Furthermore, I find myself agreeing with Krugman that we are in a "Dark Ages" of economic thinking, but for very different reasons. Krugman is alleging that too many economists are accepting Say's Law as being legitimate, when every good Keynesian knows that J.M. Keynes "discredited" Say's Law in the mid-1930s. I disagree wholeheartedly on many fronts.
The difficulties are legion. First, like Keynes, Krugman really gets Say's Law wrong, creating a caricature of what Say wrote in 1803 and then demolishing the straw man he has created. (One has to keep in mind that Say's Law really is a huge obstacle to Krugmanomics, and, like Keynes, Krugman instinctively understands that point.
Second, the argument really goes to the heart of what constitutes what we call an economy. On one side, we see people like J.B. Say and the Austrians write that an economy consists of real things, real assets, and real relationships between goods. On the other side, we see people like Krugman and Alan Blinder and Ben Bernanke insist that governments can create wealth simply by creating money or borrowing and spending. In their view, an economy is little more than a mechanistic entity in which people robotically create goods with the requirement being that they have enough "purchasing power" so consumers can clear the shelves via spending so that the process can repeat itself.
I would urge people to read Krugman's entire blog post to see the perspective from which he is coming. I will include this quote, which I believe is instructive. Calling the perspectives from Eugene Fama and John Cochrane "pure Say's Law," Krugman writes:
There’s no ambiguity in either case: both Fama and Cochrane are asserting that desired savings are automatically converted into investment spending, and that any government borrowing must come at the expense of investment — period.First, and most important, what we call Say's Law is not about accounting identities or even the infamous S=I. Instead, it is about the fact that consumption and production are intricately related, not by a circular patterns, but rather by the simple fact that one's ability to consume MUST arise from the ability of someone to be able to produce something.
What’s so mind-boggling about this is that it commits one of the most basic fallacies in economics — interpreting an accounting identity as a behavioral relationship. Yes, savings have to equal investment, but that’s not something that mystically takes place, it’s because any discrepancy between desired savings and desired investment causes something to happen that brings the two in line.
I deal with all of this in a paper I published last year on Say's Law in which I take a telling quote from Benjamin Anderson:
The prevailing view among economists, . . . has long been that purchasing power grows out of production. The great producing countries are the great consuming countries. The twentieth-century world consumes vastly more than the eighteenth-century world because it produces vastly more. . . . Supply and demand in the aggregate are thus not merely equal, but they are identical, since every commodity may be looked upon either as supply of its own kind or as demand for other things. But this doctrine is subject to the great qualification that the proportions must be right; that there must be equilibrium.This view contrasts with the Keynesian/Marxist views that the real problem with a recessionary economy is that there is the problem of overproduction/underconsumption which can be "solved" by the injection of "purchasing power" into the hands of individuals via government intervention. Call it "pump priming," "giving the economy traction," or "enabling workers to buy back the products they created," but nonetheless all three viewpoints operate on the notion that production and consumption are two unequal and unrelated activities, and that the purpose of consumption (or "spending") is to clear the shelves of the goods that workers made so that the workers can be employed making more of them.
Now, the Keynesian argument -- which Krugman repeats -- is that in the real world, savings are greater than investment, especially when the "animal spirits" of investors are quieted. When that is the case, and investment spending is down, it is up to government to fill in the hole by ratcheting up spending. Now, I don't believe I have mischaracterized Krugman's position here, but, nonetheless, I strongly disagree with it.
First, even if I were to give Krugman his point that S>I, nonetheless (and I have not seen this discussed anywhere) the nature of fractional reserve banking would take the existing savings/deposits and loan them out to where the actual new money created would be substantially greater than the savings base. It is true that banks rarely are going to be fully "loaned up," but Krugman ignores the money multiplier that occurs in lending, something that any student who has taken Money and Banking or even a Macro class would understand.
Second, there is something even more fundamental here, and that is the fact that the Krugman position almost seems to be that the Law of Scarcity is abolished when interest rates approach the "zero bound" (in his words). This also is where Krugman and the Austrians really part company, for in Austrian Economics, the Law of Scarcity is not abandoned at the "zero bound" or the presence of unemployed resources.
Instead, Austrians look to reasons as to why the resources are unemployed, as opposed to the Keynesian argument that people and government simply are not spending enough. Instead, we wish to look beyond to why there no longer is demand for certain things, and to the larger issue of how the proportions involving the factors of production have been disturbed or distorted.
As I have said many times, the Keynesian argument depends upon seeing factors of production as being homogeneous and having no particular special relationships. Everything from mine output to making of cotton candy is just one amorphous and homogeneous set of factors. This is not economic theory; it is a theory of convenience to justify the presence of government spending.