DOI {Doctrine of Inevitability}

James Devine jdevine at
Tue Sep 1 10:49:03 PDT 1998

The point of Krugman's article is basically (1) policy makers can prevent a depression; and (2) it's possible they might but it's possible they might not.

1. Krugman (or Paul, as I call my old college roomie) has a pretty naive view of question (1). In his most recent book, THE ACCIDENTAL THEORIST, he at one point rejects "crude Keynesianism" (or whatever he calls it) in favor of a total belief in the power and majesty of Alan Greenspan, who can easily steer the economy to where the U equals the NAIRU. In prose, that is: AG can fine-tune the economy so as to get to a "soft landing" where there is neither inflationary nor deflationary pressure in the economy due to "low" or "high" unemployment. After reading that I wanted to plaster my house with posters of Greenspan, reading "Big Alan is Watching the Rates" and "Unite, Financiers, for Victory!"

This kind of thing ignores the inability of the Fed to control the monetary aggregates (like the total volume of new credit) that affect the economy -- or to control long-term real expected interest rates, which affect investment spending. The Fed's control is over the monetary base and over short-term nominal interest rates, which have indirect and incomplete effects on spending. (Recently, the L.A. TIMES had an article saying that the interest rates that the Fed had control over were higher than the ones it doesn't, an unusual event.)

It also ignores the long time it takes for monetary policy to affect the real-world economy, what old MF once called "long and variable lags."

Of course, the anti-inflationary folks at the Fed would prevent low interest rates that would help the world reflate. They want to bring back the (open) reserve army of labor with a vengeance, to avoid inflation and save threatened profits (from rising wages). Some see the SM crash as a reasonable solution -- a "correction" -- to the "irrational exuberance." After all, the SM is still twice as high as it was when Clinton became Pres! We don't know how strong these guys are. But they will add to the "inside lag," the delay between problems arising and the Fed reacting.

These problems of slow and uncertain effects seem less likely to affect another route that monetary policy affects the economy, i.e., the exchange rate. By driving down nominal short-term rates -- as even Robert "Mr. Optimist" Samuelson recommends (in today's L.A. TIMES) -- AG can drive down the dollar, stimulating the foreign demand for U.S. goods, helping to prevent a recession. (Exchange rates work faster than interest rates, I believe, because they don't just affect the demand for investment goods.) But wouldn't that also make things worse abroad, by lowering US demand for foreign goods?

2. Maybe AG can get the Bundesbank and some other central banks to go along, so that interest rates in general fall. Then the domestic demand stimulus might work. But if it's not due to exchange rates, it can take quite awhile, as noted above.

Chris Burford goes one step further, to mention the possibility of the IMF issuing SDRs to reflate the economy. Good idea, but I don't think that the political situation is right. We'd have to have a G-7 conference first. To have that kind of meeting -- and to push the participants to actually vote for it -- the crisis would already have to have hit the US in a big way. But would the US trust the IMF? would the GOPsters in Congress think that they have enough control over the IMF to give it that power? Back in 1972, when the IMF provided the world (or at least the rich part of that world) with liquidity, the US was much more of an unchallenged hegemon and had more say over the IMF.

As Doug suggests, Max seems to be assuming that capital is unified. But it doesn't work that way in the real world. Capitalism inherently involves competition, including between nation-states. Back in the 1920s, the leading nation-states got together repeatedly to try to deal with the international problems that more and more threatened to cause world depression. But did they come up with anything? Only band-aids (the US lends money to Germany which pays reparations to France & England which allows them to pay off the US) which could deal with the actual wound, which was much more severe. In the 1930s, they didn't come up with much either, as the sinking economy encouraged even more nationalism (Herr Shicklegruber, etc.) As someone pointed out, it was WW2 that got the world out. Nowadays, we don't have the same kind of "inter-imperialist rivalry" (no shooting on the horizon, or even trade wars). But we have a wounded hegemon that has encouraged a lot of disgust with high-handed dictation (follow the US model or be damned) and military adventurism (Sudan).

3. Suppose that AG does succeed in stimulating the US economy without sinking the rest of the world. It's true that a non-recessionary US will buy lots of foreign goods, but there's another problem. There's the possibility of a conflict between domestic goals and international goals. Furinstance, international stability seems to require a US current-account deficit, perhaps even a growing one. On the other hand, this implies exploding US international indebtedness, something that's already happening according to Chairperson Doug. How long will the dominant conservatives (Gingrich, Clinton, etc.) in the US put up with this?

Other problems: suppose that AG is able to stimulate fixed investment in factories, machines, and housing with low interest rates. If it doesn't deal with the long-term stagnation of wages relative to labor productivity and the ability to consume based on income (rather than increased indebtedness or running down savings), these simply create imbalances which will create problems for the US and world economies in the future (perhaps when Al Gore is Pres, which might be sooner than we think), in addition to the imbalance implied by increased US international indebtedness.

If aggregate demand is based on fixed investment spending more than on consumer spending, it is more unstable, since investment is easy to delay, "lumpy," and more dependent on expectations of the future. With stagnant consumption, an investment boom is akin to a bubble in financial markets, with the economy growing because of faith that it will continue to grow; high profit rates maintain investment, which maintains high aggregate demand, which keeps profit realization high. Further, fixed investment leads to increased capacity (factories, houses) which can block further investment in future periods.

Maybe consumption by the rich could be stimulated, but the demand for luxuries can be stopped in its tracks by SM crashes and the like. Like fixed investment, it's volatile, flaky; it's not a kind of spending that anyone _needs_ to do (unlike workers' consumption). But workers' consumption is volatile if it's based on increased indebtedness and drawing down savings). The latter creates imbalances that can block future consumption growth and/or cause an even more massive wave of bankruptcies than we see now.

Oh yes, a successful 1987-type "save" of the SM might simply encourage those dern speculators to do it again, running up another financial bubble (moral hazard). So we might see an instant replay of 1998 -- and 1929.

In this view, the capital-C Crisis is "inevitable" in the sense that Luxemburg once used the term: successful efforts to delay the Crisis just make it worse by creating bigger imbalances. But it's not inevitable if the entire world political economy were to change, so that accumulation pulled up wages in step with labor productivity and consumer purchases in step with GDP. Given that we're talking about the world as a whole, this kind of shift is not bloody likely.

4. What about expansionary fiscal policy? Given the US gov't's vaunted success in "balancing the budget," its still-outstanding debt, and macroeconomic orthodoxy, is it likely that the political balance will shift to allow the running of deficits to finance infrastructure, education, and subsidies for EPI? Maybe, but this seems likely _after_ the Crisis has hit, when people are marching in the streets, protesting, or blowing up buildings. And who's to say that the fiscal spending won't go to war spending or building statues of Newt?

I'll stop there. (For more on my perspective, see my 1994 article in RESEARCH IN POLITICAL ECONOMY.)

Jim Devine jdevine at &

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