QandO

August 16, 2004

Once upon a time, with Paul Krugman
Posted by Jon Henke

It's quite interesting to read what Paul Krugman--who really is a very accomplished, credible economist--wrote back in the 1990s, before his worm turned from Academic/Economist to Pundit/Demagogue. In fact, a great deal of what he wrote at the time would seem quite applicable today....the sort of thing he would be teaching his readers if he weren't so hell-bent on policiticking for Anybody But Bush. So, let's review some of Paul Krugman's knowledge, when there wasn't a political agenda clouding his economics....

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1: What is an acceptable unemployment rate? (NAIRU)

When people argue that the economy can grow at 3.5 percent for years to come, they must either be unaware of this relationship or have a wildly unrealistic view about how low the Fed can push the unemployment rate. For example, when supply-siders call for a return to the growth rates of the "seven fat years" from 1982 to 1989, when the unemployment rate fell from 10.7 to 5.2 percent, one wonders what they are thinking. Since the current rate is only 5.6 percent, a similar growth spurt would produce a negative unemployment rate by 2003. Even Reagan never promised that.

How large a reduction in the unemployment rate is it realistic to hope for? Perhaps none at all. Most economists believe that inflation begins to accelerate when unemployment falls below what is gracelessly known as the Nairu (for "nonaccelerating inflation rate of unemployment"). The theory of the Nairu has been highly successful in tracking inflation over the last 20 years. Alan Blinder, the departing vice chairman of the Fed, has described this as the "clean little secret of macroeconomics."

The Nairu is usually put at 5.5 to 6 percent -- the current unemployment rate, more or less. To question whether this is too pessimistic misses the point. If the Nairu is 5 percent rather than 5.5, the economy can grow at 3.5 percent -- but for only one year. If the Nairu were 4.5 percent -- which would be utterly inconsistent with historical experience -- you would get two years of 3.5 percent growth. It's still hardly the kind of explosive growth the Fed's critics say we should aim for.

I would remind you that our current unemployment rate is.....5.5%. Precisely what Paul Krugman argued was consistent with historical experience....and perhaps even on the low side. So, since we are at the same unemployment rate as we had in 1996, how large a reduction in the unemployment rate is it realistic to hope for today? If he were writing a less tendentious column, Professor Krugman might argue...."Perhaps none at all".

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2: Who would be responsible for economic growth? (90s version)

Where, then, will the 1990s take us? Since there is such a brisk business in doomsday books, it might be useful to note first that we could be in for good news (though it would be through no fault of the policymakers). All it would take is modest good luck: an acceleration of productivity growth to something like the levels of the 1950s and 1960s. The history of productivity in this century suggests that a return in the 1990s to some higher rate -- 2.5 to 3 percent a year -- is quite possible. If this happened, many of our pressing economic problems -- stagnant living standards for the average American, misery at the bottom, the budget deficit, our weak national savings rate, trade tensions -- would decline or disappear.

Seems like it would be appropriate for Professor Krugman to remind us that our current economic performance is largely indifferent to current policymakers, too. You might think, in the midst of all the gloom and doom, he'd give us the same reminder he gave us in the 90s. You might think that, but you'd be wrong.

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3: "Irresponsible economic plans"

Even if we really do balance the budget by 2002, if you look a few years beyond that, and you realize that the aging of the American population is going to have a devastating effect on the federal budget deficit. If we were responsible at all, we would be running budget surpluses now to build up reserves for that, so this is not a good time to go offering a $550 billion tax cut, even if you had a plausible way to pay for it. And the fact is that the Dole plan does not have a plausible way to pay for it. I just picked up a copy of the Dole campaign book, "Trusting in People," and I wanted to flip to the chapter that tells us what programs he's going to cut, you know, what interest groups is he going to take on, because that's what, you know, he's about downsizing government, fighting the special interests. You know, there isn't any chapter on that. Dole hasn't proposed a single substantive cut in federal spending. There's just nothing there. It's an empty plan, and, therefore, it's a disaster if we cannot afford such a thing.

You recall Paul Krugman's current criticism of Kerry's economic plan, don't you? Neither do I.

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4: Economic circumstances are whose fault, now?

I think the public voted for Ronald Reagan the first time because he was a more appealing character than his opponent. They voted for him the second time because the economy was experiencing a strong recovery, which wasn't Reagan's doing, but happened on his watch. And I think the public is going to vote for Bill Clinton in a big way because the economy is in the middle of a strong recovery, which isn't Bill Clinton's doing but happened to happen on his watch, and that's--that's I think end of story.

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5: The poor are better off than they used to be...

We can confirm this with more direct measures of the way people lived. In 1950 some 35 percent of dwellings lacked full indoor plumbing. Many families still did not have telephones or cars. And of course very few people had televisions. A modern American family at the 12th percentile (that is, right at the poverty line) surely has a flushing toilet, a working shower, and a telephone with direct-dial long-distance service; probably has a color television; and may well even have a car. Take into account improvements in the quality of many other products, and it does not seem at all absurd to say that the material standard of living of that poverty-level family in 1996 is as good as or better than that of the median family in 1950.

In 1996, the poor were getting richer. In 2002, however, it was "hard to deny the evidence for growing inequality in the United States". Now, those are not mutually exclusive, but they paint a dramatically different picture. (...under, it might be pointed out, quite different administrations)

Oddly, in 1995, Krugman had written that "The standard of living of the poorest 10 percent of American families is significantly lower today than it was a generation ago."

A remarkable bit of criticism directed at a Clinton administration? Well, not really. He wrote that latter in support of a liberal/pro-"wealth tax" book, and in response to a book by Republican Dick Armey.

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6: Been there, done that, got the wrong t-shirt, didn't learn from my mistake.

As this article was being written, the Bureau of Labor Statistics announced a sharp fall in the U.S. unemployment rate. Most economists expect that rate to decline even further, eventually approaching the 5.5 per cent level generally regarded as "full employment." It is also probable, though by no means certain, that within a year or two recovery will begin in Europe and Japan. As growth accelerates and the number of jobless falls, much of the current despondency over the state of the world economy will surely dissipate. Stories about the "jobless recovery" will fade from the press, to be replaced by upbeat tales of business success.

The optimism that is likely then to dominate economic commentary will, however, be misguided--even more misguided than the doom-and-gloom pessimism that prevails today. The fact is that all of the industrially advanced countries are in deep economic trouble. The irregular rhythm of recessions and recoveries sometimes exaggerates their problems, while at other times it masks them; but to anyone who looks behind the business cycle, the disturbing long-term trends are unmistakable. In Europe, in the United States, and increasingly in Japan, it is becoming obvious that something has gone wrong with the promise of economic growth.

The failure of that promise may be summarized by two words: jobs and wages. For a generation after World War II, the economies of the West offered both--that is, there were jobs for the great bulk of those who wanted them, and those jobs paid wages whose purchasing power rose steadily for just about everyone. Since the early 1970s, however, the economies of North America and Western Europe have not delivered that kind of broad prosperity.(1) In the United States, the problem is essentially one of wages: Most people who seek jobs still get them, but an increasing fraction of our workers receive wages that both they and the rest of us regard as poverty-level. In Europe, wages at the bottom have declined less, but in their place long-term unemployment has consistently risen. On both sides of the Atlantic, there is now a growing sense that many people are in effect economically disenfranchised, shut out of the prosperity that one might expect in what are still wealthy societies.

That's a critique that we see on a regular basis from Paul Krugman today. This one? 1994. Shortly before the 90s boom really took off. The boom he said was not "Bill Clinton's doing but happened to happen on his watch".

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7: Explaining Wage Issues

Can technological progress really hurt large numbers of people? Yes, it can and it has. Indeed, historians tell us that the original Industrial Revolution in Great Britain was associated at first with a decline in the real wages of most workers, and that the wider benefits of technological progress could not be seen until about 1840, a half-century after large-scale factory production began. Given that experience, we should not find it incredible that the first two decades of the Information Revolution have seen income fall for many workers.

The best guess, then, is that this crisis of the West is largely a result of technological change that has, at least for the time being, evolved in a direction that is hostile to egalitarian ideals. But why is that a crisis? Why can't we simply live with those trends?

Let me make a shocking declaration given my profession: The essential reason for caring about the disturbing trends in Europe and America is social, rather than strictly economic.

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8: On the subject of shrill and angry economists....

As I said, we should be grateful to Wanniski for writing this letter, which tells us all that we need to know about his ideas, and more than we wanted to know about his character. The interesting question is what all this says about those who trust in him - above all, about Jack Kemp.

After all, the one thing that even Kemp's opponents always say is that he is an agreeable person - that he is not one of those angry, paranoid, everyone-who-disagrees-with-me-is-an-idiot-or-corrupt, the-liberal-media-are-conspiring-against-us types. So we may well ask: what's a nice guy like Kemp doing with a guru like this?

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9: Krugman's solution to the deficit today? Higher taxes. Krugmans solution in the 90s? Higher taxes.

PAUL KRUGMAN: I'm hoping that the case will be made that the Dole economic plan is really irresponsible, as opposed to the Clinton economic plan which is only mildly irsponsible. That's what we'd like to hear.

DEBORAH MARCHINI: What makes it really irresponsible [unintelligible]?

PAUL KRUGMAN: There's $550 billion of tax giveaways that we just cannot afford at this point.

DEBORAH MARCHINI: All right, what makes the Clinton plan mildly irresponsible?

PAUL KRUGMAN: There's about $140 billion of tax giveaways that we can't afford at this point.

DEBORAH MARCHINI: You- face it. You don't want to see either side cut taxes, do you?

PAUL KRUGMAN: That's right. We- we're in a very serious fiscal situation. We have an aging population and the U.S. government spends, basically, most of its civilian money on the elderly. We cannot afford- if we were responsible, we'd be running budget surpluses now. This is no time for tax cuts.

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10: Assorted Krugman predictions from 1998

* Productivity will drop sharply this year. Nineteen ninety-seven, which was a very good year for worker productivity, has led many pundits to conclude that the great technology-led boom has begun. They are wrong. Last year will prove to have been a blip, just like 1992.

* Inflation will be back. Wages are rising at almost 5 percent annually, and the underlying growth of productivity is probably only 1.5 percent or less. Sooner or later, companies will have to start raising prices. In 1999 inflation will probably be more than 3 percent; with only moderate bad luck--say, a drop in the dollar--it could easily top 4 percent. Sell bonds!

* Within two or three years, the current mood of American triumphalism--our belief that we have pulled economically and technologically ahead of the rest of the world--will evaporate. All it will take is a few technological setbacks or a mild recession here while Europe or Japan recovers a bit.

* The growth of the Internet will slow drastically, as the flaw in "Metcalfe's law"--which states that the number of potential connections in a network is proportional to the square of the number of participants--becomes apparent: most people have nothing to say to each other! By 2005 or so, it will become clear that the Internet's impact on the economy has been no greater than the fax machine's.

* As the rate of technological change in computing slows, the number of jobs for IT specialists will decelerate, then actually turn down; ten years from now, the phrase information economy will sound silly.

* Sometime in the next 20 years, maybe sooner, there will be another '70s-style raw-material crunch: a disruption of oil supplies, a sharp run-up in agricultural prices, or both. And suddenly people will remember that we are still living in the material world and that natural resources matter.

Krugman seems to have a mixed record, but it becomes less and less fair-minded as he becomes more and more "radicalized".

All in all, Krugman can be--and has been--worth reading. Unfortunately, the advent of a GOP President has rendered him all but useless as a pundit. The (relative) evenhandedness of a decade ago is ancient history.

Ironically, I suspect the one thing that can rescue Paul Krugman as a pundit is a Democratic President. Krugman may be intensely partisan, but during the 90s, he was perfectly willing to take issue with Democrats, as well. It would be interesting to find out whether Professor Paul "built his career on free trade" Krugman has anything to say to the protectionist, free-spending Democrats.

It would be interesting, but I suspect we won't see it until the specter of another Bush term is out of the way.

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