Paul Krugman on Keynes
As a friend of ours remarked when sending us the link to Paul Krugman's December 29 editorial, 'he's trying to get in the last word for the year'. The editorial is entitled 'Keynes Was Right' and it is at least somewhat reassuring that it appeared on the NYT's 'opinion pages', because that is all it amounts to – an opinion.
The editorial starts out with the following claim:
“The boom, not the slump, is the right time for austerity at the Treasury.” So declared John Maynard Keynes in 1937, even as F.D.R. was about to prove him right by trying to balance the budget too soon, sending the United States economy — which had been steadily recovering up to that point — into a severe recession. Slashing government spending in a depressed economy depresses the economy further; austerity should wait until a strong recovery is well under way.“
(emphasis added)
No-one should be particularly surprised that Krugman once again asserts that government is 'not spending enough' – that has been his song and dance seemingly forever. We say 'seemingly' mainly because he sotto voce condemned government spending when the previous administration engaged in it. So the Keynesian advice on deficit spending seems only applicable when the administration is not a Republican one. However, we don't want to quibble too much over Krugman's inconsistencies, which are in the main a result of his occupation as a political hack. We are here to quibble with his economics. As regards the Nobel Prize, it is routinely handed to people in support of interventionism and statism, so we think of it rather as a contrary indicator these days. Some good economists may occasionally receive a Nobel prize, but receiving the prize is not per se proof positive that the recipient is a good economist – it is more likely to signify that the recipient is considered palatable to the welfare/warfare state establishment.
Now, the Keynesian dictum that government should be 'austere during the boom', in fact should use the boom to accumulate a war chest so to speak, that can then be deployed during the slump in the form of government spending is regularly thrown out as a kind of nostrum that brooks no dissent.
Quite often people will declare: 'if only the government had implemented Keynes' instructions correctly, then we wouldn't have to worry so much now that the – unfortunately necessary – deficit spending rips such an ugly big black hole into our national finances'.
Indeed, anyone looking at a chart that shows how the growth of the nation's public debt has progressed in recent years will probably wonder when the time of 'Greecification' will arrive.
There have been two official recessions over the past decade – over the same span, the total public debt has nearly tripled. Its growth accelerates with the advent of recessions, but certainly fails to decelerate once they are officially over – click chart for better resolution.
What one will probably not be induced to think is that the government has somehow failed to 'spend enough' during the slump – but it certainly hasn't stopped spending like a drunken sailor once the slump officially ended.
Of course we would tend to agree with Krugman that the 'official end of recession' does not indicate an end to the economic malaise.
The above claim about the 'proper implementation of Keynes' recipe' reminds us a bit of the claims about the 'proper implementation of communism'. One surprisingly often comes across people who assert – even while they are sitting in a comfy chair, cellphone and i-Pad lying in grabbing distance on the table before them, in short, while they are surrounded by the fruits of the free market – that 'communism would be the best possible system, if only it had been implemented correctly'. Or failing that, if only the communists had succeeded with their promise to deliver the 'new superman' they promised would be born once the revolution succeeded, i.e., if they had been up to the task of altering that pesky hindrance to social engineering commonly known as 'human nature'.
It is easy to demolish such intellectual errors, but it is at the same time scary that a full two decades after the socialist commonwealth imploded in irredeemable moral and financial bankruptcy such claims are still paraded as though they were incontestable truths.
Alas, what is wrong with the idea of the government establishing a surplus during the boom that it then can deploy during the bust?
Before going into this we should mention that anyone regaling us with this nostrum should first explain why there is such a thing as a boom and a bust. Krugman and his fellow Keynesians always make it sound as though the bust were some sort of natural catastrophe, akin to an unforeseen collision with an asteroid from deep space. They don't even question the boom – after all, Keynes insinuated that it should be possible to attain an 'eternal boom' by means of interventionist policy, especially lowering of the interest rate below its natural level by the monetary authority.
Now let's consider what would happen if the government were to accumulate a fiscal surplus during the boom. If it withheld the funds it accrued from circulation (it could in practice do this by depositing them with the central bank and leaving them there), then its policy would counteract the effects of the credit and money supply inflation that actuates the boom. In other words, such a policy would exert a deflationary effect by 'sterilizing' a portion of the money supply. Once the boom faltered, spending these monies would have the opposite inflationary effect and would serve to lower the purchasing power of money.
What this spending could however not achieve would be to alleviate the scarcity of capital, this is to say it could not provide any additional capital goods. If the government were to spend the funds on 'shovel-ready' (as they are today called) public works, then capital would have to be withdrawn from other employments. In the market economy, capital is as a rule employed wherever it serves to provide the satisfaction of the most urgent wants of consumers. Hence this withdrawing of capital goods for public works projects would impair these want-satisfactions.
If on the other hand the government were to spend the tax revenues it receives during the boom on various goods in order to hoard them so they can be employed later on when the slump arrives (raw materials, intermediate capital goods or consumer goods for the workers to be employed in its planned investment projects), it would not counteract the boom but accentuate and intensify it. This would lead to an even worse economic crisis.
Let us not forget, government spending on capital goods will always be in competition with wealth creators who are bidding for the same scarce means of production. It therefore impairs their ability to generate wealth.
In other words, the allegedly 'correct' way of implementing the Keynesian recipe is not going to work either. Of course there is not even a question of implementing it, since the government did manifestly not produce any surpluses during the boom, quite the contrary. So the Krugman recommendation at present amounts to 'spend more anyway'.
However, there can be no increase in 'aggregate spending' achieved in this manner, since the only way the government can spend more is by either raising taxes or borrowing the money. In both cases the private sector's ability to spend and invest is curtailed to the exact same extent to which the government's spending power is increased. The third method is to inflate the money supply further (in reality a mixture of all these methods has been and continues to be employed). This is even worse, as it brings about all the attendant effects of inflation. In an economy that is already severely impaired by successive episodes of credit booms and the capital consumption they have engendered, this inflationary policy can at best bring a short term flare-up of economic activity that delays the slump but only makes it worse in the end, as even more scarce capital is malinvested and wasted.
Incidentally this seems to be precisely the position the US economy now finds itself in after several years of enormous money supply inflation and deficit spending – namely on the precipice of an even worse slump (even though the precise timing of its commencement is uncertain).
Similar to the post-revolutionary assembly of France and its policy of inflating the issue of assignats, the central bank has engaged in several inflationary pushes (first by lowering interest rates sharply and engaging in various 'extraordinary' liquidity provision measures, and later by the two iterations of 'quantitative easing', or more colloquially, money printing) that have brought about the temporary illusion of a return to prosperity by distorting various prices (although not necessarily those prices that the central bank wished to see distorted, like e.g. those of houses), but as soon as the inflationary measures were halted, these effects immediately began to subside again. This was evident in the prices of securities (such as stocks and junk bonds) and commodities, and it has also become evident in the behavior of leading economic indicators.
