Krugman Fallible After All

Posted by Bob Lord

I rarely have trouble with something Paul Krugman says. And I don't today, but I do have a little trouble with what he didn't say. 

His piece in today's NY Times, A Permanent Slump?, was half great, half disappointing. He starts out on fire, pointing out that those economists who believe the new normal is one where demand is inadequate and the typical state is one of mild depression are now mainstream. Commenting on Larry Summers' remarks at the IMF annual research conference, Krugman explains:

Mr. Summers began with a point that should be obvious but is often missed: The financial crisis that started the Great Recession is now far behind us. Indeed, by most measures it ended more than four years ago. Yet our economy remains depressed.

He then made a related point: Before the crisis we had a huge housing and debt bubble. Yet even with this huge bubble boosting spending, the overall economy was only so-so — the job market was O.K. but not great, and the boom was never powerful enough to produce significant inflationary pressure.

Mr. Summers went on to draw a remarkable moral: We have, he suggested, an economy whose normal condition is one of inadequate demand — of at least mild depression — and which only gets anywhere close to full employment when it is being buoyed by bubbles. [emphasis mine]

I'd add to that a point I've made before. If you evened out the housing boom and the housing bust that followed it, we would have more than a decade of lousy employment numbers. 

This is a difficult one for conservatives to swallow. It means we can't logically blame the unemployed for their plight. It means we have a moral obligation to expand the safety net. It means that raising the social security retirement age would be counterproductive, because forcing Americans to lengthen their careers would add pressure to the already struggling job market. 

In other words, it pretty much blows every comment the Thuckmeister has made on these pages out of the water. 

Okay, so far, so good. Actually, it was great. Then, Krugman searches for an explanation for this. He mentions two possibilities: The flattening of our population growth, and the trade deficit. 

He's probably right. Those likely are contributing factors. 

But if we're looking to explain inadequate demand, the elephant in the room is inequality. We've created an economy where average people don't have the money to buy anything. We coped for awhile by having women enter the job market and all workers taking on longer hours. Then we coped longer by borrowing, first on our credit cards, then on our homes. But five years or so ago, we ran out of coping mechanisms.

Most of us have seen the graph that shows productivity and wages track each other until about 1980, after which productivity continues to increase, while wages stagnate. Therein lies the answer to Professor Krugman's question. In an economy, productivity represents supply and wages represent demand. When those two lines diverged, the "permanent slump" to which Professor Krugman refers began. 

Ultimately, Krugman nails it in his conclusion despite the oversight:

Why does all of this matter? One answer is that central bankers need to stop talking about “exit strategies.” Easy money should, and probably will, be with us for a very long time. This, in turn, means we can forget all those scare stories about government debt, which run along the lines of “It may not be a problem now, but just wait until interest rates rise.”

More broadly, if our economy has a persistent tendency toward depression, we’re going to be living under the looking-glass rules of depression economics — in which virtue is vice and prudence is folly, in which attempts to save more (including attempts to reduce budget deficits) make everyone worse off — for a long time.

I know that many people just hate this kind of talk. It offends their sense of rightness, indeed their sense of morality. Economics is supposed to be about making hard choices (at other people’s expense, naturally). It’s not supposed to be about persuading people to spend more.

Can't disagree there.