Tuesday, July 30, 2013

What Larry Summers Said in 1991

Larry Summers seems to have a blank slate when it comes to monetary policy. He hasn't written or said much that reveal his own views. But with an assist from Tyler Cowen, I've found that Summers actually did say quite a lot about monetary policy. Back in 1991.

He participated in a panel discussion for the Journal of Money, Credit and Banking -- a top academic publication for monetary economists -- on the long-run goals a central bank should have. Since it is gated, I will summarize it. Here are his top 3 quotes:

1. He's practically in favor of NGDP targeting. "What should be the long-term objectives of the monetary authority?...What the monetary authority surely can control in the long run is the growth rate of nominal income."

2. He doesn't like monetary rules, specifically John B. Taylor's or Milton Friedman's. "[I]nstitutions do the work of rules, and monetary rules should be avoided...Unless it can be demonstrated that the political institutional route to low inflation -- to commitment that preserves the discretion to deal with unexpected contingencies and multiple equilibria -- is undesirable or cannot work, I don't see any case at all for monetary rules."

3. He is dovish on inflation. [T]he optimal inflation rate is surely positive, perhaps as high as 2 or 3 percent...I would support having someone in charge of monetary policy who is more inflation averse than I." His arguments anticipate one Janet Yellen's in 1996: downward nominal rigidity of wages and the zero lower bound on the nominal interest rate.


  1. Evan, it's an intriguing paper (I was planning to discuss it myself). On the first point, I think it's also important to note this quote from p. 629 that somewhat contrasts point 1 (granted through a critique of rules, regardless) –

    "It was probably a good idea to do something in response to the stock market crash of 1987 [that] you would not have perceived as desirable simply on the basis of some feedback rule involving [NGDP]. Aside from the crash, I doubt if any of us would have difficulty writing a scenario […] in which it would be desirable to do something that you wouldn't see as desirable simply by looking at the behavior of nominal GNP"

    His views have no doubt evolved since 1991 – but as far as the important questions are concerned he still seems like a black box.

    That quote could be interpreted either as more dovish or hawkish than a market monetarist position (no doubt this ambiguity is the purpose of discretionary policy). But put together with his emphasis on the banking system and a few stray remarks on financial instability, we might suspect an aversion to easier policy; at least next to Yellen.

    1. Yes, on the "his views have changed" point -- why I think the fears that he is opposed to financial regulation are overdone is because of his concession that he didn't anticipate the rise of derivatives, particularly CDS. Those changed his view of the financial system's fragility after 2008.

  2. With all due respect I think you have seriously jumped the gun in making some of these pronouncements here:

    1) In his introduction Summers states that one of the reasons for an increased interest to economists in the issue of what should be the objectives of monetary policy was the then relatively recently established consensus that central banks control the rate of growth of NGDP.

    "...Instead,the issue I take is one that thas been of increasing interest to economists in recent years: What should be the long-term objectives of the monetary authority.

    Increased interest in this issue as opposed to the issue of fine-tuning the economy reflects the general intellectual consensus that has emerged on two points. First, what the monetary authority surely can control in the long run is the growth rate of nominal income..."

    So he was clearly not stating that central banks should target NGDP, he was only stating that the realization that the central banks control NGDP had motivated an increased interest in the objectives of monetary policy.

    2) Summers doesn't specifically address the Taylor Rule in the panel discussion. Moreover it would have been quite impossible for him to do so as the panel discussion took place in the 1991, two full years before John Taylor's paper on the rule was published ("Discretion versus Policy Rules in Practice," Carnegie-Rochester Conference Series on Public Policy, Vol. 39, December 1993, pp. 195-214). More importantly, the fact that Summers rejected rules in favor of discretion underscores the fact that he was clearly not in favor of targeting NGDP, since NGDP targeting is itself a rules-based monetary policy. In fact NGDP targeting was one of the rules-based monetary policies discussed by Stanley Fischer in his 1990 chapter on rules versus discretion ("Rules versus discretion in monetary policy," Handbook of Monetary Economics, in: B. M. Friedman & F. H. Hahn (ed.), Handbook of Monetary Economics, edition 1, volume 2, chapter 21, 1990, pages 1155-1184 Elsevier).

    3) At the time Summers wrote this, in 1991, the Federal Reserve's primary measure of inflation was still CPI, and CPI had risen by 5.4% the previous year. With the sole exception of 1986, inflation had not been below 3% in nearly 23 years. So an explicit target of 2-3% inflation would actually have been quite hawkish. By the time Yellen made the argument in favor of a 2% inflation target in 1996, a target that has now essentially been adopted throughout much of the advanced world, CPI was in its third year of below 3% inflation, and a 0% inflation target was the subject of serious policy discussion by the FOMC.

    Moreover, although Summers' 1991 conference argument that downward nominal wage rigidities justified a positive inflation target preceded Yellen's nearly identical 1996 policy argument, both arguments were in turn preceded by research authored by Yellen and George Akerlof. The downward stickiness of nominal wages was a subject that Yellen and Akerlof had written on extensively, as far back as their seminal 1985 paper on near-rational expectations ("A Near-Rational Model of the Business Cycle, With Wage and Price Inertia," The Quarterly Journal of Economics, Vol. 100, 1985 Supplement, pp. 823-838).