A Review of Recoveries in Contrast

I’ve been tracking the economic recovery with charts and commentaries on this blog since it began in 2009. The simplest but most revealing charts compared and contrasted this recovery with the recovery of the 1980s. Here’s an update of two of those charts. The first shows the change in the employment-to-population ratio,emptopop-1-2015

and the second shows the growth rate of real GDP for the two recoveries.


One can’t help but notice the enormous difference back at the start of this recovery, but the difference has persisted year after year for going on six years now.

At the time of the first anniversary of current recovery in 2010, it showed clear signs of weakness compared to the recovery from the recessions in the early 1980s and from all other deep recessions in American history. Some said it was a natural occurrence because of the depth of the recession, but Milton Friedman long ago showed that there was nothing natural about it.

By the recovery’s second anniversary in 2011, it was weak for long enough that I called it “a recovery in name only, so weak as to be nonexistent.” Still some said it was not so bad given the depth of the recession, but research by Mike Bordo and others verified that something unusual was going on.

By the recovery’s third anniversary in 2012, it was now the worst recovery from a deep recession in American history.  Some still disputed that but an analysis of the data in these charts showed we clearly had a problem on our hands. In my view the problem was economic policy and I wrote First Principles to explain that view.

By the recovery’s fourth anniversary in 2013, few disputed any more that it was unusually weak and disappointing.  But rather than consider government policy as the cause, other explanations arose, such Larry Summers’ “secular stagnation” (see Chapter 2 of Baily-Taylor) which took the economic commentary world by storm.

By the recovery’s fifth anniversary, we were so far away from the recession that linking the terrible performance to the recession became increasing far-fetched.  The sarcastic sounding “not-so-great-recovery” had become a favorite label, and the “it’s policy” versus “it’s secular” debate continued.

With the recovery now approaching its sixth anniversary, there is more optimism that we are finally coming out the excruciating slow growth. There is also some wishful thinking that the drop of people out of the labor force—which has made the unemployment rate come down—is due to demographic factors not the slow growth itself. And we are not as bad as Europe.

But as these charts show there is still not much in this recovery to write home about. Growth over the four quarters of 2014 looks to average only 2.2% compared with 4.4% in the corresponding quarters of the 1980s recovery. And as of January 2015 the employment-to-population ratio is still lower than at the start of the recovery.

Posted in Slow Recovery

It’s Not About Conspiracy Theorizing, It’s About Effectiveness

Yesterday Paul Krugman took some pot shots at an op-ed that Paul Ryan and I wrote nearly five years ago—an op-ed that was critical of quantitative easing. Here’s why Krugman missed his mark and the QE critics are correct.

The op-ed stated that QE1—the 2009 actions “in which the Fed bought not only large amounts of Treasury securities but also securities backed by private mortgages”—“failed to strengthen the economy.” Krugman claims that the only evidence we had at the time was that the economy did not strengthen. As he puts it, “when I stepped outside this morning, it was cold, so I put on a coat — but it didn’t work, because it was still cold.” But there was and is evidence, including econometric research by Johannes Stroebel and me completed in 2010–later published in the International Journal of Central Banking–and basic finance theory as explained by John Cochrane in an interview published in Econ Focus by the Richmond Fed.  A short summary based on my research of the role of monetary policy in the crisis is found here. It is critical of monetary policy before and after the panic in the fall of 2008, but not during the panic.

The op-ed also said that an upcoming round of “QE2 will create more economic uncertainty, stemming mainly from reasonable doubts over whether the Fed will know exactly when and how to contract its balance sheet after such an unprecedented expansion” and that these quantitative easing operations “involved the Fed in areas of fiscal policy, such as credit allocation,” arguing that such operations were the proper role of Congress.  Here Krugman simply resorts to the accusation that the article engaged “conspiracy theorizing.” This is way off. There was no mention of individuals, no mention of conspiring or even talking with other people in the op-ed.  The concern clearly expressed in the oped was about the loss of central bank independence and the departure from rules-based policy—a concern expressed by many people then and now—not that there was a conspiracy.

Krugman also criticized once again a letter written on 2010 criticizing quantitative easing. I responded to that criticism here.

Update: Krugman put material from his blog post of yesterday into his  NYT column today, so my response in this blog pertains to that column too.

Posted in Monetary Policy

Paul Krugman Pontificating on Policy Rules

In a recent blog post Paul Krugman talks a lot about policy rules and the Taylor rule in particular.

He complains that “Republicans are pushing to mandate that the Fed follow the so-called Taylor rule.”  But the policy rule legislation that has come out of Congress recently would simply require the Fed to describe a rule or strategy of its own choosing, not follow any specific rule.  The legislation refers to a policy rule that I invented, but simply as a “reference rule,” not a “mandated rule.”   Fed officials have been referring to that rule for many years as a benchmark, or as an example, or simply as a framework to argue for change, such as a lowering of the equilibrium real interest rate in that rule. Such references reflect standard practice for the Fed.

Krugman talks about the history of the Taylor rule.  He does not dispute that monetary policy was well described by that rule during the good economic performance period of the Great Moderation. And he does not dispute that policy departed from that rule during the pre-crisis period leading up to the end of the Great Moderation. Rather he claims that the departure was slight and, according to some models, not enough to cause a deterioration of economic performance.  But the departure was not slight; it was as large as the deviations during the 1970s when economic performance also deteriorated. And there are plenty of empirical studies that connect that departure to a deterioration in performance,  including the work on monetary policy and the housing boom and bust I presented in Jackson Hole in the summer of 2007 and the work by Jarocinski and Smets and Ahrend.

Historical research showing that a more rules-based policy works better than pure discretion is vast, much of it reviewed in a recent issue of the Journal of Economic Dynamics and Control. “I think it is important, based on my own experience, to have a rules-based monetary policy,” writes former Secretary of Treasury, George Shultz in the volume.  And monetary historian Allan Meltzer concludes that “The main lesson of this trip through history is that following a rule or a quasi- rule…produced two of the best periods in Federal Reserve history.”  Michael Bordo states that “The Fed has moved away from rules policy in its lender of last resort function,” and “this policy shift contributed to moral hazard and created new threats to financial stability.”

Krugman talks about the zero interest rate bound and the Taylor rule. He claims that the zero bound on interest rates was considered too minor to incorporate in work on policy rules. But the bound was explicitly taken into account in my research work that led to the Taylor rule.

Krugman opines that people are “inventing ever-more bizarre stories to avoid admitting having been wrong about something,” the Taylor rule in particular. Yet my 2007 paper was completed before the start of the Great Recession, and empirical macroeconomists, such as David Papell and his colleagues, are carefully reviewing the same old policy rule story not inventing new bizarre stories.

Krugman offers a funny video of Woody Allen to illustrate his piece. Funnier would be the famous “You know nothing of my work,” clip from Annie Hall.

Posted in Monetary Policy

Reply to Alan Blinder Redux

Alan Blinder has written another Wall Street Journal article criticizing legislation that would simply require the Fed to describe its rule or strategy for monetary policy.  As with his earlier article, Blinder still “shoots at a straw man of his own making, not at the proposed law itself” as I wrote in another John Taylor’s Reply to Alan Blinder for the Wall Street Journal.

Blinder says the act “would require the Fed to adopt a mechanical rule for monetary policy.”  No, there is nothing mechanical about what is required. The legislation emphasizes that it is the Fed’s job to choose the rule and to describe the rule, and it can do so as it sees fit.

Blinder sounds particularly upset that the legislation, as he puts it, “strongly suggests a rule invented by economist John Taylor of Stanford University.”  While a policy rule invented by me is referred to in the legislation, it is simply put forth as a “reference rule,” not a “required rule,” not a “preferred rule,” and certainly not as a “strongly suggested rule.”

It is hard to find work done on monetary policy rules that does not refer to the Taylor rule in some way. Such references have been made by Fed policymakers and staff for decades, both internally and externally.  Referring to such a rule as a benchmark, as an example, or even as an alternative is standard practice for the Fed, so having the Fed refer to this “reference rule” is by no means a warning to “Depart from the Taylor rule at your peril” as Blinder cutely puts it.

Blinder admits that “As rules go, the Taylor rule is not a bad one. In normal times, it provides a useful benchmark against which monetary policy can be appraised.” He then adds:  “But what about abnormal times? When the economy departs from ‘the rules,’ do we really want the Fed to stick with the Taylor rule out of fear of congressional browbeating?”

But the legislation is explicit that the Fed can depart from its chosen rule; all it needs to do is explain the reasons for the departure.  Such an approach will increase transparency not increase browbeating.

Posted in Monetary Policy

A New Fed Centennial Volume with a Twist

As the two year centennial of the founding of the Fed in 1913-14 draws to a close this month, a new centennial volume, Frameworks for Central Banking in the Next Century, is being published as a special issue of the Journal of Economic Dynamics and Control. Edited by Michael Bordo, Bill Dupor and me, the volume consists of papers, discussions and panelists’ remarks from a conference at Stanford’s Hoover Institution. The overall viewpoint of the volume is considerably different from other centennial volumes, including a symposium published by the Journal of Economics Perspectives called The First 100 Years of the Federal Reserve, based on a conference held at the National Bureau of Economic Research.

As Mike Bordo and I explain in the introduction to the new volume “…the findings are consistent with, and would encourage, a more rules-based policy for the Federal Reserve. As a result they would, as many of the papers argue, improve economic performance in the United States and the global economy.”  For example, the first paper (presented at the conference by David Papell) “uses a battery of statistical techniques to determine when in history monetary policy was rule-like, and it shows that the rule-like periods coincide remarkably well with periods of good economic performance. A clear policy recommendation emerges directly from these statistical findings: use rules-based monetary policy whenever you can.” (This introduction and all the papers in the volume can be found here).

There are, of course, discussions and debates on this and many other important central banking policy issues elsewhere in the volume with fascinating contributions by John Cochrane, Lee Ohanian, Michael Bordo, Athanasios Orphanides, Rich Clarida, Alex Nikolsko-Rzhevskyy, Ruxandra Prodan, Andy Levin, Marvin Goodfriend, Esther George, Tom Sargent, Monika Piazzesi, Charles Plosser,  John Williams, Jeff Lacker, Ed Prescott, Allan Meltzer, Niall Ferguson, Martin Schneider, Maury Obstfeld, Barry Eichengreen, George Shultz and Otmar Issing.

Here is what the special issue (with the TOC on the back cover) looks like. JEDC Dec 2014_Page_1Interestingly, 35 years ago (when the rational expectations-policy evaluation revolution was just beginning) I coedited (with Matt Canzoneri) another special issue of the JEDC on aspects of rules-based policy with contributions by Sargent, Prescott, Kydland, Hansen, Calvo, Chow, Fischer and me.  Here is what it looked like.

JEDC Feb 1980

Posted in Monetary Policy

The Taylor Curve Has Two Dimensions In Both Hemispheres

Springtime in the Southern Hemisphere is wonderful, and I have been having fun here for the past 10 days, keynoting at two great conferences, with one talk on central bank independence at the Central Bank of Chile and another talk on inflation targeting at the South African Reserve Bank.

Olivier Blanchard joined me in the keynote in Chile, which brought out differences between us that were obvious to everyone (for example, he made the case for capital controls or at least “capital flow management”). In contrast, the differences between me and Lars Svensson, who joined me in South Africa, were small. We both argued that monetary policy should not deviate from inflation and output stability goals for so-called macro-prudential reasons.

I had more disagreements with the paper John Williams presented in South Africa. He started off with an incidental, but misleading or at least incomplete reference to Milton Friedman.  John said “To paraphrase Milton Friedman ‘we are all inflation targeters now’” informing the audience that Friedman once admitted that “we are all Keynesians now.” What Milton actually said was “In one sense, we are all Keynesians now; in another, nobody is any longer a Keynesian,” as he explained in his autobiography with Rose (p. 231) adding that  “The second half is at least as important as the first—the first sense had to do with rhetoric, the second with substance.”

But more seriously, the evaluation of inflation-targeting as a strategy for monetary policy in John’s paper—the main purpose of the paper—was also misleading or at least incomplete. Rather than consider the performance of both inflation stability and output stability—as virtually all monetary policy evaluation studies have done for the past 40 years—he looked only at the first—inflation stability. To paraphrase Milton “the second is at least as important as the first.” Yes we know that inflation has been low and steady in recent years. The problem is that output or employment performance has been terrible—in the US we have had the Great Recession and the Not-So-Great Recovery. That deterioration should be part of the evaluation too.

A number of years ago I developed a framework—the so-called Taylor Curve—to do such a two-sided evaluation, and it has been used many times since then by central bankers. Here is a version that Ben Bernanke used ten years ago, which I have updated. It shows improved macro performance from A to B and then deterioration of performance from B to C.  In evaluating monetary policy one cannot simply hide the vertical axis of the Taylor curve, as the paper by John Williams effectively did

Taylor Curve - Bernanke

Posted in Monetary Policy

Wanted: A New Handbook of Macroeconomics

The first volume of the Handbook of Macroeconomics, edited by Michael Woodford and me, was published in 1999 in the midst of the Great Moderation.  It still ranks first in total downloads of all economics books according to Research Papers in Economics (RePEc). This is perhaps not so surprising given all distinguished contributors to the volume like Hansen, Solow, Shiller, Bernanke, Mankiw, Hall, Browning, Gertler, Christiano, Eichenbaum, Evans, Stock, Watson, Bordo, Schwartz, Durlauf, Quah, Benhabib, Farmer,  Evans, Honkapohja, Heckman, McGrattan, Caballero, King, Rebelo, Ramey, West, Mortensen, Pissarides, Persson, Tabellini, Chari, Kehoe, Calvo, Vegh, Elmendorf, Schmitz, McCallum, Gilchrist, Campbell, and Attanasio

But much has changed in macroeconomics in the past 15 years—including the sad end of the Great Moderation, the financial crisis, the Great Recession, the Not-So-Great Recovery, and a substantial rethinking of macro models and macro policy.  So a new Handbook is sorely needed, and Harald Uhlig and I have agreed to put one together with Elsevier as the publisher again.

A key part of the creation of such a Handbook is a conference where contributors can present and discuss their ideas. Because there will be many contributors, Harald and I have arranged for two conferences, one hosted by the Hoover Institution at Stanford University on April 9-11, 2015, and the other hosted by the Becker-Friedman Institute at the University of Chicago on April 23-25, 2015. These conferences promise to be fascinating.  They will bring together a wide range of distinguished macroeconomic researchers to exchange views about the current state of macro. The Handbook will then follow.

The following Table of Contents for the Handbook shows the economists who will contribute and will appear either at the Hoover conference or the Becker-Friedman conference. The volume is divided into parts which distinguish between empirical, theoretical, methodological, and policy issues.  I am really looking forward to these back-to-back conferences next spring.

Handbook of Macroeconomics Volume 2  John B. Taylor,  Harald Uhlig (Editors)

The Facts of Economic Growth and Economic Fluctuations

  1. Business Cycles                                                                        Ed Prescott
  2. The Facts of Economic Growth                                                Chad Jones
  3. Macroeconomic Shocks and Their Propagation                   Valerie Ramey
  4. Macroeconomic Regimes and Regime Shifts                       Jim Hamilton
  5. The Macroeconomics of Time Allocation                            Mark Aguiar and Erik Hurst
  6. Household and Firm Credit Flows                                      Amir Sufi and Atif Mian
  7. Prices and Wages                                                                      Susanto Basu, Chris House
  8. Financial and Fiscal Crises                                                    Mike Bordo and Chris Meissner

The Methodology of Macroeconomics

  1. Factor Models for Macroeconomics                                     James Stock and Mark Watson
  2. Solution and Estimation Methods for DSGE Models        Jesus Fernandez Villaverde, Juan Rubio-Ramirez, and Frank Schorfheide
  3. Recursive Contracts and Endogenously Incomplete Markets        Mikhail Golosov and     Aleh Tsyvinski
  4. Macroeconomics and Heterogeneity (including inequality)       Dirk Krueger and             Fabrizio Perri
  5. Natural Experiments in Macroeconomics                        Nicola Fuchs-Schündeln and Tarek Hassan
  6. Self-confirming Equilibria, Robustness and Applications             Tom Sargent
  7. Accounting for Business Cycles with Wedges                         V.V. Chari
  8. Incomplete Information in Macroeconomics                     Marios Angeletos

Financial-Real Connections

  1. Credit and Financial Frictions                                     Mark Gertler and Nobu Kiyotaki
  2. Macroeconomics and Financial Markets             Harald Uhlig and Veronica Guerrieri
  3. Macro,Money and Finance:A Continuous Time Framework    Markus Brunnermeier and Yuliy Sannikov
  4. Housing and Macroeconomics                          Monika Piazzesi and Martin Schneider
  5. Term Structure of Uncertainty in the Macroeconomy      Jaroslav Borovicka and Lars Hansen
  6. International Debt Crises   Hal Cole, Satyajit Chatterjee, Mark Aguiar, Zach Stangebye

Models of Economic Growth and Fluctuations

  1. Long-run Growth                                                          Oded Galor
  2. Family Macroeconomics          Matthias Doepke and Michele Tertilt
  3. Environmental Macroeconomics     John Hassler, Per Krusell, and Tony Smith
  4. Models with Price and Wage Rigidities                         John Taylor
  5. Neoclassical Theories                                                     Lee Ohanian and Gary Hansen
  6. Labor Markets and Unemployment                         Robert Shimer
  7. Uncertainty and Macro                                              Nick Bloom and Steven Davis
  8. Macroeconomics of Persistent Slumps                       Bob Hall
  9. Macroeconomics and the Labor Market                  Larry Christiano, Marty Eichenbaum, and Mathias Trabandt                                

Macroeconomic Policy

  1. Macro Models Used at Central Banks and New Challenges                  Jesper Linde, Frank Smets. and Raf Wouters
  2. Macroprudential Financial Regulation                       Anil Kashyap
  3. Fiscal Inflation                                                                  Eric Leeper, Campbell Leith
  4. New Dynamic Public Finance                                                   Iván Werning
  5. Deficits, Debt, Fiscal Crises and Fiscal Consolidation                     Enrique Mendoza, Pablo D’Erasmo, Jing Zang
  6. Political Economy and Macroeconomics                                                Alberto Alesina
Posted in Teaching Economics