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Paul Krugman - The Third Depression
Old 07-02-2010, 08:49 AM   #1
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Paul Krugman - The Third Depression

No shortage of the sky is falling pundits. I do hope he is wrong

http://www.nytimes.com/2010/06/28/op...28krugman.html
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Old 07-02-2010, 09:03 AM   #2
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I think in this context Krugman is using the term "depression" to mean a long period of economic stagnation with high unemployment. I don't think he's forecasting another 1930's style Great Depression. If we just move sideways from where we are today for the next 5+ years, I think Krugman will see that as vindication of his "depression" call today.

But sadly I think Krugman's diagnosis of the current state of the global economy is more in keeping with both current economic indicators and economic history than is true of his detractors.
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Old 07-02-2010, 09:09 AM   #3
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Note that he's not calling for a 1930s style depression here:

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We are now, I fear, in the early stages of a third depression. It will probably look more like the Long Depression than the much more severe Great Depression. But the cost — to the world economy and, above all, to the millions of lives blighted by the absence of jobs — will nonetheless be immense.
So it may just be a long period of little or no growth, not a rapid contraction. Aside from that I think Krugman is in denial about Greece and the impact of growing too many generous public programs that a private sector can no longer support. It may be true that a bad economy is the worst time to implement "austerity" in terms of increasing economic damage (same is true of raising taxes) -- but I've never seen a government willing to cut deeply in *good* economic times. That's what real Keynesianism would have us doing.
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Old 07-02-2010, 09:44 AM   #4
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I think Krugman is in denial about Greece and the impact of growing too many generous public programs that a private sector can no longer support.
I don't think he is in denial. He's actually addressed Greece several times, including . . .

Are we Greece?

And he points to the undeniable fact that treasury yields are declining (10-yr now below 3%) to support his case. It's also true that he's been forecasting declining inflation and interest rates for well over a year, so it looks like his model of the economy is a bit more accurate than those who've seen inflation, a collapsing dollar, and sky high interest rates around every corner.

And I think his view on deficits and the long-run solvency of the U.S. are more accurate too. Our long-run fiscal problems are entirely about entitlements. Another round of stimulus doesn't change the long-run fiscal picture at all. So if you're primarily concerned about reassuring treasury investors (even when they currently are bidding up the price of your bonds without any such reassurance) then the the proper course of action isn't austerity today but long-run entitlement reform today.
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Old 07-02-2010, 09:53 AM   #5
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It's also true that he's been forecasting declining inflation and interest rates for well over a year, so it looks like his model of the economy is a bit more accurate than those who've seen inflation, a collapsing dollar, and sky high interest rates around every corner.
I don't think the gold bugs and "inflationists" are claiming to know when inflationary pressures will return. And pretty much all of the economists who drink the inflation Kool-Aid agree that for the near future, there will be very little inflation (particularly for non-essentials) as the velocity of money remains low and the "hoard cash" mindset persists.

The point is, at *some* point when the velocity of money quickens again -- though this will probably take real, sustained job growth -- that together with the debt and increased money supply can stoke inflation.

I think we know printing money alone isn't inflationary. My favorite example is this: Pretend I have a magic printing press that can produce counterfeit currency that's untraceable and can not be distinguished from the real thing. I proceed to print $6 trillion of notes. Is that inflationary? It depends. If I bury it all in my backyard, it doesn't impact inflation one bit; the velocity of that money is zero. But if I give everyone in the world $1,000 of it to spend, is that inflationary? Very much so.

So I don't think Krugman and the inflationists are really in *that* much conflict in the bigger picture. The question is: when do the economic conditions increase the velocity of money to the point where the increasing money supply becomes significantly inflationary? At the moment we have very inflationary monetary policy coupled with deflationary economic activity and demand curves.
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Old 07-02-2010, 10:12 AM   #6
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The point is, at *some* point when the velocity of money quickens again -- though this will probably take real, sustained job growth -- that together with the debt and increased money supply can stoke inflation.
"When" is important and has profound implications for policy. Advocating policy designed to fight inflation when deflationary pressures prevail is really bad. Actually implementing those policies can be disastrous. People forget that the alternatives have consequences too.
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Old 07-02-2010, 10:26 AM   #7
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Do you think the FED will be able to detect signs of inflation soon enough to take appropriate action to thwart it? If their indicators lag by a quarter or two we could be in trouble.

They will also have to get the deflationary response just right. Just how many billions of securities should they sell?

Another problem will be that the FED now owns a lot of illiquid stuff, so sopping up money might be harder than before.
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Old 07-02-2010, 11:16 AM   #8
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Do you think the FED will be able to detect signs of inflation soon enough to take appropriate action to thwart it? If their indicators lag by a quarter or two we could be in trouble.
In terms of risk management, would you generally err on the side of risking a problem you know how to fix (inflation) or one that you don't (deflation)?
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Old 07-02-2010, 12:50 PM   #9
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Originally Posted by ziggy29 View Post
Note that he's not calling for a 1930s style depression here:

So it may just be a long period of little or no growth, not a rapid contraction.
Technically, it might not be like the Great Depression. However, it could be worse in many ways. Socially, people do not have the extended family support base to fall back upon for help. Today we have the nuclear family and the single parent family. Also, about 50% (check #) of the population still worked in agricultural related industries in the '30s

The largest problem is people's expectations and what are considered necessities these days - cable TV, cell phone, car, etc

Finally, this is the time when a charismatic dictator-like politician (FDR like) could be elected.


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Aside from that I think Krugman is in denial about Greece and the impact of growing too many generous public programs that a private sector can no longer support. It may be true that a bad economy is the worst time to implement "austerity" in terms of increasing economic damage (same is true of raising taxes) -- but I've never seen a government willing to cut deeply in *good* economic times. That's what real Keynesianism would have us doing.
There really has not been any proof that government spending has gotten an economy out of a recession/depression, although the social welfare programs have eased the pain.

I think that the financial conservatives will be in power during the tough times to come. They will cut back on spending (or not do enough spending as the opposition wants). They will be blamed for making the situation worse and not in power for a long enough time for the economy to turn around. The spenders will be in power at that time and will take credit for the recovery.
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Old 07-02-2010, 12:59 PM   #10
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There really has not been any proof that government spending has gotten an economy out of a recession/depression, although the social welfare programs have eased the pain.
Well, I'm no expert in Keynesian theory, but my understanding is that part of the goal is to dampen the boom and bust cycles. And governments issuing massive layoffs and service cuts into terrible economic times and already terrible private sector layoffs will (at least in the short term) make it that much worse as it produces that many more unemployeds -- and further damages the confidence and psyche of those still employed -- leading to a potential "ripple" effect of even more consumer pullbacks and more layoffs. In other words, when people need more jobs and more social services, that's the worst time for governments to slash jobs and slash services.

That's the theory as I understand it. (I'm not advocating that, just stating my understanding of the Keynesian "pump priming" idea.) Note that to have even a *chance* to be feasible long term, high deficit spending in a recession has to be countered by paying down the debt created by deficit spending -- and that means *slashing* spending in boom years. This is not something governments have ever shown themselves to be capable of doing.
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Old 07-02-2010, 01:08 PM   #11
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I think inflation will come eventually, but this time we won't have control over it. Asia will. I hear inflation is high there and many areas have increased the minimum wage as much as 30%. This, with a rise in the value of the yuan will be a dramatic increase in their buying power. GM sold more to them than us recently. Everything they buy in mass will rise in price. The effect will be amplified by the poor earning potential here in the US. The good news is they will also drive profits for certain multinationals. The trick will be to pick the right time to re-enter the market after the coming carnage.
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Old 07-02-2010, 01:29 PM   #12
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Well, I'm no expert in Keynesian theory, but my understanding is that part of the goal is to dampen the boom and bust cycles. And governments issuing massive layoffs and service cuts into terrible economic times and already terrible private sector layoffs will (at least in the short term) make it that much worse as it produces that many more unemployeds -- and further damages the confidence and psyche of those still employed -- leading to a potential "ripple" effect of even more consumer pullbacks and more layoffs. In other words, when people need more jobs and more social services, that's the worst time for governments to slash jobs and slash services.

That's the theory as I understand it. (I'm not advocating that, just stating my understanding of the Keynesian "pump priming" idea.) Note that to have even a *chance* to be feasible long term, high deficit spending in a recession has to be countered by paying down the debt created by deficit spending -- and that means *slashing* spending in boom years. This is not something governments have ever shown themselves to be capable of doing.
It isn't about a 'ripple' effect. It is that deficit spending by government can get an economy out of the recession. There is no proof or examples of that being true.

The Great depression in the USA was ended by war not by anything by FDR did.

But the Keynesian idea makes people feel good because it appears that government is doing something. The USA might have been able to afford that before it had a 14T debt and annual 1.5T deficit

Also, if the USA did the other part of K theory - good times - and eliminated the debt, run a surplus and cut spending it might be able spend during the bad time. But that does not happen - government just gets bigger.




Keynesian economics - Wikipedia, the free encyclopedia

Keynes′ theory suggested that active government policy could be effective in managing the economy. Rather than seeing unbalanced government budgets as wrong, Keynes advocated what has been called countercyclical fiscal policies, that is policies which acted against the tide of the business cycle: deficit spending when a nation's economy suffers from recession or when recovery is long-delayed and unemployment is persistently high—and the suppression of inflation in boom times by either increasing taxes or cutting back on government outlays. He argued that governments should solve problems in the short run rather than waiting for market forces to do it in the long run, because "in the long run, we are all dead."
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Old 07-02-2010, 01:34 PM   #13
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But the Keynesian idea makes people feel good because it appears that government is doing something. The USA might have been able to afford that before it had a 14T debt and annual 1.5T deficit
But that goes precisely to one of my points: We can't really *be* Keynesian in reality because we only try the "overspend in a recession" half of it and thoroughly ignore the "pay it back in good times" part of it. That's *why* we have a $14 trillion debt. In theory the public sector could try to run counter-cyclical to the private sector, but try justifying the layoff of public sector employees because you're running a surplus and the economy is booming. We can't, so we don't, and continue to overspend even in a strong economy which needs little or no "stimulus" according to the Keynesian model.

I'm not arguing that it works or has been proven to work. I'm arguing mostly that we can't really fully implement it because of our unwillingness to "underspend" in boom times.
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Old 07-02-2010, 01:36 PM   #14
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But that goes precisely to one of my points: We can't really *be* Keynesian in reality because we only try the "overspend in a recession" half of it and thoroughly ignore the "pay it back in good times" part of it.
Agree,
I think I was editing my post when you were answering it.
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Old 07-02-2010, 02:38 PM   #15
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But that goes precisely to one of my points: We can't really *be* Keynesian in reality because we only try the "overspend in a recession" half of it and thoroughly ignore the "pay it back in good times" part of it. That's *why* we have a $14 trillion debt. In theory the public sector could try to run counter-cyclical to the private sector, but try justifying the layoff of public sector employees because you're running a surplus and the economy is booming. We can't, so we don't, and continue to overspend even in a strong economy which needs little or no "stimulus" according to the Keynesian model.

I'm not arguing that it works or has been proven to work. I'm arguing mostly that we can't really fully implement it because of our unwillingness to "underspend" in boom times.
It seems to me that promoting government austerity now because we have been unable properly to pull back spending when we were flush in the past will simply compound the problem. It is the cutting off of one's nose to spite one's face.

At this point, we still need government spending to supplement private sector demand or the economy will not recover. What we should be doing is getting serious about the changes needed once the economy is back up to speed. Then, we can cut back.
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Old 07-02-2010, 02:47 PM   #16
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It seems to me that promoting government austerity now because we have been unable properly to pull back spending when we were flush in the past will simply compound the problem. It is the cutting off of one's nose to spite one's face.

At this point, we still need government spending to supplement private sector demand or the economy will not recover. What we should be doing is getting serious about the changes needed once the economy is back up to speed. Then, we can cut back.
I want to agree. In terms of making a bad economic situation at least temporarily worse, massive spending cuts and large tax hikes are like gasoline on a fire.

I just don't trust that we will actually follow through with the "cutting back" once the economy is clearly back on track. As I said earlier, I've not seen any evidence to suggest that government is capable of actually cutting spending as its revenues expand and the economy grows. Every special interest (including tax cut advocates in there) will want their mitts on the increasing revenue instead of using it as a rainy day fund (for states) or paying down the national debt (for the feds). I wonder how much California wishes they didn't feel the need to spend the $20 billion surplus it generated not too many years ago.
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Old 07-02-2010, 03:20 PM   #17
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It seems to me that promoting government austerity now because we have been unable properly to pull back spending when we were flush in the past will simply compound the problem. It is the cutting off of one's nose to spite one's face.

At this point, we still need government spending to supplement private sector demand or the economy will not recover. What we should be doing is getting serious about the changes needed once the economy is back up to speed. Then, we can cut back.
I don't see anyone in this thread calling for government austerity.

The question is - does the Keynesian theory of increasing deficit spending get an economy out of a recession/depression. Again, there is no evidence or examples that it does.
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Old 07-02-2010, 03:40 PM   #18
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I don't see anyone in this thread calling for government austerity.

The question is - does the Keynesian theory of increasing deficit spending get an economy out of a recession/depression. Again, there is no evidence or examples that it does.
I don't think anyone here on the thread was advocating government austerity. It was more a general statement of agreement with Krugman.

You say earlier that war, not FDR, led us out of the Depression. But fighting a war is the very essence of government spending. We ran tremendous budget deficits during WWII to build the tanks and ships and planes to fight the war. It was that demand, that government demand, that put people to work and pulled the economy up from the depths. Frankly, I would rather the government demand things other than war machines, but I think this is a good example of how government demand supplementing the reduced private demand can and did pull an economy out of depression.
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Old 07-02-2010, 04:04 PM   #19
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The economy rests on 1) consumer spending, 2) corporate spending and 3) government spending. At the moment, only government spending is keeping us afloat. If 1) and 2) don't pick up soon and 3) slows down then a depression is all but assured.

So I think this is the wrong time for governments for finally discover fiscal responsibility. Higher taxes will further damage 1) and 2) and slower government spending will just put the nail in the coffin.

The Austrian school of economics might have it right. Perhaps, the system must collapse so that it can be rebuilt stronger. But gosh, as a matter of personal preference, I sure prefer the chronic pain of the Keynesian approach to the acute pain of the Austrian approach...
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Old 07-02-2010, 04:17 PM   #20
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I don't think anyone here on the thread was advocating government austerity. It was more a general statement of agreement with Krugman.

You say earlier that war, not FDR, led us out of the Depression. But fighting a war is the very essence of government spending. We ran tremendous budget deficits during WWII to build the tanks and ships and planes to fight the war. It was that demand, that government demand, that put people to work and pulled the economy up from the depths. Frankly, I would rather the government demand things other than war machines, but I think this is a good example of how government demand supplementing the reduced private demand can and did pull an economy out of depression.
Starting a war is not part of Keynesian thought. WWII was not an initiative of FDR. So, the choice of government spending on war or spending on things other than war to get out of a recession/depressions a false dichotomy. However, the USA is spending two fight two hot wars (Afghanistan, Iraq) and a "warm" war against terrorism in the USA and the world. Yet we are in a recession. Not all wars end a recession/depression.

There is no evidence or examples that the Keynesian theory of increasing deficit spending gets an economy out of a recession/depression.
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