23 Oct 2010

Krugman’s Rattled

Economics 15 Comments

That is my only explanation. Krugman is jet lagged from his trip, opens his inbox and finds 128 emails from people telling him to check out a website on which almost $24,000 (as of this writing) has been pledged.

Doubt me? Look at this:

A thought: it has occurred to me that we could use an economics equivalent of Keith Olbermann’s “Worst Person in the World” award. KO does not, of course, mean that the person he goes after on any given night really is the worst person in the world; he just uses the title to highlight some especially awful action or statement.

I’d encourage others to enter this game — and yes, I know that various paid trolls and others will award me the title five times a day if they can. But here’s what caught my eye: the WSJ’s Real Time Economics explaining (or rather, “explaining”) the risks from competitive devaluation:


[Wall Street Journal:] When one country devalues its currency, others tend to follow suit. As a result, nobody achieves trade gains. Instead, the devaluations put upward pressure on the prices of commodities such as oil. Higher commodity prices, in turn, can cut into global economic output. In one ominous sign, the price of oil is up 8.7% since August 27.

Urk.

Why do dollar commodity prices tend to rise when the dollar falls? Because other countries buy commodities too, so that a constant dollar price would mean a fall in terms of other currencies. To a first approximation, in fact, you’d expect commodity prices to remain constant, other things equal, in terms of a GDP-weighted basket of currencies around the world.

So yes, a fall in the dollar tends to raise the price of oil in dollars — but it also tends to reduce the price of oil in euros. A fall in the euro tends to raise the price of oil in euros, but raise reduce it in dollars. [whoops!] So what would devaluations that raise commodity prices in terms of all currencies look like? I have no idea.

There is, I think, a tendency to think of devaluations as reductions in the value of currencies relative to something external and eternal — and hence as making us all poorer. But the reality is that my depreciation is your appreciation, and vice versa; we can’t all devalue at the same time.

A lot going on in the above. First, notice that Krugman thinks it would take “paid trolls” to nominate him as the Worst Economist in the World. At first I was going to make a joke, but I think we should be serious. Do you see how bad Krugman’s worldview is? Forget Keynesian economics for the moment. Does Krugman actually think that the level of anger directed against him, is the result of right-wing funding?

You might be tempted to say, “Oh c’mon, he’s just joking around.” Right, he was joking around; but not on that part. He was trying to preempt wise guys in the comments by acknowledging that he himself would win this award, but the “paid troll” doesn’t read like sarcasm to me.

But on to more important things: What the heck is Krugman talking about? Does he really not understand the WSJ’s point? A humble guy in the comments spelled it out:

> [Krugman:] So what would devaluations that raise commodity prices in terms of
> all currencies look like? I have no idea.

[Guy in comments:] Use oil as an example. Suppose all currencies devalue relative to oil by 10%. That means the cost of oil in all currencies increase by 10%. Imagine that the amount of money of everyone on this planet was increased by 10% suddently. Obviously the cost of everything including oil will increase by about 10% after some time.

> [Krugman:] But the reality is that my depreciation is your appreciation, and vice versa;
> we can’t all devalue at the same time.

[Guy:] Of course, it won’t happen at the same time. US dollars will devalue first by increasing the money supply, followed immediately by Yuan, Won, … Most countries will need to follow the action by US after some time. Japan has done that not long ago and I am not surprised that Japan will do that again if US dollars continue to devalue.

I don’t believe what I am doing. I am answering a simple economics question raised by a Nobel Laureate in economics.

Welcome to my world, friend.

One last thing: Please don’t say, “Krugman is just making the point that currencies can’t simultaneously depreciate against each other.” Look at what Krugman wrote: “So what would devaluations that raise commodity prices in terms of all currencies look like? I have no idea.”

So if Krugman just means that two currencies can’t fall against each other, then the stuff about commodity prices is very confusing. He should have just said, “You can’t have two devaluations, period.” By him throwing on the discussion of oil in euros and dollars, and then writing the above two sentences, is like saying, “Jim said he was going to mow my lawn with a square circle. But I have no idea how a square circle is going to cut through grass.”

15 Responses to “Krugman’s Rattled”

  1. Desolation Jones says:
  2. Bob Roddis says:

    As comedienne Brett Butler used to say, “The child ain’t right”.

  3. Alt says:

    When krugman wrote “So what would devaluations that raise commodity prices in terms of all currencies look like? I have no idea.”

    Yes, Krugman wrote about the commodity price, but he is really thinking about the value of exchange rate. That is the core of the article. And it is clear in his answer … his thinking about the exchange rate.
    Can you not see that?

    Now if you consider this simple economic model:

    [real exchange rate] = [nominal exchange rate] * [(Foriegn CPI ) / (Domestic CPI)]

    You can easlly see that the devaluations of all currencies in the same time the real exchange rate would note change.
    The same thing would happen with the nominal exchange rate in this model.

    But this is in theory, in the real life is another thing.
    May be Krugman is right.
    What would happen in the real life with the exchange rate?
    I really don’t no in the short term.
    Do you really know what would happen with the exchange rate?

    • bobmurphy says:

      This is what the WSJ had in mind:

      Suppose right now the euro trades for $1.00, and the price of oil is either $100 per barrel or 100 euros per barrel.

      Now Bernanke prints a bunch of dollars, so that the euro rises to $2.00. In the international oil market, crude now trades for either $200 per barrel or 100 euros per barrel.

      Then the ECB reciprocates and massively prints euros. The euro falls back to $1.00. Now oil trades for either $200 per barrel or 200 euros per barrel.

      I am not bothering trying to get in Krugman’s head to figure out what alternative model he has in mind. The above is perfectly straightforward and is what the WSJ had in mind. If Krugman “has no idea” how the above could happen, he is in for a surprise.

      • Gene Callahan says:

        “Now Bernanke prints a bunch of dollars, so that the euro rises to $2.00. In the international oil market, crude now trades for either $200 per barrel or 100 euros per barrel.”

        No, Bob, that’s inflation, not devaluation.

        • bobmurphy says:

          OK Gene, then how is Bernanke supposed to lower the dollar without resorting to monetary techniques? And I really hope you have a good answer, to justify your condescending tone.

      • Gene Callahan says:

        See Sumner: that’s certainly NOT what the WSJ was thinking of.

        • Gene Callahan says:

          I stand corrected: Sumner does think that might be what they meant.

          • bobmurphy says:

            Gene, if you think I’m being obtuse here, please explain. Maybe you, Krugman, and Sumner are reading way too much into this. The WSJ (in my mind) clearly had in mind the type of scenario I outlined in my numerical illustration. What are you guys thinking? (And I include Sumner, since he was mealy-mouthed about it. He didn’t just come out and say, “Krugman, what the heck are you talking about?!” like I did.)

  4. Juliano Camargo says:

    Any farmer knows commodity prices can go up or down against all currencies depending on the total area and the yields.

    This is disturbing. A Nobel laureate economist ignores supply and demand laws when it involves money, and in that regard knows less about economics than any farmer.

    Maybe this should be expected. He is certainly the most pompous economic idiot ever. But the influence he has gives me the fear that our civilization can be destroyed not by natural disasters or wars, but by wrong economic advice. It makes me wish it was my fault in not understanding him.

    • Gene Callahan says:

      “Any farmer knows commodity prices can go up or down against all currencies depending on the total area and the yields.”

      Yes, Juliano, and so does Krugman. He is talking about competitive devaluations, and you are talking about changes in supply.

  5. Al says:

    This is true in the long run, at least in theory.
    But in the short term is very difficult to know what really happened.
    Don’t you agree?

  6. Austrianbanker says:

    Isn’t the obvious answer … look at the price of gold? Didn’t all currencies devalue against gold twice in the last 100 years and was not the result in all currencies that the price of gold went up?

    If not, can someone point me to a currency which still values gold at its 1933 or 1971 equivalent.

    I am sure the comparison would be the same in oil, but then we’d get into an argument about supply and demand which would be the opt out for Krugman. In gold, that would be much harder.