04 Jun 2010

Krugman/Sumner Death Match: Let There Be Peace on Earth, and Let It Begin With Me

All Posts, Economics, Financial Economics 4 Comments

OK when I see Scott Sumner and Paul Krugman (also Mark Thoma) arguing over the best way to destro fix the economy–should Bernanke crank out more $100 bills to buy long-term government debt so the feds can buy more Predator drones, or should Pelosi borrow more directly from the private sector so the feds can buy more Predator drones? Decisions, decisions–I am tempted to get snarky.

But then I see that Krugman and Sumner really are talking past each other, and my compassion kicks in. It’s like going to a kickboxing fight when the gladiators are blindfolded and can’t even hit each other. Booooring.

I’m not going to bother quoting and parsing. Here is my take on the big-picture worldviews here. I offer this because Scott Sumner actually sometimes publicly acknowledges my existence, and this could actually affect his future posts. (I hold out no such hope for Krugman. Maybe one day he’ll notice me. Then I will be special.)

WHAT KRUGMAN (AND I THINK THOMA) IS SAYING:

The goal is to boost aggregate demand, so that actual output equals potential output and everybody is employed. When the government runs a massive fiscal deficit right now, that necessarily boosts current aggregate demand. The freshwater economists who invoke “Ricardian equivalence” to supposedly disprove this are liars, idiots, or possibly both. What Ricardian equivalence says is that for a given stream of government spending, it doesn’t matter how you finance it. Whether you run a balanced budget or run deficits in the near-term, rational taxpayers will set aside what they need in order to pay future tax liabilities (which will be higher if there is a growing public debt). So for example, you can’t stimulate the economy by giving a massive tax cut today, while not cutting government spending. Whatever the IRS hands back to taxpayers, the Treasury takes right back in the loan market. Real interest rates don’t change either (no crowding out), because the increased government borrowing is perfectly offset by the increased taxpayer savings.

But Ricardian equivalence has NOTHING to do with the case where government decides to increase its current level of spending. Even if current taxpayers see the rising deficit and think, “Uh oh, there goes Obama’s pledge not to raise my taxes,” they are still not going to perfectly offset the government’s new spending. It doesn’t matter whether people believe the feds will keep it up; the point is to boost aggregate demand this year, and that’s exactly what will happen.

I’m surrounded by freaking idiots!! Where’s my bike, I need to burn off some steam.

WHAT SCOTT SUMNER IS SAYING:

People are knocking out a monetary solution to our current problems, by saying that the markets expect future Ben Bernanke will take actions to undo the policies implemented by today’s Ben Bernanke. OK, that’s true as far as it goes, but by the same token future Ben Bernanke could cut the monetary base by 85% in 2011 if he wanted to thwart Pelosi’s fiscal stimulus. So what’s Krugman’s point? That’s like saying monetary policy won’t work because Martians might come, say they hate Friedman and Schwartz, and unleash the invasion. True, but maybe the Martians hate Keynes too.

Man people are thick. I knew I should have moved to China.

An economics blog is a terrible thing to waste.

4 Responses to “Krugman/Sumner Death Match: Let There Be Peace on Earth, and Let It Begin With Me”

  1. Ash says:

    I tried asking this in my intermediate macro class, but I don’t think my prof got what I was saying.

    If people save more when they expected more taxes to offset increased G, what do people do when they expect government to inflate its way out of debt?

    If the answer is “they would buy more stuff”, wouldn’t that increase AD and thus achieve Krugman’s goal? And if that’s the case, why doesn’t Krugman call for Obama to spend spend spend, and for Bernanke to assure everyone that he will finance it?

    • Bob Roddis says:

      “Bottom line: you really have to think these things through. Blithe generalizations about rational expectations aren’t enough.”

      If people actually understood that they were being robbed by money dilution and that “fiscal policy” is nothing but a wealth transfer hoax, I would expect them to revolt, or, in the very least, buy commodities as a store of value in the face of diluted purchasing power.

      Hey Krugman. Bottom line: you really have to think these things through.

    • bobmurphy says:

      He does do precisely that. But he thinks Bernanke is too much of a wuss to do it, and that even if Bernanke said he would do it, nobody would believe him.

      • Ash Navabi says:

        Oh, my bad.