Monday, March 30, 2009

A Child in a Man's Body: An Austrian Looks at the Economics of Paul Krugman

Nobel Laureate in Economics Paul Krugman delivered an address to a packed hall of (mostly) admirers on the University of Iowa campus last week, giving his explanation for our current economic problems and the steps he thinks should be taken to restore prosperity. His was an excellent example of the importance of economic theory in any attempt to fathom the underlying causes of something so complex as economic life. Krugman proclaimed himself an admirer of the writings and teaching of John Maynard Keynes. Those readers familiar with economic schools of thought will find nothing new in Krugman’s views. Nevertheless, I was shocked at some of his interpretations of economic history and felt that the audience, mostly fawning Big Government fans, was somewhat uneasy with his views, especially during his question and answer period. Perhaps becoming a Nobel Laureate leads one to believe that one’s views would be accepted uncritically. If there were one word that I would use to describe Krugman’s speech, it would be "childish".

Take, for example, Krugman’s answer to a question from the audience about the threat of trade protectionist measures among the world’s major trading nations. It was obvious that the questioner was concerned that the nations of the world continue to advocate free trade and not repeat the disastrous tit-for-tat protectionist measures that exacerbated the Great Depression. At first Krugman reassured the audience that, although there were a few calls for protectionist policies, these were not likely to be implemented. Good! But then he said that it was a myth that trade barriers had had much effect on causing and prolonging the Great Depression of the 1930s! He followed this bomb by claiming that it was the failure to repeal them that was the big problem. Huh? This makes no sense. If trade protection had little to do with the Great Depression, why should the failure to repeal these measures be a problem? But the Great Man had spoken and we all must nod our heads in agreement, apparently.

This was just one of Krugman’s inconsistencies. Again, a thoughtful question from the audience exposed a fundamental error in his thinking. (Since he had been reading his speech, one must conclude that he had given much thought to the passage that prompted this question. I happen to agree with Krugman’s analysis of this point, by the way, but not his proscription for future policy.) Krugman had said that the Greenspan Fed had been too activist in slashing interest rates whenever the economy showed any signs of weakening. He claimed that the downturn after the Savings and Loan Crisis of 1991 and the Dot-Com bust of 2001 should have been allowed to run their course and allow for the necessary corrections to an essentially weak American economy. By reflating the economy so quickly Greenspan’s Fed had indeed moderated each recession, but each intervention perpetuated and broadened the weaknesses, which showed up a few years later. Greenspan’s early and vigorous lowering of rates short-circuited a necessary process through which inflated economies must eventually pass. Had Greenspan not intervened as aggressively, the American economy would be in much better shape today. I was shocked to hear this essentially Austrian interpretation of events from a man who proclaimed Keynes as his idol!

The subsequent question from the audience exposed Krugman’s inconsistency, for the Great Man had told us earlier in his speech that the government should spend massively, since the people were hoarding their stimulus check money and the banks could find few worthy borrowers with their bailout funds. The audience member pointed out that since Krugman claimed that previous interventions had made our current situation worse, shouldn’t the proper government policy be to avoid a repetition of this intervention, for it will make things even worse in the future. Here is where Krugman showed his dedication to Keynes. He said that we shouldn’t dwell on past mistakes or worry about the future—we need to act to alleviate distress in the present. He, thus, adhered to his idol’s famous dictum that "in the long run we are all dead."

Seen in this light one understands Krugman’s policy proscriptions, which he had outlined earlier in his speech. Government’s $800 billion stimulus plan is inadequate by a factor of four! When an audience member questioned whether there existed a political consensus for such a huge program, Krugman replied that the Obama administration should bypass the normal rules of procedure and follow the "reconciliation" tactic, which does not require a filibuster proof—sixty Senate vote—majority. He admitted that this is a controversial procedure, but he recommended its use anyway. (Bloomberg New’s Brian Faler discussed this option on the front page of the March 19th issue of The Bulletin: "Cutting Out the GOP".)

There seems to be no humility in Krugman’s psychic makeup. He quoted the Taylor rule--developed by Stanford Professor John Taylor--to support his claim that the economy needs more money. According to Krugman, Stanford Professor John Taylor’s rule for setting interest rates would require a current Fed Funds rate of minus eight percent! Krugman did not question whether this ridiculous projection just might show the fallacies in Professor Taylor’s rule or perhaps that the rule was not applicable to mismanaged and grossly inflated fiat currencies. (Professor Frank Shostak explains and refutes the Taylor Rule in "The Fed Cannot Fix Itself", found here:

Other Krugman proscriptions show disdain for private life, our allies’ independence, and a childish confidence in government power. For instance, government should nationalize the banks, guarantee their debts, and impose new regulations limiting their actions. The European Union should follow our lead. It should adopt massive spending programs and lower interest rates. Krugman regrets that each European government sets it own fiscal policy, for some nations just will not spend as much as he thinks necessary. Furthermore, the European Central Bank, similar to our Fed, has not lowered rates quite as far as Krugman desires. Claiming that the New Deal just did not go far enough, all of the nations of the world should spend massively and debase their currencies in unison. This will end the crisis, says Krugman. We should not tolerate pain in the present nor concern ourselves with future consequences of these interventions.

Krugman’s mentality is oriented totally to the present, as is the unformed mind of a child. It is the hallmark of an adult mind to consider present actions in light of future consequences. Krugman will have none of this, even though he admits that similar actions in the past to the ones he now recommends have caused our present crisis. Krugman believes in public spending and money creation--the future be damned! An unthinking and uncritically loyal disciple of Keynes, his is a childish mind in a man’s body, Nobel Prize or not.

1 comment:

  1. Krugman is correct that protectionism is not the cause of depression. In fact it could be argued that the lack of it allowed the West to feed of the East with a ridiculous imbalance of trade for so long which has caused the current problem.
    In the last 20 years all successful countries, Japan Taiwan, China India, and others have exercised rigid trade protection in their own favour.
    For example, if too many cars are being produced by Renault in both France and Poland, then it makes little difference to the world situation if France favours its own workers. - Cheaper to sack Polish workers.
    Free trade has to work within a sensible international currency system.
    I do not believe that free trade has ever existed. Have you tried to import a car from the US!! It certainly is not free yet both countries have promoted free trade for years.