countercyclical macroeconomic policy works largely by manipulating consumer and investor psychology

From Will Wilkinson, two posts:

"In response to my post below, friend and former colleague Ryan Avent writes:

This is just too cute. The paradox of countercyclical macroeconomic politics is only a paradox if you believe that the current recession is the result of equal parts Democratic fear-mongering and facts on the ground. But can any sane person actually believe this? Does anyone really think that Barack Obama’s acknowledgement of economic reality and the op-ed warnings of lefty economists are the things producing this downturn, or perpetuating it, or deepening it?

I don’t think Ryan understands the cute argument. The cause of the recession is irrelevant. I never even intimated that Democratic fear-mongering caused it. (I think normal periodic breakdown of efficient-ish economic coordination + American houselust + democracy + fancypants finance + executive myopia + regulatory failure caused it.) So does anyone think that pants-wetting op-eds by Presidents and Nobel Prize-winning economists can perpetuate or deepen a downturn? Yes! For example, people like the President or Nobel Prize-winning economist Paul Krugman who believe that countercyclical macroeconomic policy works largely by manipulating consumer and investor psychology. If you don’t think Obama and Krugman’s confidence-destroying disaster forecasts hurt, then you probably shouldn’t accept confidence-restoration theories of stimulus, either. Or maybe Ryan knows of some research that shows that badly-targeted tax cuts and infrastructure spending effectively boost confidence and buoy markets while doomsaying from the most powerful man on Earth means squat. That would be interesting to see."

"Paul Zrimsek in the comments below offers us this gem:

Last but perhaps not least among causes of the consumer funk is the administration’s own determined pessimism. Mr. Bush has a bully pulpit, and he is using it to preach economic alarm. This adds powerfully to the chorus of doomsaying. And when it comes to short-term economics, believing can sometimes make it so.

–Paul Krugman, 2/21/01

Oh snap!"

Me:

Take the following two posts for example:

From Paul Kedrosky:

"WTO Calls Emergency Meeting on Trade Barriers

barriers This is worrisome:

Just two weeks after saying protectionism was under control, the World Trade Organization is gathering nations in a special meeting Monday to discuss a fast-rising wave of barriers to commerce.

Dozens of measures have been enacted in country after country since early last month, in a scramble by governments to safeguard key industries -- often by damaging those of their neighbors.

More here.

From John Carney yesterday:

"Why anyone in the world would feel reassured by listening to Dodd is beyond us. You'd be better off asking your cat if Bank of America would survive. To take just one notorious example, Dodd was talking up the financial health of Fannie Mae and Freddie Mac as late as last summer.

"This is not a time to be panicking about this. These are viable, strong institutions," Dodd said at a Capitol Hill press conference in July. Two months later the federal government had to take over both of those "strong institutions."

You today:

"Just two weeks after saying protectionism was under control, the World Trade Organization is gathering nations in a special meeting Monday to discuss a fast-rising wave of barriers to commerce."

Now, the usual explanation of these farcical reassurances, is that the officials cannot speak the truth, since that would cause a run and decline in stocks or bonds, say. In other words, as officials, their words could effect investing because they might reflect government intervention. This seems like a valid concern.

Similarly, if you read financial reportage, good reporters or commentators tell you if they own the stock or are shorting it, etc. The point being that such comments could influence the market. This is also why the FDIC seems to swoop in before speaking about a takeover.

So, all financial commentary can indeed influence the market and, possibly, the economy. The SEC even has rules about this, I believe. It's not Keynesianism, but common sense.

As for Krugman, he's not a public official or trader. If he speaks as an economist, he's supposed to try and be objective. If he speaks as a political partisan, he's supposed to be up front about what his bias is. It's a system based upon transparency, leaving the reader free to draw his conclusion.

These arrangements have problems. Politicians lie, commentators game, and economists aren't objective, but it's a decent arrangement.

Now, I might be unfair here, but your point seems to be that , if you believe that financial commentary can influence markets in any way, then you should only cheer-lead, in the hopes that you can positively influence the market. That seems wrong. It also seems wrong to not acknowledge that commentary influences the market. As I said, we have a whole set of arrangements to deal with this problem.

As for influencing the economy, you seem to be arguing that, since Shiller believes in behavioral explanations for market movements, and he predicted the housing bubble, it follows that, not only should he not be praised for seeing the problem before others, but he should held in contempt for causing it. Were he God I might credit that, but not otherwise. The point about behavior and economics is much more complex than the idea that one man can cause a crisis. However, if Sheila Bair says the wrong thing, don't you believe that she could cause some problems for the market?

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