Saturday, July 17, 2010

Yeah, I Kind of Agree With Krugman Here

Last March on my other blog (just before the Tonya Craft case basically took over its subject matter), I had a post on recent statements by James K. Galbraith. Professor Galbraith took umbrage and made a post, which I was glad to see him do.

His point was this: We don't have to worry about the government going bankrupt as long as it has legal control over what is called "money." Thus, government always will pay its bills because it can print the currency by which the bondholders receive payment. Thus, the size of deficits does not matter because government cannot (by definition) go bankrupt.

Obviously, if one stops to think about what Galbraith claims, it is almost mind-boggling. However, keep in mind that, like his late father, he is partial to socialism and even the more virulent forms of communism, in which governments used murder and imprisonment to try to force people into behavior that they otherwise would not want to follow. In other words, like John Kenneth Galbraith, James Galbraith believes that governments can do what they want as long as (1) they have a printing press and monopoly over money, and (2) they employ whatever coercive methods they wish.

Now, in his criticism of Galbraith today, Paul Krugman does not go as far as I do, but I do find myself in agreement with much of what he writes. First, Krugman outlines Galbraith's position fairly and accurately, so if you wish to get a good interpretation, read Krugman's post.

Second, he creates a mathematical model that reminds me of some of the things I saw in grad school (and is easy to follow) in which he sets up a scenario in which the government runs up against its limits of borrowing (what can be borrowed by others who have a "surplus" to lend). What he concludes is that at some point, the rate of inflation takes off into the empty space of hyperinflation.

How might that play out in our system? At some point, the Federal Reserve becomes the primary purchaser of U.S. debt (as opposed to its current role of purchasing debt in the secondary market), so government is directly spending newly-printed dollars which quickly move through the economy (as velocity increases). In fact, I think that if there is a weakness in this model (and any model which simply acts on the pure quantity of money theory has fundamental weaknesses in explaining economic behavior on behalf of individuals), it is the assumption that velocity (V) remains constant throughout.

One of the characteristics of a hyperinflation is the quickening of velocity -- how quickly money changes hands in an economy. The other thing -- and Krugman accurately mentions this -- is that people will get out of money altogether and use substitutes that either hold or increase in value (relative to money).

My sense is that Galbraith believes that government simply can "crack down" and force people to accept money (On pain of death, if need be?). Krugman does not go that far, but he is a True Believer in coercion, at least "progressive" style.

Nonetheless, Krugman's point here is well-taken, and I would agree that there is the danger of hyperinflation, given the government's path. Galbraith argues that government can exercise its powers to the point where people are forced to use the government's money, while Krugman simply says that we are not near any point of hyperinflation, given that the current Consumer Price Index is pointed downward.

There is much more I would like to say here, but I wanted to point out that when I believe Krugman is at least partially right, I will give him credit.


Anonymous said...

Not to come off to harshly but one of the reasons your not even close to Krugman in terms of intellect/significance is probably because of your lack of coherence in your discussion when it's not convenient for the profound bias of your position. Take for example the simplification of Krugmans's call for greater stimulus as "a claim that printing money creates wealth"- this is misrepresenting Krugman's idea so that it seems absurd- Krugman would state that a stimulus does work, thats how we emerged out the last depression- with the war as the reason the govt money provided jobs and the economy rebounded.

Richard said...

I would argue Anderson’s rendering of Krugman’s position is entirely legitimate.

First, you said it yourself. Monetary stimulus during WWII got people back to work producing stuff. Are you saying Krugman would argue that producing more stuff does not make society as a whole wealthier (whether its private business or public works doing the producing)?

Beyond ‘depression economics’ I have heard Krugman advocate an ever-expanding money supply to keep inflation at 2-3% to ensure a growing economy. I think that qualifies as a we-have-to-print-money-to-increase wealth position. (Granted, many other mainstream economists advocate this).

Austrian economists do not advocate these measures (much less a money supply managed by the state). Artificial credit inflation (which Krugman advocates) is the source of the business cycle in the first place. It causes people to misallocate resources through time and produce things they would otherwise not. To re-align the economy back to producing what people actually want, the artificial expansion must be ended and prices must be allowed to adjust. (by extension, Austrian economists argue that WWII did not get us out of the Great Depression

Anonymous said...

From Krugman:

ere’s no question that right now there is no problem: if the Fed issues money, it will in fact just sit there. That’s what happens when you’re in a liquidity trap. And there’s also no question that right now, the proposition that the government can “create wealth by printing money”, which some other commenters call absurd, is the simple truth: deficit-financed government spending, paid for with either debt or newly created cash, will put resources that would otherwise be idle to work.

But we won’t always be in this situation — or at least I hope not! Someday the private sector will see enough opportunities to want to invest its savings in plant and equipment, not leave them sitting idle, and the economy will return to more or less full employment without needing deficit spending to keep it there. At that point, money that the government prints won’t just sit there, it will feed inflation, and the government will indeed need to persuade the private sector to make resources available for government use.

And that’s why I don’t accept the idea that deficits are never a problem.

Again, as a practical matter I don’t think we have a disagreement: right now we’re in a world where deficits really, truly don’t matter. And at the rate we’re going, it seems unlikely that we’ll have to worry about policy choices near full employment until, oh, late in Sarah Palin’s second term.

Tim Johnston said...

I abhor the idea that war creates stimulus rather than racking up debt. War sure gets us producing things - like shells and tanks - but, at least in Britain, at the expense of some consumer goods. In that case production made everyone poorer (particularly the cities on which those produced goods landed!).

William L. Anderson said...

I fully agree with Tim. Robert Higgs published a very good paper in 1992 on the U.S. economy and World War II and myth of prosperity:

You have to understand that Krugman looks at one thing: unemployment. If people are employed, then life is good, and you don't need anything else. I remember hearing a Marxist during the Cold War claim that Romania was a great place because "there is no unemployment there."

Well, actually there was unemployment, but life for people was very, very hard, to put it mildly. Jim Bovard recently had a good article about his trip to Romania during that time:

Often, Krugman and I are speaking of the proverbial apples and oranges. Consumption in my terms is "spending" in his. In my view, production and consumption must be intricately tied in with one another; in Krugman's view, they are not.

As for the comments by the first person, you are partially right. Krugman really does not think much about wealth, or really defines it. To him, there is production and spending, and as long as there is the latter, we will have the former and then we can have full employment. That pretty much is his definition of an economy.

Tim Johnston said...

Thanks for the links, Professor. The Romania article is enlightening - particularly in how the World Bank was helping prop up the regime!

Anonymous said...

In response to a comment on the original article, I would like to note that, as I understand it, Krugman isn't referring to the price of money when he assumes the price level is proportional to the money supply, but to overall price levels. Which makes logical sense, although, when you factor time into the equation, it is of questionable value for real number calculations, being stilted and strictly mathematical. Like most aggregates and economic equations...

Chip Norman said...

If Mr. Galbraith is correct - and wouldn't it be glorious - the Fed may as well change the digits in every American's checking account to $200,000. Or, perhaps $2,000,000 would provide a better stimulus. And why stop there? Why stop at all?

Before we arrive at notes that would make Zimbabwe blush, we might simply replace the electronic digits in our checking accounts with the infinity symbol. Just think of all the wonderful things we'd be able to buy.

Chip Norman said...

Oops. Sorry for the mispost: my previous comment is in reference to the recent 'Krugman vs JG' article.