11.22.2010 0

Krugman’s Conspiracy Theory

By Robert Romano

The world is plotting against Paul Krugman’s economic central planning scheme.  At least, that’s what we’re supposed to believe, based on his recent contribution to the national political dialogue, “Axis of Depression.”

In this piece, Krugman has a theory about recent Republican criticism of the Federal Reserve’s planned purchase of $600 billion of U.S. treasuries: Republicans know Fed Chair Ben Bernanke’s policies will work to improve the economy, and so they oppose them because if they are not implemented they will win elections.

Krugman quotes Stan Collender, who says, “with Republican policy makers seeing economic hardship as the path to election glory… [they will be] opposed to any actions taken by the Federal Reserve that would make the economy better.”

Krugman writes, “Republicans want the economy to stay weak as long as there’s a Democrat in the White House”, adding, “In short, their real fear is not that Fed actions will be harmful, it is that they might succeed.”

Although Krugman acknowledges that “some of Mr. Bernanke’s critics are motivated by sincere intellectual conviction,” they only operate on the periphery in his fantasyland.  The real motive is “self-interest” in the case of Republicans, who want a weak economy to bolster electoral returns.   And also in the cases of Germany and China, both Fed critics who, Krugman maintains, want to keep running trade surpluses.

There’s a few problems with this line of analysis.  Namely, all of Krugman’s boogeymen have perfectly valid reasons to oppose the Fed’s monetary expansions.

Take China.  Because it keeps the yuan on a fixed exchange rate to the dollar, the Fed’s dollar depreciation merely has the effect of simultaneously devaluing the yuan.  If cheap currencies are the route to cheap exports, then the U.S. action might actually help boost Chinese exports.  So, it’s not the balance of trade that might motivate a Chinese protest of the Fed’s money-printing.

Perhaps China is being sincere about its objections to the Fed’s purchases of U.S. national debt.  Its credit rating agency, Dagong, recently downgraded U.S. debt, writing that the $600 billion of Fed treasuries purchases “entirely encroaches on the interests of the creditors, indicating the decline of the U.S. government’s intention of debt repayment.” So, they’re actually worried about all the cash they have lent us being repaid with monopoly money.
For Germany’s part, its Finance Minister Wolfgang Schaeuble actually said, “With all due respect, U.S. policy is clueless… [The problem] is not a shortage of liquidity. It’s not that the Americans haven’t pumped enough liquidity into the market and now to say let’s pump more into the market is not going to solve their problems.” Okay, so they think more paper and ink simply won’t work to create “a stronger pace of economic recovery,” as the Fed claims.

Then there’s the Republicans.  In order for Krugman to be correct, conservatives would have to have a secret conspiracy to wreck the U.S. economy all to undermine Barack Obama, and land whoever the GOP nominee is in 2012 into the White House.  The means? Stop the Federal Reserve from implementing its money-printing “stimulus”.

Only, Republicans are in no position to stop the Fed or Bernanke from doing anything.  Nor have they prevented the Fed from taking a single action since the central bank began blowing up the housing bubble in 1990’s and 2000’s.  Back then, the king could do no wrong.  Alan Greenspan was a monetary wizard, an alchemist who could sprinkle his magical fairy dollar dust into the economy, and poof! Prosperity would ensue.

At least, inflation ensued.

According to the True Money Supply index from the Ludwig Von Mises Institute, the money supply, which the Fed controls, rose from about $1.787 trillion at the end of 1990 to about $5.268 trillion by the end of 2007, representing a 195 percent increase.  For comparative purposes, in that same period, gold rose from $386.20 an ounce to $695.39, a 80 percent increase, oil rose from $23.19 a barrel to $64.20, a 177 percent increase, and the national debt rose from $3.23 trillion to $9 trillion, a 178 percent increase.

As for mortgage debt, its growth dwarfed even that of the actual money supply. In 1990, outstanding mortgage debt held was $3.805 trillion. Suffice to say, by the end of 2007, total mortgage holdings rose to $14.568 trillion, a staggering 283 percent jump.  Those jumps were all accommodated by the Fed’s pump priming.  Combined with weak lending practices, low down payments, lower-than-justified interest rates, and shoddy underwriting standards, the rapid government-induced expansion of mortgage markets was followed by an awful wreck.

In that sense, the Fed had an awful lot to do with the financial crisis.  Afterward, its prescription was to print more money to paper over the bad debts of others, like Fannie Mae and Freddie Mac, whom they purchased some $1.25 trillion of mortgage-backed securities from and $150 billion of agency debt, all to prop up a housing market they helped to ruin.

Perhaps that’s why Republicans and others are skeptical of the Fed’s new actions to now paper over the national debt with $600 billion of new treasuries purchases.  It’s not as if the Fed has had a stellar record prior to and after the financial crisis began.  The central bank is not beyond reproach.

So, what to make of Krugman’s conspiracy theory? Perhaps his motives are the ones that are “highly suspect”. He partially reveals his motive when he writes, “the main concern reasonable people have about the Fed’s plans — a concern that I share — is that they are likely to prove too weak, too ineffective.”

Krugman is worried that the “stimulus” will not work because it actually is not big enough.  Except that’s what he’s been saying all along.  In 2009, he was claiming that Obama’s $787 billion “stimulus” was too small to fill a $2.1 trillion hole.   The fact is, the total money put into the economy is at over $3 trillion from fiscal and monetary authorities since the crisis began: $300 billion of treasuries purchases by the Fed in 2009, the $787 billion fiscal “stimulus”, $1.25 trillion of Fed purchases of MBS plus another $150 billion of GSE debt, and now $600 billion more for treasuries.

So, even if the total spending and money printing is more than he ever prescribed, perhaps Krugman is worried that his Keynesian ideology is running the risk of being completely discredited.  Maybe he wants to keep his esteemed position as an economic guru.

By Krugman’s own admission, the “stimulus” has not worked yet.  And so he is neatly constructing a narrative whereby the reason the government action fails is because his boogeymen “bull[ied] the Federal Reserve into calling off its efforts to create jobs.” Or, if the Fed goes ahead with its plans, and it still doesn’t work, his excuse for failure will become because the bullies scared the central bankers into scaling back their efforts into mere half measures.

You can almost hear Krugman now at the end of a Scooby Doo episode saying, “And the ‘stimulus’ would have worked, too, if it wasn’t for those meddling kids.” Right, tell us another one.

Robert Romano is the Senior Editor of Americans for Limited Government (ALG) News Bureau.

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