NGDP growth falls to 1.9%, previous estimates downgraded

Today sees the release of the Second Estimate of the UK National Accounts, and thus the first chance to see NGDP data for the final quarter of 2015. Not only does it come in below 2% (using the quarter on same quarter of previous year measure) but previous estimates have been downgraded. The chart below shows NGDP growth from mid 2014 to now, with today's figures (in dark blue) relative to the estimates from Noovember 2015.

Coincidently, I have recently called for a ~2% NGDP growth target, and so I do not think this is bad per se. The problem is that the Bank of England had done a fairly effective job at returning NGDP to it's historic 4% rate (albeit without catching up on contractions in nominal income that ocurred during the great recession), and seemed committed to maintaining that. What we are seeing is NGDP falling below expectations, and this is highly concerning.


Update to The Kaleidic Guide to UK Monetary Policy

I've recently updated The Kaleidic Guide to UK Monetary Policy. The aim is to summarise some of the most important recent analysis and commentary on the economy, and weigh in on some important controversies. It is still very much a work in progress, and whilst I've attempted to provide a narrative structure some aspects may appear a little disjointed. You can download a PDF version, buy a hard copy, or even invite me to present it in person. But it's almost reached 300 pages!


2015 Q3 NGDP prediction market


Up until now we've used Inkling Markets as our prediction market provider, but they've recently been bought by Cultivate and will be offline from December. The finance questions for Cultivate will be run through a new website called Alphacast.

At the moment, members are unable to post their own questions. However, I've received some really helpful input from their technicians and one of their early trials will be a prediction market for UK NGDP. How cool is that! This is good timing because the Office for National Statistics release the second estimate of the National Accounts on Friday November 27th, and this will contain the first look at NGDP for Q3.

The question is: What will be the quarterly growth rate of NGDP for the UK economy for Q3 2015?

The market will only be running for a week, and as ever there's (relatively) large arbitrage opportunities early doors. So get trading!

Update: (27/11/15):

The correct answer is 3.4%.

Here's the Alphacast chart:



The Transmission Mechanism

I am yet to find the difinitive survey article that explains the transmission mechanism of monetary policy. I think there's 3 main reasons why it's proving elusive:

  1. There is no single transmission mechanism - hence it's always going to be complicated to present.
  2. There are big differences between US and UK monetarists.
  3. We've learnt new things about the transmission mechanism since 2008 but there's a pedagogical inertia that retains existing work.

A classic US textbook on monetary economics is Frederic Mishkin's "Economics of Money, Banking and Financial Markets". But look at the diagram below:

On first glance this is exactly the type of way to present such a tricky topic. It lays out several alternative channels, clarifies their background (i.e. presents credit view as slightly separate), and shows how they impact output. But it's not coherent. The key distinction between "interest rate" and "asset price" effects is flawed on the grounds that the interest rate matters because it's the price of bonds (i.e. an asset), whilst each of those asset price effects - whether it's the exchange rate, equity prices or credit markets - rely on interest rate changes (albeit the "cash flow" channel relies on nominal rather than real interest rate changes). This is why I struggled as an undergraduate - it's aint MECE.

I prefer this Mishkin article but it suffers from the same problem. Here's my attempt to summarise the transmission mechanism in terms of alternative schools of thought:

Not very helpful. One can also look at the Bank of England, and the ECB, but they leave out lots of important present-day channels. So help me out - where's the difinitive explanation of the transmission mechanism?


Low interest rates /= easy money

The impact of monetary expansion on nominal interest rates is unclear. The liquidity effect implies that in the short run they will fall. However the Fisher effect implies that in the long run they will rise. Whether the monetary expansion ultimately leads to a nominal interest rate that is higher or lower than the original rate depends on the relative strength of these effects. If the liquidity effect dominates the Fisher effect then expansionary policy will cause rates to fall. If the Fisher effect dominates the liquidity effect then the expansionary policy will cause rates to rise. (I'm neglecting several things, but I hope the above still makes sense).

This is important, because whether or not a low interest rate is a sign of expansionary monetary policy depends on inflation expectations.

Ben Southwood discusses a fascinating 1998 paper by Ellingsen and Soderstrom. From the abstract:

if monetary policy reveals information about economic developments, interest rates of all maturities move in the same direction in response to a policy innovation. If, on the other hand, monetary policy reveals information about the central bank's policy preferences, short and long interest rates move in opposite directions.

My interpreration of this is that when there is a policy surprise the Fisher effect dominates the liquidity effect. But this poses two really interesting questions:

1. Is there anything important about the surprise, other than its impact on inflation expectations?

2. Does this adhere to the Lucas critique?

Update: I've just seen that Samuel Hammond and Ben had a disagreement about what the paper implies about the liquidity and Fisher effects on Twitter. I would love to see a longer discussion.