My worry is that some Market Monetarists speak of ngdp as if it is some block of stuff, handed down from on high (of course in the past our central banks have not been targeting ngdp). It’s as if ngdp determines the size of the room, and a carpenter is then asked to build a house within that room. If the room is too small, a large house cannot be built. Or, if you are not given enough clay, you cannot build a very large sculpture. Along these lines, if the growth path of ngdp is not robust enough, the economy cannot do well.Interesting, but not quite correct. Market Monetarists recognize that a "bigger house" can be built in the room. But rather it requires that it have a lower price. As for the passive voice, the Market Monetarist approach is that people sometimes choose to increase their money holdings beyond the the amount by which the Fed and the private sector choose to increase the quantity of money. Some of the people can and do increase their money holdings (as David Beckworth is fond of showing with charts showing a large increase in actual holdings of safe assets,) but it had the side effect of reducing spending on output. Other people, whose incomes are lower because of this (and really, for many, this is relative to what they would have earned, rather than what they were earning while in high school or college four years ago,) are holding less money than they would.
I get nervous at how ngdp lumps together real and nominal in one variable, and I get nervous at how the passive voice is applied to ngdp.
What is passive about that? People choose to accumulate money holdings and continue to hold high money balances. And this has consequences for the stream of spending on output.
My framing is different. My framing is that the private sector can manufacture its own ngdp. It can do so by trade and it can do so by credit and of course velocity is endogenous to the available gains from trade. Most of the major central banks are, today, not obsessed with snuffing out recovery and increases in real output.At first pass, from a Market Monetarist perspective, the way the private sector can increase nominal GDP--spending more on output--is by reducing the demand to hold money. Hold less money and spend it. Cowen's argument appears to be that people want to hold money rather than spend it. Low nominal GDP is just another way of saying that people don't have anything they want to spend money on. If they had something worth spending their money on, they would do it, and nominal GDP would rise.
To say “ngdp is low,” or “ngdp is on a low growth path,” or “ngdp is below trend,” and so on — be very careful! Those claims do not necessarily have causal force. Arguably they are simply repeating, in a new and somewhat different language, the point that the private sector has not seen fit to engage in more trade, credit creation, velocity acceleration, and so on. Formally speaking, the claims are not wrong, but I don’t find them useful as an explanation for why economic growth or recovery, at some point in time, is slow. It is one way of repeating or re-expressing the slowness of economic growth, albeit with some transforms applied to the vocabulary of variables.
From the Market Monetarist perspective, most of those who want to spend are those who are currently unemployed. They would like to contribute to production, earn income, and then use that income to purchase the products they are going to help produce. The problem would be that if all of those people did work, earn, and buy products, they would also want to hold more money. This would increase the demand to hold money beyond the amount that exists.
Note, however, that implicit in this Market Monetarist argument is the notion that the demand to hold money is positively related to real income. If the unemployed people start working, they will produce more, earn more, and buy more output, but they will hold more money.
The other side of that coin is that when real income falls, the demand to hold money falls as well. This generates what I call the "Yeager effect." If we imagine that people just decide to transact less, and so produce less output, then this reduces the demand to hold money. If the quantity of money doesn't fall, the excess money is spent, raising demand for output back up its initial value. If people really want to produce less, the result in inflationary. At the higher price level, the real quantity of money falls, to match the lower demand.
Yeager used this argument to explain why real coordination failures don't result in lower real output and employment. If we imagine that people really want to work and consume, but somehow, a coordination failure keeps them from doing that, then real output falls, the real demand for money falls, and given the quantity of money, an excess supply of money is generated, which raises the demand for output and labor. In other words, versions of the "multiplier" where lower income generates lower consumption and so lower income, have no force.
Of course, if the demand to hold money rises or the quantity of money falls, then spending on output falls, and unless prices and wages fall enough so that real expenditures are maintained, then output and employment fall. In particular, if people don't want to spend, and instead choose to accumulate larger money balances, that is an increase in the demand to hold money. Unless the quantity of money rises to match that increase in demand, then spending on output falls.
But suppose that the demand for money is not related to real income. If people choose to transact less, produce less, work less, then they earn less and spend less. There is less "nominal GDP." While real output is lower, this does not reduce the real demand to hold money. There is no excess supply of money, and so no tendency for demand for output to be maintained. In this particular scenario, this seems quite desirable. And, if people chose to work more, produce more, and spend more, then spending on output would rise. The higher real output would not raise the demand to hold money, and so, even without an increase in the quantity of money, spending on output and real output would rise.
However, we don't live in such a world. All evidence suggests that the demand to hold money is positively related to real income--maybe not quite proportional--but close.
And more importantly, when people choose to hold money rather than spend, even if they have nothing they want to buy, this isn't the same thing as choosing not to produce and sell. Nominal GDP level targeting works very well to solve the problem of people choosing to work and not spend. It solves the problem of an excess demand for money.
Suppose some individual is willing to work, produce and sell, not because they have some product they want to buy now, but rather because some good or service might appear in the future that they will want to buy. This is called saving. Usually, this is beneficial to others. There are people who are willing to pay in order to dissave, as well as people who want to invest--use resources to be able to produce consumer goods in the future. But if saving supply increases enough, the price that coordinates saving and investment could turn negative. That means that producing now and waiting to consume in the future is not beneficial to the rest of society. People might want to save, but they would have to compensate others to use their products now in exchange for being willing to provide consumer goods in the future that the savers just might want to buy.
But with "money" having a zero nominal interest rate, people can always save by accumulating money. The nominal interest rate can be no lower than the cost of storing currency. When nominal interest rates are very low, issuing currency is not profitable, and so excess demands for money can develop. But now, people working, producing, but not spending not only are not creating a benefit for others on the margin, they are causing harm. Others sell less, produce less, earn less, and so, are willing to hold less money, freeing up money balances for those who want to work and earn now and only maybe consume in the future.
Nominal GDP targeting solves this problem with a monetary regime that creates enough money to accommodate the added demand to hold money so that spending on output continues to grow at a slow steady pace. (Well, it could also work to reduce the demand to hold money by generating a lower nominal and real yield on money balances.)
Generally, this implies that people who want to continue working and producing and have nothing they want to buy must be matched by firms and households that want to spend on output now. However, the lower interest rates, perhaps even to negative levels, might convince people who can think of no output they want to buy to choose to work less.
And that is a disadvantage of nominal GDP targeting. Not that negative real or nominal interest rates might cause people to work less. It is rather that if people choose to work less, produce less, and spend less for any reason, then nominal GDP targeting causes undesirable disruption. Like a fixed quantity of money or a gold standard, it results in inflation--both higher nominal incomes for those who continue to work as well as higher prices of products.
Imagine we lived in a world where most people are self-sufficient. They produce goods and then consume the goods themselves. They produce all of their routine consumer goods and services themselves. But from time to time, they make exchanges of luxuries. A painting is exchanged for a song. A short story is exchanged for a sculpture.
Suppose we use a "song" standard, and calculate the "song" value of these barter exchanges. Nominal GDP can be calculated as the sum of the "song" values of each barter of artwork. Why forces these exchanges into a "room?" Why not just let exchanges happen when people want to make them? Why not let "nominal GDP" fluctuate according to desired exchanges?
But we don't live in that world. We live in a market economic system where most people mostly sell goods for money and then use the money to buy the goods and services they need to live--to pay the bills. Nominal GDP targeting is not perfection. At least, I don't think of it that way. It is the least bad monetary regime for the market economic systems that really exist.