Yair Listokin is a professor of law at Yale Law School and is the author of a new book titled Law and Macroeconomics. He joins the show today to talk about the book as well as some of his new work. David and Yair also discuss sovereign wealth funds, the legal limits of central banks, and how to expand fiscal policy while making it more effective.
David Beckworth: Our guest today is Yair Listokin. Yair is a professor of law at Yale Law School, and is the author of a new book titled, Law and Macroeconomics. Yair joins us today to discuss his new work. Yair, welcome to the show.
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Yair Listokin: Thanks so much for having me, David.
David Beckworth: Well, it's great to have you on. I really enjoyed your book, I learned a lot from it. And some new ideas, some of them provocative, but definitely, interesting ones. And what was really fascinating for me as I read the book is that this is a law professor writing a book about fiscal policy, about monetary policy, [a] very well-informed book. And I'm just curious, how did you get into macroeconomics? Because I know in your bio page it says you do traditional law research as well. Tax law, corporate law, contract law. So, to have a command of that, and then, have a command of macroeconomics literature was very impressive for me as a reader. So, I'm wondering, how did you get into macro?
Yair Listokin: Well, first of all, thanks. But it's unfortunately not so interesting. I have a PhD in economics, and one of my fields was macroeconomics. So, I did study it a lot way back when. And actually, when I decided to go to law school, I had thought that I was leaving macro forever. Because law and economics was very, very much a macro field. And then the Great Recession happened, and here I am writing this book.
David Beckworth: Okay. So, you have a background in it, and the Great Recession... Now, is that the experience that prompted the book? The crisis itself?
Yair Listokin: Yes, I'd say that the crisis and its aftermath. And I teach tax law, and one thing I was struck by is, in tax law, we teach a lot of economics. And it's all microeconomics. There's literally nothing in the book, in the two- or three-day intro to economics that we give, that talks about macro. And it just seemed incredibly strange to be teaching tax when there was a lot of action happening in tax, in, let's say, 2009. And all of it was macro oriented. The world I was in, had absolutely nothing to say about what was going on. So, if there was one thing that prompted the book, it was that.
David Beckworth: Very interesting. Now, I've had some other guests on the show. Morgan Ricks, he's also a law school professor. Your colleague, David Schleicher. And I would argue they are also dabbling in the area of law and macroeconomics. So, Morgan Ricks is writing about whether the Fed's balance sheet should be open to the public, kind of a legal issue. Your colleague, David Schleicher, now, he's writing more about urban economics. But he has this one angle where he brings out the implications for the optimal currency area for the United States, which we talked about on the show. Very fascinating idea. So, at least from my perspective, it seems like there's a number of lawyers dipping their toes into this area of law and macroeconomics. So, is it a burgeoning area in law?
Yair Listokin: I'd say yes, certainly, hopefully. But, I think, there's also a decent amount of evidence that it is starting to become something more widespread. And that is, I think, it is welcome, and I think it's also a response in part to the Great Recession. There was always some financial regulation in macro heading into 2007, 2008. But then afterwards, that just became much more of a core research interest. And then, people like me and David and a few others have started thinking that it's not just financial regulation. That financial regulation is very important in its linkages to macro. But it's just the tip of the iceberg, and the connection is much, much deeper than that.
David Beckworth: Yeah. Just another example along those lines, Peter Conti-Brown, who's a lawyer as well and a historian, he's writing a legal document on whether the Fed can do negative interest rates, there's a legal issue there. Also, we had Larry Ball on the show, when we talked about Lehman and its collapse. And he spent some time talking about Secretary Hank Paulson calling the shots on whether they should bail out Lehman or not. That was a legal question - does the Secretary of the Treasury have the authority to do that, or was it the Fed's authority? So, I see all these legal questions are rising, particularly in times of crisis. And what your book suggests is also, in times of recovery, more could be done there. But you have this great term, we'll get to it a little bit later: expansionary legal policy. One last question on this area, is there going to be a journal one day called Law and Macroeconomics?
Yair Listokin: Well, I can hope. But more approximately, there are a few conference volumes coming out. There will be a conference in September at Georgetown Law School with Janet Yellen and Dan Tarullo and people like that, talking about where we're headed. So, I think that's where things head now, but I think the linkages are really deep. In part because, I think that in macro, with things like currency, or tax, or regulation more broadly, the government is not a neutral third-party arbiter, like it is, let's say, in contract law or something like that, or torts, which are the traditional law and economics fields. Instead, it's a player, it's an important player. And the limits on its ability to play are often legal rather than anything else. So, if you have a gold standard, it's not that it's technologically impossible for the government to get involved in currency. It's just that there's some legal limit saying that no fiat currency allowed or something like that.
David Beckworth: Yeah. Well, this is a very interesting book. Again, I encourage our readers to get a copy of it. We'll have a link to it on our website. The book's title is Law and Macroeconomics. And you do a lot of interesting coverage of some of the issues facing macro, some of the lessons learned from the crisis. We'll get into it in a minute, some of your proposals. But I was just really impressed that in addition to your proposals for the law in macro area, you also had proposals for fiscal policy that I hadn't seen before. So, it's a very well-researched, well-written book. So again, I encourage our listeners to get into it. Let's go back to the motivation for your book. And that was the Great Recession, as you mentioned. And you have several chapters where you talk about the limits of the traditional approaches or tools to it, monetary policy and fiscal policy. Tell our listeners about those.
Yair Listokin: So, monetary policy, I think, your listeners will be pretty familiar with the zero lower bound as a limitation on conventional monetary stimulus, currency areas where the macroeconomies of different parts of the currency area are not in sync. Or, another good example where, monetary policy is quite limited or currency pegs, things like that. And so, that's on the monetary side. And of course, there's unconventional monetary policy. But once we're into unconventional monetary policy, first of all, we're often pushing pretty hard on legal limits. And for the best example, I think, go to, like quantitative easing by the European Central Bank. It is deeply problematic, according to the Lisbon Treaty, which limits monetary financing. I talk about in the book, I don't think it's necessarily unconstitutional for them to be buying a lot of bonds, if you take an expansive reading of that treaty. But it's at the very, very least pushing hard on the limits. And there is all sorts of good reasons why we don't want to just keep pushing harder and harder and harder.
I argue in the book that, when people are talking about helicopter money, it's time to think, maybe we should think about other options. And that would be highly, legally problematic, and it's also just sort of putting too many eggs in one basket.
David Beckworth: Yeah, you mentioned Paul Tucker's book in your discussion, which we had him on the show recently, which is another concern. May not be necessarily a legal concern, but more of a maybe, a concern about too much power being given to the central bank. So, that just compounds the problem you've already mentioned.
Yair Listokin: Yes. And I think with Paul's book, like often we take these concerns about unelected power and we incorporate them into law. So, the reason there are these legal limits, one of the reasons why there are these legal limits on central banks is exactly what Paul is talking about. And that's the way you turn those fears into something real and tangible.
David Beckworth: Okay. What about fiscal policy?
Yair Listokin: Fiscal policy. So, fiscal policy, we saw in the crisis, all the various limitations on fiscal policy. First of all, automatic fiscal policy, I'd say, worked relatively well in places where it was allowed to operate unconstrained. So, automatic fiscal policy, tax revenues went way down in the U.S. Government spending went up, and we saw a pretty high deficit throughout the OECD. But there are lots of places where fiscal policy is limited. In some places because they have no access to finance. So, I'm thinking of Greece here. And then, in other places because there's constitutional limitations. So, in U.S. states, for example, it's well-known that U.S. states were cutting back on all sorts of spending in order to balance their budget because they have to balance their budget. And there are some loopholes, but it's a relatively tough constraint. And in the EU, there's the [Stability and Growth Pact], which is not as tough as state-balanced budget restrictions, but it's still quite a restriction.
And then, on top of that, there's just gridlock. There's political gridlock. It's hard to pass discretionary fiscal stimulus or discretionary fiscal contraction. And so, we see it often doesn't happen. So, I think, it behooves us to think of other options.
David Beckworth: Yeah. And you had a neat discussion about the fact, at least it appears to be, that shovel-ready projects really aren't shovel-ready. That, it is very difficult, even with best intentions, with pure motives, it is very hard to do shovel-ready projects.
Yair Listokin: Yes. And that's not my opinion, that's President Obama's, two years after enacting shovel-ready projects. But I argue in the book that it's not enough to appropriate the money for a shovel-ready project. That's a critical first step. But, even, once that's been done, we've created a whole legal and regulatory infrastructure governing spending, that moves very, very slowly. And indeed, the shovel-ready projects were attached to them, where even some additional requirements on things like prevailing wages and government procurement and things like that. And so, before the money could ever be spent, those regulations have to be finalized and formulated. And in ordinary times, I'm not making a generalized statement about whether those things are good or bad, but I can say that their costs are much higher when you're trying to spend the money quickly than when, and you're nowhere near full employment, than, at times when the economy is kind of motoring along.
So, I say, it was ironic that on the one hand we're appropriating money for shovel-ready projects and then attaching all sorts of legal and regulatory conditions to them that make the projects functionally no longer shovel-ready.
David Beckworth: Yeah. Now, you give some proposals in chapter six and seven, to improve fiscal policy, which was interesting. Again, your main argument is about expansionary legal policy, but you had some very fascinating suggestions to make fiscal policy more effective, and I thought it'd be worth going over them. So, I'm going to list them out, and as I list them, you just maybe describe what they are. So, the first one you mentioned is to teach lawyers some macroeconomics.
Yair Listokin: Can I just interject for a second here. Before we get there, I think, in an earlier chapter, I talk a lot about ways to make automatic fiscal policy more stabilizing. And I think that those are... when you look with a lawyer's eye, lawyers are into the details of tax and spending programs. I think, you start finding things that were not intended from a macroeconomic perspective, that end up having potentially pernicious effects. So, I give a couple. One, for example, is, I argue that tax expenditures, the vast majority of tax expenditures are procyclical, they're automatically destabilizing. And the way that goes is with, let's take the biggest tax expenditure, which is the exclusion from income of employer-provided health insurance. So, the government is functionally subsidizing health insurance provided through employers. It could subsidize health care directly, it could just spend, it could provide health care directly. But instead, it does it via the tax system through this exclusion. This is a 200-plus billion dollar annual cost to the fiscal, and growing every year.
Well, it's correlated with employment. When employment goes down, fewer people are eligible for the exclusion. And the functional government spending on subsidizing healthcare goes down when employment goes down. And then goes up when employment recovers in the subsequent recovery. And we couldn't imagine a government direct spending program, that would say, "We're going to spend a lot in good times on health care, but we're really going to cut back in the bust." And indeed, the only time in the last 40 years, where the estimated revenue cost of employer provided health insurance or the tax expenditure for employer provided health insurance, the only time that went down, was in 2009. So, we have like a 40-year history of this going up every year by a substantial amount. And then, in the one year where we like government spending more, it has the perverse property of costing less.
So, I argue that that's an unremarked upon cost of tax expenditures, their undesirable macro properties. So, that's one example.
David Beckworth: That was very interesting, I read your book, I hadn't noticed that before. That these expenditures or subsidies are procyclical often. So, you mentioned health care, so the government subsidy to health care. But what about state income tax? I want you talk about that briefly as well.
Yair Listokin: So, state income taxes work similarly. State income taxes are higher in boom times and lower in bust. They continue to benefit from a tax expenditure, they're excludable from income up to $10,000. It used to be, before Tax Cuts and Jobs Act [of 2017], that the deduction was unlimited. So, what that means is that when state income taxes are highest in booms, the government is subsidizing state expenditures the most. And then, in the bust, when state income tax payments go down, less is being deducted. So, it costs the federal fisc less. And of course, in the bust, there's less functional government spending on subsidizing state revenues and/or state income tax payers. And again, if we were designing a direct spending program, it's highly unlikely that we would design it in that way.
David Beckworth: Yes, this is really bizarre that the federal government, through these particular programs, these tax expenditure subsidy programs, effectively, is adding procyclical pressures to the business cycle. It's pushing, it's making the boom greater, and it's making the bust greater at least with these programs. Now, there's the other things we've talked about that lead to the big deficits during the recessions. But these particular programs, it's interesting you point them out, this characteristic that they have.
Yair Listokin: And they're equal to... their estimated cost is higher than non-defense government spending, for example. So, it is not empirically insignificant.
David Beckworth: Okay. Alright, let's get back to the reforms that you propose, to make fiscal policy more effective. And the first one is a simple one, and it is, teach lawyers some macroeconomics. So, why is that so important?
Yair Listokin: I think there's a really practical thing, which is that a disproportionate number of politicians are trained as lawyers, half of the senators or more in the U.S. More than half of our presidents have been lawyers. And in their last round of training in law school, they learn a lot of economics, and it's all microeconomics. So, if they're a legislator and someone says, "We need to cut taxes, because, we need to stimulate the economy for macroeconomic reasons." They haven't heard about this. They've learned a lot of economics, but not this economics. So, I'm not saying that they're going to remember all the details of what they learned, but just the idea that you might ever want to do this. Or might want to emphasize repaying deficits in the booms is just something they've never heard. And I think we can expect people who have never heard something to be a little more skeptical when the experts tell them to do something.
David Beckworth: Yeah, especially if it sounds radical, like QE or bailing out big banks. This understanding the basic ideas of counter-cyclical policy might be a start. It's, I think, what you're making here.
Yair Listokin: Yes. What QE is, or what monetary policy does. It's sort of a black box. Barney Frank famously said after meeting Bernanke in the crisis that he was shocked at how much resources Bernanke had. And Barney Frank was about a sophisticated a congressman about monetary policy as you're going to have. So, it would be better for everyone to be a little more familiar with what's going on.
David Beckworth: Okay. Well, let's move to the second proposal you have, and that is the abolition of constitutional deficit restrictions and a move toward balanced budgets over the business cycle.
Yair Listokin: Yes. So, I think that the idea states are right now a procyclical force, right? They really cut back, they're spending in investment in busts. And then, spend a lot in booms, and they thus amplify the cycle when we'd like government pushing against the wind. And I think that that's undesirable. I think that there are reasons, of course, why we have these restrictions. We're afraid of spendthrift politicians. So, the hope would be that by saying, not getting rid of it entirely. But instead saying there needs to be balanced budgets over the cycle. So, in a bust, the state would be allowed to run a substantial deficit. But then, in a boom, they actually have to be running a surplus. There we get more counter-cyclicality without losing all of the restrictions on fiscal policymakers that these deficit restrictions impose.
David Beckworth: I wonder how easy that would be for states to do that. Do you have any thoughts?
Yair Listokin: It certainly would not be easy. But I want to point out that they're already playing fast and loose with the rules in a way. So, I'm thinking now of unfunded pension deficits.
David Beckworth: That's a good point.
Yair Listokin: They find an off-balance sheet way to play fast and loose with the rules. And I think it might be better to explicitly discuss this type of thing, incorporated in a framework. There are many places that estimate natural rates of unemployment - that's not an impossible thing for people to do. I do imagine it would be leaky, but I think, for example, saying you should be running a surplus now would be binding in booms, now, for example. And I think it would be harder to finagle. So, I think, it would be harder to enforce than the current restrictions, but we shouldn't exaggerate how easy it is to enforce the current restrictions, nor should we exaggerate how hard it would be to adjust with the cycle.
David Beckworth: That's a fair point. Okay, number three, you propose rules-based instruments for fiscal stabilization.
Yair Listokin: Yes. I think in an ideal world we could have fiscal policy that is more counter-cyclical than it already is. And the idea would be to build in rules into tax and spending that adjust with the cycle. So, we already have an example with unemployment rates. If the local unemployment rate is 120 percent or more of some moving average, then unemployment benefits become more generous. So, that is, unemployment insurance responding more to the business cycle than it otherwise would. Something like that could be expanded to do more in terms of tax and spend. We can imagine tax rates being sensitive to that sort of thing in an extreme. And that would be Congress still controlling, it would make some of discretionary fiscal policy or discretionary tax policy more automatic. You wouldn't have to pass a new law to lower taxes in a bust, or raise taxes in a boom.
David Beckworth: So, this would be a systematic way of maybe increasing the automatic stabilizers, for example, like payroll tax cuts. Maybe make them tied automatically to rate of unemployment or something along those lines.
Yair Listokin: Exactly, something along those lines. This would be messy, because it's very hard to design a measure that is appropriately sensitive, that does all that we want. But I still think it is worth pursuing. And probably it doesn't have to be 120 percent of a moving average of unemployment. Let's say we made it 180 percent or 200 percent, then I think it'd be hard to imagine we're not in a recession if unemployment is twice what it had been sometime earlier or something like that.
David Beckworth: I think this proposal probably would have the most support on both sides of the aisle because it's rules-based. You know ahead of time what to expect, and that way, you're not making it up as you go along. I think that's one of the criticisms of what did happen during the Great Recession. So, I think this would have a lot of legs underneath it to move forward. Let's go to the next one: fiscal stabilization agency. Tell us about that.
Yair Listokin: Yes. This is not my idea. So, a number of people have suggested it going way back. I think, Brookings was into this in the '60s and '70s. And I know that Hines and Logue at Michigan have discussed this more recently. And the idea is to have a Fed for fiscal policy. That they wouldn't be determining the sort of average level of tax and spend. But they would have the ability to lower taxes and raise spending in busts, and raise taxes and lower spending in booms.
David Beckworth: Okay. Now, you do say in your book, you're not very hopeful about such an agency. Is that fair?
Yair Listokin: Yes, I kind of like the idea, but the problem [is] it vests incredible power in another unelected agency. It's recreating the problem of quantitative easing or helicopter money, but in a different agency. While there are benefits to having things in more than one agency, so the power is not as concentrated, it still would become this inordinately powerful agency that... I'm somewhat skeptical about it. If there were strong consensus in favor of it, I'd be happy to get on board, but I'm just skeptical.
David Beckworth: Well, how about this as a version of that? Maybe, a watered-down version. But there has been talk about developing a sovereign wealth fund for the United States. Some countries like Norway have sovereign wealth funds, which is funded by their main resource, which is oil. And so, there was talk about, at least maybe the few years after the crisis, about having a sovereign wealth fund funded by more treasury issuance. And by that I mean our comparative advantage, as we've talked about on the show, is issuing debt. The world wants to hold our debt, we have the safe asset shortage problem. And so, to the extent there's more capacity left. There have been proposals to issue more debt, fund the sovereign wealth fund. Maybe invest in the more riskier assets and generate some kind of payout for citizens. Any thoughts along those lines.
Yair Listokin: So, I think that, that would be ripe for fiscal stabilization, that sovereign wealth fund. We can imagine borrowing more or less, or sending dividends that are more or less based on the business cycle, and that would have some of these counter-cyclical qualities that we're thinking about. The flip side is, of course, we run into these political considerations. Who is managing the sovereign wealth fund? How do they pick where they invest? How do they decide on the dividends? I'm not saying that these are totally destructive, but again, we're getting concentrated power in the administrative state. So, if you're afraid about that in place A, we can understand why someone would be concerned about that in this other place as well. But broadly speaking, it would be another way of doing this. Or we can imagine a sovereign wealth fund that, yes, as I said earlier, that just issues more or less debt as needed.
David Beckworth: One concern that I have about a sovereign wealth fund would be that it would be a price maker. It would be big and influential and would determine prices in many asset markets. And so, I think that's a concern that many people would have and have to get over, even though the idea on paper sounds nice. Well, let's move to, I believe, the last one, and that is a regulatory fiscal stimulus. And this gets into your expansionary legal policy, but it's a little bit distinct. Can you give the example of the IRS? Can you walk us through that?
Yair Listokin: Yes, and this is especially relevant now. Where the IRS now has considerable discretion over how much tax it withholds from each paycheck. So, the idea would be that, let's say, in the Great Recession in 2009, the IRS would withhold less. Putting more money in each person's pocket through the year, and sending less of a refund check. And refund checks are probably more likely to be saved than general checks because it's a one-time windfall. So, that would, number one, bring spending earlier. And number two, potentially just increase spending absolutely. And then, in boom times, the IRS could move withholding other way, encouraging people to save by raising withholding rates. So, that's an example that is certainly now clearly within the IRS's discretion. They had less discretion before 2017, but still a non-trivial amount. And it's within the legitimate discretion of the agency, but they can affect aggregate demand, in tune with the cycle without exceeding their authority, or without needing any legislative approval.
David Beckworth: Yeah, those are all very interesting proposals. So, again, I was pleasantly surprised to read this book and see this list of interesting ideas for reforming fiscal policy, making it more effective at the zero lower bound. And that's the broader context here, is that, the zero lower bound, conventional monetary policy seems limited, although unconventional. There's possibilities down that path, but it's a mixed bag, because, it comes with more power, more concentration, bigger balance sheets for the Fed. Fiscal policies have these challenges as well, as we've discussed. So, you've had some good suggestions. But now, let's move to the heart of your book. That's part two, and this is the phrase: expansionary legal policy. And you have this sentence I want to read from page five in your book. And you say, "If the goals of taxing and spending includes stimulus, the zero lower bound, then, so to should be the goals of law, which is often a substitute for fiscal policy." So, flush that out for me, what do you mean by expansionary legal policy?
Yair Listokin: I mean that law and regulation should consider the state of the business cycle when things are bad enough, and in addition to all the other goals of law. Let's say we're at the zero lower bound, unemployment incredibly high, fiscal policy is restricted for any one of a million reasons. I would ask a regulator to think, "How is my decision going to affect spending?" And if it's going to increase spending, then the decision becomes more attractive at the zero lower bound. And if it's going to decrease spending, then the decision becomes less attractive.
David Beckworth: Okay, and you suggest this in limited circumstances, you're not just opening the spigot for any time anywhere, but at zero lower bound environments. Is that fair?
Yair Listokin: Yes, zero lower bound environments, and we can talk about now or later. There were all sorts of concerns about this.
David Beckworth: All right, let's move to some examples where this has been done historically, and then we can talk about maybe some future applications. Let's talk about the recent example, and that's the Keystone pipeline.
Yair Listokin: So, Keystone. I argue that the case for Keystone was stronger in 2009 and '10 than it was in 2006, when it was first proposed, or it is today. And the idea being pretty simply that it was a private stimulus. Keystone, if built, would have engendered many thousands of construction jobs. It was a project in tens of billions from the private sector, at a time when we were desperately seeking private sector projects or public sector projects of that size. And by denying it in 2010, I argue that there's a sense in which the Obama administration imposed infinite tax on that form of economic activity. And at that time, that would be a time for lowering taxes or lowering regulations as an analog to taxes and allowing Keystone to go forward. Now, I don't think that it should be the only concern. Obviously, if something is bad enough for the environment, we shouldn't let it happen, even if unemployment is really, really high. But the argument is that, the case for something like Keystone was stronger in 2010, when it was up for debate and ultimately rejected. So, that's the argument in a nutshell.
David Beckworth: So, the idea is, you're tweaking the regulatory burden for doing some kind of projects. You're lowering it during a recession. During the boom, you raise it. And this brings to my mind, at least, the difference between, say, China today and the US. I had my boss on the show a while back, Tyler Cowen, and we were talking about how in China they can build whole cities in a short period... where they tear everything down quickly, build things up quickly. And he was pointing out, we probably could not build another Hoover Dam today in the United States because of all the regulatory challenges. You're suggesting we should lower those regulatory burdens if we were in a very severe recession?
Yair Listokin: Yes, that's exactly what I'm suggesting. That we could get a stimulus package via the private sector this way, and China does exactly this. When they wanted to stimulate in 2008 and 2009, it wasn't just a matter of public spending - the whole system responded. But one thing I just want to point out is that it's not always deregulatory. And so, regulatory mandates, for example, might be countercyclical. And here I'm thinking of something like pollution scrubbers or something like that. Or energy efficiency mandates. We can imagine that, that if all buildings had to meet a heightened energy efficiency standard in 2010, for example, then that might have encouraged a lot of spending on energy efficiency in the construction sector. So, that type of thing is equivalent to a tax and a spending program. So, if we imagine that some of that money might have been saved otherwise, then higher regulation, if it's combined with spending, can also stimulate the economy.
David Beckworth: Okay. And you give some other examples from the Great Depression. I want to move though, for the sake of time, I want to move to the 1970s. I'll encourage listeners to look at the Great Depression examples. But tell us about how this thinking would apply to the wage and price controls of the 1970s.
Yair Listokin: Yes. First of all, I want to point out that while in the Great Recession, I don't think anyone considered law a primary response to our macroeconomic economic troubles. This is a relatively recent development. That in the '70s, when we had a macroeconomic problem, namely the Great Inflation, our first line of defense was law. And now, I think that law was a failure in the '70s. So, price controls did not work. And in general, I argue that, and this has to do with the asymmetry in the efficacy of monetary policy on the contractionary side and the stimulus side. I think that, there's almost no case ever for contractionary legal policy. Because monetary policy can do the job. So, unless you have a very strong case why monetary policy is inappropriate, for example, you're in a currency union and things aren't going right. But short of that, there's no place for contractionary monetary policy like we tried in the '70s with wage and price controls. I think that is much better controlled with monetary policy.
I'll just add one thing, that I do think that wage and price controls may be temporarily helpful if you've credibly changed your monetary policy regime and you're trying to end an inflation. So, I think the Volcker disinflation might have been a little cheaper if it had been combined with some price controls. But price controls, in and of themselves, are not the answer. We needed the tight monetary policy in order to end inflation. But maybe we could have lowered the sacrifice ratio a little bit by imposing wage and price controls. And many countries that have ended hyperinflation successfully use some temporary price controls to help do that.
David Beckworth: Yeah, I bring this up because you did present a neat hypothetical discussion where you could have applied this thinking to Greece. So, the scenario you outline, as I understand it, is, the government of Greece could have said in 2010, "We're going to redenominate all contracts, lower wages, prices, mortgages, everything by say, 10 percent." So, effectively, a foreign price control, but everything is going to go down. Because what Greece needed during that time was some form of devaluation, whether it was through the exchange rate, which they couldn't control anymore, because of on the euro, or through deflation internally. And your solution is, "Let us do it by law." Is that right?
Yair Listokin: Yes, exactly. Or more generally, the question that I argue that Greece should have asked, Greece in conjunction with the European Stability Mechanism, et cetera, et cetera, would be to ask like, "What are the set of legal changes and price controls and debt alterations can we pass that will best mimic a currency devaluation?" And I argue that, with price controls and things like that, we could have gotten a good part of the way there. I don't want to pretend that it would have been pleasant, and devaluations are not pleasant - they're actually deeply unpleasant. There would have needed to have been some support for the banking sector and things like that. But with that said, I think it would have led to a much shorter recession if Greek labor and Greek goods and services had become more competitive in one swoop rather than going through this very painful process of just natural wage and price deflation, which takes many, many years and poses a great deal with pain.
David Beckworth: Yeah, that's a very intriguing idea, because that is what has to happen. You have to have prices adjust, but they can be very slow and sticky, and that can take time. I'm wondering, are there any examples or anyone who has done something like this?
Yair Listokin: I'm much more familiar with wage and price controls on trying to prevent inflation. I don't have a great example going the other way, but that doesn't mean that it could not work. It just means it hasn't tried.
David Beckworth: Yeah, very fascinating idea, and it makes a lot of sense economically. So, maybe in the future someone might try it. Okay, let's talk about future uses of expansionary legal policy. Where would we see it used?
Yair Listokin: One of my favorite examples is in utility regulation. The argument here is that the way utility prices currently work, it's a regulated price, it's a government-controlled price. And to a first approximation, utilities are guaranteed a rate of return. So, what typically happens or what has happened in the last couple of recessions is that electricity demand, natural gas demand, any utility you can think of, demand goes down in recessions. Because fixed cost for utilities tend to be very high, their rates of return go down. What they generally do is, they request rate increases, because they're not making their customary, their fair and reasonable rate of return. And they receive it. So, utility prices have gone up significantly in the last two recessions - this is retail utility prices. While, like wholesale electricity prices, for example, went way down in the Great Recession. So, you have this real asymmetry, with wholesale electricity prices going down in the Great Recession, and at least in the markets that I've looked at, and retail electricity prices, for example, going up.
I argue that that is destabilizing. What that functions as - and remember that utility expenses are really concentrated amongst the poor. Everyone has to pay utilities, and if you are in, let's say, the bottom third of the population, there are much bigger deal, certainly, than income taxes. But even in taxes in general. And then, for the rich, they spend more on utilities but nowhere near proportionally. So, what we get is, in the Great Recession, we have the functional equivalent of a tax increase on utility consumers in order to guarantee utility investors a particular return. And I argue that, from a macroeconomic perspective, I think that's crazy. I think that, rather than shifting recession risk from utility consumers to utility investors, we're better off doing the opposite. To have utility investors who we know have access to capital by definition. They're better able to bear the risk.
So, the idea would be that, let's say a Great Recession happens again, the utility regulators hold down prices. And then, now, of course, they can't just hold down prices indefinitely - utility investors need to earn their cost of capital. So, what that would mean is that the regulators would have to allow extraordinary rates in the subsequent recovery. And so, this would shift recession risk from consumers to investors, and I argue that, that's a very good thing from a business cycle perspective. And so, that's that in a long nutshell.
David Beckworth: No, that's very interesting, and you give some other examples. Question I have is, let's say we agree to proceed with this recommendation, and there'd be a number of regulatory applications where you could do this. You could be countercyclical in your use of regulatory policy. How do you coordinate all the regulatory authorities and bodies to make sure they're doing it in a constructive manner?
Yair Listokin: Yeah. This is a concern. First, I want to say, there can be advantages to this. One advantage may be, if I am a state, right now, I have very little scope to adjust macroeconomic policy if my state is not really in sync with everyone else. And things like this do provide scope. If things are really bad, in my place, I have some ability to tailor my policy to this. So, that's one. I don't want to exaggerate that, but that is, there's some virtue in addition to the coordination problem. The second question is, one problem with non-coordination might be that we get too much of this. We get too much stimulus, let's say. I'll worry about that when I see it is one concern. I think there may be a worry that there's too much of a free rider problem. So, for example, let's say, one state lowers or one region lowers its utility prices. And some of the uptick in spending is enjoyed by consumers or by workers in another state that hasn't done that. So, I think that's a concern.
I point out that, that is a natural force limiting the... that means that there are spillovers. That doesn't mean that it would never happen, it just means that it would happen less than we might otherwise imagine. So that reduces my fear that the cumulative effect will be too much. So, I am concerned that it will be hard to coordinate. One thing I like about utility regulation is that regulators have pretty good access to expertise. Often, they're reasonably sophisticated, and they can ask, they can hire. The Fed or other macroeconomic agencies can be indicating where things are. So, it would be reasonably well informed, even if not quite at the level of the Fed.
David Beckworth: Okay. That's a fair point. I like your point about regional differences. You could tweak on the margin in a distressed region and use that maybe to ease some of the pressure, which, I hadn't thought about that, that's a great point. Alright, any other applications you want to share? Like, a specific example of where you might use expansionary legal policy?
Yair Listokin: Well, another example that may be familiar to your readers would be in bankruptcy law. This is echoing Mian and Sufi, and Geanakoplos for example, who are often pro-debt relief on the downside of the credit cycle. The argument in the book is that, they're totally focused on legislative change. And I think, for really large-scale debt relief, we would need it. But judges have an awful lot of discretion. And if we started saying that the business cycle is a legitimate concern of bankruptcy judges, then they would have the ability to effectively adjust for the cycle a bit themselves, without having to engage in massive legislative changes. So, that's one example.
And then, another example that I like a lot has to do with the construction sector. So, the construction sector is famously procyclical. It tends to really boom in good times, and then, after the Great Recession, it plummeted. I argue that countercyclical zoning regulations, for example, could combat that. So, [the] idea would be, you tell developers that, "If you build your building in 2009, 2010, 2011, we'll let you build an extra X percent, in terms of square feet or wherever. And I imagine that, that would be one incentive for builders to go forward, at a time when finance is really hard. And you might even be able to get it through, because politically those construction workers, if they came to the zoning board meetings and things like that, there are unemployed construction workers who would be coming. Right now, you can always bring construction workers to the zoning board meetings today. But they're usually employed. So, the heads of the zoning boards are less sympathetic than they might otherwise be.
David Beckworth: Very interesting. Going back to your bankruptcy example, where the judge would use some discretion. I think this goes back to your suggestion earlier that we talked about, that law school needs to teach macroeconomics. So, the judge knows when to use that discretion wisely.
Yair Listokin: Yes, emphatically. The big concern with all of this is that if we're not teaching any of it, how will anyone have any idea. Although, I think things like the Great Recession are overwhelming enough that even people inexperienced in the field have some idea that something is going on.
David Beckworth: Right. They're aware that something's wrong, and I think that's one of the reasons we've had populism and some other issues in this country since then.
Yair Listokin: And that broadly brings up a point that I make, that I realize, and we actually haven't had too much time to go over the various problems with this, that it creates more discretion in law. That it might reduce certainty about law. All these things, I think, are true. Just the question becomes, what is the alternative? And if we had a good solution, I wouldn't be writing this book. We don't have a good solution. I think this is worth considering. It's true that it might make law a little noisier. But if we can make the economy less noisy, I think, aggregate uncertainty would actually go down rather than up. So, that's, again, there are a lot of not-so-good options. We need to consider all of them for those cases where some of the obvious candidates aren't doing their job.
David Beckworth: Well, Yair, that sounds like your PhD coming out there. You're talking about tradeoffs, you're being an economist there. So, where the lawyers would be, "No, let's stick to the principles, the rules. Let's be rigid," I'm seeing the economist come out in that last point you just made.
Yair Listokin: No, emphatically. And I should say that, law and economics in general see law as an instrument of policy. And is always involved in tradeoffs and takes things like text quite seriously. There are all sorts of policy reasons to want to take text and law quite seriously. But again, there's tradeoffs with other things. It's not some absolute metaphysical value in taking text seriously. We do that because there are lots of good reasons to do it.
David Beckworth: Right, right. That's fair. One last question, our time is about up. But one of the things I wrestle with is that no matter how innovative the new tool or approach is, one thing we've run up against is the Fed's desire to keep inflation low. So, for example, what if the Fed had tried negative interest rates? What if they had done more QE? What if they had done this or that? Or, some of the fiscal policy suggestions you had suggested? Or even your expansionary legal policy? Let's say they worked. Let's say they stimulated aggregate demand and the economy starts growing faster, and then, inflation picks up. The Fed steps in and hits the brakes. And I'm thinking of, in a concrete way, President Trump's tax cut, right? So, it's stimulated the economy, and the Fed has been in the last December, raised interest rates. It's now looking like a mistake by many observers.
Notwithstanding Trump's criticisms, many people would agree that, that probably was a mistake. Their desire to get ahead of the inflation surge, which has not happened. I wonder what you think about that. I mean, you have your policies and then what the Fed might do in response to them.
Yair Listokin: Yes. So, that is something for the Fed, that we can't control the Fed. I am really thinking most about places where the Fed would like to stimulate but cannot.
David Beckworth: Okay, that's true. Zero lower bound, going back to -
Yair Listokin: Zero lower bound.
David Beckworth: Fair point.
Yair Listokin: So, I'm less afraid of offset now. On the back end, is there a concern that the Fed might start pushing back too quickly? Yes. But I view that as that's a monetary policy question at that point. And I think there's a monetary policy answer to that.
David Beckworth: Right. That's a fair point. Because you're grounded, and this whole book is premised on the zero lower bound environment.
Yair Listokin: Or, like a currency union.
David Beckworth: Or, a currency union.
Yair Listokin: Something like that.
David Beckworth: Okay, fair enough. Well, our time is up, our guest today has been Yair Listokin. Yair, thanks for coming on the show.
Yair Listokin: David, thanks so much for having me. This is great fun.
David Beckworth: Macro Musings is produced by the Mercatus Center at George Mason University. Thanks for listening.
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