Nominal Gross Domestic Product is depressed, that leads real GDP to be depressed because it is very difficult to accommodate rapid and large deflation so logically it must be lower. It also leads to the quantity of people employed to be depressed because the same is true of aggregate wages.
I don’t fully understand what critics of NGDP targeting mean when they say they suspect the policy would fail. I think the language NGDP targeting is something of a handicap, because once you start thinking in this language you begin to translate people’s statements and in the process they cease to make sense.
Chris Dillow says…
I fear, though, that economists who invoke “expectations” and “credibility” are making the error of mistaking the tidy maps of models for the messy terrain of reality.
Unlearning Economics says…
This is a clear example of confusing correlation and causation. When looking at two correlated variables, a good question to ask is which one moves first – here, the drop in RGDP clearly precedes the drop in NGDP. This suggests that the decline in RGDP is not a result of the decline in NGDP; rather, its the opposite.
So what happened in 2008? Obviously, the conventional story is true: a large drop in asset prices made many households and firms realise they were less wealthy than they thought; this caused firms to lay off workers; real production decreased; nominal income followed; expectations dropped; this created a spiral. The NGDP-driven story doesn’t withstand scrutiny, else we’d expect the NGDP drop to come first.
First of all, I agree with Chris that relying on expectations is a weak lever. But, if you are powerful enough to not have to rely on expectations, the market should anticipate that and you will be able to rely on expectations. To he that hath shall be given, and we hath in abundance. I think a Bank with a fairly doveish reputation with the printing press combined with the supremacy of parliament, the Royal prerogative and a government intent on re-election is more than powerful enough for the above to hold true.
Secondly, I disagree with UE. In 2007/8 asset prices fell because expectations of future NGDP fell which was priced into current asset prices. This lead to a fall in real GDP contemporaneous with a fall in NGDP, but both were caused by fall in expectations of future NGDP as is argued by adherents (cultists?) of NGDP targeting. Asset prices are forward looking and money is an asset, hence you have to look at expectations of future NGDP rather than looking at which moved first by a few months, RGDP or NGDP.
So what I don’t understand is what non-NGDP monomaniacs think will happen were a central bank to adopt a NGDP targeting regime. Say the treasury ask the Bank of England to adopt NGDP targeting and to catch up entirely to trend from 2008. What does failure look like?
- NGDP does not reach trend because the bank lacks credibility and the policy is abandoned.
- NGDP fails to reach trend for a long time, and so has little effect on anything important.
- NGDP reaches trend but nominal growth consists (almost) entirely of price changes.
- NGDP over shoots target massively and cannot be contained because inflation expectations become unmorred and accelerate upwards: the price level spirals out of control.
- NGDP targeting is effective and a la Kalecki capitalists stage some sort of investment strike and must be abandoned for political reasons.
- NGDP targeting is effective and workers/voters realise it is a way of moderating their wage demands and must be abandoned for political reasons.
- NGDP targeting is effective and we realise we’ve seen a series of unsustainable booms rather than real growth because of a slow down in innovation and all economic growth ends up accruing to land and rents and must be abandoned for political reasons.
- NGDP targeting is effective and some combination of 5,6 and 7 occur.
Can anyone fill me in?