Did Michael Woodford Endorse NGDP Targeting? Hell, No.

Not as NGDP targeting is currently articulated, anyways.

Famed economist Michael Woodford gave a speech at the Federal Reserve’s annual conference in Jackson Hole, Wyoming recently that is stirring a lot of interest as it allegedly advocates nominal GDP (NGDP) targeting.

The NGDPers should take a more careful look, however. As we read it, Woodford argued that policies relying solely on expectations—the nom-de-guerre of monetary policy and monetarists—is likely to prove as fruitless when interest rates are near zero as the types of forward guidance he critiqued in the paper. Therefore, in order to stimulate economic activity, some combination of fiscal policy, monetary policy that essentially acts like fiscal policy (such as mortgage-backed security or MBS purchases), and coordination between fiscal and monetary authorities is almost certainly required.

Woodford’s remarks, rather than being claimed as an endorsement of (so far only half-baked) NGDP-targeting concepts should be a huge wake-up call to NGDPers and other pure monetarist types that fiscal policy still matters.

In Woodford’s own words (emphasis added):

A more logical policy would rely on a combination of commitment to a clear target criterion to guide future decisions about interest-rate policy with immediate policy actions that should stimulate spending immediately without relying too much on expectational channels. Neither a program of expanding the supply of bank reserves nor a program of expanding the central bank’s holdings of longer-term Treasury securities is a good example of the latter kind of policy. Additional purchases of MBS by the Fed might instead still be useful as a way of reducing the cost of mortgage borrowing, though it is hard to be certain that additional purchases now would reduce MBS yields by the amount that the Fed’s purchases under LSAP apparently did, given the less perilous situation of private financial intermediaries now, and it is hard to be certain that reductions in MBS yields would be passed on to mortgage rates. A kind of policy more certain to expand mortgage lending would be one like the Funding for Lending Scheme (FLS) recently announced by the Bank of England and the UK Treasury, which subsidizes lenders for increasing the amount of loans that they make.

Of course, it is not necessarily up to the central bank alone to institute policies of that kind, that can more directly influence private-sector decisions, for such actions are more properly viewed as part of fiscal policy. It is probably no accident that the FLS is a joint project of the Bank of England and the Treasury. And indeed, more generally, the most obvious recipe for success is one that requires coordination between the monetary and fiscal authorities. The most obvious source of a boost to current aggregate demand that would not depend solely on expectational channels is fiscal stimulus—whether through an increase in government purchases, tax incentives for current expenditure such as an investment tax credit, or subsidies for lending like the FLS. At the same time, commitment to a nominal GDP target path by the central bank would increase the bang for the buck from fiscal stimulus…

Looking around the blogosphere, it appears that NGDPer David Beckworth was indeed too hasty in claiming Woodford’s affirmation when he posted on August 31, “Michael Woodford Endorses Nominal GDP Level Targeting.” For example, fellow NGDPer acknowledged Scott Sumner clearly understood that Woodford’s paper sought to “brush aside the monetarist approach.”

Dimitri Papadimitriou, the president of the Levy Economics Institute of Bard College in Annandale-on-Hudson, New York, is also wondering how the Fed would put a strategy of targeting nominal GDP into practice. “How do you do this?” he asks. “There is no reliable transmission channel from monetary policy to GDP. The evidence is clear about that,” he says. “[Federal Reserve Chairman Bernanke] will, I think, proceed with another bond purchasing program, if there is no improvement in GDP growth and decrease in unemployment,” says Papadimitriou, noting that monetary policy won’t solve the unemployment problem. “It is only fiscal policy that is potent to improve economic conditions,” he says. But Bernanke, “being a student of the Great Depression,” doesn’t want to be blamed for not doing everything he could possibly do to lower unemployment, he says.

That highlighted statement from Papadimtrou is anathema to monetarists and the ‘Chicago school’ of macroeconomics. Without digging into the historical, institutional, and technical reasons, suffice to say that if NGDP targeting were successfully implemented, it would require the central bank to take actions that have historically fallen under the purview of fiscal authorities, or at other times, the mining and minting of precious metals.

That’s not to say they couldn’t succeed. Rather, it exposes the fact that macroeconomists need to come to some sort of agreement on what monetary, fiscal, and government roles really constitute in today’s monetary system.

As one pair of co-authors recently put it, in 1973, when the U.S. officially went off the gold standard, everything changed—except the macro textbooks!