The Simple Simplistic Simplicity Of ‘Nominal GDP Targeting’

The Simple Simplistic Simplicity Of ‘Nominal GDP Targeting’
March 24, 2016

(This item originally appeared at on March 24, 2016.)

It really makes some economist-types angry when I say that most economic discussion today is a modern version of Mercantilism.

James Denham Steuart
is considered the “last of the Mercantilists.” Adam Smith wrote his great work, The Wealth of Nations (1776), in direct challenge to Steuart’s arguments, and successfully sent Steuart to the trash heap of intellectual history. For a while.

Steuart imagined a “statesman” in control of money and credit, who would judiciously guide the economy via control of the money supply. Here is Steuart in 1767:

[The Statesman] ought at all times to maintain a just proportion between the produce of industry, and the quantity of circulating equivalent [money], in the hands of his subjects, for the purchase of it; that, by a steady and judicious administration, he may have it in his power at all times, either to check prodigality and hurtful luxury, or to extend industry and domestic consumption, according as the circumstances of his people shall require one or the other corrective, to be applied to the natural bent and sprit of the times.

Adam Smith thought this was abhorrent. For him, the best money was stable, neutral and unchanging money, a constant of commerce that is certainly not subject to the whims of some “statesman.” In practice, this meant a gold standard system, which is what Great Britain had been using for a long time, with great success.

A currency that changes value unpredictably has long been compared to a meter or kilogram that changes in length or weight. It makes all economic relations confused and problematic. George Gilder gave a much more sophisticated and up-to-date analysis of why Stable Money is important in his 2015 book, The 21st Century Case for Gold: A New Information Theory of Money.

However, Steuart perfectly describes today’s central banker. Today’s central banker uses a somewhat seat-of-the-pants method, using a little “tighter” policy when the economy is above its “trendline,” and a little looser (or a lot looser) when it is below.

This methodology could be called monetary Keynesianism. Some people have suggested automating this process, which is a basic description of “nominal GDP targeting.” Keynesianism, in the past, also included an element of “fiscal stimulus,” but that has been generally discredited, especially among the conservative-leaning elements that go under the banner of “monetarists.”

Thus, Keynesianism/Monetarism/Steuartism has boiled down to a single-variable economic model: Money, money and only money.

Once you have such a simple model, it is a short step to imagine that a “nominal GDP target” – let’s just assume that it is achievable – would correspond to a sort of placid ever-increasing prosperity.

Real economies in the real world are a little more complicated. Many economic thinkers have argued that economic success could have a great many contributors; or that failure could come from a great many causes. An abbreviated list might include:

• Tax policy (including tariffs)

• Regulation, including such things as labor laws or capital controls

• Education

• Ease of setting up a business

• Legal institutions; contract law

• Financial institutions; securities markets

• Culture of entrepreneurship

• Demographics

• Savings rates; capital creation

• Capital allocation efficiency; access to capital

• Size of government

You could probably add a dozen more. I would add a biggie: Stable Money, which would not exist under an NGDP-targeting regime, by design. Changes in currency value are essentially the tool that makes the machine work.

Probably no economist would claim that such things do not matter. But, five minutes later, they would be acting as if such things do not matter, and that all economic management can be boiled down to fiscal stimulus and monetary manipulation, minus the fiscal stimulus.

The great economic successes of recent years have been achieved by another way. China’s recent growth era has always been a bit hard to fathom; but it has had something to do with the astonishingly high level of capital creation and thus capital investment. Also, the government is relatively small, as is the effective tax burden (22% of GDP). China certainly has a culture of entrepreneurship, and a pretty good education system, at least in technical fields.

And what of monetary manipulation – the one go-to tool of Anglophone economists today? China has long had a policy of a U.S. dollar link, which has largely eliminated the option of discretionary monetary manipulation, including an NGDP targeting regime. The rise in the Chinese yuan vs. the dollar in recent years has been, for the most part, a modest negative factor, due in part to foreign pressure.

This is China’s version of Stable Money. In the past, Stable Money meant a gold standard system, which, in practice, also meant an effective link to the dollar, British pound and other major currencies.

What about the opposite? What if tax policy and regulatory policy – or many other factors – took a big turn for the negative? A nominal GDP target, or other central bank foolery, might cushion the resultant recession in some way. But, you can’t solve a nonmonetary problem with a monetary solution. And, the “monetary solution” – Unstable Money – might be a problem in itself. Stagnation would be the outcome, or worse.

I wouldn’t put all of your economic hopes in the money manipulation basket. Actually, I wouldn’t put any there.