Stagnation or Stagflation?

One way to make a Keynesian angry is to point out that stagflation -- a simultaneous increase in inflation AND unemployment -- is not possible under the Keynesian scheme. The Phillips Curve supposedly "proves" that the way to get unemployment down is to ramp up inflation.

In a recent blog post, "Stagnation Nation," Krugman laments the woeful GDP numbers and the fact that unemployment is going up, and he blames it on a lack of government spending. However, inflation also is increasing, no matter what Krugman claims.

Anyone who purchases food, fuel, and consumer items can tell that prices are going up, and Krugman can tout the government's CPI all he wants, but that does not change the fact that we are seeing a huge increase in commodity prices at the same time it becomes harder and harder to find work. Yes, yes, he claims that "volatility" is the answer to rising commodity prices, as though volatility explains why they are rising together. What we know is that commodity price changes tend to be more volatile than price changes for finished goods and labor, but that does not explain why commodity prices are going up.

I recall watching the late Richard Gill neatly try to explain stagflation in a scholastic film. His trick was to move the aggregate supply curve to the left and, Voila!, stagflation! But, it only was a trick and explained nothing and certainly did not explain production of goods in the USA during that time. No, the Keynesians have no way to explain stagflation, and so they either ignore it or try to explain it away, claiming higher oil prices are the key. (The cause of inflation, in their view, is...higher prices, a nice example of "begging the question.")

In the end, Krugman claims that governments should spend more, as though a government magically can produce resources out of nothing. And when someone points out that simple fact, he gets angry and resorts to insults or simply pulls another logical fallacy out of his Keynesian hat.

Krugman on Inflation and Stagflation

Being that Paul Krugman has attempted to rewrite the financial history of the 1970s and 1980s, I am surprised that he even admits that there was stagflation -- a combination of high inflation and unemployment -- during the 1970s. After all, under Keynesian doctrine, rates of inflation and unemployment supposedly have a negative relationship, and Keynesians supposedly believe that stagflation is an oxymoron.

Since the numbers did not lie, Keynesians decided that they had to create a one-time scenario in which oil prices somehow were the culprit. Writes Krugman:

The kind of inflation we had in the 1970s, the famous era of stagflation — high inflation combined with high unemployment — was quite different (than some of the famous hyperinflations). Deficits weren’t the issue — actually, US deficits were much smaller in the inflationary 70s than in the disinflationary 80s. Instead, what you had was a combination of excessively expansionary monetary policies, based on an unrealistic view of how low the unemployment rate could be pushed without causing accelerating inflation (the NAIRU), plus oil shocks that pushed up inflation across the board thanks to widespread cost-of-living clauses in contracts. There was never any risk of hyperinflation; the only question was whether and when we’d be willing to pay the price in high unemployment of bringing inflation back down.

Now, Krugman does not explain why unemployment and the rate of inflation went down together during the 1980s, but that is an issue for another post at another time.

I do find it curious that Keynesians will resort to the "cost-push" inflation line when it suits them, as they are trying to claim that prices go up because, well, prices go up. I have likened the Keynesian (and Krugman) explanation for deflation to that famous scene in "The Blues Brothers" in which Jake Blues (played by the incomparable John Belushi) tries to talk his fiancee out of gunning him down in the sewer:



Indeed, the idea that the changes in price of one commodity -- even a commodity as important as oil -- causing huge fluctuations in the U.S. economy makes Jake Blues' appeal sound true. By the way, inflation in the 1980s did not go down because unemployment went up, no matter what Krugman says. (He cannot have it both ways.) Inflation went down because the Federal Reserve System put down the brakes on money creation and held them down for a long time.

By the way, unlike our current situation, the USA had a real recovery after the recession of 1982. But, then, Paul Krugman was not influencing the government to print, borrow, and spend wildly.