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How Obama caused the recession — Crooked Timber

July 10th, 2010

The idea that Obama (or rather, the wisdom of crowds in anticipating the election of a socialist-Islamist Obama administration) caused the recession is getting another run, this time from Nobel[1] prizewinner Ed Prescott. I haven’t been able to track down more than a precis of Prescott’s argument, but I assume it’s similar to the version put forward by Casey Mulligan. I had a go at this in my Zombie economics book [2], and here on CT, so, I thought I would link to it here, to give a bit of context to the current flap.

[1] Yes, yes, I know about the Sverige Riksbank. And winners of the economics prize aren’t the only ones to say silly things later on.
[2] Still on track for Halloween, and already taking pre-orders! Join the Facebook group here.

Posted via email from John’s posterous

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  1. Rationalist
    July 10th, 2010 at 20:24 | #1

    Chuffingly good book cover.

  2. dez
    July 11th, 2010 at 10:05 | #2

    If we allow such tenuous, indirect ‘causation’, then the blame should actually go back one step further, to the right-wingers in the USA who persuaded the gullible crowds that the Obama administration would be ‘socialist-islamist’.

  3. Jim Rose
    July 12th, 2010 at 18:56 | #3

    Hi John,

    Perhaps a better response is to note that, as Robert Hall did, that Prescott’s conjecture about regime uncertainty and Obama presupposes a much, a much high elasticity of labour supply than is plausible.

    An argument in favour of Prescott can come from the expansionary fiscal contractions literature. These fiscal contractions signalled lower future taxes and a regime switch to monetary prudence and fiscal conservatism.

    This allows a transpose to a contractionary fiscal expansion to explain the remarks by Prescott.

    The recent fiscal expansions signal higher future taxes and, more importantly, a regime switch to monetary imprudence and fiscal profligacy – a much large state sector and a much higher long-term tax burden. It is a news based explanation of the business cycle.

    As for Prescott’s view that monetary policy does not matter to the recession, I recall Greg Mankiw asking in the context of real business cycle theory, could the Fed cause a recession if it really tried? I think Fed and other central banks can. An example is their requirement in 2008 that ALL banks raise a lot of extra capital, thereby cutting the monetary multiplier.

    Greg Mankiw also noted in the same comment in the early 1990s, as I recall, that if monetary policy in the post-war monetary policy has been efficient – has been stabilising – then most fluctuations in economic growth around the trend must have non-monetary sources. A bit of monetray noise aside, where else would those fluctuations come from?

  4. Robert
    July 12th, 2010 at 21:27 | #4

    Were the launch-date and cover design chosen specifically to tie the book in to Halloween’s undead etc?

  5. Jim Rose
    July 13th, 2010 at 08:00 | #5

    John,
    I forgot to mention a useful reading for the addition to your book.

    It is “Mercantilists and Classicals: Insights from Doctrinal History” by Thomas M. Humphrey in Federal Reserve Bank of Richmond Quarterly Review 1999. The paper is on whether economics is a progressive science in which superior new ideas relentlessly supplant inferior old ones in a Darwinian struggle toward the truth.

    Humphrey found that much of the history of monetary theory reduces to a struggle between opposing mercantilist and classical camps:
    • Mercantilists, with their fears of hoarding and scarcity of money together with their prescription of cheap (low interest rate) and plentiful cash as a stimulus to real activity, tend to gain the upper hand when unemployment is the dominant problem; and
    • Classicals, chanting their mantra that inflation is always and everywhere a monetary phenomenon, tend to prevail when price stability is the chief policy concern.
    Humphrey also found that there may always be a market for the view that central banks need not and must not be bound to the goal of price stability. For better or worse, the view will challenge the classical view whenever the public perceives unemployment or sluggish real growth rather than inflation to be the dominant economic problem.

    All of Humphrey’s beautifully written writings on the history of monetary thought are worth attention.

    See http://richmondfed.org/research/economists/bios/humphrey_bio.cfm#tabview=tab2

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