The Simple Answer to Scott Sumner

A lot of good links on EconLog lately, including this by David Henderson called "Protectionism IS Inflationary", a reply to this by Scott Sumner called "Protectionism is not inflationary".

In the former post, Henderson addresses the points put forth by Sumner in the latter post and--after recalling his and Sumner's common intellectual influence Uncle Milt's role in the revival of the quantity theory of money, according to which the price level and thus inflation is/are a function of the level of real economic activity, the (size of the) money supply, and the "velocity" of its circulation--characterizes Sumner's view as follows (readers can judge for themselves the fairness of this):

Protectionism makes y, real GDP, lower than otherwise. Scott and I agree on that. With an unchanged M and unchanged V, P is higher than otherwise. Therefore an increase in protectionism causes an increase in P. We normally refer to an increase in P, the price level, as inflation.

Scott doesn't dispute that. What he argues is that the current Federal Reserve Board will offset any increase by adjusting monetary policy, M, keeping the inflation rate at or around 2%. 

He may well be right, but that doesn't mean that protectionism is not inflationary. Protectionism IS inflationary AND the Fed can offset this inflation.

He ends by also quoting one of the comments on Sumner's original post:

If you have protectionism and all other variables stays [sic] the same (and therefore the Fed does not do any offset), protectionism is inflationary. If you assume the Fed does the offset, then you are changing two variables at once.

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I note this only to finally ask a question that I've long wondered: am I missing something or does it really just take no more than this to deal with Professor Sumner's centrist-in-practice two-step?  

To see what I mean, consider the following post I had in the unpublished archives from at least July 2016, but probably from much earlier.  If it comes from a bona fide libertarian economist, does the argument against Sumner's argument form that we have seen and in what follows need to be no more elaborate than Henderson's and the commenter he cites?

Scott Sumner pisses off left-of-center people (and [New/Post/etc.] Keynesians, MMTers, etc.) like me

Consider the following short dialogues/conversations, that are very characteristic of SS's discourse with those of other economic views, especially (in response to) Keynesians:

1. SS: It doesn’t matter that state and local cutbacks negated much of the federal fiscal expansion. That the federal fiscal expansion didn’t help the economy/keep unemployment below 8%/prevent the recession/etc. proves the Keynesians wrong.

Ks: Well of course state and local cutbacks negated the effects of federal expansion. It’s kinda as if there was no federal expansion, so we didn’t really try my option.

SS: No, state and local spending are exogenous.

Ks: Ugh… 

And... 

2. SS: What will be the effect on GDP of fiscal expansion/stimulus? Whatever the central bank wants it to be. 

Ks: Well sure, of course the central bank could suddenly tighten to coincide with and in proportion to increasing federal spending. But what if they don’t? Then it will employ unused capacity to increase GDP until with hit the production frontier and fund only inflation, right?

...

Usually when we say some phenomenon does or causes another, it seems that "everything else being equal" is implied. Otherwise, as with SS in these instances/cases, it seems like responding to the advancement of the proposition that "its raining will make you wet" by denying it on the grounds that "not if you carry and umbrella". Well duh...

Sure, you can oppose the stimulus for other reasons like how government is worse at spending stuff to get a return than individuals are, or for other reasons (moral maybe), but I feel like people are being misled as they and the media apparatus that informs them get a simplified picture of your account and views, with perverse practical consequences. I think this is especially true because MM is easily portrayed as a moderate macroeconomic school between the partisan Ks and NCs and between the extreme MMTs and AEs, playing into the common tendency to pursue objectivity, reasonableness, moderation, compromise, and the middle. 

SS should give us the technical information to make our own choices. The federal government doesn’t control monetary policy, doesn’t know what they will do, and often it has looked like they even were way too tight, as SS himself as asserted. 

This is why I think (I think this is why) Scott Sumner pisses off liberals. 

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This also makes me think again that the Fed should be given some fiscal authority for automatic stabilizers like infrastructure repair and investment. After the usual process of determining what ought to be built where, the Fed is given these projects along with a mandate to fund them/release the funds for them (whether financed by creating money or [regular] congressional appropriations) in accordance with their dual mandate. In addition to creating an alternative avenue for necessary projects to get done by removing them somewhat from the political process, it would give the federal a regional specific level to affect the economy. 

And would it slightly lessen the (CAP?) problem of non-coordination between monetary policy in one authority and fiscal policy in another?

Such projects would if course have to be classified as automatic though, so as to minors the effect on the (appearance of) discretionary budget and deficit. 

UPDATE:

There also seem to be conceptual confusions here.  Sumner can say that X doesn't boost inflation because X isn't the Fed and inflation is "always and everywhere a monetary phenomenon" but in the his post in the current issue, he writes as if inflation can be a price increase across many goods and sectors from non-monetary causes, but real ones including government policy.

Efficient Market Hypothesis and Government Intervention (Especially Fiscal and Other Discretionary Counter-Cyclical Action)

Hoisted from the draft cue from 1/21/14:

Some of the disagreement over gov’t intervention in the economy is likely the result of disagreement over the Efficient Market Hypothesis.  

The EMH has a lot of forms:

-from the strongest forms (claims like the market is always exactly right at all times, either by definition or by a necessary causal link, and maybe even produces a pareto optimal outcome, or an optimally efficient outcome, or a welfare-maximizing outcome, or a distribution ally fair outcome in which people are compensated exactly in proportion to their contribution, or any combination thereof, etc.)

-to the medium forms (claims like the market tends toward these desirable features)

-to the weakest forms (claims like the market tends towards one, or some, or all of these features only more than any individual or group intentionally could; so the market could be wrong, but in all possible cases [even in those cases of the market being wrong], we have more reason to believe the market than any individual or group [after all, assuming only that there's isn't anything new under the sun/i.e. that it's pretty rare for people to be totally unique or do things totally uniquely, as opposed to like Newton and Leibniz independently coming up with calculus, it is more plausible that there are other bits of knowledge elsewhere in the world that would integrate into the market not included in the centralized expertise than that this single centralized expertise came up with all the knowledge the market already has, and then some it hasn't.  In other words, how likely is it that any individual or group (defined sufficiently small to conform to our purpose of technocracy; i.e. you can't define a 'group' as half the world population because that couldn't work to give expert advice) could come up with some knowledge the rest of the world hasn't come up with yet? 

when we address the findings/recommendations of any expert or group of experts, 

Those who support gov’t intervention tend to disagree with the EMH and argue instead that markets can be inefficient/irrational, and that gov’ts can be less so.

For example, what exactly changed so rapidly in 2007-2008 (or even just over a few months in 2008 and into 2009) that the market was rational/efficient to cut aggregate spending and economic activity?  Did some real shock precipitate it?

No.  Well, what could have changed?  Preferences?  What preferences?

Not for any particular commodity or asset.  

What about leisure, or saving/putting off consumption?  It seems pretty unlikely that enough people changed their preferences so much all together to be lazier that caused it.

What about the preference to carry or offload risk?  This is the candidate most EMHers point to as the preference change most likely to have caused the crisis and recession (us Cochrane, for example, I believe.  Maybe Fama…).

So, to these EMHers, the crisis and downturn does not disprove the EMH because the market rationally responded to changing preferences.  Thus, the market did not act irrationally, and consequently the crisis and downturn do not prove the necessity of gov’t intervention. 

This is correct as far as it goes.

But if this analysis is correct and a change in preferences of carrying or offloading risk (really, in the risk of a downturn) justifies the market contraction, then these EMHers are missing the forest for the trees.  

If the only real change is from confidence in a continuing good economy to skepticism of it, then gov’t should still intervene.

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Copied from email drafts folder, for comparison (not sure which one is most updated/comprehensive version):

Some of the disagreement over gov’t intervention in the economy is likely the result of disagreement over the Efficient Market Hypothesis.  

The EMH has a lot of forms:

-from the strongest forms (claims like the market is always exactly right at all times, either by definition or by a necessary causal link, and maybe even produces a pareto optimal outcome, or an optimally efficient outcome, or a welfare-maximizing outcome, or a distribution ally fair outcome in which people are compensated exactly in proportion to their contribution, or any combination thereof, etc.)

-to the medium forms (claims like the market tends toward these desirable features)

-to the weakest forms (claims like the market tends towards one, or some, or all of these features only more than any individual or group intentionally could; so the market could be wrong, but in all possible cases [even in those cases of the market being wrong], we have more reason to believe the market than any individual or group [after all, how likely is it that any individual or group small enough for technocratic purposes could come up with some knowledge the rest of the world hasn't come up with yet? ]). 

Those who support gov’t intervention tend to disagree with the EMH and argue instead that markets can be inefficient/irrational, and that gov’ts can be less so.

For the market to be rational, there would have to be a reason for the recession.

What exactly changed so rapidly in 2007-2008 (or even just over a few months in 2008 and into 2009) that the market was rational/efficient to cut aggregate spending and economic activity?  Did some real shock precipitate it?

No.  Well, what could have changed?  Preferences?  What preferences?

Not for any particular commodity or asset.  

What about leisure, or saving/putting off consumption?  It seems pretty unlikely that enough people changed their preferences so much all together to be lazier that caused it.

What about the preference to carry or offload risk?  This is the candidate most EMHers point to as the preference change most likely to have caused the crisis and recession (us Cochrane, for example, I believe.  Maybe Fama…).

So, to these EMHers, the crisis and downturn does not disprove the EMH because the market rationally responded to changing preferences.  Thus, the market did not act irrationally, and consequently the crisis and downturn do not prove the necessity of gov’t intervention.  

This is correct as far as it goes.

But if this analysis is correct and a change in preferences of carrying or offloading risk (really, in the risk of a downturn) justifies the market contraction, then these EMHers are missing the forest for the trees.  

If the only real change is from confidence in a continuing good economy to skepticism of it, then gov’t should still intervene.

The rationality of the market's action does not refute the desirability of market intervention to change that action if that action's rational status is contingent on its being performed.

The actions of market participants, in changing their investment profiles to reflect their decreased optimism and increased pessimism about the coming state of the greater macroeconomy, i.e. to become more risk-averse, that together make up the actions of the market as a whole, are a rational response to a coming contraction.  

Gov't intervention advocate: we need to intervene in the economy to mitigate as much as possible the contraction resulting from the financial crisis and generate a strong recovery.

EMHer: you're saying the gov't knows better than the market does.  

GIA: The market is behaving irrationally right now, so yes, the gov't can do better at the moment.

EMHer: the market isn't behaving irrationally.  

GIA: Well, just a few months ago, GDP was much higher and better distributed, and unemployment much lower, and now the economy is a wreck.  What happened between then and now to make this economy so bad for people despite still behaving rationally/efficiently, as you allege?  There were no wars or natural disasters, or other hindrances to our productive capacity.  

EMHer: But technological facts of production are only part of it.  That stuff determines the possibilities, and human preferences determine which of those we actually go for.  And human preferences have changed.

GIA: What?  Have 9 mm people all become significantly lazier, and decreased their preference for work and increased their preference for leisure, and decreased their ability to put off consumption, all at the same time?  

EMHer:  No, but the preference to bear risk has changed.  People are less willing to bear risk.

GIA: Risk of what?

EMHer: Risk of losing their assets.  People are willing to bear less risk on their assets in a bad economy.  

GIA: So, the market contracting is a rational/efficient response to the [prospect of] market contracting?  

EMHers say that we should go with the market response/action, a contraction, because, in virtue of it being the response/action taken by the market, it is the most rational/efficient way to go.  But contraction is only the rational/efficient action of the market because the market expects contraction, making that expectation of self-fulfilling prophecy.  (Obviously, there is some CAP here, too).