Paul Krugman and the Limits of Monetarism - The American Spectator | USA News and Politics
Paul Krugman and the Limits of Monetarism
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Paul Krugman is a liberal, an advocate of what I call neo-Keynesian economics, who has argued that the Obama administration’s deficit “stimulus” spending program should be even bigger than it already is. With all caveats, then, consider what Krugman says about our current economic situation:

The risk of a full, all-out Great Depression – utter collapse of everything – has receded a lot in the past few months. But this first year of crisis has been far worse than anything that happened in Japan during the last decade. . . . The risk for long stagnation is really high.
The thing about Japan, as with all of these cases, is how much people claim to know what happened, without having any evidence. What we do know is that recessions normally end everywhere because the monetary authority cuts interest rates a lot, and that gets things moving. And what we know in Japan was that eventually they cut their interest rates to zero and that wasn’t enough. And, so far, although we made the cuts faster than they did and cut them all the way to zero, it isn’t enough. We’ve hit that lower bound the same as they did. Now, everything after that is more or less speculation. . . . The size of the shock to our systems is going to be much bigger than what happened to Japan in the 1990s. They never had a freefall in their economy – a period when GDP declined by 3%, 4%. It is by no means clear that the underlying differences in the structure of the situation are significant. What we do know is that the zero bound is real. We know that there are situations in which ordinary monetary policy loses all traction. And we know that we’re in one now.

That’s from an interview with the British Observer. At least on this one point, Krugman is exactly right. If the secret to ending a recession is for central banks to lower interest rates, what do you do after you’ve already cut the rate to zero and there’s still no recovery?

The problems confronting Treasury Secretary Timothy Geithner and Fed Chairman Ben Bernanke may be unprecedented, but they have long been anticipated by critics of monterarism.

If all you’ve got is a hammer, every problem looks like a nail, and for a central banker, every economic problem looks like a currency problem. Of course, to a neo-Keynesian like Krugman, every problem looks like an argument for more economic intervention by the federal government.

At some point, however, advocates of different government policies must confront economic reality. There exists a real economy with real problems that cannot easily be remedied by government policy changes. And if Krugman’s gloomy forecast is on-target, perhaps it’s because he has finally realized that the fundamentals suck.

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