The Gold Standard  

Main Course 1 – served by Niall Ferguson

Here is where you can find the transcript of the panel discussion.

This is what NF said in that panel discussion:

There is a clear contradiction between these two policies, and we’re trying to have it both ways. You can’t be a monetarist and a Keynesian simultaneously—at least I can’t see how you can, because if the aim of the monetarist policy is to keep interest rates down, to keep liquidity high, the effect of the Keynesian policy must be to drive interest rates up.

But, I can see that Niall Ferguson did not make such a bloomer. Perhaps, he skipped a few steps in the middle.

The burden of PK’s song is this: When there is ‘incipient excess savings’, fiscal spending does not ‘crowd out’ private investment, it is essential and it is not contractionary via higher interest rates?

What happens if fiscal stimulus raises inflation expectations – whether theory says so, or not? Of course, Krugman would say, ‘Inflation expectations can rise only if the economy were operating close to or at or above potential and that if inflation expectations rise, it would mean that people would start spending and that means no excess savings. Only then, would NF be proven correct. We are a long way off from that.’

The point is that regardless of whether there is excess saving with me or not, if I choose not to lend to some one, the interest rate the borrower has to offer to attract funding either from me or any one else, has to go up. My reluctance can stem from any of the following: lack of trust, lack of credibility, irrational fear of inflation, etc.

After all, no matter what PK’s diagrams say, if at the Treasury auction, bidders demand higher coupons because of perceived risks (default, inflation, etc.), then that is the reality. Isn’t it?

In other words, when we throw in expectations, confidence and risk premium, that NF could not be so wrong. His mistake was that he did not elaborate his first point.

Let us also recall what Mr. Bernanke told the Congress on May 5^th:

Inflation expectations, as measured by various household and business surveys, appear to have remained relatively stable, which should limit further declines in inflation.

Furthermore, this is what the FOMC Minutes tell us:

Some participants highlighted the potential pitfalls of making inflation projections based on contemporaneously available measures of resource slack, especially during periods when the economy was facing large supply shocks and significant sectoral reallocation.