From Sumner's post to Glasner...
David Glasner:
In a monetary economy suffering from debt deflation, one would certainly want to use monetary policy to alleviate the debt burden, but using monetary policy to alleviate the debt burden is different from using monetary policy to eliminate an excess demand for money.
I get this.
I don't really know what the "demand for money" is. I think maybe that's the problem Quantitative Easing was designed to solve. I don't know. But I do know that Quantitative Easing did nothing to alleviate the debt burden.
Scott Sumner:
As far as I know the demand for money is usually defined as either M/P or the Cambridge K. In either case, a debt crisis might raise the demand for money, and cause a recession if the supply of money is fixed. Or the Fed could adjust the supply of money to offset the change in the demand for money, and this would prevent any change in AD, P, and NGDP.
I don't get this.
Or maybe I do. A debt crisis might raise the demand for money, because creditors worry about loans going bad. So they lend less. They hang on to more of their money. Their "demand for money" goes up.
So then, Sumner is saying that if there is a debt crisis and the demand for money goes up, then to avoid a recession the Fed should "adjust the supply of money" to compensate for the increased demand for money. But isn't that what the Fed was doing for the last five years? Or trying to do?
It didn't work. But even if it *could* work, it wouldn't alleviate the debt burden.
Actually, that's why the Fed's plan didn't work: It didn't reduce private debt.
So I think Glasner has it right, and Sumner has it wrong.
5 comments:
Come to think of it, increasing the supply of money as a device for making the economy grow is standard operating procedure for U.S. policymakers.
Scott Sumner's big idea is that if it hasn't worked, it's because we haven't done enough of it.
Everybody else knows the economy changed, and we need a different policy now. But not Scott Sumner.
Sumner and his market monetarists are still fighting the last war.
Art wrote:
"But I do know that Quantitative Easing did nothing to alleviate the debt burden."
How did you come to know that?
We do know that the average household is now paying 3% less of their disposable income towards debt service.
http://research.stlouisfed.org/fred2/graph/?g=Kqo
QE increases the supply of bank money but reduces the supply of treasury securities. US Treasuries securities are generally what people mean when they talk about the dollar being world's "reserve currency"
Under the current system the demand for money is always infinite and the supply of money is also infinite. Future prices (inflation expectations) is just one of many determining factors in how much of those infinite quantities will be mated.
"If economic theory is to be relevant, then an economic theory
which fully incorporates financial factors is needed. "
-Minsky, 1995
An average of 3% can be very misleading. I think it is also true that way more than half the households are still as underwater as ever and their prospects for steady income growth are nil. Yes a few households (like me) have substantially reduced debt levels from 2008 and we are bringing the average up.
Businesses dont care what the average spending power of their community is, they care about how many people coming through the door have spending money. Its about the number of potential customers not the average size of bank accounts when it comes to restoring sales/output/employment
Amen, Greg! What a business needs is customers who are ready, willing, and able to spend.
Jim, the fact that the household debt service number is down, is not necessarily a result of Quantitative Easing. Nor is it clear that a reduction of debt service actually alleviates the debt burden. Reducing debt service may only postpone a problem and make it worse in the long run.
I recall reading that it is defaults which have been most responsible for alleviating the debt burden (by actually reducing debt).
Art wrote: "the fact that the household debt service number is down, is not necessarily a result of Quantitative Easing."
I'm not the one who made a claim about what QE does to debt burdens.
You did. I ask you to support your claim with evidence and you haven't come up with any evidence.
From 1929 to 1933 the debt burden of the US increased from 140% of GDP to 260% of GDP. That was not because debts were increasing, it was because the banking system system couldn't handle the widespread defaults in their loan contracts. By 1933 the destruction of loans had resulted in a 40% decrease in bank deposits. The underlying trigger for these events was that the banks' payment system became impaired by so many loans defaulting in a short amount of time and that impairment led to depositors wanting to get their money out. Depositors did that because they saw that banks were having trouble covering checks in a timely fashion and that created a flood of withdrawals which only added to the impairment of the payment system and that impairment in turn led to an additional number of defaulting loans.
In 2008 a similar triggering event created a sudden landslide of defaults, but this time the impairment to the payment system was extremely brief and isolated to the Money Market Funds. Bank deposits didn't shrink but continued to grow in spite of shrinking loans. QE is a big part of why events didn't follow the same path as they did from 1929-1933.
The main function of the FRB is to maintain the basic infrastructure of the payment system in good working order. QE is part of that effort.
The FRB's job is not to alleviate the debt burden of anyone, but it is obvious that if you allow the payment system to flounder and allow a debt-deflation (read Fisher) to proceed then the debt burdens will be magnified enormously. QE did not reduce the debt burden but it did help prevent the debt burden from becoming oppressive.
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