Paul Krugman’s Eco­nomic Blind­ers — By Michael Hud­son

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Paul Krug­man is widely appre­ci­ated for his New York Times columns crit­i­ciz­ing Repub­li­can demands for fis­cal aus­ter­ity. He rightly argues that cut­ting back pub­lic spend­ing will worsen the eco­nomic depres­sion into which we are sink­ing. And despite his par­ti­san Demo­c­ra­tic Party pol­i­tick­ing, he warned from the out­set in 2009 that Pres­i­dent Obama’s mod­est counter-cycli­cal spend­ing pro­gram was not suf­fi­ciently bold to spur recov­ery.

These are the themes of his new book, End This Depres­sion Now. In old-fash­ioned Key­ne­sian style he believes that the solu­tion to insuf­fi­cient mar­ket demand is for the gov­ern­ment to run larger bud­get deficits. It should start by giv­ing rev­enue-shar­ing grants of $300 bil­lion annu­ally to states and local­i­ties whose bud­gets are being squeezed by the decline in prop­erty taxes and the gen­eral eco­nomic slow­down.

All this is a good idea as far as it goes. But Mr. Krug­man stops there – as if that is all that is needed today. So what he has done is basi­cally get into a fight with intel­lec­tual pyg­mies. Thus dumbs down his argu­ment, and actu­ally dis­tracts atten­tion from what is needed to avoid the finan­cial and fis­cal depres­sion he is warn­ing about.

Here’s the prob­lem: To focus the argu­ment against “Aus­ter­ian” advo­cates of fis­cal bal­ance, Mr. Krug­man hopes that econ­o­mists will stop dis­tract­ing atten­tion by talk­ing about what he deems not nec­es­sary. It seems not nec­es­sary to write down debts, for exam­ple. All that is needed is to reduce inter­est rates on exist­ing debts, enabling them to be car­ried.

Mr. Krug­man also does not advo­cate shift­ing taxes off labor onto prop­erty. The impli­ca­tion is that Cal­i­for­nia can afford its Propo­si­tion #13 – the tax freeze on com­mer­cial prop­erty and homes at long-ago lev­els, which has fis­cally stran­gled the state and led to an explo­sion of debt-lever­aged hous­ing prices by leav­ing the site value untaxed and hence free to be pledged to banks for larger and larger mort­gage loans instead of being paid to the pub­lic author­i­ties. There is no hint in Mr. Krugman’s jour­nal­ism of a need to reverse the tax shift off real estate and finance (onto income and sales taxes), except to restore a bit more pro­gres­sive tax­a­tion.

The effect of Mr. Krugman’s sug­ges­tions is for the gov­ern­ment to sub­si­dize the exist­ing finan­cial and tax struc­tures, leav­ing the debts intact and ignor­ing the largely regres­sive, unfair and inef­fi­cient sys­tem of tax­a­tion. It is unfair because the prof­its of the rich – and even worse, their asset-price (“cap­i­tal”) gains are taxed at lower rates and rid­dled with tax loop­holes and give­aways. The wealthy ben­e­fit from the wind­fall gains deliv­ered by the pub­lic infra­struc­ture invest­ment advo­cated by Mr. Krug­man, but there is not a word about the pub­lic recoup­ing this invest­ment. Gov­ern­ments are indeed able to cre­ate their own money as an alter­na­tive to tax­ing, but some taxes – above all, on wind­fall gains, like loca­tional value result­ing from pub­lic invest­ment in roads or other pub­lic trans­porta­tion – are jus­ti­fied sim­ply on grounds of eco­nomic fair­ness.

So it is impor­tant to note what Mr. Krug­man does not address these issues that once played so impor­tant a role in Demo­c­ra­tic Party pol­i­tics, before the Wall Street fac­tion gained con­trol via the cam­paign financ­ing process – even before the Cit­i­zens United case. For over a cen­tury, econ­o­mists have rec­og­nized the need for finan­cial and fis­cal reform to go together. Fail­ure to pro­ceed with a joint reform has led the bank­ing and finan­cial sec­tor – along with its major client base, the real estate sec­tor – to scale back prop­erty taxes and “free” the econ­omy with taxes so that the rev­enue can be pledged to the banks as inter­est to carry larger loans. The effect is to load the econ­omy at large down with pri­vate and pub­lic debt.

In Mr. Krugman’s read­ing, pri­vate debts need not be writ­ten down or the tax sys­tem made more effi­cient. It is to be bet­ter sub­si­dized – mainly with eas­ier bank credit and more gov­ern­ment spend­ing. So I am afraid that his book might as well have been sub­ti­tled “How the Econ­omy can Bor­row its Way Out of Debt.” That is what bud­get deficits do: they add to the debt over­head. In Europe, which has no cen­tral bank per­mit­ted to mon­e­tize the deficit spend­ing, this pays inter­est to trans­fers to the bond­hold­ers (and their descen­dants). In the United States, the Fed­eral Reserve can mon­e­tize this indebt­ed­ness – but the effect is to sub­si­dize domes­tic debt ser­vice.

Mr. Krug­man has become cen­so­r­ial regard­ing the debt issue over the last month or so. In last Friday’s New York Times col­umn he wrote: “Every time some self-impor­tant politi­cian or pun­dit starts going on about how deficits are a bur­den on the next gen­er­a­tion, remem­ber that the biggest prob­lem fac­ing young Amer­i­cans today isn’t the future bur­den of debt.”[1]

Unfor­tu­nately, Mr. Krugman’s fail­ure to see today’s eco­nomic prob­lem as one of debt defla­tion reflects his fail­ure (suf­fered by most econ­o­mists, to be sure) to rec­og­nize the need for debt write­downs, for restruc­tur­ing the bank­ing and finan­cial sys­tem, and for shift­ing taxes off labor back onto prop­erty, eco­nomic rent and asset-price (“cap­i­tal”) gains. The effect of his nar­row set of rec­om­men­da­tions is to defend the sta­tus quo – and for my money, despite his rep­u­ta­tion as a lib­eral, that makes Mr. Krug­man a con­ser­v­a­tive. I see lit­tle in his logic that would oppose Rubi­nomics, which has remained the Demo­c­ra­tic Party’s pro­gram under the Obama admin­is­tra­tion.

Many of Mr. Krugman’s read­ers find him the lead­ing hope of oppos­ing even worse Repub­li­can pol­i­tics. But what can be worse than the Rubi­nomics that Larry Sum­mers, Tim Gei­th­ner, Rahm Emanuel and other Wall Street holdovers from the Demo­c­ra­tic Lead­er­ship Com­mit­tee have embraced?

Per­haps I can prod Mr. Krug­man into tak­ing a stronger posi­tion on this issue. But what wor­ries me is that he has moved sharply to the “Rubi­nomics” wing of his party. He insists that debt doesn’t mat­ter. Bank fraud, junk mort­gages and casino cap­i­tal­ism are not the prob­lem, or at least not so seri­ous that more deficit spend­ing can­not cure it. Crit­i­ciz­ing Repub­li­cans for empha­siz­ing struc­tural unem­ploy­ment, he writes: “author­i­ta­tive-sound­ing fig­ures insist that our prob­lems are ‘struc­tural,’ that they can’t be fixed quickly. … What does it mean to say that we have a struc­tural unem­ploy­ment prob­lem? The usual ver­sion involves the claim that Amer­i­can work­ers are stuck in the wrong indus­tries or with the wrong skills.” [2]

Using neo­clas­si­cal sleight-of-hand to bait and switch, he nar­rows the mean­ing of “struc­tural reform” to refer to Chicago School econ­o­mists who blame today’s unem­ploy­ment as being “struc­tural,” in the sense of work­ers trained for the wrong jobs. This diverts the reader’s atten­tion away from the press­ing prob­lems that are gen­uinely struc­tural.

The word “struc­tural” refers to the sys­temic imbal­ances that neo­clas­si­cal econ­o­mists dis­miss as “insti­tu­tional”: the debt over­head, the legal sys­tem – espe­cially unfair and dys­func­tional bank­ruptcy and fore­clo­sure laws, reg­u­la­tions against finan­cial fraud, and wealth dis­tri­b­u­tion in gen­eral. In 1979, for exam­ple, I jux­ta­posed eco­nomic struc­tural­ism to Chicago School mon­e­tarism in my mono­graph on Canada in the New Mon­e­tary Order. I have elab­o­rated that dis­cus­sion in my text­book on Trade, Devel­op­ment and For­eign Debt (new ed. 2010). The tra­di­tion is grounded in the Pro­gres­sive Era’s reform pro­gram. Cor­rect­ing such struc­tural and insti­tu­tional defects, par­a­sitism and priv­i­lege seek­ing “free lunches” is what clas­si­cal polit­i­cal econ­omy was all about – and what the neo­clas­si­cal reac­tion sought to exclude from the eco­nomic cur­ricu­lum. But from the per­spec­tive of neo­clas­si­cal writ­ers through Rubi­nomics dereg­u­la­tors, the prob­lem of mas­sive, unpayably high debt expand­ing inex­orably by com­pound inter­est (and penalty fees) sim­ply dis­ap­pears.

So the great prob­lem today is whether to stop the siphon­ing off of income and wealth to finan­cial insti­tu­tions at the top of the eco­nomic pyra­mid, or reverse the polar­iza­tion that has taken place over the past thirty years between cred­i­tors and debtors, finan­cial insti­tu­tions and the rest of the econ­omy. I real­ize that it is more dif­fi­cult to crit­i­cize some­one for an error of omis­sion than for an error of com­mis­sion. But the dis­tinc­tion was erased a month ago when Mr. Krug­man got lost in the black hole of bank­ing, finance and inter­na­tional trade the­ory that has engulfed so many neo­clas­si­cal and old-style Key­ne­sian econ­o­mists. Last month Mr. Krug­man insisted that banks do not cre­ate credit, except by bor­row­ing reserves that (in his view) merely shifts lend­ing sav­ings from wealthy peo­ple to those with a higher propen­sity to con­sume. Crit­i­ciz­ing Steve Keen (who has just pub­lished a sec­ond edi­tion of his excel­lent Debunk­ing Eco­nom­ics to explain the dynam­ics of endoge­nous money cre­ation), he wrote:

Keen then goes on to assert that lend­ing is, by def­i­n­i­tion (at least as I under­stand it), an addi­tion to aggre­gate demand. I guess I don’t get that at all. If I decide to cut back on my spend­ing and stash the funds in a bank, which lends them out to some­one else, this doesn’t have to rep­re­sent a net increase in demand. Yes, in some (many) cases lend­ing is asso­ci­ated with higher demand, because resources are being trans­ferred to peo­ple with a higher propen­sity to spend; but Keen seems to be say­ing some­thing else, and I’m not sure what. I think it has some­thing to do with the notion that cre­at­ing money = cre­at­ing demand, but again that isn’t right in any model I under­stand.

Keen says that it’s because once you include banks, lend­ing increases the money sup­ply. OK, but why does that mat­ter? He seems to assume that aggre­gate demand can’t increase unless the money sup­ply rises, but that’s only true if the veloc­ity of money is fixed;[3]

But “veloc­ity” is just a dummy vari­able to “bal­ance” any given equa­tion – a tau­tol­ogy, not an ana­lytic tool. As a neo­clas­si­cal econ­o­mist, Mr. Krug­man is unwill­ing to acknowl­edge that banks not only cre­ate credit; in doing so, they cre­ate debt. That is the essence of bal­ance sheet account­ing. But writ­ing like a tyro, Mr. Krug­man offers the mythol­ogy of banks that can only lend out money taken in from depos­i­tors (as though these banks were good old-fash­ioned sav­ings banks or S&Ls, not what Mr. Keen calls “endoge­nous money cre­ators”). Banks cre­ate deposits elec­tron­i­cally in the process of mak­ing loans.

Mr. Krug­man then dou­bled down on his asser­tion that bank debt cre­ation doesn’t mat­ter. Peo­ple decide how much income they want to save, or decide how much to bor­row to buy goods that their stag­nant wage lev­els no longer enable them to afford. Every­thing is a mat­ter of choice, not a neces­sity (“price-inelas­tic” is the neo­clas­si­cal euphemism) said Krug­man:

First of all, any indi­vid­ual bank does, in fact, have to lend out the money it receives in deposits. Bank loan offi­cers can’t just issue checks out of thin air; like employ­ees of any finan­cial inter­me­di­ary, they must buy assets with funds they have on hand.

So how much cur­rency does the pub­lic choose to hold, as opposed to stash­ing funds in bank deposits? Well, that’s an eco­nomic deci­sion, which responds to things like income, prices, inter­est rates, etc.. In other words, we’re firmly back in the domain of ordi­nary eco­nom­ics, in which deci­sions get made at the mar­gin and all that. Banks are impor­tant, but they don’t take us into an alter­na­tive eco­nomic uni­verse.

As I read var­i­ous stuff on bank­ing — com­ments here, but also var­i­ous writ­ings here and there — I often see the view that banks can cre­ate credit out of thin air. There are vehe­ment denials of the propo­si­tion that banks’ lend­ing is lim­ited by their deposits, or that the mon­e­tary base plays any impor­tant role; banks, we’re told, hold hardly any reserves (which is true), so the Fed’s cre­ation or destruc­tion of reserves has no effect.[4]

Not only do banks cre­ate new credit – debt, from the van­tage point of their cus­tomers – but in the absence of gov­ern­ment spend­ing and reg­u­la­tion along more pro­gres­sive lines, this new debt cre­ation is the only way that the econ­omy has avoided a sharp shrink­ing of con­sump­tion as real wages have remained stag­nant since the late 1970s. The banks offer is one most peo­ple can’t refuse: “Take out a mort­gage or go with­out a home,” or “Take out a stu­dent loan or go with­out an edu­ca­tion and try to get a job at McDonald’s.” In other words, “Your money or your life.” It is what banks have been say­ing through­out the ages.

The dif­fer­ence is that they can now cre­ate credit freely – and as Alan Greenspan has pointed out to Sen­ate com­mit­tees, work­ers are so debt-bur­dened (“one check away from home­less­ness”) that they are afraid that if they com­plain about work­ing con­di­tions, ask for higher salaries (to say noth­ing of try­ing to union­ize), they will be fired. If they miss a pay­check their credit-card rates will soar to about 29%. And if they miss a mort­gage pay­ment, they may face fore­clo­sure and lose their home. So the bank­ing sys­tem has cowed the pop­u­la­tion with its credit- and debt-cre­at­ing power.

Mr. Krugman’s blind spot with regard to the debt over­head derails trade the­ory as well. If Greece leaves the Euro­zone and deval­ues its cur­rency (the drachma), for exam­ple, debts denom­i­nated in euros or other hard cur­rency will rise pro­por­tion­ally. So Greece can­not leave with­out repu­di­at­ing its debts in today’s liti­gious global econ­omy. Yet Mr. Krug­man believes in the old neo­clas­si­cal non­sense that all that is needed is “deval­u­a­tion” to lower the cost of domes­tic labor. It is as if he is indif­fer­ent to the suf­fer­ing that such aus­ter­ity imposes – as Latin Amer­i­can coun­tries suf­fered at the hands of IMF aus­ter­ity plans from the 1970s onward. Costs can “be brought in line by adjust­ing exchange rates.”[5] The prob­lem thus is sim­ply one of exchange rates (which trans­lates into labor costs in short order). Cur­rency depre­ci­a­tion will (in Mr. Krugman’s trade the­ory) reduce labor’s cost and other domes­tic costs to the point where gov­ern­ments can export enough not only to cover their imports, but to pay their for­eign-cur­rency debts (which will soar in depre­ci­ated local-cur­rency terms).

If this were the case, Ger­many could have paid its repa­ra­tions debt by depre­ci­at­ing the mark in 1921. But it did so by a bil­lion-fold and even this did not suf­fice to pay. Nei­ther neo­clas­si­cal trade the­o­rists nor Chicago School mon­e­tarists get the fact that when pub­lic or pri­vate debts are denom­i­nated in a for­eign (hard) cur­rency, deval­u­a­tion dev­as­tates the econ­omy. The past half-cen­tury has shown this again and again (most recently in Ice­land). Domes­tic assets are trans­ferred into for­eign hands – includ­ing those of domes­tic oli­garchies oper­at­ing out of their off­shore dol­lar or Swiss-franc accounts.

Blind­ness to the debt issue results in espe­cial non­sense when applied to analy­sis of why the U.S. econ­omy has lost its export com­pet­i­tive­ness. How on earth can Amer­i­can indus­try be expected to com­pete when employ­ees must pay about 40 per­cent of their wages on debt-lever­aged hous­ing, about 10 per­cent more on stu­dent loans, credit cards and other bank debt, 15 per­cent on FICA, and about 10 to 15 per­cent more in income and sales taxes? Between 75 and 80 per­cent of the wage pay­ment is absorbed by the Finance, Insur­ance and Real Estate (FIRE) sec­tor even before employ­ees can start buy­ing goods and ser­vices! No won­der the econ­omy is shrink­ing, sales are falling off, and new invest­ment and hir­ing have fol­lowed suit.

How will the gov­ern­ment run­ning a larger deficit cope with today’s dimen­sion of the debt prob­lem – except by tak­ing Mr. Krugman’s sug­ges­tion to enable states and local­i­ties to spend mar­gin­ally more rev­enue and avoid fur­ther lay­offs, while the mil­i­tary indus­trial com­plex steps up its “Pen­ta­gon cap­i­tal­ism”? So far, the great increase in recent gov­ern­ment debt has been to bail out the bank­ing sec­tor, not to help the “real” econ­omy recover.

Increas­ing the debt bur­den of Euro­pean nations has the same dire con­se­quences. Ger­many balks at bail­ing out Greece unless Greece moves to stream­line its bloated gov­ern­ment and inef­fi­cient bureau­cracy, stop tax eva­sion by the wealthy, clean up cor­rup­tion and, in a word, be more Ger­manic. The U.S. “Aus­ter­ian” bud­get cut­ters whom Mr. Krug­man crit­i­cizes like­wise can point to waste­ful gov­ern­ment spend­ing, fail­ing to dis­tin­guish pos­i­tive infra­struc­ture invest­ment from pork-bar­rel “roads to nowhere” and tax loop­holes pro­moted by Con­gres­sional politi­cians whose cam­paigns are spon­sored by spe­cial finan­cial inter­ests, real estate and monop­o­lies.

But I fear that Mr. Krug­man is being drawn into the grav­i­ta­tional pull of Rubi­nomics, the Demo­c­ra­tic Party’s black hole from which the light of clar­ity deal­ing with the debt issue and bad finan­cial and legal struc­tures sim­ply can­not escape. The only vari­ables he admits are struc­ture-free: The fed­eral gov­ern­ment can indeed spend more and reduce inter­est rates (espe­cially on mort­gages) so that the higher mort­gage debt, stu­dent debt, per­sonal debt and cor­po­rate debt over­head can be afforded more eas­ily. No need to write any of these debts down. That seem­ingly obvi­ous and sen­si­ble struc­tural solu­tion lies out­side the scope of Mr. Krugman’s neo­clas­si­cal eco­nom­ics. He fails to rec­og­nize that debts that can’t be paid, won’t be. This is the imme­di­ate prob­lem fac­ing the U.S. and Euro­pean economies today – and the way in which it is resolved will shape the com­ing gen­er­a­tion.

The prob­lem with Mr. Krugman’s analy­sis is that bank debt cre­ation plays no ana­lytic role in Mr. Krugman’s pro­pos­als to res­cue the econ­omy. It is as if the econ­omy oper­ates with­out wealth or debt, sim­ply on the basis of spend­ing power flow­ing into the econ­omy from the gov­ern­ment, and being spent on con­sumer goods, invest­ment goods and taxes – not on debt ser­vice, pen­sion fund set-asides or asset price infla­tion. If the gov­ern­ment will spend enough – run up a large enough deficit to pump money into the spend­ing stream, Key­ne­sian-style – the econ­omy can revive by enough to “earn its way out of debt.” The assump­tion is that the gov­ern­ment will revive the econ­omy on a broad enough scale to enable the indi­vid­u­als who owe the mort­gages, stu­dent loans and other debts – and pre­sum­ably even the states and local­i­ties that have fallen behind in their pen­sion plan fund­ing – to “catch up.”

With­out rec­og­niz­ing the role of debt and tak­ing into account the mag­ni­tude of neg­a­tive equity and earn­ings short­falls, one can­not see thatwhat is pre­vent­ing Amer­i­can indus­try from export­ing more is the heavy debt over­head that diverts income to pay the Finance, Insur­ance and Real Estate (FIRE) sec­tor. How can U.S. labor com­pete with for­eign labor when employ­ees and their employ­ers are obliged to pay such high mort­gage debt for its hous­ing, such high stu­dent debt for its edu­ca­tion, such high med­ical insur­ance and Social Secu­rity (FICA with­hold­ing), such high credit-card debt – all this even before spend­ing on goods and ser­vices?

In fact, how can wage earn­ers even afford to buy what they pro­duce? The prob­lem inter­fer­ing with the cir­cu­lar flow between pro­duc­ers and con­sumers (“Say’s Law”) is not “sav­ing” as such. It is debt pay­ment. And unless debts are writ­ten down, the U.S. econ­omy will shrink just as will the economies of Greece, Spain, Por­tu­gal, Italy, Ire­land, Ice­land and other coun­tries sub­jected to the Wash­ing­ton Con­sen­sus of neolib­eral aus­ter­ity.

Michael Hudson’s new book sum­ma­riz­ing his eco­nomic the­o­ries, “The Bub­ble and Beyond,” will be avail­able in a few weeks on Ama­zon.

The Bubble and Beyond


[1] Paul Krug­man, “Easy Use­less Eco­nom­ics,” The New York Times, May 11, 2012.

[2] Ibid.

[3] Paul Krug­man, “Con­science of a Lib­eral” blog, March 27, 2012, Min­sky and Method­ol­ogy (Wonk­ish).

[4] Bank­ing Mys­ti­cism, Con­tin­ued, “The Con­science of a Lib­eral,” March 30, 2012.
http://krugman.blogs.nytimes.com/2012/03/30/banking-mysticism-continued/?emc=eta1

[5] Paul Krug­man, “The Euro Trap,” The New York Times, April 30, 2010.

About Steve Keen

I am Professor of Economics and Head of Economics, History and Politics at Kingston University London, and a long time critic of conventional economic thought. As well as attacking mainstream thought in Debunking Economics, I am also developing an alternative dynamic approach to economic modelling. The key issue I am tackling here is the prospect for a debt-deflation on the back of the enormous private debts accumulated globally, and our very low rate of inflation.
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  • RickW

    This encour­ages me to read more of Michael Hudson’s work.

    His com­ment regard­ing for­eign cur­rency debt is a key issue for Aus­tralia as the hous­ing debt bub­ble starts to pop. RBA reduc­ing inter­est rates to dis­cour­age bank deposits, forc­ing banks into more for­eign cur­rency bor­row­ing, could be a big­ger threat long term than slow growth now.

  • Steve Hum­mel

    As I said I like Michael Hud­son. A land tax as a means of cur­tail­ing destruc­tive asset spec­u­la­tion in real estate is good. Reform and reg­u­la­tion is nec­es­sary. And so is philo­soph­i­cal and par­a­digm change in eco­nom­ics and mon­e­tary sys­tems.

    Cir­cum­stances change. New fac­tors in pro­duc­tion are rec­og­nized as rel­e­vant and valu­able, and hence eco­nomic the­ory must change with it or become increas­ingly irrelevant/confusing/stupid. Eco­nom­ics needs to be a dynamic and organic dis­ci­pline.

    Even­tu­ally cir­cum­stances change suf­fi­ciently that the entire psy­chol­ogy and value sys­tem of a dis­ci­pline needs to be changed. The world changes. Wis­dom is the only thing that really doesn’t. Eco­nom­ics rose to be the dom­i­nant dis­ci­pline in the world pri­mar­ily because it sup­pos­edly dealt with hard real­i­ties but its actu­ally a very ide­al­is­tic pro­fes­sion as Steve has said in numer­ous of his pub­lic appear­ances. How­ever, we are begin­ning to see the end of the era of the dom­i­nance of economics.…because it has failed to evolve. Its hard real­i­ties are now more often than not hard­ened ortho­dox­ies. Eco­nom­ics will always be with us of course, but its dom­i­nat­ing tem­po­ral focus must give way to the the next pri­mary and most sta­ble of dis­ci­plines, which is wisdom.…that is if we are going to have the best chance to sur­vive. Homo eco­nom­i­cus as an over­ween­ing focus and state of mind is an evo­lu­tion­ary back water. Poli­cies reflect­ing Homo sapi­ens is our great­est hope and a quite obtain­able state which inte­gra­tion into all of our sys­tems will reju­ve­nate and extend them.

  • RJ

    Where are the pre­vi­ous com­ments on this arti­cle

  • mahaish

    ” If the gov­ern­ment will spend enough – run up a large enough deficit to pump money into the spend­ing stream, Key­ne­sian-style – the econ­omy can revive by enough to “earn its way out of debt.” The assump­tion is that the gov­ern­ment will revive the econ­omy on a broad enough scale to enable the indi­vid­u­als who owe the mort­gages, stu­dent loans and other debts – and pre­sum­ably even the states and local­i­ties that have fallen behind in their pen­sion plan fund­ing – to “catch up.””

    hud­son seems to think there is some­thing wrong with this assump­tion. well we are liv­ing proof for the time being that suf­fi­ciently large deficit spend­ing can stall or slow down a delever­ag­ing in its tracks.

    and its not going to send the gov­ern­ment broke as andrew robb the shadow finance spokesman would have us beleive. 

    the deficit has to be tar­geted at the right bal­ance sheets, but i think krug­man is right to argue we need more gov­ern­ment spend­ing not less, just need to min­imse the leak­ages.

    now whether the gov­ern­ment needs to incur more debt in the process is debat­able, espe­cially since most cen­tral bank regimes in the west­ern world now tar­get inter­est rates by decree inde­pen­dent of the reserve posi­tion of the bank­ing sys­tem.

    gov­ern­ment deficits can be held either as trea­sury debt, cen­tral bank lia­bil­i­ties in the form of reserve bal­ances or deposits/currency by the non gov­ern­ment .

    its a pol­icy choice as to what porfolio/liquidity mix the gov­ern­ment wants, and at what cost struc­ture, based on what ide­alog­i­cal non­sense is being ped­dled to them by right wing econ­o­mists, espe­cially the one that believe in igbc(inter tem­po­ral bud­getary con­straint).

  • mahaish

    hi rickw,

    aus­tralias for­eign cur­rency debt is min­i­mal.

    the banks hedge back into aus­tralian dol­lars.

    we arent mex­ico or the euro zone.

    thank god

  • mahaish

    If Greece leaves the Euro­zone and deval­ues its cur­rency (the drachma), for exam­ple, debts denom­i­nated in euros or other hard cur­rency will rise pro­por­tion­ally”

    well no,

    if they re nego­ti­ate with their cred­i­tors in drac­mas. let the cred­i­tors loose an arm or a leg through the deval­u­a­tion as well.

    and yes a deval­u­a­tion is painfull, but ice­lands expe­ri­ence means there is a bot­tom from whence they can rise from , rather than per­pet­ual depres­sion which we have now.

    i think for the trou­bled euro­zone coun­tries , leav­ing the euro and de valu­ing has con­sid­er­able merit in the long run.

  • Glenn Stehle

    Mald­is­tritub­tion and mal­in­vest­ment are the dis­eases that plauge the econ­omy. What is con­sid­ered to be right dis­tri­b­u­tion and right invest­ment are of course moral ques­tions.

    In the phi­los­o­phy of Kant, sci­ence should not ven­ture into this moral realm. It is a realm where other ways of know­ing should pre­vail: meta­physics, the­ol­ogy, pol­i­tics, soci­ety and art.

    Krug­man pro­vides the per­fect exam­ple of why sci­ence should not delve into the moral realm. What we see in Krug­man is a moral imper­a­tive mas­querad­ing as a sci­en­tific one, for in Krugman’s eco­nomic sci­ence the moral ques­tions have already been answered, the win­ners and losers are pre­de­ter­mined.

    Krugman’s “every­body wins” eco­nomic sci­ence is of course a pious fic­tion. Hud­son makes clear that in Krugman’s sci­ence cap­i­tal wins, and the poor and labor lose.

    Per­haps no one summed up folks like Krug­man bet­ter than the Chris­t­ian the­olo­gian Rein­hold Niebuhr, writ­ing in Moral Man & Immoral Soci­ety:

    The fact is that the inter­ests of the pow­er­ful and dom­i­nant groups, who profit from the present sys­tem of soci­ety, are the real hin­drance to the estab­lish­ment of a ratio­nal and just soci­ety… For this class, liv­ing in com­fort and secu­rity, is unable to rec­og­nize the urgency of the social prob­lem: and, liv­ing in a world of indi­vid­ual rela­tion­ships, is unable to appre­ci­ate the con­sis­tency with which eco­nomic groups express them­selves in terms of pure self­ish­ness. The con­cep­tion that what soci­ety needs and, if intel­li­gent enough, will be able to secure, is “trained and expe­ri­enced spe­cial­ists” to per­form the “expert func­tions” of gov­ern­ment, betrays an addi­tional class prej­u­dice, the prej­u­dice of the intel­lec­tual, who is so much the ratio­nal­ist, that he imag­ines the evils of gov­ern­ment can be elim­i­nated by the expert knowl­edge of spe­cial­ists. Any kind of gov­ern­ment must of course avail itself of the spe­cialised knowl­edge of experts. But the idea that such expert knowl­edge can ever guar­an­tee the impar­tial­ity and jus­tice of a state is to over­es­ti­mate the impar­tial­ity of rea­son in gen­eral and the rea­son of experts in par­tic­u­lar. Pol­i­tics are given their gen­eral direc­tion by the pres­sure of inter­est of the groups which con­trol them; the expert is quite capa­ble of giv­ing any pre­vi­ously deter­mined ten­dency both ratio­nal jus­ti­fi­ca­tion and effi­cient detailed appli­ca­tion. Such is the incli­na­tion of the human mind for begin­ning with assump­tions which have been deter­mined by other than ratio­nal con­sid­er­a­tions, and build­ing a super­struc­ture of ratio­nally accepte­able judg­ments upon them, that all this can be done with­out any con­scious dis­hon­esty.

  • RJ

    gov­ern­ment deficits can be held either as trea­sury debt, cen­tral bank lia­bil­i­ties in the form of reserve bal­ances or deposits/currency by the non gov­ern­ment ”

    Im unsure what you mean by deposits/currency in rela­tion to debt 

    But both trea­sury bonds and a reserve over­draft would surely both be recorded by trea­sury as Govt debt

  • RickW

    re:
    Mahaish
    May 15, 2012 at 5:22 pm | #
    hi rickw,
    aus­tralias for­eign cur­rency debt is min­i­mal.
    the banks hedge back into aus­tralian dol­lars.
    we arent mex­ico or the euro zone.
    thank god

    On what basis do you think it is min­i­mal? The March 12 bank lia­bil­i­ties denom­i­nated in for­eign cur­rency is AUD368bn. It is off its high of $427bn in 2009 due to increase in deposits as source of fund­ing.
    http://www.rba.gov.au/statistics/tables/#assets_liabilities
    The folly with think­ing AUD368M is low is that when the AUD is down to USD0.46 cents (as it was in the 1999 com­mod­ity col­lapse) that lia­bil­ity fig­ure sky­rock­ets to AUD800bn, which will be roughly 80% of GDP depressed by a col­lapse in min­ing income.

    Also the fig­ure above is only bank lia­bil­i­ties. There are pri­vate busi­nesses and some gov­ern­ment (state and fed­eral) debt denom­i­nated in USD

    USA is in the unique posi­tion of being able to man­u­fac­ture the world reserve money to pay off its debts.

  • RickW

    This link pro­vides a chart show­ing the growth rate in per­sonal income in the USA exclud­ing gov­ern­ment trans­fers:
    http://libertyblitzkrieg.com/2012/05/14/american-serfdom-in-one-chart/serfchart/
    This reminds me of the end con­di­tion that Steve’s mod­el­ling pro­duces. The sys­tem is in per­ma­nent decline.

  • RJ

    USA is in the unique posi­tion of being able to man­u­fac­ture the world reserve money to pay off its debts.”

    not true.

    And if you think about it log­i­cally can not be true either. For exam­ple lets say the US owes $1 tril­lion to China. This can only be paid off if the Chi­nese buy US goods or ser­vices. Money can pay off old debt but it would be just be replaced by new debt.

    The key though is US debt is denom­i­nated in US dol­lars. And for a mon­e­tary sov­er­eign Govt that can pay for goods in their own cur­rency then the level of debt is never an issue.

  • RickW

    re: RJ
    “Money can pay off old debt but it would be just be replaced by new debt.”

    You com­ment “not true” then you say the same thing??

    Because the debt is denom­i­nated in USD and USA can man­u­fac­ture those at will and any inter­est that the debt accrues using newly man­u­fac­tured USD

    Com­pletely dif­fer­ent pic­ture to China hold­ing loans to say Aus­tralia denom­i­nated in USD. Aus­tralia can­not man­u­fac­ture USD. USA is in a unique posi­tion as long as it retains the priv­i­lege of sourc­ing the world reserve money.

    All other coun­tries need to care­fully mon­i­tor their gross debt posi­tion in for­eign denom­i­na­tions.

    You are wrong about the debt repay­ment “can only be paid off if the Chi­nese buy US goods or ser­vices.” They can also acquire US assets and as these reduce in value they can acquire a lot more for the debt that is owed. 

    China is acquir­ing pro­duc­tive assets all over the world and the invest­ment doors are being opened for them in the USA.

  • mahaish

    i dont think those stats take into account, the nett long posi­tion on deriv­a­tives rickw , when it come to bank hold­ing of for­eign cur­rency debt.

    i may be wrong though and some­one can cor­rect me

    the vast bulk of it is cov­ered through hedg­ing.

  • Dick Burkhart

    Hud­son is right on the need for debt write down, but he misses what is really dri­ving this. Namely, the immi­nent end of global eco­nomic growth due to the max­ing out of crit­i­cal resources like oil (peak oil) and other resource and ecosys­tem degra­da­tion. It is growth that pays back debt; oth­er­wise debt just means a redis­tri­b­u­tion of con­sump­tion to the wealthy. This was why usury was once a mor­tal sin, because it meant debt slav­ery. We are get­ting per­ilously close to that already and the solu­tion is exactly as it was in bib­li­cal times: the “jubilee year” (the ancient ver­sion of debt for­give­ness).

    Peak Oil means that the sit­u­a­tion will only get worse, so that the debt cri­sis in Greece will be but a fore­taste of much big­ger crises to come. The solu­tion will be either infla­tion or default or some com­bi­na­tion of these. The 1% would pre­fer infla­tion but the 99% will revolt against infla­tion or its aus­ter­ity equiv­a­lents, as in Greece. Default, though caus­ing dis­rup­tion and hard­ship in the short run, is also far bet­ter eco­nom­i­cally in the long run because it frees the work­ers to use the fruits of their labor to sup­port bet­ter things for soci­ety , both per­sonal and pub­lic goods, than lux­u­ries for an afflu­ent minor­ity.

    In the future GDP should be down­sized by design, to match decline in pro­duc­tive capac­ity, but chaotic down­siz­ing seems more likely at this point, as the pow­ers that be are so afraid that they don’t even want to talk about it.

  • I agree Dick,

    As I’ve noted here many times, I don’t include Peak Oil in my mod­el­ing because if I did it would swamp every­thing else, but I am well aware of the phe­nom­e­non and the eco­log­i­cal con­straints on growth as well.

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