Typography

Paul Krugman has two posts discussing the effective lower bound to interest rates. The first I agree with, albeit with a caveat, and the other I don't. In his first post Krugman takes Evan Soltas to task for including not only storage costs in his calculation of the effective lower bound, but also the extra convenience yield provided by deposits. Krugman's point is that once people are "saturated" with liquidity, as they seem to be now, then forgoing the liquidity of a short term marketable debt instrument (like a deposit) costs them nothing. If so, then the lower bound to nominal interest rates is solely a function of storage costs. I agree with Krugman on this count. Take the 2 1/8% Nestle bond maturing May 29, which may be one of the first corporate bonds in history to trade at negative rates: If it costs 0.50%/year to store and handle Swiss paper currency, then the rate on a Nestle bond can't fall below -0.50%. If it trades at -0.55%, an arbitrageur will c...

While bitcoin could one day kill most of the roles that the Fed plays, monetary policy will probably stay intact. The reason for this, as I'll show, is that the no matter what happens to all its other functions, the Fed will probably continue to define the economy's unit of account. Let's start in the present day US. Most modern transactions involve transfers of dollar banknotes, reserves, or dollar-denominated bank deposits. A small minority of transactions are made with bitcoin. But these transactions are rarely priced in terms of bitcoin. Rather, a merchant's website will typically display prices in terms of dollars, and then compute the amount of bitcoin that a customer must fork over by referring to the current dollar-to-bitcoin exchange rate. The dollar is very much the the unit of account in the US, not bitcoin. The first of the Fed's functions to be killed off by bitcoin will inevitably be the issuance of paper banknotes. Bitcoin enjoys all the benefits of c...

...once the supply of reserves is sufficient to drive the short-term riskless rate to zero..., there is no reason to expect further increases in the supply of reserves to increase aggregate demand any further... Once banks are no longer foregoing any otherwise available pecuniary return in order to hold reserves, there is no reason to believe that reserves continue to supply any liquidity services at the margin; and if they do not, the Mod igliani-Miller reasoning applies once again to open market operations that increase the supply of reserves, just as in the model of Wallace. -Michael Woodford, 2012 .   On a whim, I wrote an email to Michael Woodford last week. Woodford, a macroeconomist at Colombia University, is the authour of Interest and Prices ( pdf ), an important contribution to modern monetary policy. I'll be the first to admit that I haven't been able to work my way through his book—too few words and too many equations. But I have read two excellent papers by him. ...

Daniel Kuehn and Robert Murphy wonder why Scott Sumner takes Paul Krugman to task on liquidity traps when they each seem to be saying the same thing - monetary expansion will get you out of a trap. The phrase "monetary expansion" can mean many things. I think Krugman and Sumner have categorically different opinions concerning one specific sense of the phrase   – quantitative easing's ability to have independent effects in a liquidity trap, . When it comes to thinking about monetary policy, Krugman, Delong, Eggertson, Woodford, and other New Keynesians begin with a frictionless model populated by rational agents. No individual has the power to set prices and everyone can attain any quantity of assets at a given price. There is no limit on borrowing. With these assumptions and interest rates at zero, quantitative easing is powerless. That's because all asset prices are uniquely determined by the present value of their future cash flows. A central bank that threate...