013, the Occupational Safety and Health Administration (OSHA) signed a Memorandum of Understanding with the Healthy Environments and Consumer Safety Branch of the Department of Health of Canada (HECS). Dr. David Michaels, Assistant Secretary of Labor for OSHA signed the partnership agreement with Suzy McDonald, Director General, Workplace Hazardous Materials Directorate, HECS. The MOU allows OSHA and HECS to collaborate on implementing the United Nations' Globally Harmonized System of Classification and Labelling of Chemicals (GHS) in their respective jurisdictions, and continue to coordinate efforts in any future developments of the GHS.

It promises something for everyone:

Once implemented, the revised standard will improve the quality and consistency of hazard information in the workplace, making it safer for workers by providing easily understandable information on appropriate handling and safe use of hazardous chemicals. This update will also help reduce trade barriers and result in productivity improvements for American businesses that regularly handle, store, and use hazardous chemicals while providing cost savings for American businesses that periodically update safety data sheets and labels for chemicals covered under the hazard communication standard.

Something for everyone. It satisfies both the liberal neurosis to give everybody a little something, and the conservative "king of the hill" psychosis.

What it is -- just like the Common Market was (and the EU still is) and "free trade" agreements, is an attempt to consolidate markets and to consolidate political power and to ultimately circumvent national sovereignty.

And to hoodwink voters as needed, to make it happen.

Q&A

Q. I understand that the United Nations revises the GHS every two years. How will OSHA manage and communicate changes to the Hazard Communication Standard?

A. It is expected that the GHS will be a living document and is expected to remain up-to-date and relevant; therefore further changes may be adopted on a two year cycle. Presently most of the recent updates have been clarification of text. However, OSHA anticipates that future updates of the Hazard Communication Standard (HCS) may be necessary and can be done through various rulemaking options, including:

• Technical updates for minor terminology changes,
• Direct Final Rules for text clarification, and
• Notice and Comment rulemaking for more substantive or controversial updates such as additional criteria or changes in health or safety hazard classes or categories.

Or maybe I'm just paranoid.

Those graphs, again

I have a couple questions about the result I got in yesterday's post. The five graphs from yesterday's post are reproduced at right. Graph #1 shows FRED's "Federal Surplus or Deficit" series (FYFSD) with the numbers inverted and the inflation stripped out of them.	#1, from November 10
Graph #2 and #3 show the Federal debt, said to be corrected for inflation. Graph #2 shows both the "gross Federal" debt (black) and the debt "held by the public" (red). It's easy enough to see the flat spot pre-1980 on the these graphs. Easy to see the sudden change, and the sharp increase after 1980.	#2, from Wikipedia
The post-1980 increase seems steeper on Graph #3 than Graph #2, because Graph #3 is taller. The uptrend is stretched upward to fill up the space in the taller graph. Graph #3 exaggerates. Again, these graphs show essentially no increase in real Federal debt between World War Two and 1980; then a sudden change, and a persistent, rapid increase in real Federal debt. I say these graphs are wrong.	#3, from Slaying the Dragon of Debt
Like the two previous graphs, the red line on Graph #4 shows the Federal debt "corrected" for inflation. I argue in the November 5 post that the calculation used for the red line gives incorrect results: Not only this red line, but also Graphs #2 and #3 are incorrect. The yellow line on Graph #4 is the correct result.	#4, from November 5
The result I got yesterday: Graph #5 shows the accumulating total of inflation-adjusted Federal deficits on Graph #1. The blue line here curves up gradually through the 1960s and '70s, like the yellow line on Graph #4. The uptrend continues through the 1980s. There is no sudden change around 1980 as there is in Graph #2 and Graph #3 and the red line on Graph #4.	#5, from November 10

So I was saying: I want to check a couple things in Graph #5.

For one thing, the blue line on Graph #5 starts out at zero (or slightly below zero, actually). Given that the start-of-data is 1947, this blue line starts after the end of the second World War. After the end of the second World War, Graph #2 and #3 run flat, but well above the zero level. Why the difference?

Easy answer: The line on Graph #5 starts at zero because it doesn't include the Federal debt accumulated during the second World War. Nor does it include the Federal debt that was existing prior to that war. So it starts at zero, because it starts at zero.

My other concern about yesterday's result is a bit more involved. The blue line on Graph #5 curves upward to a maximum in the mid-1990s. After that, the line actually falls for about five years before turning upward again.

Can I explain the downtrend in yesterday's result graph? That downtrend lasted for half a decade. Obviously it's not a glitch. Is there an explanation? I think so, yes.

What I think is this: The original data from FRED, the FYFSD data, accumulates not to the gross Federal debt, but to the debt held by the public. It accumulates to the lower measure of Federal debt. I think. That's just a guess at this point, but it's the only thing that makes sense to me.

Graph #6: Federal Debt Held by the Public (red) and the Gross Federal Debt (blue)

The red line on Graph #6 trends down for about 5 years starting in the mid-1990s. The blue line does not. If the deficit numbers from Graph #1, added up, look like the red line on Graph #6, then I have a good answer to my question: The inflation-adjusted line trends down because the unadjusted line trends down.

I downloaded the numbers from Graph #6 and the "Federal Surplus or Deficit" numbers used to develop Graph #1 above. In Google Drive I inverted the deficit numbers (to make increasing deficits go up) and converted all units to billions. Then I added up the deficit values and compared the accumulation of deficits to the red and blue versions of the Federal debt from Graph #6:

Graph #7: Sum of Deficits Compared to Two Measures of Federal Debt
The Google Drive Spreadsheet is available

The yellow line here is a good match to the red line. The sum of deficits is a good match to Federal debt held by the public. Both lines trend down for a few years in the late 1990s.

The yellow line runs a bit below the red for all the years shown on the graph. But again, that is because prior years' debt is included in the debt measures, but not in the deficit numbers.

So we know the deficit numbers do sum to a close approximation of Federal debt held by the public. This explains the late-1990s decline visible on Graph #5.

Summing Inflation-Adjusted Deficits

After some exchange of comments on my Inflation-adjusting deficits post, I decided to recreate the Graph #3 from that post, grab the data from FRED, and put it into a Google Drive sheet.

It looked a little plain, so I went back to FRED for USRECM, a recession-date indicator, and added recession bars to the graph. Not perfect, but hey:

Graph #1: Federal Deficits, Corrected for Inflation
The Google Drive Spreadsheet is available

I should say they've added a lot to what you can do easily to customize a graph in Google Drive. I like it.

You know what I want to do with this? I want to add up the numbers and see what the accumulating total looks like. If I add up Federal deficits, I get the Federal debt. So if I add up inflation-adjusted Federal deficits, I get the inflation-adjusted Federal debt.

I want to see what that looks like.

I don't think anybody has a problem with the calculation I used to inflation-adjust the deficits for the above graph. It's the same calculation you'd use to convert "nominal" GDP to "real" GDP. It works fine with flow variables like GDP and deficits. It only doesn't work with stock variables like accumulated debt -- the sum of multiple-year deficits.

Funny thing, though. It seems I'm the only one saying the calculation that works fine to adjust flow variables doesn't work when you use it with stock variables. That's why I want to add up the inflation-adjusted deficits and see what the total looks like. If it looks like everybody else's picture of inflation-adjusted debt, then I guess I'm an idiot.

Everybody else's picture of inflation-adjusted Federal debt shows a big flat spot from World War Two to 1980. This picture makes it look like debt growth was very well contained. But the picture shows a sudden change at 1980, and inflation-adjusted debt suddenly starts rising at a very rapid pace:

From Wikipedia

From Slaying the Dragon of Debt

So when I add up my inflation-adjusted deficits, if the graph looks like these two, if the graph is flat until 1980, then suddenly changes and runs sharply uphill, then I'm an idiot and I'm wrong about the problem with the inflation-adjustment calculation.

But if the graph looks like the yellow line here:

Graph #4: From my Dead Cat post

then... well, then I'm not the idiot. The yellow line is up-curving just about the same before 1980 and after (until the mid-1990s). That's what I expect to see when I add up the inflation-adjusted deficits to construct a version of inflation-adjusted debt.

For the record, the red line on Graph #4 is the "bad" calculation, the same used in the Wikipedia graph and in the Dragon graph shown above. The red line shows the same flat-to-1980-then-sudden-increase pattern those other graphs show. The yellow line shows a continuous increase from the 1960s to the 1990s. So the difference is clear.

Well, it's time to add up some numbers and play Who's the Idiot:

Graph #5: The Sum of Inflation-Adjusted Deficits as a Measure of Inflation-Adjusted Debt
The Google Drive Spreadsheet is available

It's not me. Add up the inflation-adjusted deficits and plot it, and the line curves up. It curves up in the 1960s, you can see, and it continues curving up in the 1970s, thru the 1980s, and into the '90s.

There is no flat line that lasts until 1980. There is no sudden change when Reagan gets elected. There's nothing like that. The sudden change you see in those other graphs, the Wikipedia graph and the Dragon graph, that's just a bad calculation. It survives because people don't want to hear about the error.

I think some people want there to be a sudden change in the Federal debt in 1980, so they can point to it and say Look what Reagan did! or so they can say (like the Dragon site says) "the deficit exploded under Reagan."

You know what that reminds me of? It reminds me of how quickly and how cheerfully a certain segment of the population accepted the pronouncement of Reinhart and Rogoff, that (as BBC News put it): "economic growth slows dramatically when the size of a country's debt rises above 90% of Gross Domestic Product".

Some people wanted that to be true, because it supported their view. Other people revelled in Thomas Herndon's discovery of mistakes in Reinhart and Rogoff's work.

But you know, a lot of those same "other" people are people who want the "sudden change at 1980" debt graph to be true, because it supports their view. But here's the thing. The economy works the way it works without regard to our preferences. The economy doesn't give a damn what we want to be true. No matter which side we're on.


ADDENDUM: Graph #5 on a Log Scale

Graph #6: The Sum of Inflation-Adjusted Deficits on a Log Scale
The Addendum Spreadsheet is available