selise's blog


Paul Krugman gets it wrong…. Again.

March 26th, 2011 by selise

I’d say the deficit debates were heating up again, but I don’t think they’ve let up since before last year’s Peterson Foundation Fiscal Summit (orthodoxy for neoliberal deficit hawks) and the grass roots Fiscal Sustainability Teach-In and Counter-Conference, both held on April 28, 2010. The Teach-In provided an important corrective, known as Modern Monetary Theory (MMT), to the false narratives of both deficit hawks and deficit doves.

Yesterday, Paul Krugman’s blog post Deficits and the Printing Press (Somewhat Wonkish), once again showed his ignorance of MMT, and in the process misinformed his readers (my emphasis):

Right now, deficits don’t matter — a point borne out by all the evidence. But there’s a school of thought — the modern monetary theory people — who say that deficits never matter, as long as you have your own currency.

I wish I could agree with that view — and it’s not a fight I especially want, since the clear and present policy danger is from the deficit peacocks of the right. But for the record, it’s just not right.

The bolded statement, as I’ll show below, is completely false. Fortunately, there are a couple of decades of scholarship available on the web (for example at: Levy Economics Institute of Bard College, Centre of Full Employment and Equity (CofFEE), Center for Full Employment and Price Stability, and EPIC), several specialist blogs (for example Warren Mosler, Bill Mitchell, New Economic Perspectives from UMKC and winterspeak) as well as naked capitalism and new deal 2.0 which publish posts by Marshall Auerback, Rob Parenteau, L. Randall Wray, Scott Fulwiller and James Galbraith for those of us who want to read and decide for ourselves (In my haste, I’m probably forgetting few names and links. But the above list should be enough to demonstrate the extent of information readily available).

What makes Paul Krugman’s error yesterday doubly frustrating is that it’s one he’s made before — in his July 17, 2010 post, I Would Do Anything For Stimulus, But I Won’t Do That (Wonkish) (my bold):

It’s really not relevant to current policy debates, but there’s an issue that’s been nagging at me, so I thought I’d write it up.

Right now, the real policy debate is whether we need fiscal austerity even with the economy deeply depressed. Obviously, I’m very much opposed — my view is that running deficits now is entirely appropriate.

But here’s the thing: there’s a school of thought which says that deficits are never a problem, as long as a country can issue its own currency. The most prominent advocate of this view is probably Jamie Galbraith, but he’s not alone.

Wrong in July and wrong again yesterday. Did Paul Krugman not read the responses, even in his own comments thread, correcting his false statement when he made the same mistake last year?

Here is James Galbraith’s reply:

I wrote — correctly and deliberately — that bankruptcy, insolvency and high real interest rates were not risks. Inflation *is* a risk.

By this, to be clear, I mean an ordinary garden-variety increase in the inflation rate is a risk — not the *infinite-inflation* scenario.

Inflation, though unattractive, is not remotely comparable to bankruptcy or insolvency, unless you get to Paul’s *infinite* inflation scenario. So what about that?

In his model, it is driven by his monetarist (quantity-theory) simplification, that the increase in money flows directly into prices. But this is just a modeling error. In the real world, especially in broadly deflationary conditions, people — and banks — simply hang on to cash. There is a Paul Krugman who understands this, from close study over many years of the Japanese stagnation.

Here is Scott Fullwiler’s reply:

Paul Krugman just showed his lack of understanding of the theory he is critiquing. That theory says solvency isn’t an issue, but inflation IS. That is, inflation is the constraint, not solvency. So, Krugman’s critique here is a complete straw man. That theory doesn’t say what he says it does.

And Paul Davidson takes Krugman to task for his model:

Dear Paul; Given all your assumptions, no wonder you reach your conclusion. For example you assume the quantity theory of money. But the quantity theory requires an assumption of neutral money in both the short run and the long run. But Keynes, in hisarticle for the Spiethoff festschrift specifically argued that in a monetary economy , money is never neutral — in eiher the short run or the long run. For Keynes, the neutral money axiom was like the “axiom of parallels in a non-Euclidean world [ See page 16 of THE GENERAL THEORY.]

And if you employ axioms that are not characteristic of our entrepreneurial economy, then the teaching will be, as Keynes noted, “misleading and disasterous”

If you load the argumen with biased assumptions then your conclusions willbe biased.

L. Randall Wray replied at length in Deficits Do Matter, But Not the Way You Think, posted at new deal 2.0 (and cross posted at naked capitalism, creditwritedowns). Here are three key paragraphs:

There is an alternative view propounded by economists following what has been called “Modern Money Theory”, which emphasizes the difference between a currency-issuing sovereign government and currency users (households, firms, and nonsovereign governments) (See here and here). They insist that the notion of “fiscal sustainability” or “solvency” is not applicable to a sovereign government — which cannot be forced into involuntary default on debts denominated in its own currency. Such a government spends by crediting bank accounts or issuing paper currency. It can never run out of the “keystrokes” it uses to credit bank accounts, and so long as it can find paper and ink, it can issue paper currency. These, we believe, are simple statements that should be completely noncontroversial. And this is not a policy proposal — it is an accurate description of the spending process used by all currency-issuing sovereign governments.

The strangest criticism of all is that we MMT-ers argue that “deficits do not matter”. In a recent exchange in the New York Times, Paul Krugman put it this way: “But here’s the thing: there’s a school of thought which says that deficits are never a problem, as long as a country can issue its own currency.” In that piece he took Jamie Galbraith to task for arguing that “Insolvency, bankruptcy, or even higher real interest rates are not among the actual risks” facing a sovereign government. I won’t go into the details, but Krugman produced a simple model in which ever-larger budget deficits generate ever-rising prices. You can see the rest of that back-and-forth here. But the strange thing is that Krugman never actually addressed Galbraith’s points that insolvency, bankruptcy, or higher interest rates are non-issues for a sovereign government. Nor did Krugman even try to justify his claim that MMT-ers “say that deficits are never a problem”.

In fact, MMT-ers NEVER have said any such thing. Our claim is that a sovereign government cannot be forced into involuntary default. We have never claimed that sovereign currencies are free from inflation. We have never claimed that currencies on a floating exchange rate regime are free from exchange rate fluctuations. Indeed, we have always said that if government tries to increase its spending beyond full employment, this can be inflationary; we have also discussed ways in which government can cause inflation even before full employment. We have always advocated floating exchange rates — in which exchange rates will, well, “float”. While we have rejected any simple relation between budget deficits and exchange rate depreciation, we have admitted that currency depreciation is a possible outcome of using government policy to stimulate the economy.

This should have been the end of the story (although a correction by Krugman would have been nice). But, as Krugman’s post yesterday demonstrates, this apparently was not the end of the story. The misinformation continues….. and by a political ally!

Below are a few quotes from last year’s Fiscal Sustainability Teach-In and Counter-Conference, which I encourage interested readers to investigate further (Transcripts, presentation material, audio and video are available at the link).

Stephanie Kelton:

There is no revenue constraint for governments that control the money that sits at the top of the hierarchy. Does that mean that we should spend without limit? No. No. Emphatically no. As the economy recovers, spending will need to be regulated to prevent inflation. But I would argue, and I think what we’re all here to argue today is that it’s time to stop allowing the monetary system to limit our range of policy options. It is causing unnecessary human suffering and it’s time for us to begin to recognize the advantages of a Modern Monetary System.

Warren Mosler:

Spending is not constrained by revenues. Spending is changing numbers up; putting numbers into our checking accounts. Taxing is changing numbers down, taking numbers out of our checking accounts. Borrowing is moving numbers from our checking account to our savings account. There is no numerical limit to any of this. Paying interest is changing the number up in our savings account. The government can always make any payment of dollars it wants to make. This is all we’re talking about; it’s a nominal system; we’re talking about there are no nominal constraints.

The risk is inflation, and not insolvency or not-solvency; there’s no solvency risk.

Marshall Auerback:

The constraint as we’ve said is inflation.


I’d add that there are two additional constraints: ignorance and politics.

Dear Professor Krugman, Please read your own comments threads… or better yet, read Randy Wray’s book, Understanding Modern Money: The Key to Full Employment and Price Stability, and inform yourself before you misinform your readers any further. Thank you.


Note: x-posted to fdl — selise

    8 Responses to “Paul Krugman gets it wrong…. Again.”

  1. 1 selise-reader said:

    Dean Baker agrees with you:


    “It does not happen often, but it does happen; I have to disagree with Paul Krugman this morning. In an otherwise excellent column criticizing the drive to austerity in the United States and elsewhere, Krugman comments:

    “But couldn’t America still end up like Greece? Yes, of course. If investors decide that we’re a banana republic whose politicians can’t or won’t come to grips with long-term problems, they will indeed stop buying our debt.”

    Actually this is not right for the simple reason that the United States has its own currency. This is important because even in the worst case scenario, where the deficit in United States spirals out of control, the crisis would not take the form of the crisis in Greece.”

    replyReply to this comment
  2. 2 selise said:

    @selise-reader: thanks for the link and the comment!

    warren mosler’s current tag line is: “Because we believe we can be the next Greece, we continue to work to turn ourselves into the next Japan”

    replyReply to this comment
  3. 3 selise-reader said:

    Before the earthquakes, tsunamis, and reactor crisis, I used to say that becoming the next Japan would have been an improvement–something for the people of the U.S. to hope and strive for. Better income distribution, better health insurance, longer life spans, lower unemployment, better job security, and so on. Commentators in the U.S. have no standing to put down the Japanese economic outcomes.

    replyReply to this comment
  4. 4 selise said:

    @selise-reader: i don’t think it is meant as any kind of put down (and i’m sorry if my comment made it seem that way). rather it’s a commentary on how fed govs respond in the aftermath of a housing bubble, etc (with fiscal support or austerity?) based on their understanding and misunderstanding of the macro econ issues. by thinking that solvency is an issue for usa budgets (as it is for greece — or any of our states or local gov), our fed gov is not providing the fiscal support needed. we’re not learning the right lessons from japan’s experience since 1990 (which is a big topic all by itself).

    replyReply to this comment
  5. 5 selise-reader said:

    I did not take it personally or as an insult to the Japanese (I’m not
    Japanese and don’t live in Japan). I think that it is the wrong
    phrase for Mosler to use and that he should not use it. He is not
    alone in saying it–many people have used that description.

    1) It is inappropriate. It does not take into account all of the ways
    in which the Japanese are better off than the U.S. population.

    2) It is too vague. Your reply is an illustration of this. You have
    to explain what is meant by the phrase “turn ourselves into the next
    Japan.” If someone has to explain a “short-hand”–particularly if
    someone is considering running for office–then they have chosen the
    wrong phrase. People who discuss economic policy understand what is
    meant by the phrase, but people who he wishes to persuade are left
    confused and unconvinced.

    3) It is too polite, to the point where it is wrong. By using this
    phrase, what has Mosler chosen not to say?

    – It is wrong to privatize profits and socialize losses.
    – It is wrong to bail out the wealthy banks for the mistakes that
    they have made.
    – It is wrong not to hold the banks accountable for the fraud that
    they engaged in to create the housing bubble.
    – It is wrong not to hold the banks accountable for not following
    centuries-old real-estate law regarding the transfer of titles
    and for not paying the recording fees in the counties where the
    law requires them to.
    – Protecting these banks is protecting the wealth and social
    position of the people who own and run them. This is part of the
    class warfare that is going on in the country.

    He should be saying this because 1) it can be understood (it is
    describing flaws in the economic policy instead of saying “the policy
    is flawed”), 2) it will be appreciated by the millions of people who
    want the injustice to be righted, 3) it leaves him little room to hide
    if he gets into office, and 4) it makes it unlikely that the wealthy
    criminals will contribute to his campaign because they don’t want him
    to be able to succeed and hold them accountable.

    Because he doesn’t make these statements, he is shying away from
    confronting the real issues–both of social justice and of economic
    policy that will not work. Instead, he is only hinting at
    “technocratic” concern that the economic policy has flaws. He should
    listen to James Galbraith’s speech that you posted about.

    replyReply to this comment
  6. 6 selise-reader said:

    In case you missed it, here is economist Scott Fillwiler’s critique of Krugman’s comments at Naked Capitalism:

    He even provides links to Baker’s and your post at FDL, among others :)

    I wonder whether all of this is having an effect on Krugman’s thinking?

    replyReply to this comment
  7. 7 selise said:

    @selise-reader: i guess we’re going to have to disagree. i don’t think mosler is saying anything that is wrong with his sig tag line. jmo, but i think mosler is casting a wider net than just progressives for his audience. he focuses on myth busting and explanations for non-economists. it doesn’t matter what a citizen’s politics are, he’s trying to educate us all so we can all take part in the politics of finding real compromises with other ordinary people who hold different values and priorities. i’m grateful mosler is doing the work of educating the public.

    doesn’t mean i’m not also very glad that galbraith, a progressive and D partisan, was able and willing to give that speech to progressives and Ds. imo it’s all good.

    p.s. marshall auerback has a whole post on the topic today: We Aren’t Greece. But We Could Be Japan if Flawed Logic Persists. maybe it’s a concept more suited to a long form explanation.

    replyReply to this comment
  8. 8 selise said:

    @selise-reader: here’s hoping krugman will be giving his posts a rethink. in any event, i think he has done a great service, intentionally or not, by bringing MMT into a national forum for discussion.

    replyReply to this comment

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