Wednesday, August 31, 2016
Policy limitations and the self adjustment path
A current issue which concern the economists, is about the ability of economic policy, to have control of the recovery path in case of a recession, such that the one the global econokmy had in 2008. On both side of the Atlantic, there has been a huge effort coming along from Central Banks about monetary policy, at the risk of its own credibility, as the key tool to get the economy out of recession first ,and stagnation later on. However. after years of such approach in both the USA and the Euro Zone, the outcome seems far from the expected,although more so in the euro zone (www.roubinimonitor.com ).- Both economies, seem reluctant to get traction based on monetary stimulus alone based upon either very low or negative interest rate, asset purchasing and forward guidance. Having said the above some questions arises: a.- Is monetary policy alone, capable of pushing a strong economic recovery? b.- Does the economy always have to react the same way to economic policies? c.- Is there the chance that beyond a certain point , the economy gets to a self adjustment path which make useless any policy intervention? The first two questions deals with the fact that reaction policy parameters, change as time moves on. So, the setting change but as the policy is slower to adjust itself to it , so its impact is lower, if there is still a chance of any impact at all ,in the following stage . It follows that any policy alone, is not enough to improve the impact of policy actions.In this case , it requires a complementary policy .But when fiscal policy is constrained by a maximum deficit rule, its ability to go along with monetary policy weaken.Besides, usually fiscal policy deals with improving output performance, while monetary policy deals with private expenditures path through financial and real channels.As MUndell Fleming models says , both policies may be more effective together than apart from one another. Thus, perhaps it is not that much about monetary policy uneffectiveness, but more about fiscal policy restrictions.In fact, Gordon (Macroeocnomics ,1983) has said that fiscal policy has higher transaction cost because of its lagged reaction due to the link with legislative discussion,such that when it is ready to be implemented , time has gone. There is a missmacht betwen both policies, unless there are some coordinated actions.But this assume that every one knows exactly when a recession may arise!.- The third question, show a more complex approach. The one which deals with the chance that the economy has some self correction ability hide all the way up to the prices level get down. In fact in a low inflationary scenario, real asset value increases, in such way that it may sustain increase in expenditures levels ,fostering income by the multiplier impact , having effect on both the real and the monetary side.It is call the "Pigou effect". Somehow, Euro zone economic performance so far is an indication of such effect. Current available data indicates that Banks are lending more,(1,4% increase in lending rates this year), no necessarily because they want to do so, with both negative interest and deposit rate , but because both consumers and investors have a greater endowment of asset in real value, which allow them to take advantage of the monetary easing, because of a better position to guarantee any loans.Therefore ,it looks like the real Private expenditures can makes its way through to get the economy out of stagnation!.- However, it is obvious that it take a long time for the economy to reach such a inflexion point stretching the social imbalances.Prices rigidity play its role in the time span to get the self adjustement path.In this case, it seems relevant to take into account to improve price flexibility, such that to get that path quickier. Finally, the issue seems to be not only about policies ,but also about prices reactions.The faster they react, which means the more flexible they adjust to the new market status, the faster the economy get its self adjustment path (PIgou effect), and the less it depends upon the policy limitations.As a matter of fact, it is not a trivial situation that while the USA economy has a more flexible prices than the Eurozone does, the later still struggle some steps behind its counterpart, to get the new "normal" stage of its economy.