Streetwise Professor

September 9, 2012

Did Krugman Commit a Keynesian Heresy? Is He a Closet Austrian? Or Just a Political Hack?

Filed under: Economics,Financial Crisis II,Politics — The Professor @ 3:01 pm

This Krugman oped is the usual blah, blah, blah, but this line jumped out at me:

This return to financial normalcy did not, however, produce a robust recovery. Fast recoveries are almost always led by a housing boom — and given the excess home construction that took place during the bubble, that just wasn’t going to happen.

“Fast recoveries are almost always led by a housing boom.”  I’m not sure that’s true.  But that’s not relevant.   What stood out is this: “given the excess home construction that took place during the bubble, that just wasn’t going to happen.” In a Keynesian, aggregate-demand-is-dominant viewpoint, why should an overhang of housing stock matter?  OK.  People don’t want to direct “aggregate demand” (WTF that is, but bear with me) to purchasing housing.  So they buy big screen TVs or cars or vacation travel or whatever.  They buy more of what is not surfeit (as Krugman claims housing is).  And the economy chugs along at a pace consistent with the level of aggregate demand, regardless of whether previous (Keynesian) policies have led to over-investment in one asset class.

Krugman could reply that fiscal and monetary policy have created insufficient aggregate demand.  But even if that’s true, the housing overhang is irrelevant.  That’s why that argument is such a clanger; why it stood out.

For once you bring up an excess supply of a particular asset as being material in determining the course of economic growth, you come perilously close to Austria.  Or at least Austrian economics, which emphasizes “malinvestment.”  The Austrian narrative of the Crisis emphasizes malinvestment in housing, driven by monetary policy assisted by pro-housing policy on other dimensions.  You also come dangerously close to acknowledging that structural imbalances, and mismatches between skills (driving a nail, running wire, plumbing a bathroom) and demand (changing bed pans, writing an app, lobbying a Congressman), are relevant in determining economic performance.  That is also an Austrian point.

Krugman has declaimed heatedly and repeatedly against both views many times.  He is clearly of the AD is What Matters school.  But if AD is what matters most, and by far, why should the supply of a particular asset matter a whit?

The current debate over why the recovery has been so pitiful, as compared to say 1983-84, revolves around whether insufficient aggregate demand, or some structural imbalance (driven by previous policy-induced malinvestment) is the underlying cause.  Ed Lazear (for whom I TA’d donkey years ago) has created a buzz with a paper claiming that AD deficiency, rather than structural/skill imbalance is the problem.  Color me unconvinced.  I suggest you look at Sober Look’s recent post for some interesting evidence relating to structural imbalance.  His recent post on the Beveridge Curve is particularly compelling.

This debate is on the fringes of my professional competence.  But I know a logical problem when I see one.  Krugman’s invocation of the overhang of housing as a source of drag on the recovery is clearly a logical problem.  Any explanation based on a structural factor, a structural imbalance, is clearly problematic to any Keynesian.  This is why they get so shrill in responding to evidence and arguments relating to skill imbalances or other structural problems in the economy.  So it is passing strange that Krugman should make it the first-yes, the first-argument in his defense of Obama against charges that the recovery has been pitifully weak.

So is Krugman a heretic? Or just an intellectual hack willing to seize on any argument, no matter how inconsistent with his alleged world view, when he takes to the NYT oped page to defend his political heroes?

I know where my money is.

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  1. V. good – thankyou.

    Comment by Regulator on lunch break — September 10, 2012 @ 9:42 pm

  2. He is just a closet idiot. Some poeple have skeletons in the closet others sexual orientation, all that Krugman keeps there is stupidity and his closet is full.

    Comment by pahoben — September 11, 2012 @ 11:53 am

  3. In context I thinks he’s saying that, once the financial system was back to normal, there were still two overhanging problems. The problem with the housing bubble is that, even if houses start selling again there won’t be any new construction (with the accompanying job creation etc.) due the the surfeit of homes already built. But anyway, the debt overhang means aggregate demand is down in the first place.

    But I could be wrong. This debate is beyond my professional competence.

    Comment by Quinn — September 12, 2012 @ 4:13 am

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