A Conversation with Lawrence H. Summers and Paul Krugman

so welcome back everybody to another webinar organized by Princeton world for everybody worldwide we're very happy to have two giants in our field today with us Larry Summers from Harvard and Paul groupman uh former colleague of mine here at Princeton and now it's Sunni and well known also for his uh ratings in the New York Times we will talk today about a worldly Biden stimulus lead to inflation so we have a debate today it's a new format we're very excited about that and we will start with no further Ado Larry will start his remarks and then Paul will have a response to it and then we go back and forth and I have a q a session uh back and forth so Larry of course everybody knows Larry format Ashley secretary and also Chief Economist of the World Bank and head of the NEC at the White House so he had many many important policy roles and uh knows both the economics and the policy side and we're very glad to have a very end poll with us the two giants in our field thanks again for both of you and lyricity flow is yours Marcus thank you and thank you for the terrific public good you have provided uh through uh the Marcus uh Academy I'm glad to be here for this uh discussion let's let me be clear at the outset what I think we're uh discussing uh some of this I suspect was set off by my Washington Post call about uh 10 days ago I don't as an economist out of government have views as to what the right political strategies uh are and certainly I've got enormous respect for president uh Biden and the very very serious and able people who comprise uh his economic team and I think it is clear that uh it is urgently important to provide relief so that we do not have a k-shaped uh recovery it is urgently important that we support aggregate demand through uh the period uh ahead that the lesson of the last uh years is the importance of using fiscal policy aggressively indeed that's been a central aspect of my secular stagnation thesis that at a moment like this it's better to ER on the side of doing too much than to ER on the side of uh doing uh too little these though are qualitative arguments very compelling qualitative arguments that could be used in support of a one trillion dollar program or in support of a five trillion dollar program and could be used in support of programs with a variety of different uh compositions I find myself rather surprisingly at this moment a bit like a long-term advocate of the minimum wage who and increases in the minimum wage who discovers that the federal government is now proposing to raise the middle minimum wage to 23 dollars for a year or two um on the one hand approving of a broad impulse on the other hand very much wondering about the design and timing of the proposed uh policy measures let me make uh four points that encapsulate uh my concerns first what is contemplated is extremely large I don't think there's any question that in retrospect it would have been better if fiscal stimulus had been larger in uh 2000 and uh nine the Obama Administration basically had that view and wasn't able to ask questions about the tactics to legislate that through the Congress as it uh stood at that time but I think what's important to recognize is that as the first slide uh illustrates uh the proposed stimulus uh here is far larger relative to uh the gap previous uh previous one Marcus is far large or relative uh to uh the Gap than anything that was undertaken in 2009 yes 2009 was too small was it too small by a factor of five that's not an argument I've heard uh previously similarly the proposed stimulus is much larger than the stimulus or support program that was contemplated in uh 20 uh 20. so at 14 of uh GDP in uh new measures that a cumulative budget deficit approaching 20 percent of uh GDP we are in uh extraordinary uh territory second observation this goes Way Beyond what is necessary to meet the absolute imperative of uh relief there is no question that there is tremendous suffering because of kovid's direct and indirect consequences and it is government's obligation to meet uh that uh need but if you remember only one number that I say remember this one income wages and salary total income is running about 25 billion dollars a month below an optimistic projection of where it would have been without covet 25 billion dollars in contrast if you look at the unemployment insurance plus the checks plus the child credits plus the rental assistance which is small you spread that out over the whole year you are getting a number that is in excess of a hundred billion dollars a month that's why it's projected that disposable income for households will be well above traditional uhly projected levels of course it's probably more important to look at the lower income populations but because the assistance is targeted towards the lower income populations as the next slide uh illustrates the magnitude of the assistance relative to uh lost income is much um greater than it is uh for the population as a whole should not be surprising unemployment insurance is going to provide greater incomes that employment did for nearly two-thirds of uh those who are unemployed and whereas unemployment insurance normally reaches half the population half the unemployed now the number of unemployment insurance recipients is slightly in excess of uh the number of people who are unemployed similarly Jason Furman and others have calculated that if you look at state revenue uh shortfalls they are dwarfed by the combination of the assistance in December and the assistance proposed uh now um and so we are doing far more than is necessary to meet Our obligation of addressing uh the victims um of covet is this wise there are I think two reasons for believing that we could be passing much better legislation that would do more for our economic future the third Point uh I would make is the point that Olivier Blanchard uh has made and that has been implicit in questions that have been raised about the feds of current approach we risk a inflationary Collision of some kind Paul very perceptively writing in November predicted a Biden boom reminiscent of mourning in America at a time when it was in doubt whether there'd be a lame duck stimulus and before the Georgia outcome it was inconceivable that anything like the front loaded 1.9 trillion dollar program would be put forward he was right given the expansionary Financial conditions given the likelihood that uh we will by the mid-summer put covid in uh the rear mirror given a very competitive uh dollar to take a potentially booming economy and to put on top of it 1.9 trillion dollars of stimulus is to take real chances of a kind that I don't believe we need uh to take the historically remembered LBJ guns and butter Collision involved excesses on the order of one to two percent of uh GDP we don't know enough about uh the Phillips curve we don't have enough experience to make uh confident uh forecasts but when we are speaking of fiscal actions of this potential magnitude on top of and economy that quite likely would be booming with uh no further uh fiscal stimulus we are I believe taking uh imprudent risks the prospect has been held out that the FED can manage any problems that arise that is not my reading of the historical experience my reading of the historical experiences that almost every time the inflation has accelerated and the FED has felt it necessary to step in to prevent uh inflation from accelerating the result has been uh that the economy has gone into recession the FED has had essentially no success in engineering soft Landings every time unemployment is risen by half a percent it has risen uh by uh two uh percent and so the risks are very substantial of collision those risks might be wrong might be worth running if that was necessary in order to provide relief but it isn't they might be worth uh running if this was all that was at stake but and this brings me to my final coin the centerpiece of the president's campaign rightly was a program of building back better through large-scale public investment in preventing climate change in infrastructure in education in uh the caring economy and what's contemplated is trillions of dollars of further investment on top of a situation that is potentially problematic in terms of uh its aggregate demand uh impact what should happen uh instead there's nothing wrong with a 1.9 trillion dollar Target or even a larger Target but the emphasis should be on public investment and building back better preparing us to protect the climate preparing us to compete with uh China preparing us to be a more just Society as many economists have advocated there's an important role for triggers I could be wrong it could turn out that covid is much longer lasting and now looks likely we've seen that Congress can be dysfunctional triggers that would increase unemployment insurance if that were to happen or in extremists would provide benefits to households um would uh be um appropriate much better program I'm just stopping a much better program would be a program that was focused on meeting necessary relief needs in a targeted and efficient way focused on public uh investment with contingency triggers if the economy were uh to turn down that would be a better basis for durable prosperity thanks a lot Larry you you made a very strong point that the size essentially if it was spread over the years and it were more investment focused I guess it would be different in terms of inflation expectations Paul had recently revived his blog and had a very nice first entry in his um a new blog and uh so we're very glad to have him back in the bloggers here and I'm sure that Paul has his own perspective and I'm curious to find out we all are curious to find out what his perspective is on this Biden stimulus okay um I found myself remembering some Physics history as getting ready for this uh discussion um uh a very young Wolfgang Paoli after hearing a presentation by Albert Einstein said what Professor Einstein has to say is not entirely stupid uh so what Larry had to say is not entire no I mean it's it's I I think there's a there's a very serious point which is that we should indeed be thinking about the macroeconomics of this big program uh but I have a quite different take and I think it's it is uh not to say that Larry's concerns are entirely off base but I think that that they're not they're exaggerated and you do need to think about what are the actual Alternatives here so um I think the first thing to say which I've been trying to say since the very early stages but just doesn't seem to get through is that this is this is not about stimulus we are not in a conventional recession uh it is something if you it's a combination supply and demand shock but I don't think it really helps it we're we're still essentially in a in a partial lockdown uh which is in part uh uh part through the result of government policies bans on full-scale indoor dining and so on but largely also just voluntary uh who's going to be dumb enough to uh some people will but you shouldn't even if it's allowed you shouldn't be going to full indoor restaurants and this means that we have a situation of suppressed output which is not well described by the concept of an output Gap it is not the case that we if we had sufficient aggregate demand we would be back up to some estimate of potential output we are rightly not doing a lot of stuff we would normally be doing um which means that the whole framework of stimulus to fill an output Gap is not the right way to think about where we are um I've suggested that we think about as disaster relief uh or in some ways it's like it's like fighting a war um and you know when when Pearl Harbor gets attacked you don't say how big is the output Gap let's size the defense budget based on plausible multipliers to fill that output Gap that's not that's not what you do you just spend enough to actually win the struggle that you're in um which doesn't mean although it's not stimulus uh it can nonetheless be stimulative so there is a you do want to think about the the macroeconomics of it but you do want to do that with the understanding that that's not the purpose of what you're doing um and for what it's worth if you think of this as being a temporary emergency that requires a bunch of spending which I think we all do uh question how should that spending be paid for well this is pure standard Public Finance Theory which says that if you have a temporary need for a bunch of spending you don't want to raise taxes to fully pay for it you want to spread it out over time so a largely deficit Finance response is appropriate um before I get into the size issue I think it's helpful to think about you know where does this come from how does the spending get to be so big relative to the output short form we can I I don't think it's for I don't think output Gap is an appropriate framework in any case and the size of the output shortfall relative to what you might have expected is very contingent upon what you uh where you thought we were in 2019 and I'm not I'm not of the view that we were actually uh above potential output then so there are some issues there but it's clearly by any reasonable calculation we're talking about a spending package that is at least twice in probably more than that the size of the shortfall in in nominal GDP that relative to what we should have expected so what's in there three components I I'd say conceptually you want to think about three components first there's public good spending related to the pandemic shots and arms making schools safe to reopen quite a several hundred billion dollars of stuff that is really quite clearly directly related to the public health emergency uh it's not most of the package but it's a significant part of it second there's income support um the um unemployment insurance being the most important part of that and the income support is is it's a big deal and to some extent you want to think of Aid to State and local governments as being a kind of income support that because of our fiscal federalism and balanced budget requirements uh lower levels of government are in some ways in the same position as liquidity constrained unemployed workers they they need Aid to tide them over and then the third part there's a bunch of stuff that is not very targeted uh I in my blog post I called it built and suspenders it's uh the argument for things like the checks to you know of the to most adults regardless of economic circumstances are the economic argument for them is that um any attempt to create criteria for targeted Aid is going to have gaps in it and certainly the unemployment benefit has gaps in it so you're throwing out a bunch of money much of it going to people who have not been hurt by the pandemic or not significantly hurt but some of it also going to people who really have but are not getting Aid and so you're throwing some money at them and it's it's it's not well targeted uh but trying to be too careful can be a problem it would be I would be very upset if the whole program or most of the program consisted of untargeted checks but it doesn't it's it's something like a quarter of the program so those are the three things and if you want to think about how the program can be so big relative to the income shortfall you want to say well there's there's the public good stuff which is not related at all to the income structural there's the um the income support which is supposed to be roughly corresponding to the shortfall and then there's the sort of the belt and suspenders stuff which is on top of that and so it ends up being a a very big very big number um question we should ask then is uh uh first question we should ask is how much overheating is all that's going to cause or how much how much net how much stimulus over and above what we sort of need to get through is this going to provide uh the public good stuff is it's like defense spending on a war military spending on war it's clearly it's a significant just Plus on demand necessary as it may be it is going to be adding to demand the income support less so because to a large extent maybe not perfectly but to a large extent is replacing income loss because the pandemic and in fact if you want to ask what happened last year it's it seemed pretty clear that the economy wanted to have a secondary Keynesian recession on top of the pandemic slowdown because there was big loss of income and spill over to demand and that was short-circuited by the cares act which provided Aid and meant supported incomes and that it supported us and it it's uh it it really did it wasn't stimulus in the normal sense but it did in fact provide a floor under under aggregate demand which was really important um and but so I but again I don't think that that I I'm sorry not again the the public good spending definitely is expansionary the income support I think is largely just keeping us in place they've broad-based stuff which is the checks but also I agree it does kind of look as if we're the uh the state and local Aid in particular is bigger than the fiscal problems of state and local governments um and uh certainly in aggregate um the those things are definitely kind of there's a lot of money however it's probably not very stimulative in fact it's it's doing a lot to you know restore people as some of it is helping people in need and the risk I mean I'm not a big believer in ricardian equivalence uh but if there's anything where you can expect that people will just save a temporary increase in income um surely receiving a check that you didn't is not compensating for anything and that you know is a one-time event a lot of that's going to be saved a fair bit of evidence that that happened last year so that the net impact on aggregate demand is not as big you look at the you know 1.9 trillion dollars this is going to have a aggregate multiplier well under one it's not going to be nearly as big as as the headline number would suggest it still is a stimulus on top of an economy now I do think we're going to have a boom but I don't think it's going to happen until we've got enough vaccination for herd immunity which means it's going to be coming late in the year so it but it I I'm very optimistic about late 21 into 22 but not right away um the but we are and we're putting something on top of that um and uh I have to say that I think it's a little yeah it's true that that that monetary policy attempting to offset fiscal stimulus actually it you know sometimes over overdone it and uh and led to recessions and has sometimes um underdone it so the inflation starts to take off and I'm not sure that that there's any general principle that says that we should presume that that the FED is in a systematic way unable to handle this but it will have to do something if it's if things go well we do have a kind of booming economy for what it's worth which may not be much the markets aren't acting like they're particularly worried about this but it could be um but I think the other thing that you want to ask is if you don't um if you're worried about this uh what are you suggesting which pieces of the of the relief package the rescue plan I was happy to see the Biden people call it that not not a stimulus uh which pieces of the rescue plan would you want to drastically cut back um not the public goods pandemic fighting for sure that's that's we that's what we really need to do uh the unemployment benefits are you know they're generous but it's not as generous as the 600 a week as in in the cares act and uh um it's not that that the difference between a what you might think was a reasonable compensation and maybe the slightly higher stuff is not a big deal um generalized checks yeah that you could uh the case for those is the weakest of all the pieces but they're also not likely to have very much stimulative effect and the same is true for any excess state and local Aid state and local governments if they if they find themselves getting a lot more money than they're going to need they're going to learn they're not going to have a huge boom in state spending we're going to have a lot of that used to replenish rainy day funds so I don't think that that's a a big inflationary stuff and the question has got to be what are you suggesting that we cut um of course it does matter that the the checks which are the least justifiable piece in terms of standard economics are also by far the most popular and I don't think we can entirely disregard that that's part of a uh part part of of making successful policy is making something that you can actually sell thanks um can I just add one last Point Larry I agree that the bigger thing is is infrastructure investment but I don't think that these are competing any excess stimulus that we're going to get now is going to be gone by the time any kind of infrastructure program is going to get rolling infrastructure stuff is stuff for sometime next year at the earliest it's just not going to be a competing issue and let's again let's be realistic the political economy of this the constraint on on the kind of infrastructure plan that Larry and I both want is not financial and it's not macroeconomic it is political and it's all about whether we will have enough sense that government programs work to be able to do the things we should be doing next year thanks a lot though Paul there was a lot of stuff in it let me just summarize so you think the framework of output Gap is probably not sufficient to look at this problem there's more Income Support rather than a stimulus that really relates to some resilience argument as well what the households would like to have more resilience more of liquidity buffers compared to earlier we know that in the US it's for many households they don't even have liquidity buffers and perhaps they won't spend it and don't push up the inflation and hold higher liquidity profits we don't know I was intrigued by your War analogy their timing is a little bit different now because during the war you spent doing the war when others can't spend so much in private consumption and when the war is over I think you have to change here it depends very much how the vaccines are rolled out but I find it very so perhaps Larry can respond to it and let's keep it back and forth a short um to the questions explicit questions you ask which part of the stimulus package or the income support package to cut back on and uh how do you see the resilience aspects and uh how would you redesign the whole thing and perhaps if I throw something to on top of it you were arguing for secular stagnation which was an infrastructure uh interest rate staying low perhaps you can combine it with your earlier hypothesis of secular stagnation where you always argued for more government investments in particular and um how you know how does this fit being now more conservative how does it fit with the earlier hypothesis of having expansion because of secular stagnation sympathetic to Paul's basic framework uh there's about 170 billion dollars in there to spend on vaccines and fighting covid and every penny that we can usefully spend or even half usefully spend fighting covid we should spend um for that lost labor and salary income is 20 billion dollars a month now going down over the year call that 300 billion dollars to be very generous we should absolutely spend that that gets us to 500 billion uh dollars there are other categories that you can argue that uh can be uh argued about and so you might get up towards a trillion uh dollars I think you have a difficult time getting to 1.9 uh a trillion dollars we're close to 1.9 trillion dollars on Paul's criteria when he defends the proposition which he does in a persuasive way that this may not lead to overheating the main argument Paul makes is that the spending won't take place this year but will take place in subsequent years and so the demand will take place in subsequent years I think we all mostly expect that we will put covet in the rear view mirror by the end of 2021 and we will have a really quite strong economy at the end of 2021 and therefore if there's more spending on one thing there'll be less spending on uh another and I would rather we run an economy targeted towards public investment in 2021 2022 and the subsequent years rather than that we run an economy towards further spend out from people who got money that people in state and local governments who got money that they didn't really need during 2021 but spent it out during 2022 and 2023. I'm focused on keeping room for the public Investments that Paul and I um agree are uh essential I don't think it's a very strong argument to say sometimes the Fed was behind the curve and we got inflation and sometimes the FED overdid it and we got recession therefore we should assume that the FED will on average get it right and be able to keep things under control I think the way to read that experience is that if we produce a very substantial overheat the likelihood and the situation around uh the dollar and the fact that uh part of the story around GameStop is so-called stimis from stimulus checks reinforces these concerns I think the likelihood is that something adverse will happen and therefore it's better not to do that experiment so it seems to me that much the more prudent approach is to do exactly what Paul says is appropriate which is to meet the need for this emergency in a generous way through this year while at the same time planning for and providing economic support for things that will create jobs help those who are disadvantaged but also build the economy's capacity and create the wherewithal uh for uh more uh debt so I'd like to see a trillion dollars of public investment built into a two trillion dollar uh program or a two and a half trillion dollar program uh to be legislated right now rather than having by far the largest program in American history whose Advocates uh like Paul recognize that a very substantial part of it is in that third category that is neither necessary to meet the emergency nor to provide relief uh for the suffering thanks Larry so let me come back to Paul and I would like to throw some additional element uh in it which is the politics and Paul alluded to this already beforehand what do you think Paul is it that you know the Obama Administration when he came in we had a huge financial crisis and the stimulus was too small uh at that time and then when the elections came two years later the Democrats were essentially voted out and you know and then there was still enough money left for a trump tax cut which was a very generous uh and then we realized denial of the inflation was not popping up so this experience from the last crisis to what extent is the shaping now the political debate in Congress among the parties what what's your take on this and is this trumping the economic reasoning is this the political things saying okay in two years time we would like to keep the maturity uh in the Democrats would like to keep the maturity in the Senate and the house okay let me come to that in a second I want to talk just about two substantive economic issues first is yes if we're over actually let me three it's three issues amongst the economic issues um the uh the um first of all the the it's not just the specific I mean the the shots and arms is is what Larry talked about and that's a that's a big slug of stuff but also the there's quite a lot of spending on other things notably education basically virus proofing schools and that's a that that's very much actually that is a form of long-term investment because getting kids back to in-person learning as soon as possible is a is an investment thing uh very probably more important than any kind of infrastructure um but still um there is probably a quite a lot of air in this stuff that is not uh is not really well targeted on people in need on the other hand trying too hard to make stuff well targeted we're not able to make a very precise cut there so a certain amount of of stuff that is is kind of scattered maybe uh uh scatter shot uh with only some of it falling on the people who who are most in need is is okay um the now the question there then becomes well but isn't that setting up for excess demand the next few years uh for what it's worth I think of that as just a wealth an increase in household wealth and the Mars will prepends to just spend out of wealth is not 0.5 it's something like 0.1 or less so it's it's something that's going to be spread over an extended period it's not it's not a 2022 issue it's a it's a next decade issue uh as I know it's liquid but it's still uh and and of course they're you know GameStop yeah people spending their stimmies there's always going to be some event um the about the FED um my read I when I tried to come up with something that looks comparable in a scale to what I think the actual fiscal stimulus is going to be I actually come up with the Reagan um tax cuts and Military buildup of the early 80s and Chris what's hard there is that you had layered on top of that was the vocal recession so a very tight monetary policy which was instituted before the tax cuts led to a severe recession and then was relaxed and you had morning in America but if you actually asked what happened after that which was a situation where tight monetary policy was in effect trying to offset fiscal stimulus it actually worked we had a basically a soft Landing in ad485 and nothing terrible happened now you can go through it but that that did not that the experience of the 80s which is the most dramatic type money thing that we see but the type the the story about Tight money causing a recession is one that's before the fiscal stimulus it's and the I my read on that is the Fed actually managed to handle the fiscal stimulus pretty well um Marcus politics of course that hangs over everything in fact the reason why at some level Larry and I are having a purely academic debate this this thing is going to pass it's going to pass with a number very close to 1.9 trillion um and it's going to uh pass that way and it's going to include a bunch of checks that are where the economic case is a bit weak and the reason is because um the checks are enormously popular Democrats were badly badly burned by the experience of the Obama years where an underpowered stimulus helped to lead to a republican takeover Congress um it's political stuff is just incredibly fraught I mean we're kind of mostly I hope in a Insurrection free zone here but when you take a look at who the other party is and the urgency of doing stuff that is popular especially when you've kind of promised it I mean the fact of the matter is that the Democrats hold the senate in large part because there are two candidates in Georgia promise people two thousand dollar checks wisely or not as you know the fact is the party is not going to go back on that so um yeah the politics overhangs it now I don't like that I want to be a technocrat and not be thinking about what's what's going to uh move but you know this is this is uh you know if I feel like a classic villain here you know this is real life you know you can't handle the truth the fact of the matter is we the economic policy has to be contingent on on the political situation thanks Paul let me pick up on the 1980s of course the 1980s we had a high normal interest rate and I was just wondering whether Larry you could outline a little bit unfortune come back to this as well what are the implications of hiking the interest rates uh you know will there be a soft Landing as Paul said but I'm worried in the sense that you know if you look at the 30 year mortgage rate it's roughly 2.7 percent and inflation two percent so it's really you know half a percentage point of a real interest rate on mortgages for 30 years and there would be you know if the rate were to go up the real rate goes up uh what happens then to all the asset prices there would be a huge reallocation on the financial markets and what happens to the emerging market economies now what happens if the U.S were forced to rise interest rates to some extent what are the repercussions for the rest of the World perhaps if you can elaborate on that on the implications of the exchange rate and the emerging economies in particular let me just to say that I think Paul makes a case that there could be some air uh I think it's hard to get the conclusion that you're not talking about a trillion dollars of air and that trillion dollars that Paul recognizes is kind of of air is uh the largest fiscal stimulus we've ever had uh in the United States and so expressing concern about its possible consequences seems to me to be the right thing to do um I was careful in writing my piece to refer to say that it was hugely important that we have a major physical stimulus program right now that the egalitarian character of the Biden program was a very positive but that it came with risks uh that had to be uh managed I think the risks associated with and I can't say for sure that it may be that everything will materialize uh smoothly but if you ask me about the risk that uh the economy will start to inflate that it will be explained in terms of specific uh factors that bubbles will emerge greater in financial markets and that are fed behind the curve will then Lurch in a way that causes a recession and that has substantial adverse Global consequences if you ask me about the risk that we will just be inactive for a long time and discover ourselves in a new Norm with much higher and Rising inflation uh expectations and that the flat Phillips curve that is now a cause of such celebration will become a major problem in terms of the difficulty of uh restoring uh stability if you ask about the risk that a growing expectation that real interest rates are going to be low or negative forever drives extreme uh risk-taking to create bubbles that then generate momentum that lead to substantial uh downturns and a uh structural break if you add up all of those risks and if you add up the way in which the what I suspect will be the growing science of those risks over time May inhibit spending on necessary uh public investment it seems to me to be a much better course to lock in the public investment uh now uh rather than to lock in the spending power for uh households on One technical point I I'm surprised by what uh Paul said I would have thought that it was certainly to be expected that if you gave middle class Families Two thousand dollar six thousand dollars if there's a family of three checks which they didn't spend this year in part because of covid I would have fought the best guess would be that the spending propensity out of them would be far greater than the spending propensity economists usually estimate from wealth which is driven by fluctuations in the stock market so I think the excessive to the extent there are build-ups of assets because of saving this year the right assumption about the rate at which they'll be spent in 2023 2022 2023 2024 is much greater than would come from normal estimates of the propensity to consume out of wealth so I'd rather be locking in the public investment and the climate change then uh locking in uh the rest and I don't think it's that hard actually to Target pretty totally those only 20 billion dollars lost wage and salary income and I don't know what the argument is that you need to spend five or six times that in order to make sure you're reaching the people um who need uh to be reached and since even on Paul's calculations that's such a large part of uh the program I think that's a case that needs to be more fully articulated and look if this is a necessary political compromise it's a necessary political compromise but I think it's our job as economists to say that there isn't really a compelling economic uh case for it that it carries with it risks that need to be managed and then uh we're a democracy and if our political leaders think it's necessary to reach a political compromise that's a decision we should respect having warned about the risks but I don't think it's right for us to tilt our economic analyzes um in favor of what is a politically expedient conclusion thanks Larry so let me on among these risks of course I'm very interested in bubbles all the time so I would like to know from Paul do you think if bubbles emerge and there's a huge wealth generation from bubbles people don't spend on it but what happens if Pablo's burst what happens then what will be the outfall from then and then I would like to go a little bit to uh the role of expectations and the inflation anchor so do you see any threat of the inflation anchor breaking at some point or do you think that's we're far away from this because it's not so in kind in people's beliefs that inflations will stay around two percent so that's first of all on bubbles um bubbles happen uh trying to use macroeconomic policy trying to condition your macroeconomic policy on fear of bubbles is very very problematic you have to be much more confident that you have a bubble than we usually are there are occasions when you when a bubble seems to be as clear as as anything housing bubble in in 2005 six I that but that was more the exception than the rule and I will just say on on the whole uh interest interest rates which Marcus seems to be concerning you I don't think that's I'm hearing this from Larry but the uh the the concern that that low interest rates are uh are basically a bond bubble and that that uh that tight monetary policy to offset fiscal stimulus will will burst it uh it could be but uh I would have said I mean I there's this uh hypothesis called secular stagnation which somebody or other has done a lot to popularize uh which leads me to believe that there are actually pretty good structural reasons for interest rates to be low and that to believe that they will even if there is an interest rate spike in the wake of the American Rescue plan that that it will subside and it will be back in a low interest rate world I think that we are I'm still persuaded not 100 because 100 certainty just doesn't come with the territory that um that we are still basically in a world of excess savings looking for some place to go and uh and and that that we're back there um I mean it's funny if in a way the closest parallel to the Financial Risk that I think is what Larry is saying and maybe what you're saying works as well is is something like a 1994. when the FED tightened and there was this Bond route and there was a spike in in interest rates and uh we're certainly at the FED they worry about you know that president is very much on their minds um but funny thing is it didn't actually lead to a recession in fact you still have the US economy was still busy adding 300 000 jobs a month right through all of that and so I I'm not convinced that that's a big concern there's just I there's we're getting so many things here I mean I I would agree with that the the Marshall propensity to spend out of I think we're stuck calling them stimulus checks even though they're not stimulus and they're not checks but the the margin propensity to spend on stimulus checks is going to be higher than the marginal capacity to to spend on a stock market fluctuations no question uh but and may be higher than the Mars capacity to spend out of housing wealth Which is higher but not uh maybe I'm wrong but it's uh but there's reasons to think it's not that large and um look if if I had thought I I said Nick and I'm I'm being allowing political trying not to to claim that things are good when I don't think they're good but I am allowing political reality to to constrain the things that I'm advocating uh uh a big infrastructure a buildback better slug in this first package was not going to happen the only way it's going to happen is if there's a lot of credibility built around the first package and uh now it's possible that people a year from now will be saying oh God look at the look they they overheated the economy it was too big and no more money for Biden uh but what I think is more likely is people say hey I got my check uh the economy is booming these people seem to know what they're doing and but in any case the economic constraints the the financial that debt is not a constraint uh in fact aggregate demand is not going to be that much of a constraint so it's all really about the political economy like it or not I don't want to play politics either but like it or not political economy is what's going to determine how much of an investment agenda we can have Paul's much more confident that aggregate demand um and concerns about financial stability are not going to be an important issue um by the end of the year given a program of this magnitude uh then I am he might he might be right but he's much more he's much more confident of that than I am kind of agree with him if you had asked me to make the case that I was wrong I would have made the same I would have used the same example he did of 1994 um where you did have a big interest rate a set of spike a big interest rate uh Spike and you didn't have adverse economic uh consequences I think the big difference between that environment and this one is that in 1994 we had a government that was organized around the theme of fiscal stability deficit uh reduction and bringing down the debt share of GDP and a similar kind of scenario in an environment of double-digit budget deficits it seems to me we carry with it uh substantially more risks uh than what we had in 1994 there may be an art there may be a difference between um Paul and I um in the extent to which one wants to make uh the best be uh the uh the enemy of uh the good I think in terms of economic analysis the way we can make the biggest contributions is by warning about um what the risks are and um by being clear about what would be the best opportunities and it doesn't sound to me like Paul disagrees with me that if we did what was necessary to fight covert to remove to remove schools and to get schools going and then we did what was necessary to meet that 20 billion dollars a month and lost wage and salary income and beyond that we focused heavily on public investment um that that would be a better approach to meeting the needs at the moment I think where we differ is that he's more optimistic than I am that on the path we're following will get to more or less the same place with some non-optimal policy and some groundwork laid that will make the public investment more likely he's more optimistic that this will prove to have been a very successful political route to getting to that uh than I am but on the fundamental economic analysis I think what I've found encouraging is that we have fairly similar views and so let me just move a little bit also to monetary policy as well and Polk Maps can elaborate on that so you both argued actually that the Central Bank Independence is not so important anymore but this was under a time where we had fiscal constraint fiscal austerity in many many countries in the world would you still think to manage the risk which might come along with the stimulus do you think now Central Bank Independence is more important again so that is because you have now of course I agree that you have a high debt burden at that level but with the low interest rate that that burden is not so high so how do you see this on the one hand the debt burden for the government is not so high because the interest rate is so low and there might be also less room for the central bank to move a more political pressure how important is Central Bank Independence these days did it become more important now with this debate or do you think it's still not so important okay um actually I just want to make one more point which I forgot to make earlier I didn't um which is that in this program there is a a fairly large role partially implicit of automatic stabilizers that if the economy does really well first of all the unemployment outlays unemployment insurance outlays will come down so that that component will be substantially smaller than than is now being projected and also uh although this is this is the implicit part it if if the state and local fiscal situation is substantially better than we expect I don't think I think that they will basically they will Bank a large part of the aid so that they're the it the Downs if the economy has an upside then that in in fact is going to probably reduce the amount of stimulus that's going to be supplied so I think that's worth saying about yeah Central Bank I don't I think it's um there was a reason why Central Bank Independence became a a kind of a uh Talisman uh which was that we had a period of of at least where it was perceived that that uh that um that inflationary psychology and and and political dominance over central banks led to bad stuff and uh you can you can certainly see that to some extent in in Arthur Burns and you can see that that the dash for growth in Britain and all of that stuff um and so we got to this uh position of Central Bank Independence being crucial and then but that was actually a response to an inflation or environment of of as long gone now there is a question if if we're saying okay actually a lot of bad stuff happened as a result of Central Bank Independence it would be kind of a shame if we ditched it exactly as we approached the moment we were actually the case for Central Bank Independence is coming back of the you know it we would be managing always to be fighting the last war economically I I don't I think we're quite a ways from there you know the thing is that it took years you don't unhinge expectations that quickly it's not the case it's not it's simply in fact yeah it's not the case that the moment that LBJ decided to have both guns and butter that inflation expectations ran wild it was years and years of of of bad uh policy judgment and um I don't really have any worry that the current U.S Administration is going to try to bully the Federal Reserve into accommodating its fiscal policies um and uh uh who know you know what may follow but God knows if if we have uh if we you know if we have a another Administration like the one that just left uh uh I think Central Bank Independence is going to be the least of our concerns and it wouldn't persist anyway so I I just don't think that that's such a I I think that's an issue that we micro economists tend to make a big deal tend to regard particularly because we you know particularly macroeconomies of a certain age with you know Larry and mayor we remember the the 70s but the uh but the um but I don't think we should be all that obsessed about the the question of Central Bank Independence not yet I'm much more I if they're concerns they are the ones Larry is Raising which is that this is a really big fiscal package and and not not to worry that Jay Powell is going to try and make it disappear or inflate it away thanks so let me throw this question also to Larry but also combine it with an earlier scene Charles Stuart put out in this webinar series and he also wrote a book on he argues that you know the low inflation low Bill interested era is over which relates is very contradictory to Leary's secular stagnation um but he always one reason inflation was so low was essentially that there was a huge labor force in China and Eastern Europe joining the global Workforce and that brought you know inflation rates down and really put pressure on the trade unions and others so the wage bargaining changed and he argues at least Charles goodard argues this pressure will go away and uh hence the low inflation era were not persist do you share these concerns at all I think that's probably a much more long-run perspective uh your worries right now I guess much more short-run concerns foreign I'm kind of under under sort of the influence of a couple of things um when I was in graduate school and my early years uh as a as a professor the liquidity trap and zero interest rate was kind of an interesting historical thing that didn't seem terribly relevant to today's uh to to the world of today and then it became Central and I learned from that that things have a way of coming back and so I think there's a current generation of economists that finds after 40 Years of basically low State low inflation where the inflation rate basically hasn't changed importantly in a generation and a half it follows that any right hand side variable is going to have a zero coefficient predicting a dependent variable that doesn't move and so what kind of inflation is kind of off the radar screen and I think that's probably a mistake and on top of that you have a kind of psychological uh phenomenon I kind of live through the Japanese bubble of the late 80s and there were a lot of people who were confident that Nikkei was overvalued at 25 000. there were even more people who were confident that it was overvalued at thirty thousand and by the time it had gotten to 35 000 there were a lot of people with you Melody who weren't confident of anything and so I think the fact that predictions of inflation have been wrong uh for of a very long time obviously is a probative fact on the one hand but it's a fact that can be too probative so I think the concerns about inflation accelerating the concerns about expectations which we don't understand very well becoming unanchored the concerns about what could happen uh to uh the dollar I think in environments which you don't understand very well it's a good idea to take small careful steps unless there's a compelling reason to do something else and so when I look at an 18 of GDP deficit in a year when unemployment is predicted to be kind of like it was in 2015 I kind of think I'd rather see the energy pushed forward over uh the longer term into things that I know will do good uh in terms of uh public uh investment and that just seems to me like the better approach I think Paul and I agree and uh probably disagree with uh Charles good hard in thinking that the right best guess considering all the forces is that the idea that savings absorption is our principal macro uh problem is likely to be right as a way of thinking about the next decade and it's just a question of if you have that how much should you be putting into place a program for the next decade to to address that and how much should you be doing all of this uh right now it's like the question I think I referred to earlier of if you'll believe in an increase in the minimum wage how should you feel if somebody wants to increase it to 22 dollars for the next two years you kind of like the idea that they're on your idea about increasing the minimum wage but maybe this isn't the best way uh to uh to do it and that's where I come on uh the judgment on the judgments now yeah can I just um uh so I mean I mean Larry and I are actually in many ways and similar uh wavelengths and um the definitely just because something has been true for a long time doesn't mean it will always be true and things do come around and uh um but it's also true that um in some ways if we're worried about an unhinging of expectations here this is an extremely the the the the sweet generous nature of what's going on is some insulation against that seeing us run huge deficits in the face of a unprecedented pandemic is something that I do believe even that people wage and price Setters financial markets and so on will largely treat as being a one-time event I could be wrong about that but I think it's it the the idea that we're going to is going to suddenly be 1978 in people's minds again um is that's that's too far if we continue to run you know if we continue to do massive uh diffusely targeted uh programs after the pandemic is over well then and that would chip but I don't think that's going to happen um and just a word about the good heart point I just um the worrying that this is this is stuff I'm actually supposed to know something about and that sort of thing drives me a bit crazy um the fact of the matter is 70 to 75 percent of the workforce is in non-tradables uh that uh that the idea that that wages are depressed that that we are unable to have Labor organizing uh because of Chinese competition in our vast service sector really doesn't make sense if you try to ask me why is it that major why why did Walmart not get unionized when it took over from General Motors as the biggest employer that wasn't because of globalization uh you can't drive to a Chinese Big Box store it was because of a essentially because of politics because the the serve the Giants service sector companies got giant largely during the Reagan Years and we're we're both legal and illegal tactics to block Union organizing were essentially given complete freedom of action so uh so no I I don't if it's possible that the that the low inflation environment of this these past you know three decades is is behind us now uh but not for the reasons that good heart is is saying and and mostly I think not because basically I come back to it I was uh vastly persuaded by by Larry's secular stagnation uh argument I think that we have a uh a lot of persistent economic weakness you know beyond this beyond the the covert relief into into the into the post-covered world um it's going to be uh we're going to be back in in the world we were which is when we're creating enough demand and avoiding uh slow flation is going to continue to be the big problem look maybe a summary maybe a summary of some part of this Marcus is I think in some ways um Paul and I are in very substantial agreement I think Paul and I both believe in two propositions one we should have a effective response maximally effective to winning the war against covid and protecting its victims that it's likely that that will have been accomplished within a year and that beyond that we need a large-scale effective program against uh secular stagnation I think Paul is more confident than I am though we're equally hopeful that the current program will be the first step down that road and is the best way to move us down that road and I am more concerned that the current program because of its various overhangs will become the defining program of this era and leave us less responsive to the overall uh secular uh stagnation uh challenge but I think that our disagreement on that point should not um obscure our agreement on a fundamental point where we are at still at considerable variance with many in the economics profession and even more in the financial establishment that our fundamental issue of our time is um the absorption of saving and it is that rather than the rise of Chinese labor or um some kind of uh promiscuous profligacy on the part of central banks that is the way to understand uh the major economic Trends uh that are playing out thanks Larry so Paula give you another minute to respond and then I will conclude uh I think that's exactly uh I mean the truth is we'll find out I I think I think Larry is I think you're exaggerating I think you're wrong I think I think you're you're excessively worried about the risks but I'm not sure of that I'll admit that I'm not sure about that and um but at a it's a peculiar thing because although this debate only started very recently uh it's already pretty much moot in fact something that is you know it now seems unlikely that it will be as small as 1.7 trillion it's actually this this Mythic is going to pass it's going to pass with Kamala Harris's vote and it's uh um and um and then we'll find out uh and hope that it can be managed and then you're right I mean I say actually the overriding issue is of course climate change but the uh but the way to deal with that and simultaneously deal with the problem of secular stagnation is through a lot of public Investments so just behind us that's where we should be going and we'll see whether whether the this this massive thing it is massive whether this massive thing paves the way for that or gets in the way of it and uh cross your fingers and hope to hope that the optimistic view is is right thanks a lot uh it was a pleasure to talk to you both of you and I think the audience really appreciate it as well let me just summarize perhaps there's a lot of agreement so we always stop with a positive note so both of you agree a lot there's a different emphasis in some Dimensions I I see that Paul is seeing more the political constraints Larry is seeing more there is Dimensions uh but you know at the Baseline there's a big agreement and with this thanks again fantastic and great appreciation for the both of you Larry

Channel: Markus' Academy

Views: 82,082

Keywords: Markus' Academy, Markus Brunnermeier

Id: EbZ3_LZxs54

Length: 74min 11sec (4451 seconds)

Published: Fri Feb 12 2021