Richard Wood: Jackson Hole, the crisis and policy responses: A new orthodoxy

By Richard Wood, a long serving economist at the Treasury in Canberra, Australia. He served as Minister (Economic and Financial Affairs) in Paris, and represented Australia at the OECD and the Paris Club. Views expressed in these articles are his own and may not be shared by his employing agency. Originally published at VoXEU.

The crisis is deepening in Europe, and recession is spreading globally. This column argues that macroeconomic policies have failed to overcome the dual problems of flagging aggregate demand and high and spiralling public debt. It urges policymakers to abandon failed orthodoxies and irrelevant treaties and consider new, alternative solutions.

* * *

Lambert here: Wood’s paper seems a propos, now that everybody who is anybody in Europe has come back from their August vacation to a full in-tray. In the full “Policy Insight” paper (PDF) to which this shorter post is a pointer, Wood introduces the concept of “dissociation risk”:

In the field of macroeconomics, it is often required that policymakers and politicians have to deal with more than one problem at a time. … In such situations politicians in particular often battle with dissociation. The ability to resolve two or three macroeconomic problems simultaneously using different policy instruments can be difficult, and implementation of policies discordant. …

The dissociation risk today arises in respect of the dual problems of inadequate demand and high and spiralling public debt. Efforts to solve the public debt problem with sharp austerity measures – aimed at achieving budget surpluses in order to lower public debt – run the risk of worsening the problem of inadequate demand. Equally, as unemployment increases as a consequence of austerity, attempts to change course and quickly address the inadequate demand problem by bond- financed fiscal stimulus measures would further raise public debt. Such a response in the midst of the unfolding crisis would represent a policy misjudgement of colossal magnitude.

The art of macroeconomic policymaking in these circumstances is to identify a coordinated policy response that addresses both problems simultaneously – that is, without action on one front worsening the outcome on the other.

One might go so far as to characterize the dissociation of our own policymakers as “florid” and the source of extreme risks; below, Wood proposes the coordination of fiscal and monetary policy to mitigate association risk. I don’t see how to do such a thing, institutionally, in the American context — a Grand Bargain? — but maybe the Europeans will do better with Wood’s doxy than we will.

* * *

Demand, output, manufacturing activity and exports are weakening in many parts of the industrialised world. Quantitative easing policies have generally run their course, as interest rates are at the zero bound or thereabouts. In the Eurozone it is questionable whether the ‘one-size-fits-all’ policy interest rate approach is helpful or meaningful, or whether it can be sustained. In those countries suffering the worst collapse in GDP, authorities are applying draconian ‘fiscal austerity’ policies. This approach is not only dragging economies lower, but it is adding to budget deficits and public debt and increasing interest rates periodically. All sorts of rescue, firewall and bailout policies have been applied and proposed, but the principal source of the problem – the new government bond financing of on-going budget deficits – has not been addressed by policymakers. Separate debt fires in neighbouring countries could join up at any time. The stakes are very high.

Policymakers need to abandon failed orthodoxies and irrelevant treaties and consider new, alternative short- and long-term policy strategies. To be able to do this, policymakers need to review their beliefs and conceptual analysis. The risk is that many policy advisers are trapped in the paradigms appropriate to the past era of high inflation and have not sufficiently adjusted to the new era of high public debt.

Printing money and inflation

Many advisers, some central bankers included, are of particular concern in this regard. For instance, Charles Plosser (2012) argued in May – presumably in an attempt to shore up the case for central bank independence – that there are good reasons for separating the functions and responsibilities of central banks and fiscal authorities. He asserts that:

‘History teaches us that unless governments are constrained institutionally and constitutionally, they often resort to the printing press to avoid making tough fiscal decisions. But history also teaches us that this can create high inflation and, in the extreme, hyperinflation’

This assertion is not supported by detailed IMF research (Benes and Kumhof 2012). Referring to the German hyperinflation in the 1920s, the IMF authors conclude:

‘This episode can therefore clearly not be blamed on excessive money printing by a government-run central bank, but rather by a combination of excessive reparations claims and a massive money creation by private speculators, aided and abetted by a private central bank’. (Emphasis added).

Referring to the claim that the government monopoly of money issuance would be highly inflationary, the IMF authors conclude:

‘There is nothing in our theoretical framework to support this claim…. And there is very little in monetary history of ancient societies and Western nations to support it either’

Rather than the separation of functions and responsibilities advocated by Plosser, I argue the alternative position in a recent CEPR Policy Insight (Wood 2012). In my view, much closer coordination of monetary and fiscal policy holds the key to achieving economic stimulus without increasing public debt further.

I put forward the case for ‘monetisation of budget deficits’. This policy option is not evil, and it is not really radical in the context of today’s economic circumstances: deficient aggregate demand and high public debt. Indeed, deficit monetisation has been referred to for possible consideration by John Maynard Keynes, Abba Lerner, Milton Friedman, Ben Bernanke, Max Corden, Richard Wood, Willem Buiter and Ebrahim Rahbari, Martin Wolf, and Anatole Kalestsky.

Under this plan, new money creation would be used not for further quantitative easing (to the benefit of unproductive bank reserves) but, rather, to finance ongoing budget deficits and to provide fiscal stimulus (benefiting consumers, public infrastructure and the low-income disadvantaged) without increasing public debt. Under this approach, sharp austerity policies could be relaxed, and public debt would stop rising. This would go a long way to avoiding a major financial crisis and to restoring confidence in governments and the economy. The policy could be applied whether periphery governments stayed in the Eurozone or left it.

My Policy Insight explains why new money creation does not add to public debt. I also identify a number of reasons why deficit monetisation would not be inflationary, and suggest a legislative cap if governments want to remove any doubt in this regard. Moreover, the proposed approach would allow for the application of both differentiated monetary and differentiated fiscal policies in the absence of a full-fledged monetary and fiscal union. This could take pressure off German taxpayers and the German government, and provide improved economic outcomes in periphery countries.
The article illustrates, diagrammatically, the effects of three different policy options: 1) a new government bond financed fiscal stimulus, 2) the combination of a new government bond financed fiscal stimulus and quantitative easing and 3) deficit monetisation. The article explains why option 2) does not yield the same economic results as option 3).

International competitiveness

The article also addresses the ‘international competitiveness’ problem, which is constraining the growth of some periphery countries. This problem is currently being addressed by sharp austerity and market forces. The current approach relies heavily on fiscal austerity to drive up unemployment in order to drive down wages. This policy further lowers aggregate demand expansion. It is very slow moving, particularly so because of entrenched rigidities, and has contributed to the toppling of governments. It also saps the motivation and willingness to undertake new structural reforms.
My Policy Insight proposes that an alternative set of policies could achieve a quicker and less painful adjustment of wages and prices.


Periphery countries in particular are currently facing colossal difficulties, largely as the consequence of policy failures and oversights since the global economic crisis started. Fighting debt fires with even more debt does not address the source of the blaze.

Japan, the US, and the UK are also experiencing inadequate domestic demand and rising debt levels. Because these countries have their own national currencies they are in less jeopardy, as they can always print new currency to repay debts, but policymakers can do much better going forward than in recent years. This requires creative discussion, bold actions, and greater efficiency in the joint application of monetary and fiscal policy.

Because interest rate policy options are now constrained, and because of the need to achieve synergistic efficiencies by stronger coordination of monetary and fiscal policy to lift economic activity, ministries of finance and governments seem well placed to assume a lead role in policy development.


Benes, J and M Kumhof (2012), “The Chicago Plan Revisited”, IMF Working Paper, 12/202, April.

Plosser, C (2012), “When a monetary solution is a road to perdition”, Financial Times, Comment, 17 May.

Wood, R (2012), “The economic crisis: How to stimulate economies without increasing public debt”, Policy Insight No. 62 , 31 August.

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About Lambert Strether

Readers, I have had a correspondent characterize my views as realistic cynical. Let me briefly explain them. I believe in universal programs that provide concrete material benefits, especially to the working class. Medicare for All is the prime example, but tuition-free college and a Post Office Bank also fall under this heading. So do a Jobs Guarantee and a Debt Jubilee. Clearly, neither liberal Democrats nor conservative Republicans can deliver on such programs, because the two are different flavors of neoliberalism (“Because markets”). I don’t much care about the “ism” that delivers the benefits, although whichever one does have to put common humanity first, as opposed to markets. Could be a second FDR saving capitalism, democratic socialism leashing and collaring it, or communism razing it. I don’t much care, as long as the benefits are delivered. To me, the key issue — and this is why Medicare for All is always first with me — is the tens of thousands of excess “deaths from despair,” as described by the Case-Deaton study, and other recent studies. That enormous body count makes Medicare for All, at the very least, a moral and strategic imperative. And that level of suffering and organic damage makes the concerns of identity politics — even the worthy fight to help the refugees Bush, Obama, and Clinton’s wars created — bright shiny objects by comparison. Hence my frustration with the news flow — currently in my view the swirling intersection of two, separate Shock Doctrine campaigns, one by the Administration, and the other by out-of-power liberals and their allies in the State and in the press — a news flow that constantly forces me to focus on matters that I regard as of secondary importance to the excess deaths. What kind of political economy is it that halts or even reverses the increases in life expectancy that civilized societies have achieved? I am also very hopeful that the continuing destruction of both party establishments will open the space for voices supporting programs similar to those I have listed; let’s call such voices “the left.” Volatility creates opportunity, especially if the Democrat establishment, which puts markets first and opposes all such programs, isn’t allowed to get back into the saddle. Eyes on the prize! I love the tactical level, and secretly love even the horse race, since I’ve been blogging about it daily for fourteen years, but everything I write has this perspective at the back of it.


  1. JustJokes

    “a massive money creation by private speculators, aided and abetted by a private central bank’. ”

    I’d really like to hear more about the PRIVATE central bank of this 1920s hyper-inflation and how it’s different from a government central bank and what were the speculative methods of money creation.

  2. psychohistorian

    Sounds a lot like the existing orthodoxy of ongoing inheritance coupled with private ownership of property.

    It seems to me if we don’t change the basic rules and those currently in charge we are not really changing anything.

  3. F. Beard

    ‘This episode can therefore clearly not be blamed on excessive money printing by a government-run central bank, but rather by a combination of excessive reparations claims and a massive money creation by private speculators, aided and abetted by a private central bank’. (Benes and Kumhof 2012) [emphasis added]

    Speculators don’t create money, commercial banks do. Is this not George Soros’ Reflexivity Theory where rising asset prices provide the collateral for continual credit creation?

  4. F. Beard

    A current example of reflexivity in modern financial markets is that of the debt and equity of housing markets. Lenders began to make more money available to more people in the 1990s to buy houses. More people bought houses with this larger amount of money, thus increasing the prices of these houses. Lenders looked at their balance sheets which not only showed that they had made more loans, but that their equity backing the loans – the value of the houses, had gone up (because more money was chasing the same amount of housing, relatively). Thus they lent out more money because their balance sheets looked good, they were guaranteed by the Federal Government, and prices went up more. from

    1. Another Gordon

      Isn’t Soros’s ‘refexivity’ just another name for what a systems engineer would call feedback? In the case of house prices a positive feedback loop operated between rising prices and availability of finance as you describe and the bubble took off.

  5. F. Beard

    Speaking of monetarization, let’s do private debt too – by handing out new reserves to the population – Steve Keens’ “A Modern Debt Jubilee.”

    Initially, I calculated that every US adult could receive $1100/mo for 15 years without increasing the total money supply (reserves + credit). But alas that seems to be in error since US banks only have $11.6 trillion as liabilities not the full $40 trillion in US private debt (Where is the other $28 trillion hiding, I wonder? Even subtracting the US National debt leaves $12.4 trillion?)

    But anyway subtracting $3 trillion in US bank reserves from their $11.6 liabilities leaves $8.6 trillion in unbacked bank credit. That means that $8.6 trillion could be handed to the US population without increasing the total money supply IF the reserve req

  6. joebhed

    This post and its policy proposal of so-called monetizing the deficit crosses that threshold issue of WHAT today constitutes appropriate and feasible national monetary-economic policy. It is lain on the table.

    Yes, we have massive sovereign debt and yes we have massive unemployment. The debt-based system of money is broken.

    Let’s hope the obvious error of focus on CB independence is also turning a corner. Our national monetary policy problem is not of wrongful influence BY politics, but OF politics.

    The Benes-Kumhof paper has advanced, perhaps unintentionally, the truly revolutionary financial stability mechanism that results from government money-issuance, without issuing debt. Much praise to the courage of the authors.

    For a more modern explanation of these economic outcomes, please have a read of the recent work of Dr. Kaoru Yamaguchi
    of Japan’s Doshisha University:
    “Workings of a Public Money System of Open Macro-economics”

    Hopefully, this call for a new orthodoxy will finally bring to the fore that one SEPARATION issue that really is of profound political-economic import – that of separating the banking function from the money-creation function.
    It is what the Chicago Plan is all about.

    We NEED to divorce our success with stabilizing the real economy from the vagaries of the so-called business cycle – which is in reality a monetary expansion-contraction cycle.
    Having banks create the nation’s money by issuing debt is what causes the deeper cyclicality of normal economic activities.
    The cart is leading the horse.
    Time for change.
    Take back the money power.

    For the Money System Common.

  7. Crazy Horse

    1- Nationalize the Federal Reserve. (pick a Friday evening after the markets have closed—Labor day weekend would have been nicely symbolic.)
    2- Require mark-to market accounting for all bank, pension fund, and private hedge funds.
    3- Nationalize all the too-big-to-fail banks and quasi-bank gambling operations that will be shown to be naked by the light of day.
    4- Create a state bank in each state to administer the deposits of all public employees in the state and serve as regional central banks.
    5- Capitalize them with Constitutional American Greenbacks printed to replace fraudulent Federal Reserve private notes currently masquerading as US money.
    6- Allow private banking as a regulated utility, but restrict it to state or local operations administered by the state central bank.
    7-Distribute whatever TBTF bank assets that remain after they are shaken by the heels to the State banks.
    8-Reqire all derivatives gambling and shadow banking activity to be traded on public exchange markets.
    9-Intitute a transaction tax substantive enough to instantly render high frequency trading unprofitable.
    10-Ban for life all officers of the TBTF fail gambling cartels, Federal Reserve member banks and lobbyists for same from holding any executive position in the new banking and finance system.

    A very incomplete list but it isn’t 1000 pages long like Dodd-Frank! And after the dust had settled, I bet it would come light years closer to putting the economy back on track.

    1. F. Beard

      Way too complicated and unprincipled!


      1. Make sure bank deposits are 100% covered by reserves by:
      a. Banning further credit creation.
      b. Giving the entire adult population equal amounts of new reserves at a rate metered to just replace existing credit as it is paid off. Continue till all deposits are 100% backed by reserves.

      2. After all bank deposits are 100% backed by reserves then establish a new Postal Savings Service and warn the population that government deposit insurance will be abolished in 60 days or so. This will cause a massive run on the banks but no problem since all reserves are 100% backed.

      3. Allow the banks to create credit again but with no deposit insurance and no lender of last resort. Warn the public that depositing with the banks is a form of gambling. Buyer beware!

      1. They didn't leave me a choice

        “It can scarcely be denied that the supreme goal of all theory is to make the irreducible basic elements as simple and as few as possible without having to surrender the adequate representation of a single datum of experience.”
        -Albert Einstein

        “For every complex problem there is an answer that is clear, simple, and wrong.”
        -H. L. Mencken

          1. They didn't leave me a choice

            It wasn’t intended as either criticism OR a cheap shot, but as a warning against oversimplification.

          2. F. Beard

            Your comment is impertinent; of course the problem should not be over simplified but neither should it be over complicated either.

            And don’t forget, solutions are most often elegant. If a solution is not elegant, then it is most likely not a true solution or at least not a lasting one.

  8. steve from virginia

    “Demand, output, manufacturing activity and exports are weakening in many parts of the industrialised world.”

    Inputs are unaffordable, in addition, the credit needed to meet the higher prices is also unaffordable; double whammy, Baby! Manufacturing activity does not pay for itself, it never has. If it could it would have done so already, there would be no debts as deploying additional machines would retire them.

    “Quantitative easing policies have generally run their course …”

    They (‘They’) were never real, just cheap theatrics. There is no ‘policy’ because there must now be goods and services in exchange for goods and services rather than more empty promises of how wonderful everything will be ‘tomorrow’.

    Tomorrow will not be wonderful. Everyone will be bankrupt! Many humans will starve to death.

    “… as interest rates are at the zero bound or thereabouts.”

    Welcome to deflation-landia, where there are no solvent borrowers and no real demand for credit, where repaying loans guarantees them to expand in real terms.

    “In the Eurozone it is questionable whether the ‘one-size-fits-all’ policy interest rate approach is helpful or meaningful, or whether it can be sustained.”

    It’s not the policy that is unsustainable, it is the fake output from pet industries! All of these things are debt-dependent capital-hogs. Capital is gone, now what?

    “In those countries suffering the worst collapse in GDP, authorities are applying draconian ‘fiscal austerity’ policies.”

    Authorities aren’t doing anything but stealing whatever isn’t nailed down: the rats are abandoning the sinking ship. Austerity is appearing as a flood, creeping in under the doors and the baseboards. The credit-dependencies cannot gain (re)finance, they have nothing else to offer.

    These countries cannot be ‘competitive’ they have no goods or services to offer that can support the industrial-scale wasteful consumption enterprise. The foregoing includes the other PIIGS, France, Germany, UK, China, Japan, US … everyone.

    There is no policy adjustments that can stop or ‘slow down’ what is taking place: energy conservtion by other means. Inadvertent conservation is an economic Terminator: life imitates art, “It can’t be bargained with. It can’t be reasoned with. It doesn’t feel pity, or remorse, or fear. And it absolutely will not stop, ever, until all of your wasteful economies are dead.”

    Dead …

    Dead …


    1. F. Beard

      U be dumb. You’d let entire economies die because of mere bookkeeping entries?!

      The map is not the land!

      1. Skippy

        INPUT – OUTPUT = The Environment…. cough… the laws of the Universe are not to be trifled with.

        skippy… its a matter of how we slow down.

        1. F. Beard

          its a matter of how we slow down. Skippy

          It’s the government backed/enforced usury for stolen purchasing power cartel that drives business and the population into exponential debt that requires exponential growth to service it.

          1. Susan the other

            Sorry I missed this one yesterday. Way interesting about dissociation between demand and debt. Fix-one-harm-the-other thinking prevails. At least if your solution is austerity. I agree this is an accounting question and clearly there is a missing category, one in addition to credits and debits.

          2. F. Beard

            I agree this is an accounting question and clearly there is a missing category, one in addition to credits and debits. StO

            Yes, it’s the missing fractions of “fractional reserve lending.” My latest estimate is that $7 Trillion could be given to the population to payoff debt without changing the money supply IF a 100% reserve requirement was required for new loans and IF the $7 trillion was metered out to just replace existing credit as it is repaid.

            In addition, any MBS that the Fed owns are now a black hole as far as money is concerned so either the debt backing those MBS should be canceled or the homeowners should be given the money to pay it off.

  9. Hugh

    “policymakers need to review their beliefs and conceptual analysis”

    I agree with psychohistorian. The author still buys into much of the existing orthodoxy. But Europe, like the rest of the world’s economies, is a kleptocracy.

    In principle, I have no problem with the monetization of budget deficits, but in a kleptocracy, such a policy would simply provide a looting opportunity for the 1%.

    I do agree with the author that Europe has multiple problems which must be dealt with together. These are:

    1) Lack of a democratic fiscal and debt union
    2) Lack of an effective central bank
    3) An insolvent predatory banking system
    4) Mercantilist trade patterns within the Eurozone
    5) A corrupt political class
    6) A ruling kleptocratic class of the rich

  10. kevinearick

    capital thought it could replace labor with derivative technology in the business cycle and paid the middle class far beyond its means to participate. until the participants are replaced themselves, they will continue to see what they are paid to see, anything other than nature.

    capital at the end of the assembly line pays itself to ignore reality and dispatch middle class responders to treat the ever-growing symptoms.

    an ounce of prevention…

    nip the bud…

    the farmers most valuable asset is time tested seed.

    when was the last time you worked on “your own” car? what is the difference in man-hours per dollar, how frequently do you modify it, and what is the disposal rate?

    what exactly does pushing paper around in circles accomplish?

    where is the productive talent going to come from?

    the economy blew a motor and these guys keep going back into the junk yard to get another…adding stp and then tranny oil to pretend they have a solution…

    the people getting credit cannot make the economy go…

  11. Dan Lynch

    The author seems to have re-invented MMT.

    I don’t understand why Lambert posted this article since Lambert is already fluent in MMT ? But, if this article helps to open a few minds, more power to it.

    1. dLambert Strether Post author

      Part of MMT, sure. I’m not sure that the truth can’t be restated? Anyhow, Elisha Grey and Alexander Graham Bell, eh? And as in real estate the rule is location, location, location, in blogging the rule is often repeat, repeat, repeat…. Also, I like the concept of dissociative risk a lot.

      Adding… Check the bio. We’re not talking an insurgent outsider here. That’s interesting.

    2. joebhed

      What is needed is a re-invention of MMT.
      It is unfortunately a theory founded upon the un-reality that government creates new money when it spends.
      Here in the Richard Wood Policy Insight, the author recoognizes the NEED for a public monetary authority to authorize, and for the government to actually CREATE by spending new money into existence.
      This would be a defined quantity of new money identified for economic activity, in addition to whatever happens with the non-monetized balance of government spending.
      We’re waiting for MMT to come around and recognize the NEED for changing the money system, rather than relying on a claim that just because fiat money CAN be created by government spending – as in the Kucinich reform proposal – that money IS created whenever government spends.
      If you follow the Chicago Plan and Kucinich proposals, you avoid many of the problems of wrapping your head around nuanced reserve accounting.
      For the Money System Common.

  12. bold'un

    The unspoken problem is that the natural stabilizers of balance of payments deficits have been neutered by the Euro and various currency pegs. The only stabiliser left is lowering wages in deficit countries, which eventually brings recession, as we are so painfully aware.
    Short term balance of payments deficits can happen in any year, but chronic deficits impoverish by putting cumulative pressure on wages; I would propose that government bonds and bank deposits should be risk-free but only to domestic investors. In that way, surplus countries would be warned in advance that vendor financing represents credit risk, and that balanced trade makes more sense. If there is a financial panic, foreign creditors will be forced to sell to local investors at a discount, which will create (taxable!) windfall profits for local investors.
    To get back to growth, it must never be risky for, say, a Spanish pension fund to purchase their own goverment’s bonds. On the other hand, it is unwise for the Spanish government to constantly resort to funding from foreign investors.

    1. F. Beard

      To get back to growth, it must never be risky for, say, a Spanish pension fund to purchase their own goverment’s bonds. bold’un

      That would mean that Spain would regain its monetary sovereignty which it should. However, borrowing by a monetary sovereign is “corporate welfare” according to Professor Bill Mitchell even if it’s from pension funds.

      If pensioners need money then the monetary sovereign should just give it to them on a means tested basis. Otherwise they can live off their private investments, should they pan out.

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