## Saturday, March 11, 2017

### The way economics is done

I'm lookin into Richard Werner's scatterplots, creating my own version. It helps me think. But I got this far and I have to stop, because something from a few days back keeps popping up in my head.

 Graph #1
I made the graph taller than usual. But it's still not tall enough. The space between zero and one on the horizontal axis is still bigger than the space between zero and two on the vertical. This graph needs to be twice as tall as it is, and more. Or half as wide, and less. In case you, Roger Farmer, want to say something about the trend line, like it is "closer to being horizontal than vertical".

Try this on for size:

 Graph #2
Here, the distance between zero and two is about the same on both axes. Now you can discuss the slope of the trend line.

But if ya druther, it's easy to make the graph show what you want:

 Graph #3
Now we've got it. Now the trend line is "closer to horizontal than vertical." Now the evidence matches up with your story, Roger. Now we're good.

Oh, man. I was watching TV and the girl was so pretty. And I looked her up on the internet and she's not pretty and she's fat.

Ouch.

A lot of girls are like that. A lot of graphs are like that, too. Real pretty when they show it to ya. A real dog when you see it with your own eyes.

jim said...

Here is what I get when I try to duplicate Werner's scatter plot

https://fred.stlouisfed.org/graph/?g=cZ7t

The only narrative I have seen in regard to what the Fed is doing is the one written in the statutes:
"maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices and moderate long-term interest rates."

Back in the 70s and 80s when monetarist beliefs prevailed that was interpreted (by the FOMC and others) to mean that keeping the money supply in steady proportion to GDP is the main Fed task and if successful employment and inflation will be taken care of by the markets. In the late 80s this policy prescription was changed to more direct responses to inflation and employment. High unemployment means interest rates need to come down and high inflation means interest rates need to go up.
I have never seen the Fed claim that they control GDP via interest rates. I don't know where Werner gets that.

I don't even see much that suggests the Fed believes they have much influence on market interest rates. They make statements designed to encourage market rates to go up or down and if the markets move they follow, and if the markets don't move they don't either.

The Arthurian said...

Hi Jim. I found your comment (and some others) in the spam filter. I guess Blogger has been "improving" things again.

I'm thinking it makes sense for the Fed to watch market rates closely. Go with the flow when everything is going how they want. And make adjustments otherwise.

I see Richard Werner uses long-term interest rates. But it doesn't make sense to me. If he are talking about whether the interest rate is the "key tool for monetary policy" (as he said in your youtube link) then why not look at the policy rate?

jim said...

Werner's point, that I agree with, is that interest rates are correlated with GDP growth. High growth rates and high interest rates go together and so does low growth and low rates.

Once you see that to be a fact that appears to always hold true, it is pretty hard to justify the story that the Fed is controlling growth by manipulating interest rates. The story (regardless of who tells it) doesn't make sense in light of the facts.

IMO Werner's story also doesn't makes sense. His faulty premise is that bank loans (the type of loan where loans create deposits) represent most of the economies debt when in fact it is only a small fraction of the total debt.

Oilfield Trash said...

P*Q=M*V

Whatever relationship interest rates have to subsequent economic growth is already contained in prior changes in GDP, unemployment and inflation. Interest rate changes are largely the results of prior measures of economic activity, not the causes of future economic activity.

Of course now their are two policy rates. One official, the other not so much. The Fed fund rate is the one everyone pays attention to, the IOR rate is seen as a QE tool.

I think the IOR rate has more impact than the FF target. IOR allows the FED to expand and contract its balance sheet and sets the floor for the FF target.