Easy Useless Keynesianism

When it became clear in 2007 and beyond that the housing bubble was breaking up and the bills for the national spending spree were coming due, the Bush administration shifted into "stimulus" mode. (It was nice getting an extra $2,100 in my checking account, but I defied the government and paid some bills instead of buying that big-screen HD TV. Yeah, I'm a bad example to all of you.)

Barack Obama came into Washington with Big Plans For A Big Stimulus, and the Federal Reserve System has been spreading dollars everywhere. However, the economy remains mired in depression, and Paul Krugman believes he has the solution: more stimulus. Lots more stimulus.

In his recent column, Krugman claims that the problem is that we don't have enough government spending, and if we don't spend, expand the state, and employ more people as bureaucrats, our economy never will recover. Actually, if we continue to spend, expand the state, and employ more people as bureaucrats, indeed, our economy never will recover. Krugman writes:

Of course, structuralistas say they are not making excuses. They say that their real point is that we should focus not on quick fixes but on the long run — although it’s usually far from clear what, exactly, the long-run policy is supposed to be, other than the fact that it involves inflicting pain on workers and the poor. 

Anyway, John Maynard Keynes had these peoples’ number more than 80 years ago. “But this long run,” he wrote, “is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the sea is flat again.” 

I would only add that inventing reasons not to do anything about current unemployment isn’t just cruel and wasteful, it’s bad long-run policy, too. For there is growing evidence that the corrosive effects of high unemployment will cast a shadow over the economy for many years to come. Every time some self-important politician or pundit starts going on about how deficits are a burden on the next generation, remember that the biggest problem facing young Americans today isn’t the future burden of debt — a burden, by the way, that premature spending cuts probably make worse, not better. It is, rather, the lack of jobs, which is preventing many graduates from getting started on their working lives. 

So all this talk about structural unemployment isn’t about facing up to our real problems; it’s about avoiding them, and taking the easy, useless way out. And it’s time for it to stop. 

 And what constitutes "doing something"? According to Krugman, it is having governments increase their borrowing and monetary creation supposedly to start employing idle resources. Unfortunately, we are not dealing with idle resources per se; we are dealing with malinvested resources and every one of Krugman's schemes to deal with the problem only will make that problem worse.

Whether it is propping up the housing industry or creating new bureaucracies or subsidizing pet Obama-favored "clean energy" firms, the end result is expanding the malinvestments and ensuring that those still-healthy industries are unable to lead the recovery. Unfortunately, Krugman truly is stuck in 1939, refusing to acknowledge that the very things he claims will give us recovery are leading us into the abyss.

There is one more outrageous point that he makes. Earlier in the article, he writes:

O.K., there’s something I didn’t tell you: The paper in question was published in June 1939. Just a few months later, World War II broke out, and the United States — though not yet at war itself — began a large military buildup, finally providing fiscal stimulus on a scale commensurate with the depth of the slump. And, in the two years after that article about the impossibility of rapid job creation was published, U.S. nonfarm employment rose 20 percent — the equivalent of creating 26 million jobs today. 

 As Robert Higgs noted in his paper on the alleged "prosperity" of World War II, the notion that World War II was "good for the economy" and made Americans prosperous is fraudulent, period. Today, prosperity will come if Americans prepare for an invasion of space aliens.

Russ Roberts on "Postwar Austerity"

I know, I know, Keynesians never are wrong. Only government spending can give us prosperity, and that certainly is what the greatest of the Keynesians were saying as the end of World War II approached.

Russ Roberts of George Mason University has this wonderful post that I am sure never will make it to Paul Krugman's articles or blog. (HT, Christopher Westley)

Here is a great quote from...Paul Samuelson, Mr. Keynesian himself:

When this war comes to an end, more than one out of every two workers will depend directly or indirectly upon military orders. We shall have some 10 million service men to throw on the labor market. We shall have to face a difficult reconversion period during which current goods cannot be produced and layoffs may be great. Nor will the technical necessity for reconversion necessarily generate much investment outlay in the critical period under discussion whatever its later potentialities. The final conclusion to be drawn from our experience at the end of the last war is inescapable–were the war to end suddenly within the next 6 months, were we again planning to wind up our war effort in the greatest haste, to demobilize our armed forces, to liquidate price controls, to shift from astronomical deficits to even the large deficits of the thirties–then there would be ushered in the greatest period of unemployment and industrial dislocation which any economy has ever faced.

(From Paul Samuelson, “Full Employment after the War,” in S.E. Harris, ed., Postwar Economic Problems, 1943.)

Gee, maybe we need those space aliens after all

Our economy is in depression, but there is nothing like preparing for those "space aliens" of which Krugman spoke last August 14 to put us back in the pink. An "adequate-sized fiscal stimulus" appears and we are there. Maybe we need yet another war, although the current ones have not kept our economy from going into the toilet -- but since they were not started by Democrats, perhaps they don't have the proper inflationary mix.

He writes:

All around, right now, there are people declaring that our best days are behind us, that the economy has suffered a general loss of dynamism, that it’s unrealistic to expect a quick return to anything like full employment. There were people saying the same thing in the 1930s! Then came the approach of World War II, which finally induced an adequate-sized fiscal stimulus — and suddenly there were enough jobs, and all those unneeded and useless workers turned out to be quite productive, thank you.

He goes on:

There is nothing — nothing — in what we see suggesting that this current depression is more than a problem of inadequate demand. This could be turned around in months with the right policies. Our problem isn’t, ultimately, economic; it’s political, brought on by an elite that would rather cling to its prejudices than turn the nation around.

First, as Robert Higgs has duly pointed out, World War II did NOT create prosperity, unless one calls "prosperity" being men getting shot to pieces, bombs destroying cities and millions of lives, and people having to make do with rationed food and fuel.

And if Krugman insists that he only is talking about "full employment," then one can argue that slavery also creates "full employment," although I doubt seriously that Krugman believes we should bring back the "peculiar institution." (However, Krugman DOES believe that people should be forced to work for several months out of the year in order to support government employee unions and to pay for the employment of people whose sole job it is to make their lives more difficult. That may not officially be "slavery," but it is something close to it.)

Second, when Krugman is talking about "adequate demand," he means the creation of new money or the injection of newly-borrowed money into the system, as though that creates wealth. I think it is instructive that Keynesians commit the error of separating consumption and production, as though they were two wholly-unrelated things.

If creation of new money or new borrowing alone can make us prosperous, then there is no reason -- using Krugman's own logic -- that Zimbabwe was not the most prosperous nation on the earth. Should North Korea's newest "Dear Leader" or whatever he will be called wish to turn his wretched country into a citadel of wealth, all he needs is to issue bonds and have his own government purchase them with newly-printed money.

However, I will give Krugman this important point: in the end, the problem IS inadequate "demand," but in the world of economics, demand ultimately comes from what we produce. Going back to Zimbabwe or North Korea, their currencies only can be used to purchase the meager produce that comes from their terrible economies.

Therein lies the problem of the Keynesian "stimulus." Right now, where does the government spending go? Well, it goes to prop up banks, "green energy," pay regulators to ensure that we produce even less, fund left-wing political groups, and, of course, the president's multi-million-dollar vacations. The president and his Keynesian minions, however, are doing everything they can to throttle things like the oil industry, the coal industry, production of electricity, and entrepreneurship in general.

These are things that are profitable, yet do not meet the political "standards" of those in power, so the government uses resources in order to quash production of things that would be profitable, and are necessary to help lead a recovery. Instead, Obama and Krugman believe that government can subsidize an economy into recovery, as though economic losses are nothing more than mere bookkeeping entries.

In the end, it is demand, but it is HOW we are able to demand that makes a difference. For the time being, the rest of the world will accept dollars, but as the Fed and the government create more and more of them, driving down their value, this does not provide the mechanism by which entrepreneurs can create sustainable avenues of production. Instead, everything is channeled into short-term avenues via which people are trying to find hedges against inflation.

Why is the economy in depression? It is depression because the Keynesian U.S. Government insists upon strangling profitable lines of production which don't meet the political approval of those people with power and influence and channeling resources into those areas that clearly are unprofitable. This is a "transfer economy" and, contra Krugman, wealth transfers do not create wealth.

Save us from space alien economics!

While waiting at JFK International Airport last Sunday to catch a plane to Riga, Latvia, I saw Paul Krugman on the tube (along with Harvard's Ken Rogoff). While the words were provided, nonetheless I could not get myself to watch it, as I just was not in the mood for ridiculous. Apparently, I missed a doozy. For that matter, I didn't even know that space aliens were upon us, although I would say that in economic terms, space aliens will attack us before Keynesian "solutions" set the economy on a correct and sustainable path.

According to Krugman, war (be it with Germans and Japanese or space aliens) is a great thing (even though he admits it gives us "negative product social spending") because it both gives us more employment AND inflation! I mean, what's not to like? You can have prices rise and have empty store shelves -- but you have a job, even if you can't buy anything, as was the case in WWII.

As for Krugman's "alien threat" comments, Bob Higgs has it right. On a recent Facebook post, Robert Higgs has written:

Professor Krugman, I can be even more Keynesian than thou. My plan: invite aliens to bring to earth the blueprints for a global debt-financed public-works program in which every nation would construct thousands of pyramids (constrained only by the condition that public debt not exceed infinity and policy makers' IQ not exceed 63.)

Higgs makes more sense. Really. Mary Theroux of the Independent Institute agrees, and has this to say:

As Dr. Robert Higgs has more than ably shown, the Great Depression continued, and deepened, throughout the New Deal and throughout World War II. The World War II years were a time of shared privation, with virtually every item that we take for granted today either rationed: e.g., meat, gasoline, sugar, clothing; or not available at any cost: e.g., new cars, appliances, etc. The American standard of living throughout World War II remained at an excruciatingly low level that no 21st century American would accept. Meanwhile, unemployment disappeared simply because 16 million able-bodied people were sent to war, paid below-market rates and subject to danger, death, and maiming they may not have preferred to unemployment.

To be honest, I think that we will be better with space aliens running things than the Keynesians.

Is mass slaughter a good thing?

So, Paul Krugman finally comes clean on the Civil War. Whatever the losses that might have incurred, the outcome justifies everything:

Via Brad DeLong, Ta-Nehisi Coates argues that the Civil War wasn’t tragic in the way it’s so often portrayed. The human losses were terrible — but the war marked the end of the far greater horror of slavery.

I agree; the Civil War and World War II are the two great moral wars of our history, and they should be remembered with pride.

What I find interesting here is that Krugman assumes that the only way slavery could have ended was through massive violence and the deaths of nearly 700,000 Americans. Other western nations ended slavery through nonviolent means, so is he saying that Americans are the kind of people who only can solve issues through mass killing, rape, and destruction?

The winners generally are privileged to write history, be they winners through violence or through other means, but it often means the history itself is untrue. Furthermore, while slavery was a terrible thing and forever a blot on this country and any country where it is practiced, I do not think that whatever was the situation in American slavery pre-Civil War can compare to the carnage on the battlefield, men by the thousands dying horrible deaths, women raped by drunken soldiers, whole cities burned to the ground, war made and civilians that broke all established rules of warfare.

(Gen. William T. Sherman remarked to a friend after the war that had it been fought in Europe, he likely would have been tried as a war criminal. That Paul Krugman would endorse such a thing tells me volumes about the man.)

As for World War II, there is a body of literature out there that deals with war crimes fought by those who were supposedly on the side of justice and morality. Is Krugman going to call the nuclear destruction of Hiroshima and Nagasaki justifiable, or the massive bombing of Dresden. None of those places needed to have a single bomb dropped on them, yet even today we see Americans praise such mass murder as being justifiable.

Yes, Hitler gave us the Holocaust and the Japanese the Rape of Nanking and worse. Moreover, American policy strengthened history's greatest mass murderer, Josef Stalin, and the U.S. Government authorized the infamous Operation Keelhaul, which resulted in the deaths by execution and the slower execution of the gulag of at least a million Russians.

Tell me these things were not war crimes, and then tell me why they went unpunished. We know the answer.

I never have been particularly jingoistic when it comes to American wars, and as I learn more about our bloody history, I become even less enamored of them. American wars have brought death, destruction, loss of liberties at home, inflation, the strengthening of the worst aspects of the state, and an insatiable appetite here for more killing and carnage abroad. Watching crowds of people chanting "USA! USA!" after the news of Osama bin Laden's killing only brings that point home.

But for Krugman, the Civil War ended slavery, and in his mind, there could have been no alternative. In 1861, I doubt that most Americans -- North and South -- could have seen an end to this awful institution. But, Russians at the same time could not envision the end of serfdom or Brazilians the end of slavery there. Yet, they ended, and not with the wholesale slaughter that accompanied the Civil War. How much better would a peaceful ending to this moral quandary have been than what occurred between 1861 and 1865?

(My take on slavery as an economic institution has been that even taking aside the fact that slaveholders were using kidnapped labor, the very act of removing the labor of the slave from the outcomes of one's labor is a recipe for bad economic outcomes. Under socialism, government commandeers resources and moves them from higher-valued uses to lower-valued uses. How is chattel slavery any different? I don't see how it can be any different at all.)

No doubt, Krugman's supporters will claim that I must be a supporter of slavery or am a racist or maybe a "Neo-Confederate." Let them. They can ignore that for much of my adult life, I have moved closer and closer philosophically toward pacifism, and the aftermath of these destructive wars does nothing to change my mind.

Every(Krug)man

Paul Krugman is a bit upset that someone could accuse him of being a "warmonger," since he claims that World War II ended the Great Depression. Now, having spoken personally to Krugman about his opposition to the U.S. war in Iraq (and I share that opposition and told him so), I don't think Krugman loves war.

Nonetheless, his view is problematic, especially when one compares his views to those of economist Robert Higgs, who in this essay clearly debunked the "World War II as the end of the Depression" nonsense. Nonetheless, Krugman counters that the amoral nature of economics allows for war to be a positive catalyst in ending a downturn, even if we are against the war itself.

Economics, he writes, "is not a morality play." That is true, at least at one level. Ludwig von Mises himself wrote that economics is a "value-free" science, but he was writing from a very different perspective.

Krugman's contention is this:

...economics is not a morality play. It’s not a happy story in which virtue is rewarded and vice punished. The market economy is a system for organizing activity — a pretty good system most of the time, though not always — with no special moral significance. The rich don’t necessarily deserve their wealth, and the poor certainly don’t deserve their poverty; nonetheless, we accept a system with considerable inequality because systems without any inequality don’t work. And before the trolls jump in to say aha, Krugman concedes the truth of supply-side economics, that’s not an argument against progressive taxation and the welfare state; it’s just an argument that says that there are limits. Cuba doesn’t work; Sweden works pretty well.

(Now, I would suspect that Krugman would not be able to explain why Cuba "doesn't work," given he thinks that the two greatest critics of socialism of the 20th Century, F.A. Hayek and Mises, were idiots and people of no insight. He probably would mumble something about "incentives," but I doubt Krugman would even be able to comprehend the "economic calculation" issue that Mises and Hayek developed.)

Krugman goes on:

And when we’re experiencing depression economics, by which I mean a situation in which it’s hard to create sufficient demand to achieve full employment — mainly because short-term interest rates are up against the zero lower bound — the essentially amoral nature of economics becomes even more acute. As I’ve said repeatedly, this is a situation in which virtue becomes vice and prudence is folly; what we need above all is for someone to spend more, even if the spending isn’t particularly wise. (Emphasis mine)

It is interesting that he uses such phrasing, given it comes almost word for word from Bernard Mandeville's "Fable of the Bees," which was written in 1705, and which I lampooned in this piece, "The Fable of the Krugman."

Keep in mind, however, that Krugman's turning of the "virtue" of saving upside down to embrace the "vice" of reckless spending is not what Mises meant by describing economics as "value-free." Krugman is just saying that while saving would seem to be a good thing, what is needed now is spending, and lots of it. Thus, "situational ethics" becomes the basis for economic analysis.

However, the problem is not in our interpretation of economic morality. The problem is that Krugman insists that massive spending on behalf of the state will magically transform the U.S. economy, give it "traction," and send us on the Yellow Brick Road to Prosperity if not Oz itself.

Krugman does not embrace war; he embraces the government spending, the planned economy, the interventions, and the intrusions of the state into economic decisions. To him, that is Oz. However, if one reads the Higgs piece, one gets a much better understanding of the "prosperity" that war can bring.

For that matter, the Great Depression did not linger on because of a lack of government spending; as Higgs points out, it was "regime uncertainty," and I will put my money on that every time.

Ironically, while Krugman might not see himself as "Everyman," nonetheless his columns are full of condemnation for those people who might disagree with him or (horrors) vote differently than he does. So, even if the economy might not be a morality play, his columns tell a different story.

Krugman Unleashed: Economics as Though the Non Sequitur Means Something

Following with his thematic writing (in following recent blog posts, including this one, along with my response), Paul Krugman continues to insist that if the Obama administration decides to really crank up the borrowing and spending, we, too, can experience a wonderful boom, just as Americans did in the 1940s.

Now, I find interesting that Krugman now has decided that World War II, a time when at least 50 million people met horrible deaths, really was a wonderful time of plenty and happiness, or at least it gave us an "economic boom," and Krugman believes booms are good. Lest anyone think I am exaggerating, read Krugman's own words:

From an economic point of view World War II was, above all, a burst of deficit-financed government spending, on a scale that would never have been approved otherwise. Over the course of the war the federal government borrowed an amount equal to roughly twice the value of G.D.P. in 1940 — the equivalent of roughly $30 trillion today.

Had anyone proposed spending even a fraction that much before the war, people would have said the same things they’re saying today. They would have warned about crushing debt and runaway inflation. They would also have said, rightly, that the Depression was in large part caused by excess debt — and then have declared that it was impossible to fix this problem by issuing even more debt.

But guess what? Deficit spending created an economic boom — and the boom laid the foundation for long-run prosperity. Overall debt in the economy — public plus private — actually fell as a percentage of G.D.P., thanks to economic growth and, yes, some inflation, which reduced the real value of outstanding debts. And after the war, thanks to the improved financial position of the private sector, the economy was able to thrive without continuing deficits.

As I have noted before, Robert Higgs, who actually is an economist who knows something about history (and is not simply a partisan political operative like a famous faculty member from Princeton), lays out the reality of the World War II home front quite well. Furthermore, there is the little problem of Krugman's non sequitur: How in the world can we say that World War II created a "boom" that "laid the foundation for long-run prosperity"?

First, the economy was tuned to war goods, not goods that people actually would want or need in normal life. Much of the capital that was developed during the war was not easily turned toward civilian production.

Second, there is no causality here. Krugman notes that the government went into huge deficit spending during the war, and then "long-run prosperity" just naturally followed. How, I ask, does that follow?

No doubt, Krugman would argue that the economy had "gained traction" during that time, but that is a circular argument at best. In that view, the economy booms because, well, it booms.

Finally, is Krugman demanding that the government expand the way it did during World War II, and that somehow, that will create long-term prosperity? If enough of us get jobs raking leaves and digging holes, and then filling them up again, will that magically make goods appear on the shelves and give us the Horn of Plenty?

Prof. Higgs has a much better handle on the subject. In this paper on "Regime Uncertainty," he not only lays out what happened during the 1930s and the war, but also what happened afterward. The difference is that his paper actually uses believable causal mechanisms, not Krugman's "Hair of the Dog" economic theories.

Fallacy of Composition, or a Non Sequitur?

Of all of the things that Paul Krugman has written demanding that the government engage in even more massive borrowing and spending to "give the economy traction," perhaps this September 3 post is the most fallacious. Ironically, Krugman is claiming that his opponents are engaging in an informal fallacy, the Fallacy of Composition.

He writes:

Whenever the issue of fiscal stimulus comes up, you can count on someone chiming in to say, “Only a moron could believe that the answer to a problem created by too much debt is to create even more debt.” It sounds plausible — but it misses the key point: there’s a fallacy of composition here. When everyone tries to pay off debt at the same time, the result is contraction and deflation, which ends up making the debt problem worse even if nominal debt falls. On the other hand, a strong fiscal stimulus, by expanding the economy and creating moderate inflation, can actually help resolve debt problems.

So, what is his example? It is World War II. He goes on:

From 1929 to 1933, everyone was trying to pay down debt — and the debt/GDP ratio skyrocketed thanks to contraction and deflation. During and immediately after WWII, there was massive borrowing — but GDP grew faster than debt, and the debt burden ended up falling.

Yes, it seems paradoxical — but that’s the kind of world we’re living in. And the refusal of so many people to face up to the fact that we’re in a world where conventional rules don’t apply makes it likely that we’ll stay in that world for a long time come.

Here is the problem. As Robert Higgs wrote nearly 20 years ago, to say that World War II was a time of "prosperity" is an obscenity. It is true that the GDP numbers were high, but Prof. Higgs points out that the economy mainly was producing war goods. He writes:

In fact, conditions were much worse than the data suggest for consumers during the war. Even if the price index corrections considered above are sufficient, which is doubtful, one must recognize that consumers had to contend with other extraordinary welfare-diminishing changes during the war. To get the available goods, millions of people had to move, many of them long distances, to centers of war production. (Of course, costly movements to areas of greater opportunity always occur; but the rate of migration during the war was exceptional because of the abrupt changes in the location of employment opportunities.) After bearing substantial costs of relocation, the migrants often found themselves crowded into poorer housing. Because of the disincentives created by rent controls, the housing got worse each ear, as landlords reduced or eliminated maintenance and repairs. Transportation, even commuting to work, became difficult for many workers. No new cars were being produced; used cars were hard to come by because of rationing and were sold on the black market at elevated prices; gasoline and tires were rationed; public transportation was crowded and inconvenient for many, as well as frequently pre-empted by the military authorities. Shoppers bore substantial costs of searching for sellers willing to sell goods, including rationed goods, at controlled prices; they spent much valuable time arranging (illegal) trades of ration coupons or standing in queues. The government exhorted the public to “use it up, wear it out, make it do, or do without.” In thousands of ways, consumers lost their freedom of choice.

Furthermore, Krugman seems to be claiming that the "high GDP" numbers between 1941 and 1945 came as a result of all of the heavy borrowing done by the Roosevelt administration. This is nonsense. It is as though World War II came about because of "investments" by FDR and his "Brain Trust" when, in fact, the war had nothing to do with the New Deal per se.

So, in claiming that he is ferreting out the "Fallacy of Composition," Krugman engages in yet another non sequitur. Not exactly good economic analysis.

Austerity or Reckoning? We Cannot Print Our Way Out of the Crisis

While attending the 2001 ASSA meetings in New Orleans, I was jogging one morning and found myself in the company of a Yale economics professor who taught monetary economics. We had a discussion of approaches, and I explained that I went with the Austrian view, in which one teaches monetary theory from a marginal utility angle. In other words, money is a specialized good used specifically for exchange that is subject to the same laws of economics as any other good.

The Yale prof listened intently and sounded interested. Given that he taught monetary theory from a quantity view of money approach, my viewpoints were foreign to him, but he was not dismissive of what I was saying. Instead, he told me that he was interested and that he had not even thought of looking at money that way. Whether or not I planted a seed of interest, I read today from another Ivy League economics professor, Paul Krugman, that money is so "other worldly" that we really cannot apply economics at all.

Now,Krugman does not give a direct approach of monetary theory in his blog or columns, but it is there in default. Like all Keynesians, he believes that as long as an economy is not running at "capacity," and if interest rates (as set by government monetary authorities) are at or near zero (which Keynesians call a "liquidity trap"), then the only thing that can drive an economy to "full employment" of all resources is "fiscal policy," in which governments borrow and print money in order to push enough spending to those full-employment limits.

This viewpoint also holds that the key to a healthy economy is the rate of unemployment, not just of labor, but of all resources. For example, the "full-employment" of World War II is seen as an economic triumph because anyone who wanted to find work could get a job (provided he or she moved to the population centers where the factories and administrative offices were located). Farmers had huge markets for their crops, and people suddenly had money in their pockets. The fact that the government rationed goods, including food and fuel, is ignored, since people had jobs, and that was the only thing that mattered.

I don't believe that I am misrepresenting Krugman's views here, as they are pretty much standard modern-day Keynesian. The problem, however, as I noted in my post containing Robert Higgs' assessments of Keynesianism, is that this viewpoint has some very unreal assumptions, the most important being that all assets are homogeneous, so it does not matter what is being produced, be they bombs or bagels, as long as labor is being used. Furthermore, the assumptions also rest upon a pure quantity theory of money in which prices themselves are irrelevant, being subservient to a government-calculated "price level."

Another false assumption from this viewpoint is that consumer spending is nothing more than "buying back" the products they created as workers. There is no purposeful behavior here, just a circular motion of production and purchases. As long as consumers have jobs and income, they can continue this circular pattern and the economy will be operating at "full employment." Thus, World War II in this analysis would be a period of "good times."

Professor Higgs, however, takes down even the "war prosperity" myth in this paper. I think a reading of this will change one's viewpoint considerably about the views economists have about World War II.

Unfortunately, this is a very stilted and inaccurate way of looking at the economy, as there really is no plan or purpose on behalf of individuals. Instead, they simply produce, purchase, and consume in a rather mindless fashion, yet that is what Keynesians believe is a "thriving" economy. In Krugman's view, because we are in a "liquidity trap," the only thing that can rescue the economy is government borrowing and spending.

In today's post, Krugman gives what I would call his classic viewpoint of what I have described. Furthermore, in his theoretical world, any spending cutbacks will create needless disaster. After all, if assets are homogeneous, and governments can borrow and print just as long as the economy is operating "below capacity," then it is foolish to stop and engage in "austerity." He writes:

Some thoughts on the fiscal austerity mania now sweeping Europe: is anyone thinking seriously about how this affects the rest of the world, the US included?

We do have a framework for thinking about this issue: the Mundell-Fleming model. And according to that model (does anyone still learn this stuff?), fiscal contraction in one country under floating exchange rates is in fact contractionary for the world as a hole. The reason is that fiscal contraction leads to lower interest rates, which leads to currency depreciation, which improves the trade balance of the contracting country — partly offsetting the fiscal contraction, but also imposing a contraction on the rest of the world. (Rudi Dornbusch’s 1976 Brookings Paper went through all this.)

Now, the situation is complicated by the fact that monetary policy is up against the zero lower bound. Nonetheless, something much like this transmission mechanism seems to be happening right now, with the weakness of the euro turning eurozone fiscal contraction into a global problem.

Folks, this is getting ugly. And the US needs to be thinking about how to insulate itself from European masochism.

However, if assets are heterogeneous, and if money is a good subject to the laws of economics, and if the Europeans must be able to produce real goods in order to pay for their welfare states, then Krugman is uttering foolishness. For the past three years, governments have been boosting their spending to irresponsible levels (at Krugman's urging) and printing money like mad in order to try to "spend" their way back to prosperity, and we are seeing the results: unemployment is at double-digit levels and all of this spending has created zombie financial institutions that on paper are "solvent" but in reality are on the brink.

Furthermore, the wave of government debt creates real liabilities that reflects the perilous situation that exists today. Instead of creating "full employment," these policies have furthered the malinvestments that are at the heart of this downturn. Unfortunately, Krugman refuses to see this point, so he will continue to demand that governments create even more malinvestments, all in the name of "fighting the depression."

At the heart of this matter is the Keynesian myth that money is something extra-economic, and that printing more of it (provided the economy is at less than full employment) will put us back to work and create prosperity. Instead, the current policies of the U.S. and European governments are digging the hole deeper, and Krugman is claiming that the only thing that will work is for us to use bigger shovels.