David R. Henderson  

Correction on Krugman

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On May 18, in discussing Paul Krugman's analogy between a baby-sitting coop and the general economy, I wrote, quoting my Reason review of Krugman's The Return of Depression Economics:

But nowhere does Krugman mention that another way to solve a problem of excess supply is to let prices fall. This missing piece is interesting, given that it was explicitly discussed in the article from which Krugman draws the analogy. The Sweeneys pointed out that because the founders of the co-op economy imposed price controls, decreeing that one unit of scrip must always exchange for a half-hour of baby-sitting services, there would be shortages when demand was too high and surpluses when it was too low. It's not surprising that Krugman left this out: He seems to be biased in favor of having government step in rather than letting markets work things out.

Commenter Kevin Donoghue pointed out that in fact Krugman had noted that a solution was to let prices fall. Sure enough, I found that point on p. 182 of his new edition, whereas his use of the analogy to drive the analysis in the book is on pp. 16-20 of the book. So I should not have used the term "nowhere." What I should have said is that in his discussion of such coops when he sets up the analogy at the start of the book, he doesn't mention that a solution is to let prices fall. So, throughout almost the whole book, this solution is not presented. My point, without the "nowhere," stands. Leaving out this possibility is like teaching a course in micro, pointing out in the first class that an increase in supply with the price fixed causes a surplus, arguing that the best way to eliminate the surplus is to increase demand, and not pointing out until the last class of the semester that, oh yes, one way to eliminate the surplus without increasing demand is to get rid of the price floor.

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COMMENTS (6 to date)
Mike Rulle writes:

PK has an extraordinary strong intellectual (or political) bias in favor of Govt. intervention. Wasn't this also the rationale behind these mortgage promotion programs post 10/08; as well as the bailouts, cars for clunkers, and any other Govt program seeking to induce demand through defacto subsidies? The logic is as if we just need to produce a temporary "illusion" of demand to give individual decision makers the time to realize the error of their ways. I suppose that can sometimes work---but the reasons have to be spelled out clearly and specifically in any given situation--not merely as a general theory of counter-cyclical economics.

Edward writes:

Is it news that Paul Krugman will put politics in front of economic science?

I have not read his book, but I did read the back cover. He briefly criticized Hoover as being obsessed with balancing the budget which, he claimed was one of many causes of the Great Depression. Well, how did Hoover do that? Though drastically cutting spending? No, he drastically raised taxes from 25% to 63%. That sounds like a number Krugman would feel happy with.

Kevin Donoghue writes:

The correction is welcome, but I don’t accept your claim that your point stands. The analogy with micro doesn’t work. This isn’t about relative prices, it’s about whether the economy as a whole benefits from a downward spiral in wages and prices (the real balance effect). Krugman denies that it does, at least in any reasonable timeframe. If you want to convict him of being blinded by ideology you first need to show that he is wrong.

El Presidente writes:

Yes. Let's allow deflation to wreak havoc by causing widespread defaults on contracts, increased unemployment, and reduced real wages. Perhaps there's a reason why it is not mentioned as a preferred solution and perhaps it has nothing to do with affinity for government. I don't think anybody has an affinity for government. However, some of us recognize that it might produce a more pragmatic solution. It's kinda hard to argue he's biased when he thoroughly explains the case for his policy preference. Being persuaded you're right and being unwilling to entertain the possibility you're wrong are different sentiments. I see no evidence of the latter on Krugman's part.

Nathan Smith writes:

Interestingly, in the *first* version of "The Return of Depression Economics," Krugman goes into considerable detail about how Japan could get out of its slump by quantitative easing-- just what part of the anti-stimulus right wants to do now. This section was removed from the latest edition. See my post on "Krugman's self-censorship": http://freethinker.typepad.com/the_free_thinker/2009/06/krugmans-selfcensorhip.html

Charlie writes:

The rest of the review is poorly done or disingenuous also. There is a big deal implying that Krugman is unaware or unwilling to admit a kind of "supply-side" economics that is firmly entrenched in the mainstream. From the article:

"Lindsey devoted his Ph.D. dissertation to the topic of Reagan's tax cuts once he returned to Harvard and wrote up his findings in the well-respected Journal of Public Economics. One signer of Lindsey's dissertation was Lawrence Summers, currently secretary of the treasury, who was also at the CEA during 1982-83. He is a man for whom Krugman generally shows much respect.

Yet Krugman mentions none of his present and past colleagues' respected academic work that supports the supply-side view. It's much more convenient for him to ignore their findings." Then an article from 1993 is quoted to imply that Krugman doesn't have the inclination or concentration to read this serious work.

Of course, such work isn't traditionally called "supply-side" economics in public discourse. If it was Bush I wouldn't have been calling it voo-doo economics, as his mainstream advisors would be in agreement. Rather, supply-siders like Jack Kemp, Jude Wanniski, and their ilk are who Krugman is refering to.

This is from Accidental theorist, which the author is either unaware of or ignores, "What is supply-side economics? It is not, as some of its apologists would have it, simply the recognition that the supply side of the economy matters; one would be hard-pressed to find a card-carrying economist who disagrees with that proposition. Nor is there anything distinctive about the recognition that high marginal tax rates can hurt economic growth--this, too, is an utterly conventional insight. For example, the effect of taxes on savings, investment, and growth was a central preoccupation of the youthful research of Deputy Treasury Secretary Lawrence Summers. Yet Summers is not now and has never been a supply-sider--because he has always thought that other things matter, too.
What defines supply-side economics, in other words, is not what it includes but what it excludes. Supply-siders believe that only the supply side matters."

He then goes on to give something like a "methodological examination by Krugman written before August 1999, of the logic and evidence behind supply-side economics." I would say Don owes me $100, but I'm sure someone has pointed out the article to him before, so either he has already paid out or he never will.

Either way he was wrong in one of the following statements.

1) "I've read everything on supply-side economics that Krugman has ever written"

2) "I'm a man of my word"

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