America?????s Revenue Problem

[_Analytics]

I agree, sort of. The way it seems to me, a true Keynesian assumes the peaks and troughs will ultimately balance out...

Fair point. Claiming Keynesians believe in balancing the budget over the economic cycle is like saying value investors believe in buying low and selling high. It’s a theory that looks great on paper, but successfully applying it in the real world is rare.

Looking more closely at Krugman, if you look at the full implications of his babysitting co-op example, he believes full employment is more important than maintaining the value of the dollar

I think the co-op example is excellent for explaining the paradox of thrift, but I think I'm missing the point you're trying to make.

Say it’s winter and everybody wants to babysit now, so that they can all save up babysitting coupons to use in the summer. However, the folks who have babysitting coupons don’t want to spend them now, because they want to save the coupons they have for the summer. So, the economy stalls and the babysitting economy goes into a huge recession.

The solution to this is to recognize that an hour of babysitting is worth a lot more in the summer than it is in the winter. In order to bring the economy to full employment, some sort of adjustment has to be made to increase the demand for babysitters in the winter. This could be done by adjusting prices—for example, announce that over the summer, it costs two coupons for an hour of babysitting, but in the winter, it only costs one. This will give some people an incentive to babysit more in the summer when they can get paid twice as much. And they’ll want to hire babysitters in the winter when the cost of babysitting is half the price. By altering the prices across time this way, the supply and demand comes back into balance and the economy reaches full employment.

How does that apply to the current economy? It means that since the folks with the money want to save it, the real interest rate needs to be lowered so that saving and investing come into balance with full employment. This is done by lowering interest rates—with low interest rates, there is less incentive to save. But what do you do when interest rates get to zero and you still haven’t achieved full employment? Barring Keynesian deficit spending the answer is simple—you use inflation to create a negative rate of return. If people knew that $1,000 now is only going to be worth $500 in a year, they’d be a lot more likely to spend it now.

That’s the ultimate implication of Krugman’s viewpoint—massive government deficits and inflation are both tools to bring the economy to full employment.

[_Gadianton]

That’s the ultimate implication of Krugman’s viewpoint—massive government deficits and inflation are both tools to bring the economy to full employment.

Ok, I get it. Although, if there was a deeper connection between the inflation factor and something I said, I may not be making it, so I'm treating this insight as a new direction.

Do you think inflation targets the rich above the poor? For instance, an older person who saves money in the bank might not do the math that inflation outpaces her interest rate or take a net loss in the interest of security, where a savvy investor might go offshore, move money into gold or foreign currency. Or what about stagflation, does Krugman ever worry that he might hit the ceiling and just burn dollar value for no benefit?

And one more thing that comes to mind, in the books I've been reading, the point is made that perpetually low interest rates fueled the "bubble" (this is incompatible with market efficiency, but most people reject EMH). When institutions with money can't get a decent return on an investment and inflation eats away at their stash, rather than spending, they take desperate measures, and subprime CDOs become more attractive than they otherwise would have been.

[_Analytics]

Ok, I get it. Although, if there was a deeper connection between the inflation factor and something I said, I may not be making it, so I'm treating this insight as a new direction.

Do you think inflation targets the rich above the poor? For instance, an older person who saves money in the bank might not do the math that inflation outpaces her interest rate or take a net loss in the interest of security, where a savvy investor might go offshore, move money into gold or foreign currency.

That is a fair concern. Most savers have a dream about their wealth growing exponentially forever. However, that is only possible if the borrowers’ aggregate debt grows exponentially forever. Sooner or later, something like defaults or inflation will transfer the nominal wealth from the savers to the borrowers—that is the great equalizer. As that happens, some people will make successful decisions that will increase their wealth, and others will make unsuccessful decisions that will leave them feeling burned and jaded. There will be winners and losers; that’s the glory of the free market.

Or what about stagflation, does Krugman ever worry that he might hit the ceiling and just burn dollar value for no benefit?

Krugman seems like the kind of guy that worries about a lot of things. He does recognize that inflation is triggered by market demand that outstrips production capacity. Right now America has trillions of dollars of unutilized capacity. That’s why he is confident that the current budget realities and monetary policies aren’t causing inflation, and why he thinks a massive Keynesian investment in the nation’s infrastructure would absorb the unutilized capacity without causing inflation.

Something I should clarify is that I’ve never heard Krugman champion inflation as a desirable response to the liquidity trap. It’s an implication of his model, but he never comes right out and states that it is the best response.

And one more thing that comes to mind, in the books I've been reading, the point is made that perpetually low interest rates fueled the "bubble" (this is incompatible with market efficiency, but most people reject EMH). When institutions with money can't get a decent return on an investment and inflation eats away at their stash, rather than spending, they take desperate measures, and subprime CDOs become more attractive than they otherwise would have been.

There is some truth to that. But I wouldn’t say it was low interest rates that caused these masters of the universe to make stupid decisions. I would say that it was a mixture of greed and stupidity that caused them to make stupid decisions. This goes back to my earlier point—Wall Street is being totally unrealistic to expect that a company’s earnings should grow exponentially forever, and they are being unrealistic to expect high, safe interest rates on an exponentially growing principle amount forever. Eternal exponential growth is quite impossible within the confines of reality.