I think, perhaps, Raghuram Rajan has been partly misunderstood. In a much maligned essay he writes:
Since the growth before the crisis was distorted in fundamental ways, it is hard to imagine that governments could restore demand quickly—or that doing so would be enough to get the global economy back on track. The status quo ante is not a good place to return to because bloated finance, residential construction, and government sectors need to shrink, and workers need to move to more productive work.
This has been interpreted by Karl and Paul Krugman to mean that the construction sector is currently in need of shrinking. What it looks to me like is that he’s saying we can’t go back to the size of these sectors that predominated before the recession, because it was in need of shrinking then. The key to interpreting correctly is that he says the way things were is not a “good place to return to“. But the confusing part is that “bloated finance, residential construction, and government sectors need to shrink“, rather than “needed to shrink”. But what I think he means here is that when sectors are bloated, as they were before the recession, they need to shrink. We do not want “to return to” the way they were because they were bloated, and “bloated..sectors need to shrink”.
The misunderstanding this generated is unsurprising: it’s worded confusingly. And who knows, maybe I’m the one reading him wrong. In any case, there much else wrong with his piece that, most importantly the incorrect assumption that we can either do long-term reforms or worry about short-term problems. We can do both. Why not, for instance, identify solutions that attack long-term and short-term problems. What magical policy could simultanously address our short-term housing sector weakness (including an oversupply of housing, low house prices keeping homeowners underwater, and a lack of normal construction sector contribution to recovery), long-term demographic problem driven by an aging society, a medium and long-run debt-to-GDP problem, and a shortage of skilled labor? A huge increase in skilled immigration.
To be clear: this is not to say we shouldn’t have more inflation, because we should. But whenever someone like Rajan wants to point out long-run problems, we should argue against them and advocate for more inflation, but we should also say that even if he’s right, there is at least one policy that address short and long-term problems: more immigration, and now. We might never convert the do-nothing caucus to inflationists, but perhaps we can convert them to the do-something-productive congress.
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Saturday ~ May 5th, 2012 at 7:39 am
BSEconomist
I think that your the one who misunderstands Rajan, but I agree with everything else you say.
Having said that, I think you’ve possibly hit on the one solution even less popular than inflation… It’s sad, but true.
Sunday ~ May 6th, 2012 at 10:44 am
gcallah
Ozimek’s interpretation is obviously the correct one. I am stunned Smith managed to read it differently.
Wednesday ~ May 9th, 2012 at 12:07 pm
MkeC
A problem is including the government sector. If the bloating of the government sector means the COST of the war in Iraq in 2007 yes that a genuine target for structural reform. If this instead refers to the cost of infrastructure and level of EMPLOYMENT in education then sorry Rajan has truly gone nuts.
Saturday ~ May 5th, 2012 at 9:35 am
Becky Hargrove
And do something is precisely the point. Don’t want better monetary policy? Fine, create a real free market that lets everyone participate! I wasn’t expecting Rajan to say everything that needed to be said, plus it was wrong to discourage monetary policy, but it was frustrating seeing how many wanted to pin him as encouraging do-nothing, simply by saying his piece.
Saturday ~ May 5th, 2012 at 10:25 am
michelle
I agree with Karl on long-term policy. CBO projections twelve years ago showed the national debt being paid off this year, thanks to a budget surplus in 1999.
Obviously, interim policy changes can cause 10-30 year projections to be radically altered over a relatively short period of time.
Saturday ~ May 5th, 2012 at 10:52 am
Morgan Warstler
The magical policy is MY GUARANTEED INCOME plan to auction the unemployed.
We can put 30M people to work 40 hours per week in less than 1 year.
This platform immediately reduces the cost of organizing and rehabbing the 12M homes that ARE gong from being owner occupied to rentals.
I’m personally involved in this process right now, hooking up a system to property manage 100K homes,to a labor clearing house, will drive down rents, and increase the quality of run down neighborhoods.
Adam,, the way this is happening, the homes sold in bulk must be kept as rentals for at least 5 years.
And my plan SOLVES for immigration.
With everyone working, being offered new work weekly, and choosing what labor they take and don’t take, not only does Walmart have to pay more to secure longer term workers, but …
We can actually see what immigrants are needed. There is no argument about them taking our jobs, because IF the employer could hire the cheaper subsidized American he would. The left over jobs are ones where there is true unfilled demand. Mostly, at the low end, this field work, that robots haven’t replaced yet.
Sunday ~ May 6th, 2012 at 10:15 am
JTR
“The magical policy is MY GUARANTEED INCOME plan to auction the unemployed.”
Freudian Slip?
Sunday ~ May 6th, 2012 at 10:39 am
Morgan Warstler
Notice… another non-responsive commenter who hangs out here….
Specific answer:
“What magical policy could simultanously address our short-term housing sector weakness (including an oversupply of housing, low house prices keeping homeowners underwater, and a lack of normal construction sector contribution to recovery), long-term demographic problem driven by an aging society, a medium and long-run debt-to-GDP problem, and a shortage of skilled labor?”
By his definition my policy is magical.
Bend to my will JTR. You haven’t proven yourself enough to get to take potshots.
Sunday ~ May 6th, 2012 at 12:05 pm
michelle
It also holds up to 12 times its own weight in liquids! You’ll be saying “Wow!” every time you use it…
Wednesday ~ May 9th, 2012 at 4:55 am
Peter Linley
This sounds like almost as solid a plan as that “The Rent Is Too Damn High” party had.
Saturday ~ May 5th, 2012 at 10:02 pm
lorenzofromoz
If Rajan is so keen on supply-side reforms, why does he not mention the developed country which has done lots of supply-side reforms and sailed through the GFC and Great Recession with barely a ripple? Because it does not suit the story he wants to tell.
Sunday ~ May 6th, 2012 at 10:45 am
gcallah
“but we should also say that even if he’s right, there is at least one policy that address short and long-term problems: more immigration, and now.”
Also, rampant fires that wiped out half the housing stock would do the job.
Sunday ~ May 6th, 2012 at 11:06 am
Morgan Warstler
why not just root for rampant fires to wipe out the unemployed?
Wednesday ~ May 9th, 2012 at 2:37 am
Raghu Rajan polarizes with his essay — Marginal Revolution
[…] it, but other people are upset or less impressed. Karl Smith flips out. Adam Ozimek points out one misunderstanding of the piece, not the only one I might […]