Monetary Policy As Sabotage?

[Scot Griffin]

I was following up on some interesting work done by an economist named Richard A. Warner, and I came across the following article he co-authored with Kang-Soek Lee:

Reconsidering Monetary Policy: An Empirical Examination of the Relationship Between Interest Rates and Nominal GDP Growth in the U.S., U.K., Germany and Japan

Bottom line: Lee and Werner reject the assertion that loose monetary policy (low interest rates) spurs economic growth, finding that interest rates and GDP growth are positively correlated (e.g., low interest rates correspond to low GDP growth).

They intuit that loose monetary policy results in “unproductive” borrowing that does not result in GDP growth (e.g., borrowing money for stock buy-backs or leveraging a hedge fund).

Regardless, to me this article suggests that the cost of capital/credit plays an important role in differential accumulation and sabotage that is not fully accounted for by CasP’s depth/breadth regime analysis.

The detailed conclusions of the paper are as follows:

Our empirical findings on the correlation and statistical causation can be summarised as follows: (1) Nominal GDP growth is highly and positively correlated with short and long-term rates in all four countries; (2) Nominal GDP growth Granger-causes long-term rates in all countries examined, whereas the opposite holds only in one country (Germany, with two-directional causality); (3) Nominal GDP growth Granger causes short-term rates in all four countries, whereas the opposite holds only in one country (the US, where a strong two-directional causality is found).

The data suggests overall that statistical causality runs from economic growth to long-term interest rates. Nominal GDP growth provides information on future interest rates better than interest rates inform us about future nominal GDP growth.

Our empirical findings reject the canonical view that interest rates somehow affect economic growth, and in an inverse manner. To the
contrary, long-term and short-term interest rates follow the trend of nominal GDP, in the same direction, in all countries examined. This suggests that markets are not in equilibrium and the third factor driving GDP growth is a quantity – as shown by Werner (1997, 2012a) in the case of Japan (namely, the quantity of bank credit creation for the real economy – i.e., for GDP transactions, as the Quantity Theory of Credit postulates; Werner, 2013a).

Herman Daly wrote in 1991:

“Environmental economics, as it is taught in universities and practiced in government agencies and development banks, is overwhelmingly microeconomics. The theoretical focus is on prices, and the big issue is how to internalize external environmental costs so as to arrive at prices that reflect full social marginal opportunity costs. Once prices are right, the environmental problem is ‘solved’”

(Daly, 1991, 255).

In this paper the validity of this focus on prices was put to the test. We examined the central price variable, the interest rate. All schools of equilibrium economics (which is most 19th, 20th and 21st century economics, from classical, Marxist, neoclassical and Keynesian to
monetarist, new classical, post-Keynesian, neo-Wicksellian and Austrian, and likely over 95% of all publications in economics) agree
that lower interest rates stimulate economic growth, while higher interest rates slow it. This sums up ‘the law and the prophets’ in equilibrium economics, across the alleged ideological divides. We presented the first serious test of this claim, by carefully examining over half a century of data on four major economies (the US, the UK, Japan and Germany, representing not only much of world GDP during half a century, but also different ‘varieties of capitalism’). Out of the ensuing 8 cases (long and short rates in four countries) we found the hypothesis that interest rate levels cause economic growth rejected in 6 out of 8 cases. The alternative hypothesis that economic growth determines interest rate levels is supported in 8 out of 8 cases. Concerning correlation, we found that despite allowing for 2 years of leads and lags, the hypothesis that interest rates are inversely correlated with economic growth is rejected in 8 out of 8 cases. Instead, we found that interest rates are positively correlated with economic growth in 8 of 8 cases.

The central claim that unites the theory-driven deductive equilibrium economics (virtually all of macro-economics as taught at university and commonly discussed in public discourse) is without merit. The alternative view is the notion of pervasive rationing (Muellbauer and Portes, 1978; Werner, 2005), which implies the dominance of quantities over prices (Werner, 2005). That is consistent with the half century of data examined here.

There are many implications of our findings. If rationing is more frequent than assumed, quantities are of paramount importance in
economics, not prices. This paper provides impetus to the research agenda emphasising quantities in general, including resource constraints and therefore the environmental dimension in particular.

If interest rates do not move the economy, what does? If not the price of money, then its quantity? Werner (1997, 2015), Lyonnet and
Werner (2012), Ryan-Collins et al. (2016) and Bermejo Carbonell and Werner (2018) have found that nominal GDP growth and interest rates are driven by a common third factor, the quantity of credit creation ‘for the real economy’, which beats interest rates and standard monetary aggregates in predicting and explaining nominal GDP growth in various empirical tests, including in Japan, Spain and the UK – just as the Quantity Theory of Credit postulates (Werner, 1992, 1997).

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Topic

[Rowan Pryor]

Some preliminary thoughts.

1. I strongly agree that monetary policy can be and is used for sabotage. As can fiscal policy.

2. “The alternative view is the notion of pervasive rationing (Muellbauer and Portes, 1978; Werner, 2005), which implies the dominance of quantities over prices (Werner, 2005).”

Wow! Who-da thunk it? Real stuff counts and is the ultimate limiting or enabling factor as the case may be! My sarcasm here is towards classical economics of course.

! Update on my above sarcastic point. I shoulda read the whole paper first. Turns out that economic “quantities” in the first instance can mean, for example, “quantity of credit creation”. But in the second instance it is then effectively stated that constraining formal quantities can and does induce resource constraints: that low economic quantities can induce real resource constraints, endogenously of course. Fair enough, but I blithely took “quantities” to mean “quantities of real stuff” (real resources). This illustrates my ongoing problem with economics and its terminology. I detest the use of terms without qualifiers. In a discipline which mixes the formal and the real with such cavalier abandon [1] I would like to see terminology like “formal quantities” and “real quantities”.  A personal foible or a reasonable plea to always distinguish the formal and the real?

3. The modern monetary system is used by the oligarchic elites, more and more in the neoliberal era, to give money to themselves and keep it away from poor people who need money for essential purchases. The current system is very clear. Much money creation is done by debt-creation by the private banks when all money creation (as necessary) could be done by the government as fiat money creation.

Cheap money, as low or zero interest money, greatly benefits the rich. Large corporations can borrow billions at zero interest currently but bank credit card debt still sees consumers charged at  about 12% to 20% per annum (in Australia anyway). There is not one interest rate but many interest rates and the spread is greatly in favour of the already rich.

4. It is interesting to try to put together two claims from Warner and Lee:

(a) “economic growth determines interest rate levels is supported in 8 out of 8 cases”; and

(b) “the dominance of quantities over prices”.

This might be seen to imply that the oligarchs cannot unilaterally set interest rates to zero but instead that this is controlled by resource shortages causing economic stagnation. (My point  modified as per my update above.) But there are two kinds of resource shortages. One is the genuine shortage (shortage of real supply) and the other is the artificially imposed resource shortage (withholding of supply by business or formal quantity shortages by macro policy). There are many examples of artificially imposed resource shortages including cartel examples like OPEC. Withholding supply stagnates the economy enabling low interest rates to be implemented by big business.

5. Workers and the middle class are weakened by low interest rates in a number of ways. Low interest loans are offset by increases in real estate prices for example. Saving for a home becomes impossible for workers and the lower middle class. If interest on savings is zero or less in real terms (now I have fallen into the formal/real terminology trap of nominal/real for a formal value) and the price of housing increases by say 5% per annum, a worker can never catch the inflating deposit number by making savings from wages after all essential expenses. This is the situation now. Rich people and companies buy up the housing and apartment stock and become rentiers. Just a small example.

These are just preliminary thoughts as I say.

The other concern I have is that our entire system depends on growth. Growth is basically now no longer possible, at least not quantitative growth. Some qualitative and/or “hedonic” growth may still be possible but really I doubt even that. The climate system is close to collapse. Hence, so is our entire global economy. Without a steady state sustainable economic system it will be the “end of history” but not in the way Fukuyama meant it.

Note 1. Now that I think of it, it is this issue which can give me unease in CasP theory. That is to say, I have a knee-jerk reaction to dismiss or at least be suspicious of any quantification of the notional followed by an assertion that it can tell us something real. CasP’s method is to work in this manner at times but in specific ways. An example is with differentials like differential profits. The ratios can tell us something real. Something similar happens with SI derived units like the radian which is a ratio, albeit it is a ratio of two real measures (in SI units m/m with the hypotenuse intersecting the circumference line). The idea that a ratio (or a function too perhaps) of two notional quantities can tell me something real is quite difficult for me. I can see it in specific instances presented to me but as a general principle I really struggle with it. Does the fact that the notional quantities are algorithmically performative (in the sense that Cherizola uses the term “performative”) with real results mean ipso facto that the ratio can tell us something objectively real? Is this the way I should think about ratios of the notional in CasP? I mean if it helps me and its not technically wrong?

• This reply was modified 3 years ago by Rowan Pryor.
• This reply was modified 3 years ago by Rowan Pryor.
• This reply was modified 3 years ago by Rowan Pryor.

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