Back in late 2008, I argued that tight money was driving the economy into a deep recession. One counterargument was that interest rates had declined over the past year. I pointed out that interest rates are a misleading indicator of the stance of monetary policy. The response would be something like, “Yes, nominal interest rates can be misleading, but surely real interest rates are indicative.”
Even real interest rates are unreliable, albeit less so than nominal rates. But here’s what’s interesting—real interest rates were soaring in late 2008, exactly when the Fed’s tight money policy drove the US into a deep slump. So why did almost all economists miss that fact? When I raised the issue, I was told that real interest rates are also misleading, due to various factors. I agree! But then how do we measure the stance of monetary policy? I prefer to look at NGDP growth (and levels.)
This tweet caught my eye:
Fortunately, Kathy Jones doesn’t make any claims about the stance of monetary policy. But you can be sure that lots of people will look at this graph and argue that the high real interest rates show that money is tight. So was money also tight in late 2008?
PS. Jones makes a minor error when suggesting that real rates are at the highest level since 2007. Actually, the spike you see (blue line) was in late 2008. But it’s an understandable error, as who would have imagined that the Fed would drive real interest rates up to 6% just as the US was sliding into a deep recession?
PPS. Q2 NGDP figures will be released in a few days. Let’s see what they show before concluding that money is tight.