I don't mean violent or coercive behavior in which one steals from someone else and makes himself better off while making someone else simultaneously worse off. Instead, I am referring to peaceful, private, and mutually-agreed-upon economic exchange or decisions involving my person or my family, which is at the heart of Austrian thinking. Mises wrote that individuals will act in order to make themselves better off, and when that action comes about via mutually-beneficial exchange with others, the action can have positive social benefits.
For example, when I make an exchange at the grocery store, I am purchasing food that I believe will make me better off in the future, both relieving me of hunger and also providing healthy personal benefits. Likewise, the people within the store who are recipients of my money are able to use that to accomplish their own individual purposes. This is not "mindless" behavior, as many Marxist critics of capitalism like to claim; it is purposeful and not based upon coercion.
Now, I agree that this is pretty much Exchange 101 found in many economics texts, including the mainstream ones, but Austrians and the mainstream part ways when it comes to a broader social viewpoint. To put it another way, Austrians believe that individual freedom to trade one's possessions, be they accumulated wealth in the form of money or goods, or one's labor or talents will have positive social and economic effects across an economy, provided that individuals are free to do these things without coercion. It is the non-aggression principle at work.
Keynesians such as Krugman see things differently. What is good for an individual often is not good for the economy at large. In his recent column, Krugman writes:
...an economy is not like a household. A family can decide to spend less and try to earn more. But in the economy as a whole, spending and earning go together: my spending is your income; your spending is my income. If everyone tries to slash spending at the same time, incomes will fall — and unemployment will soar.This is something that intuitively sounds right, but is based upon a principle founded upon a belief that mutually-agreeable exchange and individual action that can be harmful economy-wide, and that if a lot of people decide, for example, to save more money, that is what creates unemployment. The Keynesian-Krugman point has been made on many occasions, and I don't believe I am being controversial when I state it.
At one level, if a lot of people suddenly decide to stop spending all of their income and decide to withhold some present income so that they may consume more later, that obviously will have certain effects upon some part of the economy, as there will be less demand for certain kinds of goods and services. That is obvious and non-controversial.
There is, however, a larger issue Krugman and Keynesians ignore, and that is why this change of behavior has occurred. In the Keynesian view, just as Malthus once held, this change is not a rational response to a set of changing economic conditions; instead, it is irrational, "animal spirits" behavior. It just happens. People just stop spending and start saving, and then the whole Fallacy of Composition kicks in and kicks down the economy.
Austrians note that when booms run their course -- as they invariably do -- and that the current level of activity in certain sectors cannot be sustained through normal exchange, then people are going to adjust their behavior. Furthermore, Austrians are going to point out that booms over time (1) result in wasted or malinvested resources, (2) are financed via borrowed money that sooner or later must be paid back, and (3) create conditions in which there must be a "correction" within the economy as the booms run aground.
Moreover, Austrians also believe that if the government does not interfere with the creation and application of directing resources, then entrepreneurs will look for and find those lines of production that are compatible with current economic conditions. It is those lines of production, then, that will lead a recovery.
Even Krugman will admit that the Housing Bubble could not be sustained, although he is not going to claim resources were "malinvested" if for no other reason than to do so would hand Austrians an important intellectual victory, and that is not something Krugman can countenance. Still, what is a "bubble" if it is not malinvestment or based upon malinvestment? Krugman is not going to claim that the Housing Bubble was infinitely sustainable, and if a set of investments cannot be sustained when other normal market factors expose that fact, then we are dealing with malinvested resources, period, even if he refuses to cite the M-word.
However, we now come to the response to what should be done when the markets have exposed the malinvestments. (I note here that Krugman believes that unless government agents are all over those participating in peaceful, private exchange, markets will run blindly over a cliff, dragging everyone else with them. Yet, it was the markets that exposed the Housing Bubble just as the markets exposed Bernie Madeoff's fraud, not government regulators.)
Krugman's answer is for government to create yet more bubbles and create more malinvestments. Yes, we have the infamous Krugman quote from about a decade ago on the need for Alan Greenspan to create a housing bubble, but I am not talking about that. Instead, Krugman believes that governments should borrow and print and spend in order to fill a "hole" of spending, since money and exchange no longer will be directed toward the part of the economy that collapsed, i.e. housing in this case.
(For example, Krugman has strongly endorsed boondoggles like wind power and mass-subsidized electric cars, yet the fact that these entities continually need subsidies to stay alive speaks volumes for their economic sustainability. These are malinvestments pure and simple, yet Krugman and President Obama wish for us to believe that this economy can fashion an economy recovery from them.)
The Keynesians argue that if there are "unemployed or idle resources," then malinvestments are not possible, since the economy can absorb a lot more spending without overall prices rising. Such reasoning ignores the question of why those resources are "idle" in the first place. Krugman would claim that they are "idle" because people are not spending money, and so government must take the place of everyone else and spend in order to pump up the economy again, creating the "trickle-down" effects that supposedly would boost the economy.
Yet, these resources are idle because earlier investments in them could not be sustained. The markets are telling us something, but Keynesians ignore the obvious, instead demanding that these sectors receive extra injections of government spending.
In effect, Krugman and the Keynesians are claiming that the Law of Scarcity is suspended during severe economic downturns, but unless government starts borrowing and spending in huge amounts, then everyone else will be severely limited by scarcity. Likewise, households are bound by scarcity, but governments are not.
Lest anyone claim that I am misrepresenting Krugman, here he is in his own words:
So what can be done? A smaller financial shock, like the dot-com bust at the end of the 1990s, can be met by cutting interest rates. But the crisis of 2008 was far bigger, and even cutting rates all the way to zero wasn’t nearly enough.But why should the the private sector "regain" its balance? If mutually-beneficial exchange over an economy has harmful effects, and if the natural tendency of a market economy is to implode as people increase their savings, then why should we expect any kind of recovery at all, and why should governments stop their massive spending?
At that point governments needed to step in, spending to support their economies while the private sector regained its balance. And to some extent that did happen: revenue dropped sharply in the slump, but spending actually rose as programs like unemployment insurance expanded and temporary economic stimulus went into effect. Budget deficits rose, but this was actually a good thing, probably the most important reason we didn’t have a full replay of the Great Depression.
If one sees individual spending as being mechanistic instead of purposeful, then the Keynesian viewpoint might make sense. An economy, in this view, is little more than a perpetual motion machine kept running by spending that moves in a circular flow, with resources being homogeneous.
There is one more point I believe that needs to be made. Krugman claims that our recovery is weaker than it should be because the federal government is not taxing, printing, and borrowing enough, and that if the government were to bolster its spending habits even more -- like preparing for the imaginary invasion of "space aliens" -- then all would be right with the world and we would see a wondrous recovery.
As I see it, we lack a real recovery for a number of reasons, including the government's insistence upon forcing resources from higher-valued to lower-valued uses. ("Green energy" investments are a case in point.) The federal government, and especially the Obama administration, demonstrate hostility toward entrepreneurs who are not connected to the political classes, and the Fed's slashing of interest rates to near-zero not only take away incentives for people to save, but also sends false price signals to the markets, making it harder for entrepreneurs to find truly profitable and sustainable lines of production.
Krugman believes that all that is necessary for recovery is for government to shower money upon politically-favored enterprises, with the spending having a huge "trickle-down" effect on the rest of us. Yes, if resources are purely homogeneous and if individuals do not act purposefully, then Krugman has a point, but if that is not the case, then he is demanding that the government continue the behavior that has put us in a depression in the first place.
8 comments:
Another excellent column Dr. Anderson. This is the kind of commentary that cements your reputation as the anti-Krugman (and that is a good thing).
Krugman: But in the economy as a whole, spending and earning go together: my spending is your income; your spending is my income. If everyone tries to slash spending at the same time, incomes will fall — and unemployment will soar.
If you look at a graph of US private debt to GDP ratio, it goes up approximately exponentially since the 1950's. How is that possible if spending and earning go together? Where did all the extra debt come from?
The answer that Krugman is not telling you is that spending and earning only go together eventually but they don't go together instantaneously. If I accept some service from you and say, "Hey I'll pay you for that later," then I have consumed the service, but I have not produced anything in return (yet), I have merely issued a promise of future production.
There is no limit to the number of promises that can be made. It is not physically constrained, only constrained by the credulity of people who are willing to accept a promise as payment. Promises are not a physical variable, they don't need to obey any conservation laws.
Eventually though the promise is either fulfilled or broken. Those are the two options. While more promises are fulfilled than are being made, the aggregate debt goes down. The other alternative is a write-off in which case the promise is never fulfilled, and the ledger never properly balances (i.e. someone loses) but the debt also goes down.
Krugman is a construction flagman on the road to serfdom
"...an economy is not like a household. A family can decide to spend less and try to earn more. But in the economy as a whole, spending and earning go together: my spending is your income; your spending is my income. If everyone tries to slash spending at the same time, incomes will fall — and unemployment will soar."
You gave too much credence to this piece of utter nonsense by saying
"This is something that intuitively sounds right, but is based upon a principle founded upon a belief that mutually-agreeable exchange and individual action that can be harmful economy-wide, and that if a lot of people decide, for example, to save more money, that is what creates unemployment."
That it is fundamentally wrong is obvious if one understands the simple point explained by Rothbard in Fig 41 of MESPM. There is such a thing as a certain level of saving in any economy that produces goods for consumption in the distant future. There is an income in that economy too but the only meaningful concept of income there too is the GROSS INCOME to ALL factor owners and ALL Capitalists. The concept of income that Krugman uses is NET INCOME. Focusing on net income to claim that there is a circular flow of income is sheer idiocy. Krugman is just showing us what an economic ignoramus and imbecile he is.
The Krugman statement is also based on the fallacious notion at the beginning of Chapter 17 of The General Blah Blah Blah that saving is not deferred consumption. Can you believe this???? That idiot (I mean JMK) actually said that savings is not deferred consumption!!!! Given this, the only way to classify it is as utter rubbish.
Oops!! That was Chapter 16 of The General Blah Blah Blah.
Krugman: So what can be done? A smaller financial shock, like the dot-com bust at the end of the 1990s, can be met by cutting interest rates. But the crisis of 2008 was far bigger, and even cutting rates all the way to zero wasn’t nearly enough.
So Krugman admits that interest rates are not an observable market indicator, but are instead something that is imposed by the central planning department.
Next week he will tell you the opposite.
Tel, you are on a roll! Great insights!
My comment regarding saving or the situation that Keynesians call the "Paradox of Thrift" was that to an ordinary person, this might make sense, but the so-called paradox is not correct. Savings not only mean that funds are available for present capital spending, but current savings also mean future consumption. In fact, if entrepreneurs are able to engage in capital development that comes about via "natural" rates of interest, then there will be more to consume in the future.
Of course, that is anathema to a Keynesian, who believes that every penny must be spent NOW or the economy will implode -- unless government "spends to the rescue."
Prof Anderson, I've checked with Rothbard's book "The Case Against the Fed" and he claims that delayed payments are not inflationary. However, his examples only include briefly delayed payments (e.g. a few months).
Right now, for example, the Australian electrical goods store "Harvey Norman" is offering 50 months no deposit interest free payment schemes (there are catches, as usual, a few loan fees, etc) because business is slow and they are anxious to keep some products moving. They probably also hope to catch some suckers who don't pay it out in the allotted time and they get hit with full credit card interest.
I've seen a few of these schemes (even for big ticket items like cars). Now that's unpaid debt sitting around for four years. I think it's backed by GE Money, so the retailer must be getting something upfront (not sure how they split it).
I heard (grapevine style) that with the Australian auto dealers, when the big credit squeeze came around in 2009, Toyota just shipped cars on account to their dealers, because people were having trouble covering their stock and the factory was absolutely not going to shut down production, not under any circumstances.
It can't be just Toyota either, because you search on "General Motors Channel Stuffing" and the rumers are out there. I can't believe all those GM dealers can afford to cover such a lot of inventory (not in this economic climate) so I would reckon a lot of that is on account... and we are talking about non-trival amounts of money for non-trival times here.
Normally you have a simple exchange, so money goes one way, and good goes in the opposite direction. We are seeing rubber-banding where the movement of goods is getting detached from the movement of money. Do you see what I'm getting at here? What would Rothbard do?
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