SACHS Monthly Commentary: Paul Krugman & the Obama Recovery
For several years, and often several times a month, the Nobel laureate economist and New York Times columnist and blogger Paul Krugman has delivered one main message to his loyal readers: deficit-cutting “austerians” (as he calls advocates of fiscal austerity) are deluded. Fiscal retrenchment amid weak private demand would lead to chronically high unemployment. Indeed, deficit cuts would court a reprise of 1937, when Franklin D. Roosevelt prematurely reduced the New Deal stimulus and thereby threw the United States back into recession.
Well, Congress and the White House did indeed play the austerian card from mid-2011 onward. The federal budget deficit has declined from 8.4% of GDP in 2011 to a predicted 2.9% of GDP for all of 2014. And, according to the International Monetary Fund, the structural deficit (sometimes called the “full-employment deficit”), a measure of fiscal stimulus, has fallen from 7.8% of potential GDP to 4% of potential GDP from 2011 to 2014.
Krugman has vigorously protested that deficit reduction has prolonged and even intensified what he repeatedly calls a “depression” (or sometimes a “low-grade depression”). Only fools like the United Kingdom’s leaders (who reminded him of the Three Stooges) could believe otherwise.
Yet, rather than a new recession, or an ongoing depression, the US unemployment rate has fallen from 8.6% in November 2011 to 5.8% in November 2014. Real economic growth in 2011 stood at 1.6%, and the IMF expects it to be 2.2% for 2014 as a whole. GDP in the third quarter of 2014 grew at a vigorous 5% annual rate, suggesting that aggregate growth for all of 2015 will be above 3%.
So much for Krugman’s predictions. Not one of his New York Times commentaries in the first half of 2013, when “austerian” deficit cutting was taking effect, forecast a major reduction in unemployment or that economic growth would recover to brisk rates. On the contrary, “the disastrous turn toward austerity has destroyed millions of jobs and ruined many lives,” he argued, with the US Congress exposing Americans to “the imminent threat of severe economic damage from short-term spending cuts.” As a result, “Full recovery still looks a very long way off,” he warned. “And I’m beginning to worry that it may never happen.”
I raise all of this because Krugman took a victory lap in his end-of-2014 column on “The Obama Recovery.” The recovery, according to Krugman, has come not despite the austerity he railed against for years, but because we “seem to have stopped tightening the screws: Public spending isn’t surging, but at least it has stopped falling. And the economy is doing much better as a result.”
In fact, Krugman has been conflating two distinct ideas as if both were components of “progressive” thinking. On one hand, he has been the “conscience of a liberal,” rightly focusing on how government can combat poverty, poor health, environmental degradation, rising inequality, and other social ills. I admire that side of Krugman’s writing, and, as I wrote in my book The Price of Civilization, I agree with him.
On the other hand, Krugman has inexplicably taken up the mantle of crude aggregate-demand management, making it seem that favoring large budget deficits in recent years is also part of progressive economics. (Krugman’s position is sometimes called Keynesianism, but John Maynard Keynes knew much better than Krugman that we should not depend on mechanistic “demand multipliers” to set the unemployment rate.) Deficits were not increased enough in 2009 to escape from high unemployment, he insisted, and were falling dangerously fast after 2010.
Obviously, recent trends – a significant decline in the unemployment rate and a reasonably high and accelerating rate of economic growth – cast doubt on Krugman’s macroeconomic diagnosis (though not on his progressive politics). And the same trends have been apparent in the United Kingdom, where Prime Minister David Cameron’s government has cut the structural budget deficit from 8.4% of potential GDP in 2010 to 4.1% in 2014, while the unemployment rate has fallen from 7.9% when Cameron took office to 6%, according to the most recent data for the fall of 2014.
To be clear, I believe that we do need more government spending as a share of GDP – for education, infrastructure, low-carbon energy, research and development, and family benefits for low-income families. But we should pay for this through higher taxes on high incomes and high net worth, a carbon tax, and future tolls collected on new infrastructure. We need the liberal conscience, but without the chronic budget deficits.
There is nothing progressive about large budget deficits and a rising debt-to-GDP ratio. After all, large deficits have no reliable effect on reducing unemployment, and deficit reduction can be consistent with falling unemployment.
Krugman is a great economic theorist – and a great polemicist. But he should replace his polemical hat with his analytical one and reflect more deeply on recent experience: deficit-cutting accompanied by recovery, job creation, and lower unemployment. This should be an occasion for him to rethink his long-standing macroeconomic mantra, rather than claiming vindication for ideas that recent trends seem to contradict.
Copyright: Project Syndicate, 2014.