Wow. This guy is crazy. He says we can do that if we make one tenth of our money worthless every year. If we really implement that, no one will want dollars and our economy will collapse. Oh well, GWB listened to this guy for the eight years... http://www.nytimes.com/2009/04/19/business/economy/19view.html?ref=economy Economic View It May Be Time for the Fed to Go Negative Article Tools Sponsored By By N. GREGORY MANKIW Published: April 18, 2009 WITH unemployment rising and the financial system in shambles, it’s hard not to feel negative about the economy right now. The answer to our problems, however, could well be more negativity. But I’m not talking about attitude. I‘m talking about numbers. Let’s start with the basics: What is the best way for an economy to escape a recession? Until recently, most economists relied on monetary policy. Recessions result from an insufficient demand for goods and services — and so, the thinking goes, our central bank can remedy this deficiency by cutting interest rates. Lower interest rates encourage households and businesses to borrow and spend. More spending means more demand for goods and services, which leads to greater employment for workers to meet that demand. The problem today, it seems, is that the Federal Reserve has done just about as much interest rate cutting as it can. Its target for the federal funds rate is about zero, so it has turned to other tools, such as buying longer-term debt securities, to get the economy going again. But the efficacy of those tools is uncertain, and there are risks associated with them. In many ways today, the Fed is in uncharted waters. So why shouldn’t the Fed just keep cutting interest rates? Why not lower the target interest rate to, say, negative 3 percent? At that interest rate, you could borrow and spend $100 and repay $97 next year. This opportunity would surely generate more borrowing and aggregate demand. The problem with negative interest rates, however, is quickly apparent: nobody would lend on those terms. Rather than giving your money to a borrower who promises a negative return, it would be better to stick the cash in your mattress. Because holding money promises a return of exactly zero, lenders cannot offer less. Unless, that is, we figure out a way to make holding money less attractive. At one of my recent Harvard seminars, a graduate student proposed a clever scheme to do exactly that. (I will let the student remain anonymous. In case he ever wants to pursue a career as a central banker, having his name associated with this idea probably won’t help.) Imagine that the Fed were to announce that, a year from today, it would pick a digit from zero to 9 out of a hat. All currency with a serial number ending in that digit would no longer be legal tender. Suddenly, the expected return to holding currency would become negative 10 percent. That move would free the Fed to cut interest rates below zero. People would be delighted to lend money at negative 3 percent, since losing 3 percent is better than losing 10. Of course, some people might decide that at those rates, they would rather spend the money — for example, by buying a new car. But because expanding aggregate demand is precisely the goal of the interest rate cut, such an incentive isn’t a flaw — it’s a benefit. The idea of making money earn a negative return is not entirely new. In the late 19th century, the German economist Silvio Gesell argued for a tax on holding money. He was concerned that during times of financial stress, people hoard money rather than lend it. John Maynard Keynes approvingly cited the idea of a carrying tax on money. With banks now holding substantial excess reserves, Gesell’s concern about cash hoarding suddenly seems very modern. If all of this seems too outlandish, there is a more prosaic way of obtaining negative interest rates: through inflation. Suppose that, looking ahead, the Fed commits itself to producing significant inflation. In this case, while nominal interest rates could remain at zero, real interest rates — interest rates measured in purchasing power — could become negative. If people were confident that they could repay their zero-interest loans in devalued dollars, they would have significant incentive to borrow and spend. Having the central bank embrace inflation would shock economists and Fed watchers who view price stability as the foremost goal of monetary policy. But there are worse things than inflation. And guess what? We have them today. A little more inflation might be preferable to rising unemployment or a series of fiscal measures that pile on debt bequeathed to future generations. Ben S. Bernanke, the Fed chairman, is the perfect person to make this commitment to higher inflation. Mr. Bernanke has long been an advocate of inflation targeting. In the past, advocates of inflation targeting have stressed the need to keep inflation from getting out of hand. But in the current environment, the goal could be to produce enough inflation to ensure that the real interest rate is sufficiently negative. The idea of negative interest rates may strike some people as absurd, the concoction of some impractical theorist. Perhaps it is. But remember this: Early mathematicians thought that the idea of negative numbers was absurd. Today, these numbers are commonplace. Even children can be taught that some problems (such as 2x + 6 = 0) have no solution unless you are ready to invoke negative numbers. Maybe some economic problems require the same trick. N. Gregory Mankiw is a professor of economics at Harvard. He was an adviser to President George W. Bush.
A more practical policy would be an interest penalty on excess reserves held by banks so they would have more incentive to lend.
Well, that makes the real interest rate negative by raising inflation. It also achieves the same thing by increasing money supply
Yeah, Mankiw mentioned that in the 2nd half of his column. The question is whether we need to do more. Right now the FED is actually paying interest to banks for reserves, giving them an incentive to accumulate them.
how did the economics of spreading risk out thru securitization work out? how did the "great moderation" that economists declared a few years back work out? how did LTCM work out? how did the economics of allowing massive leverage work out?
What's crazy about his proposal is the randomness it introduces. Imagine if you are the unlucky person who holds most of the bills with the unlucky numbers, you will become broke overnight. In that case, why won't people use dollars to buy gold to avoid this uncertainty?
wow what a dumbass.. that will just inflate the dollar more. what we need is high interest rates ie:20-25%. let the people SAVE.
He was an advisor from 2003-2005. Mankiw wrote both of my college economics books. This sounds like he is talking in theory rather than actually suggesting we should do what is mentioned.
and that is the problem. They are working with a dumbass theory of money and inaccurate measuring tools, hence all the confusion. money is a commodity. Inflation is an increase in the number of dollars, not an increase in the price of goods. The price of goods (CPI) is just an indicator of how we measure the number of dollars, but it isn't the amount itself. likewise, deflation is a decrease in the number of dollars out there, not a decrease in the price of goods. Just because they correlate with each other a lot of the time does not mean they are the same thing. If I put all my money in a bank instead of spending it, does the amount of money go away? No. But prices may go down because of producer's incentives to get me to buy their products. THAT ISN'T DEFLATION. The problem is prices were TOO HIGH BECAUSE OF ALL THE BORROWING AND LEVERAGING. in short, there is absolutely no risk of deflation.
You are completely missing the massive credit contraction we are going through. Inflation is the massive expansion of money AND credit. Yes, the money supply is expanding, but what does that matter when it can't be transmitted into the economy? Banks are hoarding the money. Take a look at a chart of excess reserves at banks. The money isn't going anywhere. Also, do you really think 30 year Treasuries would have a yield of 3.7% if there was the threat of massive inflation looming? No, we are still in danger of deflation. The FED would be ecstatic to have 2% inflation.
With fiat currency and a central bank (the Fed) money and credit are the same thing. Debt is how the money supply is increased.
I agree with your premise just not your conclusion. Prices need to go down. We had an OVER-expansion of credit for far too long because of our trade imbalances which we spent and didn't invest. At the end of the day the banks will lend the money out once Congress lets the markets decide what needs to happen to those bad assets. If that means a couple banks fail first, than that is what needs to happen. Once created the money itself isn't going anywhere and will come out eventually, even if it isn't tomorrow. But if the sub-prime business taught us anything, its that the long-term does come out if you wait long enough.
You may be right there, in that prcies will come down no matter what. But mainstream economists don't agree- they think the FED can avoid deflation by aggressive expansion of the money supply. I'm not sure which view I agree with at this point. I guess we'll just have to wait and see.
