Dr. Copper and Mr. Gold: A conversation

Definitely worth a read.

TheMoneyIllusion

via Dr. Copper and Mr. Gold: A conversation.

Idiotic Headline: US consumer prices climb for 11th month

Who writes this stuff?!

The headline makes it sound like widespread and out of control inflation is our biggest problem, but buries that consumer prices are rising barely over 2% a year. That’s well within bounds of acceptable inflation.

Furthermore, over the last 35 years, I’ll bet (I haven’t checked so you might want to take me up on it), there aren’t more than a half dozen months without rising consumer prices, allbeit at perhaps at a slow rate.

Bad headline with no proper context, I grumble.

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Household Inflation Expectations and the Price of Oil: It’s Deja Vu All Over Again

 

The University of Michigan survey of consumers shows that expected inflation has moved up noticeably over the past few months, raising concerns that we may be in for a period of rising inflation. However, the increase in expected inflation likely reflects the excess sensitivity of consumers to food and energy prices. Consistent with this hypothesis, household surveys have not forecast inflation well in recent years, a period of volatile food and energy prices.

Household Inflation Expectations and the Price of Oil: It’s Deja Vu All Over Again
Bharat Trehan
Mon, 23 May 2011 07:00:00 GMT

FRBSF Economic Letter: Household Inflation Expectations and the Price of Oil: It’s Déjà Vu All Over Again (2011-16, 5/23/2011)

FRBSF Economic Letter: Household Inflation Expectations and the Price of Oil: It’s Déjà Vu All Over Again (2011-16, 5/23/2011).

Update on (Price) Inflation

Inflation is negative for the economy.  So far the evidence that more is coming is spotty.  Some headline prices are rising,but most aren’t.  I’f inclined to be watchful and wary.  Inflation has to be chocked off before inflation expectation become heavily embeded as they did in the 1970’s.

I know I’m supposed to hang my head in shame at how some of us have been Chicken Littles on price inflation, but I’m still not sure it’s time to throw in the towel. (For the record: Yes I have definitely been wrong in the specific timeframes I gave for when we’d see certain things happening with CPI.)

For example, looking at the latest numbers from the BLS, coming from the Producer Price Index and Consumer Price Index, we get the following 12-month changes:

Consumer goods except food and energy: +1.3%
Consumer goods: +3.2%
Finished goods: +6.8%
Intermediate goods: +9.4%
Crude goods: 23.7%

And in light of all this, I’m supposed to just roll over and say, “Yep there is clearly no sign of price inflation in the system.” ? I don’t mind people saying, “I think this is a one-time blip in commodities that will work its way through the headline numbers,” like so.

But Krugman et al. are going much farther than that, acting as if only Newt Gingrich could be so stupid as to think there is any sign of inflation. Steven Chapman (HT2 David R. Henderson) goes so far as to say, “The last epidemic of inflation, in the 1970s and early ’80s, was a searing experience, from which the Federal Reserve learned lessons it has no desire to repeat. Is inflation coming back? Sure. Right after the Ford Pinto.”

Really? That’s how confident we all are in this guy?

Update on (Price) Inflation
bobmurphy
Fri, 13 May 2011 22:00:22 GMT

I agree with Paul Krugman

I agree with Paul Krugman
Greg Mankiw
Sat, 07 May 2011 14:27:00 GMT

As my regular blog readers know, Paul Krugman and I often do not see eye to eye.  So, once in a while, it might be useful to point out those times when we actually agree.
In a recent post on commodity prices, Paul says, "Volatile prices are volatile, which is why they shouldn’t be used to determine monetary policy."  I agree, and I suspect many other macroeconomists would as well.
I once wrote a paper on this topic with Ricardo Reis, called "What Measure of Inflation Should a Central Bank Target?" (published link)  Here is the abstract:

This paper assumes that a central bank commits itself to maintaining an inflation target and then asks what measure of the inflation rate the central bank should use if it wants to maximize economic stability. The paper first formalizes this problem and examines its microeconomic foundations. It then shows how the weight of a sector in the stability price index depends on the sector’s characteristics, including size, cyclical sensitivity, sluggishness of price adjustment, and magnitude of sectoral shocks. When a numerical illustration of the problem is calibrated to U.S. data, one tentative conclusion is that a central bank that wants to achieve maximum stability of economic activity should use a price index that gives substantial weight to the level of nominal wages.

As the graph below illustrates, the price of labor does not show any significant inflationary pressures right now:

Click on graphic to enlarge.

For more on this topic, see a recent post by MIT grad student Matt Rognlie.

Higher Oil Prices Do Not Equal Higher Trend Inflation

Be sure to read the update.  An oil price shock will cause a one time increase in the price level, but not a sustained rate of change.

Caroline Baum goes after the confused thinking on oil prices and inflation:

It must be the noxious fumes or the stratospheric prices because crude oil crossing the $100 threshold makes normally thoughtful individuals funny in the head.

The early symptoms of high oil price syndrome, or HOPS, can easily be masked or confused with a more generalized form of lazy economic thinking.

For example, those afflicted with HOPS start making assertions that higher oil prices are inflationary, as if relative price changes can morph into an economy-wide rise in prices without help from the central bank.

One implication of this is that the Fed should not tighten monetary policy since the higher oil prices are just a relative price change.  The Fed should also not loosen monetary policy to ease the pain of such  relative price shocks.  As Baum notes, that is what the Fed did in the 1970s and look what it got us.  The Fed should only respond to aggregate demand shocks.  This piece dovetails nicely with Mark Thoma’s  post where he considers whether the Fed should respond to commodity prices in general.  
Update: I should have been more clear: a relative price shock can lead to a higher price level, but not higher trend inflation. There might be a one-time increase in the inflation rate, but not a permanent one from such shocks.  The post title has been adjusted accordingly.

Higher Oil Prices Do Not Equal Higher Trend Inflation
david.beckworth@gmail.com (David Beckworth)
Fri, 11 Mar 2011 15:29:00 GMT

Prices are Lower with less Inflation, but so are wages

 

Ron Paul’s Money Illusion (Sequel)
David Andolfatto
Wed, 23 Mar 2011 15:11:00 GMT

As I promised to do here, I am posting a sequel to my original column: Ron Paul’s Money Illusion. I want to thank everyone who took the time to comment and criticize the views expressed there because it has led to me to sharpen my thinking on the matter. I doubt that what I have to say here will sway opinion one way or the other, but I at least hope that the nature of my criticism will be more

To put things another way, people eat bread, not money. The nominal price of bread, in of itself, is an uninformative measure. What would be informative is its nominal price in relation to one’s nominal income (or wealth). The first graph above has nothing to say about how nominal incomes have evolved.

Let me now combine the two graphs above into one picture, with both series inverted, and with both the price-level and nominal wage rate normalized to $1.00 in 1948 (the actual nominal wage rate was $1.43).

According to this (publicly available) data, the price-level (CPI) has increased by about a factor of 10 since 1948. But the average nominal wage rate has increased by a factor of 25. (There is, of course, considerable disparity in wage rates across members of the population. But I am aware of no study that attributes significant wage or income heterogeneity to monetary policy. Of course, if readers know of any such studies, I would be grateful to have them sent to me.)

The figure above implies that the real wage (the nominal wage divided by the price-level) has increased by a factor of 2.5 since 1948. This is undoubtedly a good thing because it implies that labor (the factor we are all endowed with) can produce/purchase more goods and services. More output means an increase in our material living standards (Though again, I emphasize that this additional output is not shared equally. But surely a laissez-faire world advocated by some is not one that would generate income equality either.)

Now, an interesting question to ask is how the picture above might have been altered if the price-level had instead remained more or less constant. Judging by the emails I receive, many people evidently believe that the nominal wage path depicted above would have largely remained the same (that is, they apparently seen no connection between nominal wages and the price-level).

If this was indeed true, then the average real wage in America would have increased by a factor of 25, instead of 2.5 under a regime of price-level stability. And if you believe this, or something close to it, then the conclusion would indeed be startling: the inflation generated by the Fed has apparently served only to reduce the purchasing power of labor (diverting resources to powerful capitalists). This claim–or some variation of it–is implicit in the quoted passage above.

I suggested, in my original post, that there is reason to believe that under an hypothetical regime of price-level stability, the nominal wage rate in the graph above would instead have ended up increasing only by a factor of 2.5 (more or less)–the factor by which real wages actually rose. This is what I meant by my claim of long-run neutrality of the price-level increase; and it is also what I meant by Ron Paul’s Money Illusion (which is subtly different than claiming the superneutrality of money expansion; more on this later).

Some evidence in favor of my "long-run neutrality view" is to be found in the time-path of labor’s share of income (GDP):

Paul Ryan Criticizes Bernanke for Failing to Contain Tooth Fairy

The Baseline Scenario

via Paul Ryan Criticizes Bernanke for Failing to Contain Tooth Fairy.

By James Kwak

In a Congressional hearing today, Representative Paul Ryan (R-WI), chair of the House Budget Committee, strongly criticized Federal Reserve Chair Ben Bernanke for failing to contain the severe inflation threat posed by the Tooth Fairy.

Ryan pointed to numerous studies showing that, despite ongoing economic sluggishness, the Tooth Fairy is paying much more for children’s baby teeth than in past years. In neighborhoods such as Winnetka, Cleveland Park, the Upper East Side, and Palo Alto, children can receive more than $20 per tooth — a dramatic increase from the 25-50 cents that the Tooth Fairy paid only a decade or two ago. In the Hamptons, summertime prices for teeth can easily exceed $100, according to a survey commissioned by the American Enterprise Institute.* Because the Tooth Fairy is able to create money magically, her purchases of unused teeth (with no apparent economic value**) increase the money supply, fueling inflation. Without explicitly accusing Bernanke of participation in the Tooth Fairy’s scheme, Ryan implied that the Tooth Fairy’s higher payouts may be part of the Federal Reserve’s quantitative easing scheme.

Ryan pointed to Tooth Fairy-driven inflation as part of “a sharp rise in a variety of key global commodity and basic material prices” that, he said, threaten to produce higher overall inflation and reduce the value of the dollar. “The inflation dynamic can be quick to materialize and painful to eradicate once it takes hold,” said Ryan, calling on Bernanke to end the quantitative easing program and raise interest rates in order to counteract the expansionary policies of the Tooth Fairy.

Bernanke responded, “On the inflation front, we have recently seen increases in some highly visible prices, notably for children’s teeth. . . . Nonetheless, overall inflation is still quite low and longer-term inflation expectations have remained stable.” He pointed out that all measures of domestic inflation — the prices that real Americans pay for the real stuff that they actually buy — are at historic lows: core inflation of 0.7 percent in 2010, the price index for personal consumption expenditures at 1.2 percent, and average hourly earnings at 1.7 percent. He also pointed out that inflation in emerging markets is higher because those economies are growing faster and that commodity prices are always volatile. But Ryan insisted that the Fed take aggressive action against the Tooth Fairy because an unemployment level of 9 percent would fail to contain the inflationary spiral that would inevitably result from this particularly sinister form of monetary expansion, taking place quietly, in the dark, in our children’s own bedrooms.

“There is nothing more insidious that a country can do to its citizens than debase its currency,” he said, apparently forgetting for a moment that he has proposed replacing Medicare with a voucher system whose benefits are explicitly designed to grow slower than the rate of health care cost inflation.*** Ryan also apparently believes that a more valuable currency is always better than a less valuable currency, which is crazier than a kid believing in the Tooth Fairy. After all, if you’re six years old and the tooth under your pillow gets replaced by money and a note from the Tooth Fairy, then that’s physical evidence in favor of her existence. Paul Ryan seems to believe that China (like Korea, Taiwan, Germany, and France before it) is hurting its economy by keeping the value of its currency low in order to promote exports and create jobs. This fetishization of the dollar’s exchange rate is even crazier than the typical fetish, which at least attaches to some object. Paul Ryan’s fetish attaches to an abstract ratio and elevates it to moralistic terms.

* In inner-city Detroit, however, survey respondents gave answers such as, “No Tooth Fairy comes around here. Haven’t you seen nobody has a job anymore?” The AEI report concluded that the Tooth Fairy must value teeth from the Upper East Side more than teeth from Detroit.

** See the introduction to a This American Life episode for some children’s theories about what the Tooth Fairy does with all those teeth.

*** The growth rate of benefits is capped at GDP plus one percentage point. Historically health care costs have grown significantly faster. More to the point, the whole point of the Ryan-Rivlin plan is to force Medicare to grow more slowly than health care costs overall; if health care cost growth is GDP plus one percentage point or less, then converting Medicare to a voucher system provides no fiscal benefits.

Any fiscal stimulus advocates left?

 

It seems that concern about inflation is growing and willing to pursue stimulus has fallen.  I think this is likely appropriate.

 

Any fiscal stimulus advocates left?
ssumner
Tue, 08 Feb 2011 17:35:58 GMT

Throughout this crisis there have been a few paleo-Keynesians arguing that monetary policy is out of ammunition at the zero bound, and hence we must rely on fiscal stimulus.  Then there is a more enlightened group of Keynesians (Krugman, DeLong, Duy, Yglesias) that favor monetary stimulus, but also think fiscal stimulus can help.  They use what in philosophy is called a “God of the gaps” argument.  If the Fed wants 5% NGDP growth, and the Fed currently expects only 3% NGDP growth, then fiscal stimulus may be able to boost growth by 2%, before being neutralized by offsetting Fed tightening.

I have mixed feeling about this argument (mostly skeptical), but whatever relevance it might or might not have had for 2009-10, it certainly doesn’t seem to fit the current policy environment.  Here’s Ryan Avent:

But to move toward the point, the latest employment report has some economists wondering whether the Fed will keep to its planned QE2 purchases. The message of that report was far from clear, but the changes in the household survey, including the near 600,000 job rise in employment and the drop in the unemployment rate to 9.0%, seem meaningful. This has Macroeconomic Advisers increasing its inflation forecasts and reiterating its warning that Fed tightening may come sooner rather than later. And Tim Duy has the Fed shifting its bias from more easing to tightening. Are they right?

I wish they weren’t, but I suspect that they are. If we go back to January of last year, when economic figures were improving, and the Fed was mostly talking about its exit strategy preparations, we see a Fed forecast for 2011 unemployment of between 8.2% and 8.5%—almost identical to the forecast in November of 2009. I think we have to conclude that the Fed was basically happy with the trajectory of falling unemployment that it saw at that time. I think it was wrong of the Fed to be happy with this level of unemployment, but that’s beside the point.

It’s my feeling that the Fed will quickly grow concerned about inflation if the unemployment rate drops to 8.5% during the first half of the year. Ben Bernanke isn’t going to draw any conclusions about policy from the mixed January report, but I agree with Mr Duy that his biases may have shifted, and February and March data will quickly indicate whether the January trend is real. Again, I think the Fed should still be biased toward expansion, and that it should tolerate a period of catch-up inflation, but that’s beside the point.

That doesn’t sound much like the paleo-Keynesian vision of the Fed, a group taking a nap on the beach until the “liquidity trap” is over, planning on waking up when rates rise above zero and they can “start doing monetary policy” again.  And it doesn’t even seem much like the enlightened Keynesian vision; a Fed active, but for whatever reason not willing or able to produce desired nominal growth.  Here’s Richmond Fed President Jeffrey Lacker:

The Federal Reserve should seriously reconsider its bond purchases now that the U.S. economy looks stronger, a top Fed official said Tuesday.

Richmond Federal Reserve President Jeffrey Lacker said he expects the economy to expand close to 4.0% this year, lifted by robust consumer spending.

Can we please stop talking about fiscal stimulus?  Does anyone seriously believe that a fiscal initiative aimed at boosting NGDP growth would not be offset by a quicker exit strategy at the Fed?

BTW, The same Ryan Avent post contains a Paul Krugman quotation that discusses the ‘God of the gaps’ approach much more eloquently than I can:

…if you want a simple model for predicting the unemployment rate in the United States over the next few years, here it is: It will be what Greenspan wants it to be, plus or minus a random error reflecting the fact that he is not quite God.

HT:  Marcus Nunes

PS.  BTW, last year Marcus Nunes was just a commenter at blogs like this one.  Now he’s in the big time, getting quoted by Fortune magazine.  David Beckworth is also quoted.

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