Winner of the New Statesman SPERI Prize in Political Economy 2016

Friday, 16 June 2017

Raising the inflation target

The argument for a higher inflation target is straightforward, once you understand two things. First the most effective and reliable monetary policy instrument is to influence the real interest rate in the economy, which is the nominal interest rate less expected inflation. Second nominal short term interest rates have a floor near zero (the Zero Lower Bound, or ZLB). Combine the two and you have a severe problem in a recession, because to combat the recession real interest rates need to move into negative territory, and how far they can go into that territory is limited by the ZLB. That means monetary policy alone may be unable to get us out of a recession.

Raising the inflation target reduces the likelihood that interest rates will hit the ZLB. To see why, note first that the long run (economists often say ‘equilibrium’ or ‘natural’) real interest rate is positive. Let’s say it is 2%. If the inflation target is 2%, and the ZLB is 0%, that would mean that in normal times the average nominal interest rate is 4% (2% inflation target + 2% to get to a 2% real interest rate). That means nominal interest rates can be cut by a maximum of 4% if the economy falters. That may be enough for a mild downturn, but as we saw in 2008 it is not enough for a major recession. However if the inflation target was 4%, nominal rates would now be able to fall by a maximum of 6%. That is probably enough to combat all but the worst kind of recession.

Why are many economists currently arguing that we should raise the inflation target from 2% to 4%? One of the reasons is that we now believe the long run real interest rate is currently lower than it was when the 2% target was first chosen. (This is sometimes referred to as secular stagnation.) If you go through the arithmetic above, you can see why a lower long run real interest rate will make the ZLB problem worse. The argument is that we now need to raise the inflation target to make sure we hit the ZLB less often in the future.

This issue moved from an academic discussion to a real possibility in the US a few days ago. When Fed Chair Janet Yellen had been asked about raising the inflation target in the past, she has tended to dismiss the idea. However she now says that it is something that the Fed will review in the future, and that it is one of the most important questions facing central bankers today.

This will undoubtedly give new impetus to the debate over whether the inflation target should be raised. We are in standard trade-off territory here. Economists generally agree a higher inflation target will in itself inflict greater costs on the economy, but they bring the benefit that the ZLB problem will occur less often. But there is an alternative, and clearly much better way out of this dilemma.

Governments have another instrument that has a reasonably predictable impact on aggregate demand, and which can be used to combat a recession: fiscal policy (changes to taxes and government spending). In the UK at the moment interest rates are at the ZLB in part because fiscal policy is contractionary (austerity). It would be far better to use this instrument to stimulate the economy in a recession than to raise the inflation target. Yet the institution of independent central banks have discouraged governments from using fiscal policy in this way.

It is no good central banks pretending that this is something which is up to governments, and that there is some unwritten law which means that central banks should keep quiet on such things. In reality, in both the UK and the Eurozone, the central bank actively encouraged governments to do the wrong thing with fiscal policy in the last recession. In other words, they encouraged austerity. If there is something inherent in the institution of a central bank that makes them give inappropriate advice in this way, then we should be asking how central banks can be changed as a matter of urgency.

What should happen in a recession, as soon as the central bank thinks that interest rates will hit the ZLB, is that central banks should say, out loud in public, that fiscal policy should become more expansionary. In addition central banks should say, out loud in public, that governments need not worry about rising debt and deficits due to the recession and any fiscal stimulus they undertake spooking markets because the central bank has that covered. Both statements have the merit of being true. 

Of course governments will need to restore debt to desired levels at some point, but that point should be well after interest rates have left the ZLB because then debt correction can be painless. The immediate aim of fiscal policy in a recession should be to allow interest rates to rise above the ZLB as soon as possible. That gives you the best macroeconomic outcome, and one that is far superior to raising the inflation target. The most important question facing central bankers today is why they failed to do that from 2009.

Now it is possible that, if democracy is in a bad shape (as it currently is in the US for example), the government may ignore the advice it receives from the central bank. In that case it is worth considering giving central banks some additional power to mimic a fiscal expansion, such as helicopter money for example. Or it may be worth considering institutional changes that allow nominal interest rates to go negative. Or raising the inflation target. But before doing any of those things we need to ensure that central banks give the right advice to governments when the next recession comes along.



41 comments:

  1. "Let’s say it is 2%. If the inflation target is 2%, and the ZLB is 0%, that would mean that in normal times the average nominal interest rate is 4% (2% inflation target + 2% to get to a 2% real interest rate)."
    This might be me missing something, but why is target rather than the actual inflation rate used here? Is there an assumption that the inflation rate will be close to target?

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    1. Yes, that is what monetary policy tries to do.

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  2. "But there is an alternative, and clearly much better way out of this dilemma."

    Is it merely an alternative? How effective would raising the inflation target be if fiscal policy continues to be contractionary?

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  3. I think your analysis is spot on but, if your formula is accepted and fiscal policy does take far more of the adjustment strain, you are back to the situation where debt escalates and, although you acknowledge that debt has to be managed over the longer term, there is more than a lingering suspicion that it will never get tackled and is in fact structural. In time the need to service this escalating debt will affect the delivery of public services.

    It is of course axiomatic that the counterpart to fiscal expansion is deficient private demand and the desire to mitigate cyclical variations in this.

    However, and I know you do not mention the Austrian school very much, there is the issue of how the system gets purged (Schumpeter) of the excesses in the cycle. If aggregate demand is always supported then how are these excesses purged in the model you put forward? Or is your view that this is not necessary? It seems to me there is a missing element which addresses this issue.

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    1. I cannot see why austerity (fiscal consolidation that reduces output) is essential but fiscal consolidation when monetary policy can offset its effects is somehow thought unlikely to happen. Or in other words, nonsense.

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    2. Thought-provoking post, Robert. With respect to your observation that fiscal expansion is a counterpart to deficient private demand, connected to the related desire to mitigate cyclical variations in its level, issues of timing and expectations intrude, but I think the 'missing link' you refer to, is that the increased public investment in productive infrastructure - including affordable housing - needs to be a structural and sustained, rather than a cyclical, response. In other words, such investment needs to be a higher constant and displace excessive cyclical levels of private demand, rather than reduce a more optimal level of median demand linked to compressed peaks and troughs.

      Taking housing, as an example: Bank of England prudential controls on mortgage lending combined with increased public investment in new affordable housing assets (carefully designed and mixed ideally with private investment in such a way to increase total new housing investment ) rather than increased private expenditure on mortgage financing of assets inflating in paper value, would serve to directly deflate frothy bust-inducing cyclical private booms in the housing market.

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  4. So to summarise SW-L’s article, demand should be boosted not by just enough to deal with excess unemployment, but by even more so as to artificially raise interest rates, so that come the next recession, interest rates can be cut. In short, home buyers have to pay extra interest so as to keep monetary policy enthusiasts happy. Or have I missed something?....:-)

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    1. For every borrower there is a saver.

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    2. Is this really a real description of the system? Are you just invoking the savings/investment identity?

      My understanding of money creation is that lending does not require savings per se.

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    3. For every apple sold, there's an apple buyer. That doesn't justify a non-optimum, or non GDP maximising price for apples: e.g. an artificially raised apple price. Same for interest: a deliberately excessive amount of fiscal stimulus designed to artificially boost interest rates will presumably not maximise GDP.

      The only excuse for that policy would be if interest rate adjustments worked much more quickly than fiscal adjustments, but I’m not impressed by the evidence backing that idea.

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    4. A point to add to the reply is that it is nominal interest rates which would be higher with a higher inflation target, not real interest rates.
      In other words: if inflation were 2% higher than otherwise, then home buyers (and other borrowers) would be paying 2% more on interest payments, but their incomes and the prices of their homes would also be rising 2% faster than otherwise. So the burden of payments is the same as with the lower inflation rate.

      Almar.

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    5. Professor, there is very good story to be told that for every borrower there is not a saver. At least not beforehand.
      https://larspsyll.wordpress.com/2017/06/22/mainstream-monetary-theory-neat-plausible-and-utterly-wrong/

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  5. Did you hear Rupert Harrison on Radio Four's PM on Tuesday (listen from 45:30 into the programme if not) defending his and Osborne's austerity?

    "This debate has been settled" he kept repeating.

    Quite right, only not to your favour.

    "In addition, one of the secret scandals of modern Britain has been the increase in the death rate. In England and Wales it went up by 5.4 per cent in 2015, an extra 27,000 deaths over the year before: too big a number to be a statistical glitch. The death rate fell from the mid-1970s until the arrival of the coalition, but has been going up since 2011. The fact that the death rate fell under successive Tory and Labour regimes and is only now rising suggests that there is something specific about recent policy which is making the death rate worse. The likeliest culprit is changes to social care, in particular care of the elderly."

    (Between Victoria and Vauxhall, John Lanchester, LRB 1 June 2017).

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  6. Economic bungee jumping without cord
    Comment on Simon Wren-Lewis on ‘Raising the inflation target’

    You say: “The argument for a higher inflation target is straightforward, once you understand two things. First the most effective and reliable monetary policy instrument is to influence the real interest rate in the economy, which is the nominal interest rate less expected inflation. Second nominal short term interest rates have a floor near zero (the Zero Lower Bound, or ZLB).”

    The argument for a higher inflation target is NOT straightforward, once you understand two things. First interest theory is axiomatically false.#1 Because of this monetary policy never had sound scientific foundations. Second the same holds for fiscal policy.#2

    Let us assume for a moment that, for whatever reasons, neither monetary nor fiscal policy is applicable. So, given investment expenditures of the business sector and the expenditure ratio of the household sector, the only alternative left is to directly influence the macroeconomic price mechanism.#3

    The argument AGAINST higher inflation is that it REDUCES employment. Given the overall situation, the ONLY sensible policy is to increase the average wage rate, such that rate of change of the wage rate is greater than the rate of change of productivity, because this increases employment. This is a SYSTEMIC necessity and has NOTHING to do with social policy. Employment is co-determined by the relationship between average wage rate, price and productivity. This relationship should automatically produce full employment but does not.

    Standard employment theory is false.#4 The proposal to get the economy going by increasing price inflation is the direct result of the complete lack of understanding how the market economy works.

    Egmont Kakarot-Handtke

    #1 See ‘The Emergence of Profit and Interest in the Monetary Circuit’
    https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1973952

    #2 See ‘Austerity and the utter scientific ignorance of economists’
    http://axecorg.blogspot.de/2015/12/austerity-and-utter-scientific.html

    #3 For more details see ‘Think deeper’
    http://axecorg.blogspot.de/2017/06/think-deeper.html

    #4 For details of the bigger picture see cross-references Employment
    http://axecorg.blogspot.de/2015/08/employmentphillips-curve-cross.html

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  7. You can't raise something that can't be raised. Maybe just get rid of inflation targets in general and focus on debt bubbles instead.

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    1. The US are currently raising rates to hit a 2% target. If the target was 4%, they wouldn't be raising rates.

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  8. The status quo is monetary policy with goals set politically but managed (sort of) technocratically, whereas fiscal policy is entirely political. Is there any literature on the possibility of separating political fiscal policy from counter-cyclical fiscal policy?

    Infrastructure banks that independently decide the rate of spending on maintenance or new projects would be an example. In a country like Norway with a sovereign wealth fund, deciding the contribution the wealth fund makes to national income would be another.

    In a recession expansionary fiscal policy just means you spend more. Can you use fiscal policy to mitgate a boom? For example, a sovereign wealth fund could have a managed variation on the income tax rate, set by a technocrat like the Fed chair, which could be positive in a boom to raise taxes and fight inflation, and negative in a slump to provide stimulus?

    In short, now we do macroeconomic management mainly through monetary policy, with fiscal (theoretically) getting us out of holes. This appears not to work so well in practice. Could one flip the structure to have macroeconomic management dominated by fiscal policy, but managed by a similar structure to that which currently manages monetary policy?

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    1. One would hope that Andrew Adonis's Infrastructure Commission is thinking about how best to prioritise and sequence public infrastructure projects, as well as the relationship between its overall level and economic performance.

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  9. While I do think that central banks should most definitely advocate for fiscal stimulus when interest rates approach zero, the fact of the matter is that many governments will refuse for various political reasons.

    So it seems to me to be many times safer to just avoid the problem in the first place by raising the inflation target.

    Yes, it would be much better if governments were always willing to engage in fiscal stimulus. I don't think we can ever rely on that.

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    1. If that is the case, giving central banks some fiscal instrument (like helicopter money) avoids the cost of extra inflation.

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  10. A different but related question is, why CBs have such a hard time raising inflation. The ECB buys 8% of euro zone GDP of securities and inflation barely bumps.

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  11. The Federal Budget in Germany is about 10 per Cent of GDP.

    Please tell us by how much the federal government should raise it to get the interest rates you consider right?

    Since Germans are always complaining about low interst rates because it makes their savings unprofitable they will be delighted to hear a number as long as it is in the bounds of common sense.

    I remember from many former blogs of his that Prof. Wren-Lewis never answers such questions. Will he make an exception this time?

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    1. You obviously missed this http://voxeu.org/article/fiscal-policy-explains-weak-recovery

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  12. You write: "In the UK at the moment interest rates are at the ZLB in part because fiscal policy is contractionary (austerity." I've just read a long letter in my Saturday FT arguing that Osborne persuaded the public that he was pursuing austerity while actually running large deficits. So what's the real situation? Can there be such a thing as austerity with fiscal deficits?

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    1. Yes. If the deficit is falling as a % of GDP that is contractionary.

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  13. «instrument that has a reasonably predictable impact on aggregate demand, and which can be used to combat a recession: fiscal policy [ ... ] In the UK at the moment interest rates are at the ZLB in part because fiscal policy is contractionary (austerity)»

    And here we get again at the core of why I regard our blogger's line as propaganda for policies that redistribute upward via "wealth effect" expansionary policy...

    For the longest time "austerity" was properly used to mean policy that is contractionary overall, the context being the stop-and-go decades, where the constraints were imports and the valuation of the pound.
    When imports surged and the pound fell governments used "austerity", that is an overall contractionary policy, to do the "stop" phase, to reduce aggregate demand and consumption, and this used both fiscal cuts to reduce demand for imports and increases in interest of rates to reduce asset values and increase foreign investment.

    But currently credit policy is wildly expansionary, and fiscal policy is mildly contractionary, and the effect cannot be described as "austerity": crucially imports are booming, like immigration, asset valuations, financial incomes and thus there is no overall contractionary policy. Indeed the policy mix described by G Osborne as:

    My approach is to be fiscally conservative but monetarily active.

    is not by any means "austerity", it is more properly called "class war", as it is policy not of dialing back demand and imports overall, but of pushing down wages and social insurance for workers and pushing up the profits capital gains of property and business rentiers.

    «the institution of independent central banks have discouraged governments from using fiscal policy in this way. It is no good central banks pretending that this is something which is up to governments, [ ... ] in both the UK and the Eurozone the central bank actively encouraged governments to do the wrong thing with fiscal policy in the last recession.»

    I think that this is a gross misinterpretation: let's look at the UK, where G Osborne described the reasoning behind credit expansion and fiscal discipline as:

    «A credible fiscal plan allows you to have a looser monetary policy than would otherwise be the case.»

    It is pretty obvious that G Osborne did not need any encouragement from M King or Carney to use the inflation target as a way to "force" the BoE to bubble up credit, in order to compensate for the harsher than necessary fiscal policy.
    Sure the BoE went along quite happily with being "forced" to create a huge credit bubble to enrich property and finance interests, and only quite late in the game M King, to his credit, commented on the massive redistribution that implied. But the redistribution was very obviously a government policy goal, even if the BoE acquiesced to it. The BoE cannot be the political opposition...

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  14. «in both the UK and the Eurozone the central bank actively encouraged governments to do the wrong thing with fiscal policy in the last recession.»

    In the case of the ECB the misinterpretation seems to me even more gross, if possible, because the eurozone, by design, does not have fiscal policy instruments, so the ECB is left alone with credit policy. And the ECB, to the often very loud complaints of some, has done whatever it could to operate quasi-fiscally, helping governments in recessionary circumstances like the greek government with colossal quasi-fiscal handouts, by cutting the interest costs on their borrowing to nugatory levels.

    Our blogger does not mention the FOMC, but they have behaved much as the BoE, by bubbling up credit given the "fiscally conservative" approach of Congress.
    As the FOMC is very keen on "financial stability", which is an euphemism for "bankers' job security and bonuses", they have bubbled up credit and asset prices far more enthusiastically than even the BoE, as a former FOMC member wrote:

    http://globaleconomicanalysis.blogspot.co.uk/2016/01/former-dallas-fed-governor-richard.html
    What the Fed did, and I was part of that group, we frontloaded a tremendous market rally starting in march of 2009. [ ... ] Once again, we frontloaded, at the federal reserve, an enormous rally in order to accomplish a wealth effect.

    And indeed in the USA too it is pretty clear that there is no austerity, but massive upward redistribution: imports booming, immigration booming, asset prices booming, corporate and finance profits doing very well, while at the same time wages and social insurance are being pushed down.

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  15. «the government may ignore the advice it receives from the central bank.»

    Comments like this sound very strange to me: for our blogger is very much an establishment Economist and I am certain, without that "benefit", that the BoE have advised the government of that, in private. What our blogger seems to imply is that the BoE should loudly and publicly run a campaign of opposition to the economic policy of a government whose Chancellor declared that “My approach is to be fiscally conservative but monetarily active”. That seems like excessive expectations. But then M Draghi at the ECB has rather often and publicly argued that the eurozone governments need to do more on the fiscal side, even if not quite as loudly and constantly as he could have.

    «In that case it is worth considering giving central banks some additional power to mimic a fiscal expansion, such as helicopter money for example.»

    But the BoE already has these powers: they have done the equivalent of "Outright Monetary Transactions" (beautiful euphemism) for hundreds of billions of pounds and arguably over a trillion to the benefit of a small number of City corporates who were I reckon fraudulently bankrupt; because financial stability :-). The BoE balance sheet has expanded tremendously, and the nationalized conglomerate that should be known as "British Spivs" but still goes by "the City" has been covertly recapitalized largely by courtesy of the BoE. This did very successfully “mimic a fiscal expansion”, targeted at the "right" people of course. When it comes to social insurance of miserable amounts to desperately poor people it is "unaffordable", but when it comes to finding hundreds of billions on the hop to support the job security and massive bonuses for very rich executives and traders the BoE seemingly can do whatever it takes.

    «to allow interest rates to rise above the ZLB as soon as possible»

    But “interest rates” are way above the ZLB: nobody but the BoE's "friends of friends" can borrow at 0%, and consume and business borrowing rates are between 4% and 1200%. I recently saw in the London Underground an advert for a loan with a special low APR of only 753% (seven hundred fifty three percent): http://imgur.com/a/ji90O
    And even the 4% rates are for "friends of friends of friends" borrowers, that is those rich enough to borrow against property, whose rising prices are in practice guaranteed by the BoE, who is willing to talk down shares and bonds to keep them bubbling up:

    https://www.theguardian.com/money/2016/aug/28/property-is-better-bet-than-a-pension-says-bank-of-england-economist
    Haldane believes that property is a better bet for retirement planning than a pension. “It ought to be pension but it’s almost certainly property,” he said

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  16. Yes, democracy in the US is in bad shape, so bad that one can make the point that there is no democracy. However, who is saying that? An Englishman? After Scotland leaves, Wales sees the end and Northern Ireland... what is left over of the mighty British Empire? Engeland.

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  17. It is not the business of central banks to advise governments on fiscal policy. The remit of a central bank is to ensure the orderly implementation of the elected government's macro-economic strategy. Its job is to ensure there is an adequate supply of money to do this (and in many countries the orderly management of public debt). It's position must necessarily be passive. The right debate about fiscal policy is in the democratic arena. The executive must not influence the political debate here.

    Economists more generally have not been listened to this time in their advocacy of fiscal policy, but that is because public opinion of the profession is very low. The view of many is that they use abstraction and models not unlike that seen in the financial sector, which is also a sector with low levels of public trust. The view of the financial sector was that technically "sophisticated" models had leverage under control; rather like economists viewed monetary policy and aggregate demand management during the Great Moderation. The problems after 2008 were building up over a long time, and were not picked up. There has simply not been enough introspection in the profession, only very cosmetic changes (adding so-called frictions and financial sectors into existing models). What happened to calls for greater pluralism - answer: nothing. It is very much business as usual. It is also unlikely that we see real ground up study about what the causes are of low interest rates, financial instability, and other issues that call for real multidisciplinary analysis of the dynamics of capitalism.

    NK.

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    1. The way it would work is this. When the central bank thinks rates will hit the ZLB, it says - publicly and loudly - that it can no longer do its job properly because fiscal policy is too tight.

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    2. After periods of considerable financial turmoil the ability of central banks to influence financial sector credit provision through the interest rate is in any case very limited. The answer may have to be greater activism, where governments, together with central banks, get involved in the allocation of credit. This will be an anathema to the Neo-Liberal - Neo-Classical consensus (we should have the market allocate resources with a socially liberal welfare state) - but it is time to ask questions ontologically where the philosophical foundations of this methodology, which is essentially an ideology, lie.

      NK.

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    3. «When the central bank thinks rates will hit the ZLB, it says - publicly and loudly - that it can no longer do its job properly because fiscal policy is too tight.»

      But that the government(s) have been squeezing (a bit) fiscal policy in order to "force" the BoE, given an unchanged wage inflation target, to bubble up credit to attempt a "trickle down" "even wealthier effect" and that is not a technical matter like “can no longer do its job properly”.

      And here we go back to the "austerity" equivocation: if the government policy can be described as "austerity" it could be coinsidered as a policy mistake, and the BoE could point that out loudly and publicly. But the policy the government(s) have chosen is "class war", that is redistribution upward, quite consciously, as G Osborne made abundantly clear, and that is a legitimate policy choice, and the first G Osborne government was re-elected with an increased parliamentary majority. That is “fiscally conservative but monetarily active” is a political strategy even more than an economic policy, the political opposition campaigned against it and lost that argument, so that political strategy was endorsed by the voters.

      It seems bizarre to me to argue that the BoE should support the political campaign of the opposition against a government who has deliberately chosen upward redistribution as a political strategy and that choice has been endorsed by voters.

      The BoE is not the fourth estate of the political system after the parties, the City and Murdoch... :-)
      The BoE is the servant of the City, and the City is very happy with upward redistribution.

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  18. An excellent discussion on all counts. It appears the FED chair Janet Yellen is considering raising the US expected inflation target. I wonder if she was convinced by your post.

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  19. Or re-tilt the QE programme towards the purchase of infrastructural bonds. Interesting article in Moneyweek, on moves for the Bank of japan to finance free education tuition by the issue of education bonds.

    http://moneyweek.com/merryns-blog/the-uk-cant-afford-free-university-tuition-but-japan-can-heres-how/

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  20. Or re-tilt the QE programme towards the purchase of publicly-backed bonds, financing economically needed expenditure on infrastructure, whether physical or human? Interesting article in Moneyweek on moves for the Bank of japan to finance free education tuition by the issue of education bonds, possibly relevant to labour's pledge.

    http://moneyweek.com/merryns-blog/the-uk-cant-afford-free-university-tuition-but-japan-can-heres-how/

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  21. Prof. Wren-Lewis:

    Your proposal will not work for countries whose bonds are considered as safe assets (US, Germany, UK, France). The world-wide savings glut will keep interest rates low there. Those are the limits of fiscal policy.

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    1. Apologies on duplicating my post. Tilting the QE programme towards the purchase of publicly-backed bonds, financing economically needed expenditure on infrastructure, whether physical or human, would not be designed to increase interest rates, but rather to provide an adjunct to fiscal expansion, which would not add to the deficit.

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  22. How big a penance do the words "inflate our way out of trouble" carry nowadays?

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  23. It is crystal clear that the BoE and other such institutions encouraged austerity post 2008, rather than advising fiscal stimulus. Assuming that this really was a basic mistake, one that most economics undergraduates would not have made, are you able to say why the central banks were governed by such poor economists? What can be done about their internal structures? In my field many mediocre people get to the top, but absolute no-hopers almost never do.

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  24. Simon Wren-Lewis

    You say: “For every borrower there is a saver.”

    In this generality this is trivially true, nonetheless it is grossly misleading. To see this, let us take the pure consumption economy as the most elementary case as starting point (no investment, not government, no foreign trade). Wage income is denoted as Yw, consumption expenditures as C.#1

    The sector balances (Sm≡Yw-C, Qm≡C-Yw) always add up to zero, i.e. Qm+Sm=0 or Qm=-Sm, that is, the business sector makes a monetary profit Qm which is equal to the household sector’s dissaving -Sm or a loss -Qm which is equal to monetary saving Sm. So, if the household sector dissaves it uno actu happens that the household sector becomes the borrower vis a vis the banking sector (including the central bank) and the business sector becomes the lender to the banking sector. When we cut the banking sector short the business sector becomes the ultimate lender to the household sector.

    From this immediately follows that saving and investment is NEVER equal, neither ex ante nor ex post, and ALL Keynesian and Post Keynesian and New Keynesian and IS-LM models are provable false.#2

    The same relationship holds when the private households are substituted by public households. Therefore, the period deficit of the public sector reappears one-to-one as profit of the business sector. When we cut the banking sector short the business sector becomes the ultimate lender to the public sector.

    Needless to say that the business sector prefers the public sector as ultimate borrower. This explains the safe asset shortage if the monetary profits stem from private deficit spending.

    The deficit spending of the private and public households together determine the overall profit of the business sector. This means that Keynesian deficit spending is the ultimate profit machine if the household sector’s budget is balanced. Private and public deficit spending in turn explain the falling labor share.#3

    Whether public deficit spending helps employment is not sure. It depends on whether the average price increases or not. In any case, though, public deficit spending helps profit one-to-one. So, whoever wants the maximum employment effect from deficit spending has to see to it that the price increase is zero.#4

    Now, you are in favor of expansive fiscal policy and propose to increase the inflation target. This is as counterproductive as can be. The combination of increasing public deficit spending and a rising price increases profit and leaves employment unaffected.

    From the standpoint of the 1-percenters your policy mix is perfect. From the standpoint of the 99-percenters it is another instance of expert madness. The correct policy in the given situation is to put traditional=failed monetary and fiscal policy aside and to increase the average wage rate at ZERO inflation.

    Egmont Kakarot-Handtke

    #1 For details see ‘First Lecture in New Economic Thinking’
    http://axecorg.blogspot.de/2017/05/first-lecture-in-new-economic-thinking.html

    #2 For details see ‘Profit and the collective failure of economists’
    http://axecorg.blogspot.de/2015/11/profit-and-collective-failure-of.html

    #3 See ‘Profit and distribution: a primer’
    http://axecorg.blogspot.de/2017/06/profit-and-distribution-primer.html

    #4 See ‘Unemployment is high because economics is false: period, full stop, end of story’
    http://axecorg.blogspot.de/2016/11/unemployment-is-high-because-economics.html

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