George Selgin Asks a Very Good Question of the Market Monetarists

Steven Horwitz

Over at the Free Banking blog, George explains why even though he is sympathetic to much of the Market Monetarist theoretical argument, he is actively objecting to their call for more expansionary policy from the Fed.  He offers three reasons, with the third being the most interesting:

My third reason stems from pondering the sort of nominal rigidities that would have to be at play to keep an economy in a state of persistent monetary shortage, with consequent unemployment, for several years following a temporary collapse of the level of NGDP, and despite the return of the NGDP growth rate to something like its long-run trend.

Apart from some die-hard New Classical economists, and the odd Rothbardian, everyone appreciates the difficulty of achieving such downward absolute cuts in nominal wage rates as may be called for to restore employment following an absolute decline in NGDP. Most of us (myself included) will also readily agree that, if equilibrium money wage rates have been increasing at an annual rate of, say, 4 percent (as was approximately true of U.S. average earnings around 2006), then an unexpected decline in that growth rate to another still positive rate can also lead to unemployment. But you don't have to be a die-hard New Classicist or Rothbardian to also suppose that, so long as equilibrium wage money wage rates are rising, as they presumably are whenever there is a robust rate of NGDP growth, wage demands should eventually "catch down" to reality, with employees reducing their wage demands, and employers offering smaller raises, until full employment is reestablished. The difficulty of achieving a reduction in the rate of wage increases ought, in short, to be considerably less than that of achieving absolute cuts.

U.S. NGDP was restored to its pre-crisis level over two years ago. Since then both its actual and its forecast growth rate have been hovering relatively steadily around 5 percent, or about two percentage points below the pre-crisis rate.The growth rate of U.S. average hourly (money) earnings has, on the other hand, declined persistently and substantially from its boom-era peak of around 4 percent, to a rate of just 1.5 percent. At some point, surely, these adjustments should have sufficed to eliminate unemployment in so far as such unemployment might be attributed to a mere lack of spending.

And so, my question to the MM theorists: If a substantial share of today's high unemployment really is due to a lack of spending, what sort of wage-expectations pattern is informing this outcome?

As they say, read the whole thing.

One thing George's post points out is that one can indeed believe that NGDP growth can be an important guide to how policy is doing without necessarily believing that the Fed has to keep opening the spigot.

Comments

[Current]

As I understand it the US has significantly lengthened the time that the unemployed can claim unemployment assistance for. (Is that right?)

I would expect that to have an effect. In Europe the countries with generous unemployment benefit have had significantly higher unemployment all the way through the boom. Even during the "Celtic Tiger" boom in Ireland there was ~5.7% unemployment, much higher than the UK which was growing much more slowly. The UK had ~70euro/week unemployment benefit, in Ireland it was 210euro/week. France also had generous benefits and ~9-10% unemployment right through the boom.

[Jerry O'Driscoll]

I note that most old-line monetarists, including those who were closest to Milton Friedman, are highly critical of current Fed policy. They view it as too expansionary.

Allan Meltzer has recently repeated his criticism of current monetary policy. He attributes persistent unemployment to micro factors.

John Taylor is another critic. And Anna Schwartz was also while still alive.

[Ana]

If a substantial share of today's high unemployment really is due to a lack of spending, what sort of wage-expectations pattern is informing this outcome?