How Ben Bernanke Could Solve Our Problems

Felix Salmon and Joe Weisenthal have recently launched attacks against the idea that an NGDP level target would be credible or effective that I think are worth a response.

In response to Salmon, I think that if you think about it step by step that the idea that the Fed Chairman can create a self-fulfilling prophesy just by talking is less crazy than it sounds. Consider a scenario in which Bernanke says “I want NGDP to grow faster than 5 percent but slower than 10 percent until it catches up with the pre-crash trend and I’m prepared to do crazy stuff to make it happen.” How do sophisticated investors and large firms react to this announcement? Maybe some people find it non-credible. Maybe most do. But nobody is going to lower their growth and inflation forecasts in response. Some people will raise them. And higher expected inflation and real growth will drive higher actual expected inflation and real growth. As long as Bernanke responds to that by saying “NGDP growth has accelerated exactly as I planned, now I continue to want NGDP to grow faster than 5 percent but slower than 10 percent until it catches up with the pre-crash trend” then the second time around some of the skeptics will become converts and the convergence will continue. The announcement doesn’t need to persuade everyone, or even most people, it just needs to push expectations in the right direction.

Weisenthal, operationally, says cheap loans can’t resolve the debt overhang: “People don’t want (and can’t utilize) cheaper loans: What people need is more income to pay off this debt.” Right now, I have a mortgage. The interest rate on it is pretty low. But it’s not 1 percent. If the Fed wanted to offer me a loan at a one percent interest rate that would be sufficient in scale to pay off my existing mortgage, that would reduce by debt burden just as easily as a higher income would. Thus far the Fed’s policies have been oriented toward giving free money to banks in hopes that this will circulate down to the little bit, and the circulation has been blocked by a lot of other issues. But a determined central banker can get around this. Direct provision of super-cheap credit would work fine.