Sunday, March 24, 2013

Kudlow and King Dollar

Larry Kudlow said some positive things about Market Monetarism recently and interviewed Scott Sumner.   The interview is here.  (March 23, 2012.  Sumner is about at 64)

Kudlow has been very critical about monetary policy during the Great Moderation, using the high price of gold and the "low" foreign exchange value of the dollar as evidence that Bernanke has been too expansionary.

Of course, Market Monetarists look at "the hole" in nominal GDP.   Spending on output remains far below the growth path of the Great Moderation.   In our view, this shows that monetary policy has been horribly contractionary.

Most Market Monetarists favor floating exchange rates.    Nominal GDP should be kept on a slow, steady growth path and the exchange allowed to adjust with supply and demand.

It is true, however, that inappropriately expansionary monetary does have some consequences that tend to push down the foreign exchange value of the currency.   Using that information to make adjustments appropriate to keeping nominal GDP on target is entirely appropriate.   It is just that changes in supply and demand conditions for imports and exports, as well as the balance between saving and investment across the globe also impact exchange rates, even if nominal GDP remains on target.

Still, suppose someone has a goal of creating a "strong" dollar.   Not a fixed exchange rate, but rather considers a higher value of the dollar desirable.   Market Monetarists would be dead set against using monetary policy to slow the growth rate of nominal GDP, even to the point of dropping it, in order to lower the prices of foreign currencies.    But there are alternative approaches.

For example, attracting foreign investment would tend to raise the value of the dollar.   Improved international competitiveness of export or import-competing industries would tend to raise the value of the dollar.   Appropriate deregulation could accomplish this.    This would clearly be a supply-side policy for a "strong" dollar.

Shrinking the growth path of government spending by first introducing a cut in marginal (and average tax rates,) allowing a short run budget deficit, and then keep government spending growing more slowly that tax revenues until the gap closes would tend to raise the value of the dollar in the short run.    That sounds pretty much like the traditional supply-sider fiscal policy.

In my view, the current budget deficit and national debt are unacceptably high.   While I don't favor increasing any tax rates and am open to lowering marginal tax rates, cutting average tax rates would be a mistake right now.   Keep government spending growing slow (as it has been for the last three years.)   Of course, a strong nominal recovery would greatly increase nominal government revenue and reduce the budget deficit.

1 comment:

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