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Paul Krugman and the Limits of Monetarism

By Robert Stacy McCain on 6.14.09 @ 4:10PM

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.

View all comments (9) | Leave a comment

Missy| 6.14.09 @ 5:17PM

Krugman sucks. This guy is supposed to be an expert?

Ridiculous.

JB| 6.14.09 @ 5:53PM

What's embarassing is that this guy is a Prof. of Economics at Princeton.

MattSwartz| 6.14.09 @ 7:11PM

JB| 6.14.09 @ 5:53PM

What's embarassing is that this guy is a Prof. of Economics at Princeton.

That isn't embarrassing, it's infuriating.

What's embarrassing is the way Republicans since Reagan have acted as though deficits didn't matter.

The Supply-Side Republicans who thought tax cuts and big deficits went well together are just as responsible for this as the tax-hiking, but equally inflationary Democrats.

Ron Paul understood this, and he was ostracized for saying it in public.

Dennis D| 6.14.09 @ 7:21PM

Krugman has a Nobel just as Arafat has a Nobel . Chosen for political reasons. Krugman is an ideologue before he is an economist.

dad29| 6.14.09 @ 9:21PM

Umnnnhhh....Stacy...

Krugman is far too intellectual to get this, but you will.

Japan's stagnation results from the fact that Japan has NO CHILDREN. Therefore, middle- and older-age folks save their money; they don't spend it--because there are no children to care for them in their dotage.

Als0, as you know, children are the principal cause of spending (that is, economic 'growth.)

JP| 6.14.09 @ 10:31PM

Four years seperated the 1929 Wall St crash and the massive economic and bank failures of 1932. Between those two events, the federal government adopted the policies of Keynes ( large defecits, infrastructure spending) and protectionism. What is different now?

We already have a well established structure of alphabet regulatroy agencies, and nearly $4 trillion of government stimulus. Add almost $2.5 trillion of new money printed since Jan 2009, 0% interest rates, and nationalization of Big Auto and half of Wall St, not to mention the potential for the nationalization of health care and energy, and we have a recipe for disaster.

Now that is what I call Hope and Change.

markg8| 6.15.09 @ 12:11AM

The last paragraph:

"WH: And lastly - you've been critical about Obama. Your view now?

PK: I'm increasingly happy with him. I was unhappy; I think they could have gotten a bigger stimulus coming out the gate. But they've become more forceful. I would have been more aggressive on the banks; we'll see if we need to re-fight that battle later on.

Healthcare is looking really good. I'm getting increasingly optimistic on healthcare reform. Climate change looks like it's going to happen. So my odds that this will in fact be the kind of New Deal I was hoping for are rising. I had my scepticism, but he is smart. He's impressive. And it is such a relief to have somebody whom you can respect in the White House."

I think you guys really need to read the whole interview. When consumers and business can't spend the government has to . Otherwise we fall into disastrous depression and you guys get to go Galt involuntarily. And starve.

MattSwartz| 6.15.09 @ 12:57AM

markg8,
I didn't finish the article because I already know what Krugman's selling. He's a neo-Alchemist. What honest impulse would possess anyone to spend more now? It's as if there's a whole class of people (privileged middleclass and up, leaning to the left) who can't imagine belt-tightening on a personal or collective level.

JJL| 6.15.09 @ 11:18AM

Gov't action slows things down....there is not velocity...basic economics....GNP drops....let the private economy decide upon its choices...things will then speed up!