What is the purpose of quantitative easing?
It's not as simple a question as it may first appear, especially from a Keynesian perspective. I can think of at least two legitimate answers from a Keynesian perspective, and then one more from a New Keynesianish perspective.
What do you think the purpose of quantitative easing is? I honestly am analytically agnostic (or perhaps it's better to say I'm receptive to several of these explanations), and just hoping for the best.
I see the following purposes:
1. Lower long-term rates to boost investment demand (classic Keynesian)
2. Boost nominal expenditures (classic monetarist, widely adopted Keynesian)
3. Increase inflation to deal with wage and price rigidties (New Keynesian)
And of course a lot of these imply each other.
I know Lee Kelly will be especially receptive to the second one. My concern is that if we're just shoveling money at people with excessive demand for money, we may eventually satisfy that demand, but we're not really addressing the root cause of the excessive demand for money: the lack of demand for goods and services. Number one seems to be the best at addressing that "root cause", but this is second-best solution in the Keynesian playbook to fiscal policy. And I think while the third explanation doesn't hurt to tack on, it's not even clear that price rigidities are the real problem here (except perhaps for the zero lower bound on interest rates).
Today, I had a frightening experience while reading Brad DeLong: I nodded in agreement.
ReplyDelete"The problem with our economy is not that something bad happened to our productive capacity while the flow of nominal spending continued to blip along, it is that something bad happened to the flow of nominal spending and that carried real production and employment down with it. At the moment our flow of nominal spending at $14.7 trillion per year is some 12% below its pre-2008 trend. And in the absence of any 12% decline in prices and wages, that shortfall in spending has to produce our current macroeconomic distress: there is not enough "money" to support enough of a flow of spending to chase all the goods we could produce. We don't have a deficiency of real supply (for whatever reason). We have a deficiency of nominal demand." - Brad DeLong
He should have said "in the absence of a 12% decline in prices and wages below their pre-2008 trend", but small errors can be forgiven in this case.
I should clarify: I think something bad did happen to "our productive capacity," but I just think something much worse happened to the "flow of nominal spending."
ReplyDeletehttp://www.youtube.com/watch?v=PTUY16CkS-k&feature=player_embedded
ReplyDeleteOh, and on the purpose of QE2.
ReplyDeleteIt will boost nominal spending; it might lower long-term rates and increase investment demand; and it might increase inflation to overcome nominal rigidities. Whether the second two things occur doesn't really matter so much, so I think the purpose of QE2 should be to boost nominal spending. (Really, we need nominal income level targeting.)
That said, the Fed talks as though the purpose of QE2 is to lower long term rates.