Bill Whalen and David Henderson Conversation

On June 4, my Hoover colleague Bill Whalen interviewed me about my latest article for Hoover’s Defining Ideas, “Just Say No to State & Local Bailouts,” June 3. I had heard and seen a talk by Bill on Zoom a week earlier and was impressed with his deep knowledge of California politics. His show is titled “Area 45.”

The interview was really a conversation, something I prefer to a standard interview. Bill has a charming personality, with just the right amount of humor.

In the first 20 or some minutes I make the case that I made in my article, in response to Bill’s questions. But he also raised an issue I hadn’t addressed in my article: whether on grounds of emergency aid, California’s state government should be given a bailout. I said no and I said why.

Some highlights from the rest of the conversation:

23:20: Why I worry that Senate Majority Leader Mitch McConnell will go along with some kind of bailout.

36:00: My case for bonds instead of tax increases. (My first choice, of course, is budget cuts.)

37:10: Why, if the feds do bail out California’s government, I would prefer aid with no strings over aid with strings.

38:30: States going their own way on coronavirus policy and why that’s important.

41:00: Related to what’s directly above: The states as laboratories of democracy and why that’s so important.

41:27: Why economists and other social scientists are almost orgasmic about the forthcoming data.

45:20: Eat the rich.

45:40: I’m seeing it as rich people saying “eat the rich.”



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Stop asking the Fed about inequality (and start asking about inflation)

At a recent press conference, I was dismayed to see a number of reporters asking Jay Powell about inequality—an issue far beyond the scope of monetary policy—while asking few questions about the highly questionable current stance of monetary policy.

A recent Yahoo Finance article illustrates the confusion:

Federal Reserve Chairman Jerome Powell on Wednesday acknowledged economic inequality in the United States but said monetary policy tools can only do so much to narrow the income gap.

Research from within the Fed itself, however, suggests that the central bank may be more effective when policymakers pay mind to income inequality while designing policy tools.

Actually, inequality is a long run issue and the Fed cannot do anything to address the problem.  Money is neutral in the long run.

Pointing to previous economic research, Cairó and Sim note that higher-income groups tend to save more than lower-income groups (or in economic terms, have a lower marginal propensity to consume). The authors argue that higher-income earners can “overaccumulate” financial wealth and sustain high savings rates; lower-income earners are more likely to spend larger shares of their income just to make ends meet.

This presents a dilemma for the Fed, which broadly wants to discourage saving and spur consumption (or in economic terms, drive aggregate demand) to fuel an economic recovery.

This is a common mistake, conflating “consumption” with “aggregate demand”. Most textbooks say the opposite, that monetary stimulus is aimed at boosting investment.  Because saving equals investment, this implies monetary policy is expected to boost saving as well.  Indeed both saving and investment are procyclical, even as a share of GDP.  They both rise faster than GDP during booms and fall faster than GDP during recessions. (Note that I am responding to the Yahoo article and not the scientific paper, which I have not read.)

I also disagree with the standard textbook description of the transmission mechanism.  Aggregate demand equals consumption plus investment plus government output plus net experts, and hence you can think of monetary policy as being intended to boost the sum of those four categories, measured in nominal terms.  Or more simply, boost NGDP.  Thus Zimbabwe monetary policy sharply boosted nominal spending in 2008, even as real consumption and real investment plunged.  (Try explaining this to an MMTer.)

The suggestion: an “optimal” monetary policy prioritizing the reduction in unemployment to improve the welfare of lower-income wage earners – even at the expense of welfare losses to higher-income earners holding onto financial assets.

The monetary policy that boosts employment in the short run is the same policy that boosts real equity prices in the short run—expansionary policy.  In the long run, the optimal monetary policy keeps employment close to the natural rate, and that’s also the monetary policy that’s best for equity prices.

Readers of this blog know that I currently favor a more expansionary monetary policy.  But not because of its effects on inequality.  In the short run, a more stimulative policy would help low wage workers and it would help stockholders.  And in the long run, money is neutral.  If you want to do something about inequality, look elsewhere.

Meanwhile reporters need to ask the Fed why they don’t intend to hit their inflation target in 2022.  And keep asking the question over and over again until Jay Powell provides an intelligible answer.



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