Monday, February 03, 2014
Krugman the moderate
"Even Paul Krugman has been known to say some rather nutty things at times."
Chris House was a bit surprised when that statement received considerable pushback. It seems like an innocuous, throwaway line, sort of like when a political writer says "and of course the Democratic party has its extremists too." A gesture toward centrism. But is it true?
Krugman is a bit unusual, in being both an economist who talks about serious economics, and an unabashed political pundit. Since politics is a highly emotional and highly subjective area, I wouldn't be surprised if people's emotional reaction to Krugman's politics - or politics itself - bleeds into their reading of his economic writing. On top of that, there exists a contingent of right-wing quasi-economists out there in the blogosphere who think Keynesianism is communism (you know who you are). And Krugman himself does occasionally say mean things about his rhetorical opponents (though he is pretty humble when it comes to the topic of his own expertise).
But when looked at dispassionately, how "nutty" is Krugman's economics itself?
Krugman's ideas about the macroeconomy seem to be something like this:
1. Recessions are usually caused by some sort of aggregate demand shocks, and monetary policy affects demand. There is a short-term inflation-unemployment tradeoff. If monetary policy is too easy in a boom (or during a negative supply shock like the 70s), you'll get harmful inflation. So the Fed should lean against the business cycle with monetary policy.
2. Under normal circumstances, recessions can and should be fought with monetary policy alone. But if nominal interest rates hit zero, then unconventional monetary policy can only work if the Fed can convince people of its commitment to keep policy easy for a long time after the recession. Since convincing people of that is very hard, fiscal policy is a better tool when nominal interest rates are zero.
3. Recessions are usually temporary things. But if the economy's trend growth rate is too slow, we could enter a period of "secular stagnation", where nominal interest rates continually hit zero. In this case, we need something special to boost us back to the more normal realm of positive interest rates - a higher inflation target, for example. An asset bubble might also do the trick, though with very damaging consequences down the road.
Are these beliefs nutty?
#1 is absolutely non-nutty, and is probably the majority view in the macroeconomics community. This is very close to the view of Milton Friedman. It's the view of New Keynesian models, which are the dominant type of DSGE model used at central banks.
#2 is a somewhat unusual view, but not out of the mainstream at all. It's basically just the theory outlined by Mike Woodford (probably the most influential macroeconomist working in academia today) and Gauti Eggertsson in 2003. Other prominent macroeconomists, such as Bob Hall, have also called for fiscal stimulus.
#3 is a very unusual view, which goes by the name of "secular stagnation" and has recently been propounded by Larry Summers. It is a new idea, and has not yet been the subject of much academic research. So while this isn't a mainstream view, I would call it "new", not "nutty". It certainly doesn't contradict the mainstream ideas in #1.
What about macroeconomic methodology? Unlike most working macroeconomists, Krugman has criticized the mainstream DSGE methodology, calling for the use of "ad-hoc" models like Old Keynesian IS-LM as a supplement to the more complex, intricate DSGE models - the rationale being that those models can be modified more quickly in an emergency and are more effective at communicating ideas to policymakers (or even to oneself). He is in general very skeptical of the value of the whole DSGE/microfoundations revolution.
This definitely puts Krugman out of the mainstream...of macroeconomics. Only a few maverick macro people, like Ricardo Caballero, speak out against the dominant paradigm. But outside of macro, the sentiment is less iconoclastic; plenty of non-macro economists wrinkle their noses at the mention of DSGE macro models. Krugman, in his academic career, was a trade theorist, which is close to macro, but not so close that his attitude toward DSGE is rebellious and eyebrow-raising.
Now, Krugman's rhetorical opponents have, upon occasion, accused him of wanting to tear up all of modern economics and replace it with the literary wisdom of musty old books. This accusation is partly motivated by Krugman's famous 2009 New York Times magazine article, "How did economists get it so wrong?", which was a blast of frustration leveled at the macroeconomics and financial economics professions for having missed the possibility of a crisis. You can judge for yourself whether you think the article was nutty; personally, I think it was pretty typical of the sentiment at the time among not just the public, but many economists themselves.
But the accusations that Krugman wants to tear up modern economics are overblown. They are typically made by people who don't like Krugman's overall worldview and approach - in other words, people who aren't buying the particular brand of modern macroeconomics that Krugman is selling. That leads them to caricature his views. I'm sure similar things are said behind a few closed doors in academia as well, by those academics who don't like even Krugman's mainstream ideas.
This is similar to the way conservative media tried for years to paint Hillary Clinton as a dangerous radical left-winger, despite her moderate stance on most issues. It was effective rhetoric. It got a lot of news media to buy into the story of Hillary the left-wing radical. It probably forced her to vote for the Iraq War in order to maintain centrist cred, thus leading to the victory of Barack Obama in the 2008 primaries. But it was never a realistic portrait of Hillary.
Nor is the portrait of Krugman as a radical fringe economist accurate. His economics is somewhat out of the mainstream on certain points, but generally within the standard deviation.
Paul Krugman has more. Note that I didn't say that Krugman took Idea #2 from Eggertsson and Woodford, only that the ideas are the same!