David Beckworth on Nominal GDP Targeting in the Wake of the COVID-19 Crisis

COVID-19 has wreaked havoc on the US economy, and adopting a nominal GDP targeting regime is one way the Fed can appropriately respond.

In this special Macro Musings episode, David is back in the spotlight, as he is interviewed by Claudia Sahm, director of macroeconomic policy at the Washington Center for Equitable Growth, as a guest on her *Stay-at-Home Macro Podcast*. David and Claudia discuss nominal GDP targeting at length, as they dive into what it is, why it’s important, and how it could be implemented in the wake of COVID-19. They also talk about the communication problems related to introducing NGDP targeting as well as David’s proposal for reforming the Fed’s current policies.

Read the full episode transcript:

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected].

Claudia Sahm: Welcome, everyone. I am excited to have David Beckworth here today for our next episode of the *Stay at Home Macro Podcast.* So today, we're going to be talking about monetary policy and some new research and proposals that David has. David is a research fellow in the program of monetary policy at the Mercatus Center at the George Mason University. David is joining us today from Nashville, where he lives and I have also met with David a few times in Arlington at the Mercatus Center. I like to start out with a brief connection to how I know the guest, the amazing guest that we have on the show, and so David, as many of you may know, runs a Macro Musings podcast series out of the Mercatus Center. Every week he has on distinguished macro economists in both academia and policy world to talk about lots of different topics in macro.

Sahm: I had the pleasure of David asking me early on in the show if I would come on and be a guest. After multiple requests, every one of them denied by public affairs at the board, I am persistent, as is David, and so I've had a chance this last year to be on the show twice. So that is excellent and I am so thrilled to be able to turn the tables on David today and interview him and get him to talk about his research. Why don't we start, David, with you telling me a little bit, or telling all of us, a little bit about how you got started in economics, what your path is. What's your story that got you up to today?

David Beckworth: All right, well thank you for having me on, Claudia. Yes, you were a hard one to catch for the show but I finally got you, so thank you for being a regular guest on the program. So I did not have a traditional path to this profession. I went to a small college as an undergrad that didn't even have an econ degree, although they had some economic courses. I remember taking principles of macroeconomics and it just blew my mind away. In fact, there was a number of us guys, a group of us that hung together, and I was more of the jock in the group and there was some smarter guys in the group and I would blow them out of the water on the tests and they were all shocked and amazed, in principles of macro.

Beckworth: But it never dawned on me this could be a career until I went to work on an MBA. While I was there I was taking some more econ courses and I picked up a book at a used book store called *Secrets of the Temple* by William Greider. He's kind of a populist, kind of left leaning, but it's a riveting account of the Federal Reserve during the Volcker years. It really lit my fire. I was like, "Man, this is fascinating stuff. I would love to do this for a career." This began to slowly dawn on me, I could do this. So I went back to grad school. Probably another big step in my journey was right after grad school, I worked at the US Department of Treasury and that opened up a lot of opportunities for me networking.

Beckworth: John Taylor was my boss several layers up, but he was very accessible, very friendly. Had a lot of smart people around me, some today who've gone on to become PhD economists, too. Just a great experience. It opened my mind to the policy world, took me out of the strict, narrow, mathematical world of macro and really showed me there's a lot more to learn beyond models. So that was a rich experience. Then I went on to some state schools, ended up at Western Kentucky University and I was doing a lot of writing, a lot of policy writing on the side. So I was doing my traditional research and then policy writing and that opened up doors. I eventually got a call from Mercatus and here I am.

Sahm: Yeah, now that's a great story. I think it reinforces… we don't all end up ... We may end up in similar kind of roles, but the paths to it are wide and varied and that's really good.

Beckworth: Absolutely.

Sahm: Because it brings in different experiences and perspectives. So what sport did you play in college? You said you were the jock.

Beckworth: Well, I didn't play ... It was more intramurals, but basketball. Basketball, I love, I still love basketball. There's a group of us who still play Sunday mornings, so Sam Bell and I, another friend of ours, play basketball together.

Sahm: Oh, I didn't know Sam ... I grew up in Indiana so I played basketball all the way through high school.

Beckworth: Oh, you a big college basketball fan then?

Sahm: Yeah. All my family went to Purdue University.

Beckworth: Okay.

Sahm: I love NBA and yeah, basketball's always on at home except not now because, you know.

Beckworth: Right, right, okay.

Sahm: Yeah so next time we are together we're going to play some HORSE. I'll beat you.

Beckworth: Okay, game on.

Sahm: Not competitive or anything. Okay, so no, this is great and I will say, David, you're one of those people that just loves monetary policy and it's rare for me, and Sam Bell's another good example, where I can find people that love the Fed as much as I do and all the gray details and read the transcripts so that's really great. As we're going to get talking about it in terms of monetary policy, it's good to have people who are thinking big and broad because the Fed is facing challenges that it hasn't faced in its whole history. So we need lots of creative ideas and that's why I love talking with you and kind of kicking around ideas. The big idea, the one that I think you are most well-known for is nominal GDP targeting. Can you just give us a basic description of that? What it is, why this is important? Why do we need another target?

The Basics and Importance of Nominal GDP Targeting

Beckworth: Okay so let me give you two ways to think about it in a very hopefully easy and accessible manner. Nominal GDP targeting is a mouthful. It's not probably the ideal way to market it but what it amounts to on one hand is the total amount of spending in the economy in dollar terms. So literally, if we go and we add up all the spending in the US, current value added spending, that is nominal GDP. What a target for nominal GDP does, it says, "Let's keep that stable. Let's don't let it collapse, let's avoid it growing too rapidly." It's stabilized total spending in the economy. That's one way to look at it. Another way which may be even better, easier to think about is for every dollar spent there's a dollar earned somewhere. So if you're stabilizing total dollar spending in the economy you're also stabilizing total dollar incomes earned.

Beckworth: This has also been called a nominal income target or total dollar income target and it's important because people make decisions based on their salaries, what they think they're going to be making this year, next year, the following year. You take out a mortgage, you're implicitly forecasting you're going to have a steady flow of income coming home to pay for that mortgage or car payment. Or if you're a business, do I take a lease out? Do I commit to long contracts for raw materials? All these are based on some implicit, maybe sometimes explicit forecasted income and you want to stabilize that, otherwise you're going to have a hard time meeting these contracts and expectations you've maintained. In the current crisis, I think it's a great application to think about this.

Beckworth: There's some things we can't fix. Monetary policy can't fix the fact that people are sick, factories have shut down, but what it can do is avoid the secondary spillover effects from people who've committed to mortgages, to business leases that will make them insolvent if they can't meet those preexisting financial conditions, and a nominal income target, a nominal GDP target allows them to do that. Where it's different than where we are today is today the Fed focuses on, I mean it has a dual mandate but there's a lot of weight put on inflation and it's a very, kind of keep inflation low and stable where a nominal GDP target, maybe we'll get into this later, it allows a little more flexibility in the near term. What happens to inflation? Over the long term it still stabilizes long term inflation, it's less concerned about inflation in the short term. It's all about stabilizing dollar incomes or stabilizing total dollar spending.

Monetary policy can't fix the fact that people are sick, factories have shut down, but what it can do is avoid the secondary spillover effects from people who've committed to mortgages, to business leases that will make them insolvent if they can't meet those preexisting financial conditions, and a nominal income target, a nominal GDP target allows them to do that.

Sahm: Yeah, no, that's a great explanation. I appreciate you kind of coming at it from two directions. This is one when you see economic commentary like in the newspapers, once a month when the gross domestic product, so GDP report comes out there's a lot of discussion about that. A lot of discussion about real GDP. So price adjusted, inflation adjusted. What doesn't get as much coverage in that report is the Bureau of Economic Analysis also puts out a gross domestic income statistic and that's exactly, GDP is much more aligned with the spending concept, hence you call it NGDP targeting. But the income for every, like the output side of GDP, it matches up or is supposed to match up with the income side, which is GDI. So I agree. I think income is a lot more intuitive to think about and yet, studying consumer behavior for a long time, income and spending match up pretty closely for a lot of people. So two sides of the same coin.

Sahm: Yeah, so why don't, I mean I have tons of questions and things I want to pull out of this, but why don't I let you go ahead and let you get started talking through some of your recent research and explainers. Kind of go more into the details. You have a paper out, I don't know, last year, a little time ago that's called *Facts, Fears and Functionality of Nominal GDP Targeting.* Let's take it step by step, but I think you established the facts in kind of describing it. Is there anything else you'd want to put on the table? Maybe in the current context, how far is the Fed from doing something that looks like a target, like keeping nominal GDP, nominal income, national incomes stable?

Beckworth: Oh, they're a long ways from it as you can imagine and it's not really their fault. This is the huge shock, I don't think any type of monetary policy regime could have handled this immediately. It'll take time to heal from this, but what I'm advocating and what others are advocating is the version of this that will allow the Fed and maybe even force the Fed to be aggressive during the recovery. If I might maybe go into the difference between a level target and growth rate target and apply it to this particular concept.

Beckworth: A level target, and that's what we typically advocate with nominal GDP targeting, is one where you make up for past mistakes whether you overshoot or undershoot. In most cases it's undershooting. We don't have a whole lot-

Sahm: What do you mean by that? What's the level? Is that the total dollars or total income?

Beckworth: Yeah.

Sahm: Okay.

I don't think any type of monetary policy regime could have handled this immediately. It'll take time to heal from this, but what I'm advocating and what others are advocating is the version of this that will allow the Fed and maybe even force the Fed to be aggressive during the recovery.

Beckworth: The level would be the total dollar size of the economy. You think every year it's going to grow a certain amount, maybe 4 or 5% and you can think of 2% real growth, maybe 2% inflation. Let's say roughly 4% over the past decade. You want the dollar size of the economy to stay on that stable path, a growth path or the level, the actual dollar level size. Again, because people have made decisions based on the expectation. Now each person's going to be idiosyncratic, you know? Claudia, you're more productive than I am so you may get a big pay raise relative to me but on average, there's this kind of core component. We all have some kind of anchor amount of dollar income which the Fed, over the long run, can influence. Short run, again, is less control but the idea is you want to preserve those expectations, preserve that level, that dollar amount where we thought the Fed would be and this shock has clearly thrown us off.  Let me explain it this way, I like to use-

Sahm: Before you get going, I get it this shock just came out of nowhere, it's totally massive but if you look back over the last 10 years, say February. If you look from February back 10 years, then does it look like the Fed was doing it the way…

Beckworth: Actually it does. If you take, as a starting point, summer of 2009, it's a pretty straight line for nominal income or nominal GDP. In fact, Carola Binder has a great paper that just came out in the Cato Journal, she gave this talk at the Cato Monetary Policy Conference. She's a great economist. You know her well because I think your research overlaps with hers.

Sahm: She’s great.

Beckworth: She did a paper where she, among other things, she said, "Look, would have been a lot easier if the Fed had just said we're going to adopt a nominal GDP level target starting in 2009 and they would have easily hit it much more so than their inflation target." The point of her paper is a nominal GDP target is a whole lot better in a world of populism, unhappy campers and it's in some ways easier to implement and the Fed could have done better. So yeah, the Fed effectively did something like this not by design but it kind of fell out of what they did. The question then though is the crisis like this or in 2008, can they make up for what has been thrown at them?

Beckworth: That's kind of the big question. To me, this is a big deal and to be fair if there's people out there who prefer an inflation target, there's a version of that called a price level target where you make up for misses in the inflation target but I think it creates problems we get into later. Let me tell the story, if I may, Claudia, of why you want to make up for these past misses. I already alluded to it but this is the way I like to think about it, very accessible kind of a story and that analogy of sorts and that is imagine that a highway is the economy. So a bunch of cars are driving on this highway, cars represent businesses, firms, entrepreneurs and inside the drivers are the laborers, the people who manage the firm. All right, so driving down the highway you want to go as fast as you can but at sustainable pace. You don't want to go too fast and massive wrecks. You don't want to go too slow and waste precious time. You want everyone to be coordinated, doing their thing, driving, getting to their destination at a speed that's maximally sustainable.

Beckworth: So let's just say for the sake of argument it's 65 miles an hour. Maybe in Indiana it's a little bit higher. I know in North Dakota it's like, 70 or 80. But you're driving along at 65 miles an hour and you have to be somewhere and you plan a trip out. You planned to average 65 miles an hour. You get stuck in a traffic jam. A traffic jam would amount to a recession. Everyone stops and there's different reasons I don't want to get into right now but later we can talk about, why you would get in a traffic jam. But a traffic jam, you've got to get around wrecks, people are rubbernecking. There's a coordination failure and you need everyone to kind of take off and get going again. Well, if you're stuck in traffic and you've lost precious time and you want to get to your destination on time, you've got to actually drive faster than 65 miles an hour for some period. Not the whole time but you got to maybe do 75, 85 for a while and then get back down to 65.

Beckworth: So what you want to do is on average have an average speed of 65 miles an hour but that requires speeding up after the traffic jam. The US economy's the same way. During a recession you lose ground and you got to make up for that lost ground by growing the economy a little more rapidly, a little hotter than normal, eventually going back to a normal pace. A level target empowers, it allows the Fed to do that. A growth rate target like inflation targeting, first sign of heat the Fed's going to get nervous and want to hit the brakes and I guarantee this is going to happen. Unfortunately in this crisis because we haven't made it a switch to a level target.

During a recession you lose ground and you got to make up for that lost ground by growing the economy a little more rapidly, a little hotter than normal, eventually going back to a normal pace. A level target empowers, it allows the Fed to do that.

Beckworth: But as soon as we see an inflation go north of 2%, 2.01% you're going to hear calls, "Ah, here it is." You know? It's going to create panic and the Fed's going to feel pressure from politicians, from journalists, from well-meaning people but we should be willing to tolerate a little bit faster than normal inflation and real growth to make up for lost time. A level target does that. In my particular case I want it to be a nominal GDP level target or a nominal income level target. But I think that's a huge deal. I think it's a reason we still should be talking about the Fed's review even though the Fed's punted on it. I understand why the Fed-

Sahm: All right, here, I'm going to interrupt you. We'll get to the ... I know, I'm very excited about the review.

Beckworth: Okay, I'll ... Sorry.

Sahm: We’ve gotten maybe a little maybe off track right now. No, but I really love the analogy of the highway and making up for lost time. One of the things, having started at the Fed in the summer of 2007, being on the staff macro forecasting through the crisis, the hardest time for me at the Fed as someone who was focused on consumer spending and household finances, the hardest time was around 2011. It was in the recovery where we kept saying, and we weren't in this V-shaped recovery, we're going to snap right back. I mean, 2008 was a very severe shock to the economy but there was this, "It's going to recover. It's going to recover." Every time the data come in we're like, "Ugh, it's not there." I can remember doing forecast after forecast saying, "There's no reason to think that American consumers are going to bounce back this fast. One of the things, when I think about your car analogy there's an aspect, "Well you got to put your foot on the gas." Right?

Beckworth: Yep.

Sahm: The car doesn't isn’t just like, "Vroom," and starts moving, and I think there's a lot of thinking in macroeconomics, and some of it makes sense and some of it doesn't, that the economy has a way of healing itself. So if you think the economy just on its own after the traffic jam starts cranking again, then the Fed doesn't put its foot on the gas the same way. That was something as the recovery went on and the Federal Reserve, even though they kept saying, "We're going to get 2% inflation, we're going to get prices rising by 2% a year," and all the way up to February they hadn't managed to do it. That's almost incomprehensible in monetary policy because the Fed should just be able to set prices and eventually it gets there.

Sahm: The staff for years had been telling them, "If you really want two, you got to do more." They didn't but I mean to your point, things by February of this year were really pretty much back on track. It was just a very painful, yeah. I think your idea, and it's one where when I first heard Scott Sumner on his book, *Money Illusion,* because he was one that I could, when I first went online and social media and-

Beckworth: Yeah.

Sahm: Econ vlogs, he was very loud about it. Louder and more aggressive than I feel like when I talk to you but it was just one of those, I've never heard anything like that in taking macro in grad school. Never heard anyone at the Fed talk about it. Even though it has a long history. I mean, Ben Bernanke had written on similar things. It was just part, like it was totally missing from my macro education and the more I hear about it the more I hear, like your work and Carola's and after I finally got over Scott's aggressive, "You're wrong about this." It just, it really kind of grows on you and this idea that it's so straightforward. I mean, relative. It's still monetary policy, the Fed is still hard to understand but this feels like something that one could explain and I love the highway. Okay, so that really helps with the facts and kind of setting it up. So if this is such a straightforward great idea, why doesn't the Fed do this? What are they so afraid of? Or what is it about this that just the people who make decisions about monetary policy are just like, "No way?"

Why Hasn’t the Fed Adopted an NGDP Level Target?

Beckworth: Well that's a great question. Let me answer it first by a little history. So this idea was actually advocated in the 1980s, in fact late '70s, '80s, it was a pretty hot thing. So by no means Scott Sumner or any of us who write on it now are original. This is an old idea.

Beckworth: What happened, at least in my understands of what happened, and I've talked to Jeff Frankel at Harvard because he was a part of this debate in the '80s, still is an advocate of nominal GDP targeting but he said what happened is you had all these people talking about nominal GDP targeting but then what happened is New Zealand, I think the Bank of New Zealand introduced inflation targeting and then it caught on like wildfire. So the interest quickly waned, people didn't care as much. It was all about inflation targeting, inflation targeting. So it had a moment and then it fell. I think the reason it's hard now for it to be widely understood and maybe even adopted is just, it's not the easiest thing to explain off the cuff unless you are like me and you and you spend a lot of time in this.

Beckworth: I can tell you this, I've talked to some senior Fed officials and one of them told me, he goes, "David, I am trying really hard to fall in love with nominal GDP targeting." I said, "Great." I was like, "What can I do to get you past, into the end zone? Past the finish line?" He goes, "How do you communicate it?" That's where I had to really pitch him and sell him on, "Think of this as you're trying to stabilize people's incomes. That's the way you sell it." I think it's framing before nominal GDP targeting, stabilizing demand and that may be a little bit more foreign but if you can approach it from an income side. In fact, I think if you're clever you can pitch it to many groups. If you're trying to reach workers, labor groups, you talk about stabilizing incomes. If you're talking to trade groups you're trying to stabilize revenue sales, you know?

Beckworth: It has a wide appeal and it's just a matter of getting it across. 2011, the Fed actually talked about it, in fact when you were at the Fed, the FOMC talked about it and I don't know how serious they were but Bernanke talks about it in his book, it's in the minutes but they ultimately dismissed it. It's too hard to try at this time. I don't have a good answer other than it was almost an idea that came to fruition in the '80s, it seemed too complicated in 2011 because of, "What is this?" So communication is key and that's why I'm glad you have me on the show to help-

Sahm: Yeah.

Beckworth: …People better understand it.

Sahm: Well I guess one thing, and you know this too, the Fed expanded its toolkit a lot after 2008 because they couldn't push their interest rates any lower, the federal funds rate. One of the items they put in the toolkit was communication policy, forward guidance. I am utterly unimpressed with Fed officials’ ability to communicate anything and to realize, I mean there are studies that have shown that the Federal Open Market Committee, their statement that comes out the day of the meeting, which is relatively short, went from being something you had to have freshman or sophomore level reading skills to like basically having a doctorate degree. It became so incomprehensible. So, I don't know. Personally, I think keeping income steady is a lot easier to explain than price inflation has to be. Monetary policy is a challenge. It's technical.

Beckworth: Yeah.

Sahm: Tools are technical, but yeah, I don't think they get off the hook by, "We don't know how to explain this."

Beckworth: Well I had another Central Bank official from Bank of England talk to me and I tried to pitch nominal GDP targeting on him. He goes, "Oh, come on, David." I was like, "Well how about the nominal income approach?" He goes, "Well what are you going to tell someone whose income isn't growing as rapidly as the average?" But I can throw that back at someone with inflation targeting because when you look at the price of gasoline you're misled. There's always going to be a relative income, relative price confusion no matter what approach you take, you know?

Sahm: Well and looking at stable growth of income, I feel like I know you're looking at in terms of aggregate income. It feels like it'd be much easier to pull that apart and to income inequality or growth at different parts of the distribution. It would be really hard to do that in terms of prices because the vast…. like what people are buying is so different at different levels.

Beckworth: Right.

Sahm: I think it has a lot of potential-

Beckworth: Oh, I agree with you. Absolutely.

Sahm: On that point. I will say as a little Fed factoid, I mean you were really close to getting-

Beckworth: Oh really?

Sahm: …nominal GDP targeting in the real world and I think it was in 2011 when the European crisis was brewing up and the Federal Reserve, I have the utmost respect for them in that they're never out of ammo. Whenever their toolkit was kind of like, "Oh, we've tried this, we've tried that," Ben Bernanke would send out a blue sky email and be like, "Okay, what's next?" I can remember a senior officer who wasn't supposed to tell us this but it was like a readout on an FOMC meeting, said basically if Europe had really struggled, the nominal GDP targeting was next.

Beckworth: Wow.

Sahm: The Fed has been absolutely… they will never do the negative interest rates, much to Miles Kimball's chagrin at the University of Michigan, but there's just, there's all kinds of reason we won't talk about that one but I mean, there was a very serious discussion and-

Beckworth: Wow, I'm interested.

Sahm: …if you you look at the transcript, so you were close. I'm glad that Europe pulled through and they didn't have to do that but I think that just shows how serious that was considered. It will be interesting if the Fed ever does its framework review, like they've been doing a framework review going back and thinking about their tools for the last year. They've been kind of busy with other stuff-

Beckworth: Right.

Sahm: It was supposed to come out in June, and I will be really interested to see how much discussion that got and there's some ... Anyways, we don't have to get into all the technical pieces of it but I feel like there's policies, if not exactly that, are kind of in the spirit of making up for past mistakes or past disruptions in the economy. That's good. You've had an impact, you brought it back in style.

Sahm: Okay, so we've talked a lot about this kind of, like the setup and the pieces and why they haven't but should do it. Okay, so your recent paper, the one that came out in March, about mid-March, so right after the world really started falling apart in the United States, you have a proposal that thinks about this COVID-19 crisis, how nominal GDP targeting could fit in, but it's a proposal. It's a very functional, like you do A, B, C and D and you need all these pieces so can you walk me through what this plan is?

Nominal GDP Targeting, Helicopter Money, and the COVID-19 Crisis

Beckworth: Yeah, so it actually, the idea I presented in a paper late last year that just came out now but it's an idea of giving the Fed a target, a nominal GDP level target as you mentioned, but you give it two different rules based on where interest rates are. So if interest rates fall down to 0% and that is the lower bound for the Fed even though the area could go negative. In all practical purposes, zero is the limit for the Fed. So when you hit zero then what the Fed effectively turns to is the monetary base, starts to line up assets as we know.

Beckworth: But you want to guide those purchases with a level target, whether above zero, below zero but then the other thing I add is to add helicopter drops. So if you hit zero then the Fed gets a standing fiscal facility that allows it to send checks directly to households. My hope is, and my goal is, the Fed would only have to use this a few times and it would make the level target so credible that you would rarely get to the zero lower bound. But in a situation like this, a big, big shock would be very useful and I think as I read the news we see…

My hope is, and my goal is, the Fed would only have to use this a few times and it would make the level target so credible that you would rarely get to the zero lower bound. But in a situation like this, a big, big shock would be very useful.

Beckworth: In fact, I read a story just today that it's unlikely Congress is going to get much done this summer because of the riots, the protests on top of the COVID challenges. That means no more fiscal policy through traditional channels. Well if you had the Fed set up in a rules based, predictable, systematic, you know, it's governed, they could apply that same ability in a systematic manner as long as we're below this threshold of 0%. I think there's a place for that. I know there's some danger involved in giving the Fed that responsibility. The Fed doesn't want that, I believe I've heard that said.

Sahm: So the Fed couldn't do this right now?

Beckworth: Technically, yeah.

Sahm: Has the Fed ever done anything like this before?

Beckworth: Not that I'm aware of. I mean, maybe 1930s they've done stuff, but technically it's fiscal policy and it would need ... I mean, I've heard some clever arguments how the Fed could tap into its equity and send checks out directly but you would be pushing legal boundaries. The most expedient way to do this would be to get approval from Congress and again, my proposal would be have a standing fiscal facility that can only be used in emergencies defined by hitting zero and you're below your target. Then the Treasury Secretary has to sign off on it and then they use it. In some ways it's not much different than what the CARES Act, the Treasury actually signed off, said, "Here's all this money for facilities. Run with it." This would be a more systematic way. I mean, the thing about the CARES Act, what's the Fed's doing now, this is my concern as I mentioned earlier. They're throwing money here and there but there's no guiding framework.

Beckworth: They're going to run out of steam politically. The energy's not there. You need a framework to somehow to put the pieces of the puzzle all together and a level target does that and I've proposed that plus give the Fed, in emergencies, fiscal authority to send checks directly to households.

You need a framework to somehow to put the pieces of the puzzle all together and a level target does that and I've proposed that plus give the Fed, in emergencies, fiscal authority to send checks directly to households.

Sahm: Yeah, no, and I think what you see in that CARES Act and some of the coordination, some of the authority that Treasury gave the Federal Reserve even in March, earlier in March, is the Fed being able to step in and be the lender of last resort. So there were a lot of financial markets, everything from treasuries to mutual funds I mean, just you name it, in March there were a lot of disruptions in financial markets and the Fed, I mean it's the reason we have the Fed, is to be a lender of last resort in a financial crisis. But that's really important in March but that's actually not what we need right now because people don't need loans, businesses don't need more loans, municipalities don't need loans. They need money. Typically money, I mean Congress is the one institution in the country that can just print money, use Treasury as the piggy bank, sell bonds, but if Congress doesn't do that, the Fed has lending authority and that's it as of right now.

Sahm: But as I like to say, money, finance, fiscal policy are helicopter drops. This is essentially like the nuclear weapon of monetary policy. Can you talk a little bit more about… I mean because on one level the Fed just sent money out so this meme of the, "Money printer go brrr." This just sounds like, "Well yeah, send us money." Why do, when you say this around money, macro economy, they're just like… What is it that's so ... What are the risks of doing something like this?

Beckworth: Well when you do a helicopter drop you're effectively expanding the Fed's balance sheet on the liability side but not the asset side. That's a mouthful but effectively you're creating a hole in the finances of the government because you're just literally, not literally, but you're figuratively dropping money out of helicopters. You’re putting it into checking accounts and in the future, let's just say in the future, this money gets out of control and velocity goes up and lots and lots of spending, inflation hits 10% let's say. Well then you want to pull that money in. Well with a ... Normally the Fed would have all these assets it could sell, pull the money in. With a helicopter drop you don't have that. So you're going to have to raise taxes, sell bonds. It's a little trickier, a little more complicated.

Beckworth: That's why I say tie it to a level target. You don't use it all the time. You bring it up to a level target and I believe it would make the level target so credible that you wouldn't have to pull the money back out. If everyone knew the Fed was going to tighten if inflation got too high or nominal GDP got too high, you wouldn't see velocity take off. But the danger is you've literally put money out there without matching assets they can sell to pull it back in in the future and that's something typically Treasury does but not with the Fed. The Fed's very conservative, as you know, and once they have a solvent balance sheet of its own.

The danger is you've literally put money out there without matching assets they can sell to pull it back in in the future and that's something typically Treasury does but not with the Fed.

Sahm: Right, no, and I think just to draw out a few things you had said that maybe would appear to listeners like it's so important, one thing that you mentioned a couple of times is having a rule, right? So there's, like you said, a framework, a target and also your rule tells the Fed when to start and when to stop. In the last year I've done a lot of work on automatic stabilizers, so like fiscal policy, things that Congress would do to spend money like send checks to people and using economic conditions like say an increase in the unemployment rate or the unemployment rate coming back down, to say, "Okay, this is when you start and this is when you stop." Those rules, it's interesting, these are really popular among economists although economists don't actually like to follow rules but they like to tell other people to.

Beckworth: Right.

Sahm: This idea of, it takes ... I mean, we're always going to make mistakes but it means we sit down ahead of time and think about, "Okay, in a crisis, in a severe recession, what should we think about in terms of when it's right to act? And when it's right to stop acting." Because I think you mentioned this before, too, the biggest danger now and I see this too is that we won't do enough, right? I think the Federal Reserve, they've made a very credible, "We're going to do whatever it takes." I think frankly without some of these extra tools and without Congress going in big, the Fed actually can't do whatever it takes or what it takes. But they've made, Chair Jay Powell has made very clear that they're going to keep at this and I actually believe the Fed more and yet when inflation starts moving above two, like it's going to, they're really going to have to clamp down.

Sahm: We saw in the last recession that Congress walked away when the unemployment rate was high and actually they started cutting spending. So we don't have a great track record in DC of doing the right thing. I mean, there are reasons why and people get scared and it's hard to be an elected official. I wouldn't want to be Fed chair. You can understand why it happens but if you plan ahead of time and you have rules, then we can all talk about them, we can run them through simulations and then when the whole world falls apart you got a plan, right? Yeah, so that's-

Beckworth: I agree.

Sahm: Both in monetary policy and fiscal policy and that's something that isn't new but it comes into fashion and goes out and what those frameworks are change over time. But it's a really important principle that is happily getting a lot of discussion. It's kind of-

Beckworth: Yeah, no, in my rule you could say it's in the spirit of the Sahm rule, because effectively my rule is a trigger for fiscal policy to meld with monetary policy temporarily, and it needs a rule just like with your rule. I mean, you'd want to have boundaries set for it clearly because it could be abused but times like this you really need the traction that comes from a rule like that. I mean, it's not just to protect us on the upside from inflation, it's to protect us from the downside we're in right now because like you said, people are losing interest and a rule keeps them focused on what's at hand.

In my rule you could say it's in the spirit of the Sahm rule, because effectively my rule is a trigger for fiscal policy to meld with monetary policy temporarily.

Sahm: Yeah. No, that's really helpful. Okay, so this has been a really good conversation. I do want to… we've gotten people to hang with us on monetary policy and-

Beckworth: Okay.

Sahm: We love it a lot but I'm not sure everyone else can stay with it too long but I do want to give you a chance… what haven't we covered? Or what's the one thing that you really would want to see happen with the Federal Reserve or the one thing you'd want people to understand about what's happening and what needs to happen?

What Needs to Happen in Monetary Policy?

Beckworth: Well again, I would go back to my point about stabilizing the dollar size of the economy. I mean, the way I framed it originally when I wrote a piece about this and I still think about it now is we're fighting a war. There's going to be some big expenditures but those expenditures should be viewed as an investment in our future, not just outright spending. This is not a garden variety recession. This is a war, and you want to spend the money, both fiscal policy and monetary policy, but you want some kind of framework, some kind of guard rail, some kind of direction. How do you spend? How much do you spend? In my view of the world you want to maintain the dollar size people thought they were going to have going into this. So $22 trillion or so. When we start falling below that, we're going to have secondary spillover effects. We can avoid that. That's a policy choice. We can't avoid the fact that some things are scarce, some things are more expensive but we can avoid unnecessary bankruptcies and insolvencies and that's literally some policy levers we could pull, Congress could pull and it's just a choice.

Beckworth: We can choose to make this crisis worse than it is or we can choose to minimize the loss and a nominal income level target would guide both Congress and the Fed. It needs to be right and Steven Mnuchin, when he wakes up in the morning he should see where are we relative to where we should be in terms of nominal income? Same thing with the Chair Powell, that should be what's on their mind every day. "What have I done today to get us closer to where we should be?"

We're fighting a war. There's going to be some big expenditures but those expenditures should be viewed as an investment in our future, not just outright spending. This is not a garden variety recession. This is a war, and you want to spend the money, both fiscal policy and monetary policy, but you want some kind of framework, some kind of guard rail, some kind of direction.

Sahm: Yeah, no, I would love to take down the deficit clock that's in Congress and put up there, nominal income for everyone in the country. That's what they should be looking at every day.

Beckworth: Absolutely, yeah.

Sahm: I think to really emphasize your point, we know what works. This is a choice policymakers have today. You can either do what needs to be done or you don't, right?

Beckworth: Right.

Sahm: I think that's a very hopeful thing. We learned so many lessons from the Great Recession and that wasn't that long ago and we understand that there are limits to the tools the Fed has. I mean for decades economists said, "The Fed's got this, they know what they're doing." Then it was like, "Oh, wow, the tools the Fed have always used actually aren't ..." Either they're not as effective or they just, you were done with them and you had to go onto other tools. So there's a real understanding that oh, Congress needs to act too but in a lot of ways that toolkit had been neglected and thinking about how to do that right but wow, we learned a lot about what to do and what not to do in the Great Recession. In some ways, and you've contributed to that thinking about monetary policy, I have, a lot of other people have and yet it is really hard to watch those lessons not be applied because it's kind of like, "Oh my God, the train is coming again." But you know?

Beckworth: Yeah, yeah. You're right.

Sahm: We're all Keynesians in a foxhole. I keep hoping that we'll pull it out because if we don't… the cost of not getting things back on track are just too big. Anyways, but we're going to keep beating the drum and-

Beckworth: Absolutely.

Sahm: Fingers crossed.

Beckworth: Let me put a little plug in if I may for a measure we have at the Mercatus Center, it's called the Nominal GDP Gap or Nominal Income Gap. But basically it's a measure of where nominal income should be based on what people thought coming in. We look at forecasts, dollar level forecasts and nominal income 20 quarters leading up to the present one and it provides a nice benchmark. It's not some ... It's a nice exercise based purely on forecast, not based on some mysterious R star, U star, or some unobservable variable. It says, "This is where we should be and this is where we are." We've provided it for this very purpose. We want policy makers to wake up again. Steve Mnuchin if you're listening, look at the indicator. See where it is. President Trump if you're listening, you too. I mean, all the above. Check it out. We have a webpage called Nominal GDP Gap. If you Google it, it'll pop right up but it's to push us in that direction.

Sahm: Yeah, well you should, every morning you should Tweet this out. I know Jay Powell follows you on Twitter so I mean, you can at least get it front and center to him.

Beckworth: That's a good suggestion. I haven't been vigilant enough so I'll do that. Thank you.

Sahm: All right. We'll get that number up there. All right, well thank you so much, David. This was a great conversation. I really appreciate you taking some time to share your passion of monetary policy with all of us.

Beckworth: Well thank you, too, it's always a treat to chat with you, Claudia.

Photo by Olivier Douliery via Getty Images

About Macro Musings

Hosted by Senior Research Fellow David Beckworth, the Macro Musings podcast pulls back the curtain on the important macroeconomic issues of the past, present, and future.