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Economic Lessons from the Ron Paul vs. Krugman Debate

Politics / US Politics May 07, 2012 - 08:23 AM GMT

By: Casey_Research

Politics Best Financial Markets Analysis ArticleVedran Vuk, Senior Analyst, Casey Research writes: A few days ago, Bloomberg held the debate many readers have been wanting for a long time: Paul Krugman vs. Ron Paul. To be fair, Ron Paul didn't have a slam-dunk debate moment – but neither did Krugman. Still, the fact that a medical doctor from Texas armed with a little Austrian economics and a lot of common sense can stand up to a Nobel-Prize-winning economist is impressive. If the roles were reversed and the conversation was on medicine, Krugman would have likely sounded like a village idiot in the discussion. In case you haven't already seen it, click on the frame below for the video.

What was more amazing than Ron Paul's performance was the number of times Paul Krugman shot himself in the foot. Honestly, Ron Paul didn't need to say much; Krugman's own logic make him look bad enough. Let's look at some of his blunders play-by-play style:

Early on in the debate, Krugman says, "You know you can't leave the government out of monetary policy .... The central bank is always going to be in the business of managing monetary policy. If you think that you can avoid that, you're living in some – you're living in the world as it was 150 years ago."

No matter the topic of the argument, a typical defense is to accuse your opponent of being stuck in past. However, in this case, it doesn't make sense. Consider the timing of the last two biggest US recessions: the Great Depression over 80 years ago and the current recession still in the works. Since the enlightened economic policies over the past century have performed so poorly, is it so bad to look upon other time periods favorably?

Krugman goes on: "And look, history tells us that in fact a completely unmanaged economy is subject to extreme volatility – subject to extreme downturns. I know that there's legends that people, probably like you Congressman, have, that the Great Depression was somehow caused by the government – caused by the Federal Reserve – but it's not true. The reality is that was a market economy run amok. Which happens. It happened repeatedly over the past couple of centuries."

Exactly which periods of "extreme volatility and downturns" are Krugman referring to? Two come to my mind – again, the Great Depression and the current crisis. However, neither is consistent with Krugman's statement. The Federal Reserve was around for both recessions; it's been in business since 1913. Furthermore, researchers including Dr. Christina Romer (the former head of Obama's Council of Economic Advisors) have debunked much of Krugman's volatility assertions. For an excellent comparison of the economy's performance before and after the creation of the Federal Reserve, see A Century of Failure by Dr. George Selgin of the University of Georgia.

Krugman's statements get even bolder: "Depressions are a bad thing for capitalism, and it is the role of government to make sure that they don't happen, or if they do happen, that they don't last too long." Sounds good, right? There's just one problem. The Federal Reserve failed to prevent the Great Depression, and it failed to avoid the current crisis as well. Furthermore, the Federal Reserve seems powerless to shorten the duration of the current recession. If the government's role is to prevent recessions, it has a horrible track record. Krugman is apparently lost in some strange hallucinogenic trip where the government prevented the crisis, and we swiftly arose from a brief recession.

Ron Paul goes at Krugman with a good comeback for the "150 years" statement by pointing out that the history of inflationary policies extends thousands of years, back to the Romans. Krugman responds that this isn't his policy stance. Well, how is it different? The Federal Reserve may use fancy phrases such as "quantitative easing," but it really comes down to same policy of debasing a currency. The techniques and methods may have changed, but the general idea has not.

Rather than explain his comment on the Roman debasement of the currency, Krugman clarifies his position by praising the monetary policies of the 1950s post-WW II period. Yes, that was a great period of growth; but a single decade of success is hardly long enough to be considered support. Monetary policy shouldn't be judged by the performance of one decade, but rather by a century-long track record. Everyone loves policies when they work; it's the policy failures which are the problem. And it's certainly the case that the US federal government has been wholly unable to stay with any one monetary policy for a full century.

Ron Paul's retort mentions the spending cuts after WW II. To dodge Paul's good response, Krugman changes topics to an unconnected point about Milton Friedman. Then Ron Paul answers Krugman with his own unconnected point about competing currencies, to which Krugman mumbles, "I have no idea what that's about."

Next, the conversation switches to the national debt level. The host points out that the national debt as a percentage of GDP has reached near 100% and asks how much further the debt level can be extended. Krugman admits, "I don't have a fixed number," but he suggests that the debt level should be raised an additional 30 points to 130% of GDP, if that could get us out of the recession. In my opinion, this comment is the bazooka shot into Krugman's own foot. Earlier in the debate, Ron Paul criticized the arbitrariness of the Federal Reserve's interest-rate policies. He mocks the Fed by saying, "The interest rate should be one percent instead of three percent because we are so smart."

And here, Krugman completely verifies the validity of Paul's criticism. It's impossible for central planners to figure out the perfect interest rate. Similarly, Krugman doesn't know what the limit to the debt should be. And I don't blame him for having a tough time – who does know the solution to these problems? Maybe our national debt as a percentage of GDP can reach 200%, 150%, or maybe it's approaching Armageddon at 130%. It's impossible to say for sure. In the same way, it's impossible for the Federal Reserve to set an appropriate interest rate. Is zero too low for inflation? Is raising it to 4% too high? What are the consequences to finding some middle ground?

These are truly unanswerable questions. Without the Fed, the market would find the interest rate itself. You can fill a whole room with Nobel-Prize-winning economists, and they still won't be able to figure out what the market would do with interest rates. If they knew, most would be millionaires and running their own hedge funds – not employees of quasi-governmental agencies and universities.

Unfortunately, a lack of knowledge doesn't stop economists from making policy decisions much like what Krugman advocates. He admits to not knowing the limit to our national debt, but at the same time advocates pushing the debt to 130%. What if that's too high and the result is the start of a final death spiral for the US economy? "Whoops; sorry America."

This is the general problem with the Fed and all central planners. They try to guide the economy, but more often than not, they create the very recessions that the system is supposed to prevent. The Federal Reserve either leaves rates too low for too long, or it raises them so high as to create an economic slowdown of its own. The Federal Reserve isn't the wonderful safety net economic idealists imagine. Instead, it's much closer to driving a car while blindfolded. Unfortunately, people like Krugman are more than willing to take the keys knowing full well the dangers of driving blindfolded. And when these Fed economists inevitably crash into a brick wall, it is the passenger – the American worker – who gets creamed.

[Treating houses as investment vehicles – a strategy pushed by federal government policy – is one part of the complex conditions that have created the current American debt crisis. Start learning about it, so that you can be among those who not just survive, but thrive during the challenging times ahead.]

© 2012 Copyright Casey Research - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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Daniel Tanure
08 May 12, 08:25

Hayek coined a phrase that destroys Keynesianism without any other argument: "The pretense of knowledge".
14 Jun 12, 01:18

i agree with krugman. we need more spending. stop buying gold and silver because its in a bubble.

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