Keynes was and always will be wrong

Here we go again. Paul Krugman not only attacks the Law of Cause and Effect (substituting Effect for Cause), but also manages to fracture history a bit. However, given that he has claimed that Ronald Reagan was the architect of business and financial deregulation -- thus confusing Reagan with Jimmy Carter and Ted Kennedy -- it is safe to say that Krugman is not a particularly good economic historian.

Apparently, Krugman believes that governments are not running large enough deficits and are not spending enough money, although much of the spending he is demanding comes from accumulation of massive debt (which Krugman believes later can happily be inflated away). In his own words:

“The boom, not the slump, is the right time for austerity at the Treasury.” So declared John Maynard Keynes in 1937, even as F.D.R. was about to prove him right by trying to balance the budget too soon, sending the United States economy — which had been steadily recovering up to that point — into a severe recession. Slashing government spending in a depressed economy depresses the economy further; austerity should wait until a strong recovery is well under way.

Governments around the world, claims Krugman, could have had us in recovery had they just borrowed and spent enough. Of course, the massive borrowing ONLY could have been financed by central banks, and especially the Federal Reserve System, and the only way such a scheme could have been hatched was the central banks creating "money" from thin air. In other words, Krugman is excoriating governments for not getting their finance arms -- central banks -- to print enough money, as though printing money is the key to economic success.

(If that were true, then the USA should not prosecute counterfeiters but actually encourage them. Maybe Krugman can write a future column on why counterfeiters are an economic blessing and why every household should have its own money printing press.)

Thus, if one is to understand Krugman, the European Central Bank and the Fed should be lending billions of dollars to Greece not so that Greece can use the money to pay its previous debts, but rather to spend itself into prosperity, with the idea that a future Greek economy -- yes, that economy that features bloated government unions and low productivity -- will produce so much wealth that it can pay back the debts or, better still, have the central banks just write off the debt because, after all, it was just funny money in the first place.

However, let us get back to Krugman's Fractured Fairy Tales. According to Krugman, Franklin D. Roosevelt's New Deal government slashed spending after 1936 and THAT was the cause of the recession of 1938 in which the rate of unemployment went to nearly 20 percent, a recession within a depression.

In looking at the numbers from that time, however, I must admit to a very nagging question. Indeed, the federal deficit fell during that time and unemployment rose. However, earlier in that decade, deficits rose and so did unemployment, so to claim that falling deficits would create unemployment is to ignore the earlier record.

It also is true that in that time period, taxes rose and government spending fell, although I remember a year ago Krugman calling for the end of ALL of the "Bush tax cuts," which would have significantly increased the tax bill not only for the wealthiest of American taxpayers, but also for people in lower income groups. Krugman said that if he were president, he would let ALL of the cuts expire and then spend the extra revenue, his words, not mine.

Government spending as a percentage of Gross Domestic Product fell from 10.5 percent in 1936 to 7.7 percent in 1938, and I find it hard to believe that a decrease of less than three percent would be the sole cause of this massive slide back into high unemployment.

You see, Krugman ignores other developments during that time, developments which Robert Higgs chronicled in his paper on the New Deal. Higgs notes that FDR was becoming increasingly shrill in his anti-business rhetoric at this time, and federal legislation aimed at crippling business investment came forth in the latter parts of the 1930s.

Since Krugman seems to believe that federal legislation raising business costs and hostile rhetoric from Congress and the executive branch have nothing to do with business investment (he calls all of this the "Confidence Fairy"), what happened outside of government spending in the late 1930s is completely irrelevant. Yet, as Higgs adptly showed in his paper, that clearly was not the case, and he cites a number of historians to back up his claims.

While I am sure that True Believers would claim the Higgs paper is nonsense, others who actually believe that economic success depends upon wealth that is created, not the amount of money printed, are going to see things differently. Government spending is a very poor substitute for sustainable business investment, and businesses are not going to do long-term investment and capitalization while a hostile government that threatens to confiscate their earnings and dumps trainloads of new and costly regulations on them is in power.

We should not forget that Barack Obama never has had to meet a payroll and never has worked in anything but settings in which at very best, business enterprises existed in order to give campaign contributions to politicians. This is a president who has no idea how an economy works, how entrepreneurs create wealth, and what is needed to bring the economy back from this depression.

Unfortunately, his most influential critic is someone who actually believes that money-printing and government-spending schemes are going to overcome everything else and create prosperity and full employment. Or, to paraphrase the book of I Kings, if Obama wants to bring about economic recovery, he should not chastise us with whips, but rather with scorpions.