Comments on: The NYT Should Have Paid More Attention to the Nordhaus Estimates Before the Iraq War http://content.ksg.harvard.edu/blog/jeff_frankels_weblog/2008/03/19/the-nyt-should-have-paid-more-attention-to-the-nordhaus-estimates-before-the-iraq-war/ Views on the Economy and the World Mon, 13 Oct 2008 09:28:40 +0000 http://wordpress.org/?v=2.5.1 By: jfrankel http://content.ksg.harvard.edu/blog/jeff_frankels_weblog/2008/03/19/the-nyt-should-have-paid-more-attention-to-the-nordhaus-estimates-before-the-iraq-war/#comment-364 jfrankel Fri, 11 Apr 2008 10:57:36 +0000 http://content.ksg.harvard.edu/blog/jeff_frankels_weblog/2008/03/19/the-nyt-should-have-paid-more-attention-to-the-nordhaus-estimates-before-the-iraq-war/#comment-364 This comment of course applies to my earlier post on commodity prices. The question is reasonable. But the answer is, no, there is nothing circular about the reasoning. It's true that real interest rates and real commodity prices, and also nominal interest rates and nominal commodity prices, are all determined simultaneously. Causality flows in every direction. But that is what we have algebra for. (It's nice that all that math in economic theories is good for something.) We solve simultaneous equations to get the equilibrium price. The outcome is that when there is an exogenous easing of monetary policy, real interest rates and real commodity prices both go down. The relevant math is in the paper I cited, from the American Journal of Agricultural Economics. I hope that helps. This comment of course applies to my earlier post on commodity prices.

The question is reasonable. But the answer is, no, there is nothing circular about the reasoning. It’s true that real interest rates and real commodity prices, and also nominal interest rates and nominal commodity prices, are all determined simultaneously. Causality flows in every direction. But that is what we have algebra for. (It’s nice that all that math in economic theories is good for something.) We solve simultaneous equations to get the equilibrium price. The outcome is that when there is an exogenous easing of monetary policy, real interest rates and real commodity prices both go down. The relevant math is in the paper I cited, from the American Journal of Agricultural Economics.

I hope that helps.

]]> By: Colin http://content.ksg.harvard.edu/blog/jeff_frankels_weblog/2008/03/19/the-nyt-should-have-paid-more-attention-to-the-nordhaus-estimates-before-the-iraq-war/#comment-207 Colin Thu, 20 Mar 2008 03:51:51 +0000 http://content.ksg.harvard.edu/blog/jeff_frankels_weblog/2008/03/19/the-nyt-should-have-paid-more-attention-to-the-nordhaus-estimates-before-the-iraq-war/#comment-207 Isn't your reasoning re real rates and commodity prices possibly somewhat circular? Surely...if, for example, commodity prices quintupled in general (as oil has in particular) would not one would expect this development to result in a significant increase in the CPI...which then (by definition) results in lower real rates...unless and until nominal interest rates adjust upward to restore the original real yield? If so.. then commodity prices increases and real rate decreases are, in fact two "aspects" of the same event.. at least for a time. Moreover...isn't the notion of real commodity prices a bit tricky....when the index used to discount them (CPI of some sort) is at times very likely to reflect principally movements in the commodity prices themselves? Thank you for any help clarification or insight you can offer on these questions. Isn’t your reasoning re real rates and commodity prices possibly somewhat circular? Surely…if, for example, commodity prices quintupled in general (as oil has in particular) would not one would expect this development to result in a significant increase in the CPI…which then (by definition) results in lower real rates…unless and until nominal interest rates adjust upward to restore the original real yield? If so.. then commodity prices increases and real rate decreases are, in fact two “aspects” of the same event.. at least for a time. Moreover…isn’t the notion of real commodity prices a bit tricky….when the index used to discount them (CPI of some sort) is at times very likely to reflect principally movements in the commodity prices themselves?

Thank you for any help clarification or insight you can offer on these questions.

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