Krugman Solves Another Mystery! And Breaks More Windows!

In his column on why he believes austerity is the wrong policy, Paul Krugman manages to play the part of both a psychologist AND an advocate of Broken-Window Economics, which is a pretty big accomplishment when one is limited to 750 words. But, then, Krugman is an exceptional person and he was up to this mighty task.

Broken Window Fallacy, Again (and Again)

It is hard to know where to begin, but I think I'll start with his newest version of why breaking windows is good economics, and leave the psychology until the end. In a move that is like hurling a one-ton boulder through a huge plate-glass window, Krugman writes:

The bad metaphor — which you’ve surely heard many times — equates the debt problems of a national economy with the debt problems of an individual family. A family that has run up too much debt, the story goes, must tighten its belt. So if Britain, as a whole, has run up too much debt — which it has, although it’s mostly private rather than public debt — shouldn’t it do the same? What’s wrong with this comparison? 

The answer is that an economy is not like an indebted family. Our debt is mostly money we owe to each other; even more important, our income mostly comes from selling things to each other. Your spending is my income, and my spending is your income. 

So what happens if everyone simultaneously slashes spending in an attempt to pay down debt? The answer is that everyone’s income falls — my income falls because you’re spending less, and your income falls because I’m spending less. And, as our incomes plunge, our debt problem gets worse, not better.

 I admit that this sounds good, and I am sure that the Really Brilliant People at Princeton and the NY Times will be his Amen Chorus, but Krugman actually manages to pile up one fallacy after another, and in the process he also demonstrates his belief that factors of production really are homogeneous. Now, if that really were the case -- one set of assets is just like another -- then maybe the Keynesian argument would make sense, but in an economy made up of heterogeneous labor, resources, and capital, Krugman really is pursuing circular logic.

Austrians argue -- correctly, I believe -- that the real problem that becomes manifest during the boom is that investors are led down the wrong paths into investments that cannot be sustained, period. Take housing, for example. Since the Housing Bubble burst in 2007-08, the government has poured billions and billions of dollars into trying to reflate the bubble, yet overall housing prices are continuing to fall.

Keynesians have no answer for this, because in their view, if the government or private consumers continue to throw money at an asset, then it automatically should be sustained. Yet, it is obvious that the housing market it not behaving according to Keynesian dictates.

Nowhere is the dichotomy between Austrians and Keynesians more clear than in those three paragraphs. With Krugman, it is all spending all of the time, and if government slashes spending on things like "green energy" subsidies, then it is making EVERYONE poorer. Austrians, on the other hand, correctly note that these kinds of subsidies themselves enrich those who are politically-connected at the expense of everyone else. Malinvestments don't even enter the picture, at least not in Wonderland.

Yes, Yes, Advocates of "Austerity" Hate Poor People

Krugman next turns to his psychological skills, ferreting out what he says is the REAL reason that "austerity" advocates continue to push their views:

...the austerity drive in Britain isn’t really about debt and deficits at all; it’s about using deficit panic as an excuse to dismantle social programs.

In the world of Keynesianism, spending on social programs creates wealth. For example, when President Obama announced that he was killing the Keystone Pipeline, he also added that the payment of additional unemployment benefits actually would help the economy more than would the building of a pipeline because it would bring about more spending than would occur in the construction of the line.

To put it another way, Obama believes that oil is not an asset, only a cost. In that regard, he is being a good Keynesian when he claims that profitable ventures are a drain on the economy but paying out welfare benefits adds to wealth.

I believe this demonstrates a huge point of difference between Austrians and Keynesians. Keynesians like Krugman hold that by spending on social programs, the government is generating new wealth and can help build an entire economy upon such actions.

Austrians, on the other hand, believe that social programs must rest upon the back of an economy that has created real wealth elsewhere. Fiscally speaking, these programs are a cost, not a generator of net wealth. This is not an argument against such programs, but rather just a statement of economics.

In other words, the arguments reflect fundamental views of economics. Unfortunately, Krugman has decided to claim that since "everyone knows" that social programs on their own are wealth-generating, that the only reason one might argue that they should be cut back is because one hates poor people.

Economies are not self-generated from government spending. Cranking up the government printing presses and then directing the newly-created money to those who are politically-connected does not give the overall economy a boost. Instead, it enriches some at the expense of others.

Now, I am not jumping in with the "austerity" crowd that holds that governments must jack up tax rates in order to pay banks that took risks when they threw loans at dubious "investments." However, Krugman's "we owe it to each other" is not sound economics on any level, period. Furthermore, his view that government spending alone will boost the economy into a real recovery is just plain wrong. His is not a prescription for recovery; it is a prescription for a continuing depression.