One of the baffling aspects of economic debate during this Lesser Depression, or so it seems to me, is the apparent urge of many economists to shy away from straightforward conclusions, the urge to make the simple complicated and the clear blurry. That’s certainly what seems to be happening in this round-robin from me, to Cowen/Andolfatto, to Brad DeLong.
My picture of where we are now looks like this:
Other things equal, a lower real interest rate leads to higher demand for goods and services; however, we are currently suffering from inadequate demand, but can’t get the interest rate any lower because of the zero lower bound. So in that sense interest rates are too high, which means that it would be good to raise expected inflation, and also that there’s a case for temporary fiscal stimulus.
But Cowen and co. say no, interest rates aren’t too high, they’re too low. What do they mean?
Actually, I’m not sure. But I think that they’ve been caught up in a word game. When I say that the rate is too high, I mean relative to the rate that would produce full employment, which is, as Brad reminds us, Wicksell’s “natural rate”. (Since Wicksell wrote in 1890, this isn’t your grandmother’s liquidity trap, it’s your great-great-grandmother’s liquidity trap!)
When they say that the rate is too low, I think they mean that it’s too low compared with some Platonic ideal of the interest rate — what the rate would be if we didn’t have safe asset shortage, or something. In terms of my diagram, they’re asserting, I think, that some set of changes — or maybe an alternative history — would have led the demand curve to be shifted to the right, and would have produced full employment at a higher real rate than the one we see.
To which my response is, so? I guess this is an interesting point, if true — but you go to monetary policy with the economy you have, not the economy you wish you had. As far as I can see, it changes nothing about the policy analysis.
And I have no idea at all why claiming, say, that we’re suffering from a safe asset shortage means that increasing government spending isn’t expansionary. You don’t have to fill a flat tire through the hole; whatever the sources of inadequate demand, the logic of increasing demand remains.
This is simple, folks, unless you don’t want it to be.