Paul Krugman has gotten a lot of flack from people who noticed that he seems to have a double standard. He argues that the US should threaten China with trade sanctions, in order to force them to revalue the yuan. In earlier posts he acknowledged that a strong yuan would not be a problem under normal circumstances, as the US could simply offset the negative impact on AD with an easier money policy. (Note to commenters; this argument is unrelated to the fact that the yuan is pegged to the dollar.)
Krugman also argues that the US and Europe are stuck in liquidity traps, and hence monetary policy cannot be used to offset the effects of the undervalued yuan. But when Europeans complained that monetary stimulus in the US was weakening the dollar and hurting their export industries, he made this sarcastic comment:
In other words, how dare you act to protect your economy from deflation and double-digit unemployment? By doing so, you make our inappropriate tight-money policy even more destructive!
I thought his retort was great, and said so. But I think you can see the problem. Suddenly the concerns of the country with the strong currency are brushed aside; they should just adopt their own monetary stimulus. What happened to the idea that monetary stimulus doesn’t have any effect at the zero bound? And if the Europeans can do that in response to the weak dollar, why can’t we do that in response to the weak yuan?
In a new post Krugman acknowledges the critics, but fails to dig himself out of the hole he’s in. To his credit, he doesn’t mention the yuan peg, which is a phony issue raised by some of my commenters. That’s not the problem in Krugman’s view– the problem is that the Fed can’t raise AD because we are at the zero bound. So how does he defend himself? He changes the subject, arguing that we have much more reason to complain about the weak yuan than the Europeans have to complain about the weak dollar:
In various comments and other places I keep seeing people compare European complaints about the weak dollar to American complaints about the undervalued renminbi. It’s a false equivalence, which should be obvious if you think about the basics of the situation.
What the United States is doing is an expansionary monetary policy in the face of a depressed economy and threats of deflation; what else do you expect us to do? Now, one effect of that policy, if it isn’t matched abroad, is a weaker dollar — but that’s not the goal of the policy.
But even if he is right (and I’ve argued he’s wrong for all sorts of reasons), this argument does not rebut the charge that he changes the argument when the US is the country in the hot seat. We critics do understand that one might be able to make a stronger argument for a weak dollar than for a weak yuan. What we complain about is that he assumes the ECB can do nothing to boost AD when the issue is China, but when there are complaints against the US depreciating the dollar the liquidity trap seems to vanish into thin air. That’s the double standard. Krugman’s smart enough to know he has a weakness there, and so he also makes this argument:
What about the argument that America can offset any effects from China’s policies through looser money? Well, I don’t really get why some commentators can’t grasp the distinction between the proposition “quantitative easing is worth trying, and would probably help” and the proposition “quantitative easing will allow the Fed to do whatever is needed, never mind the zero lower bound.” I subscribe to the first, not the second.
This is a game he’s been playing from the beginning. When it suits his purpose to claim monetary policy can do nothing (i.e. calling for fiscal stimulus or bashing the Chinese) he does so. When it suits his purpose to claim that monetary policy still has unused ammunition (as when he’s bashing the Fed, or bashing the ECB) suddenly monetary policy can do much more. His only way out is to confuse the issue—maybe it’s a 50/50 proposition. Maybe monetary stimulus will work, maybe it won’t. But notice how when he attacks China it’s all about the 50% chance it won’t work, and when he attacks the ECB it’s all about the 50% chance it will work.
Of course the truth is it will work. Indeed the entire discussion of how the Fed is depreciating the dollar makes no sense if we were really in a liquidity trap. That’s because when you are in a liquidity trap monetary stimulus has no effect on the exchange rate. So let’s get serious here–we all know that the Fed can offset China’s impact on NGDP if they want to. Indeed they can raise NGDP at Zimbabwean rates if they really set their minds to it. Krugman’s right that they are too conservative to do that–but that just means we have no one but ourselves to blame for our unemployment. The Chinese have every right to scold our Fed just as Krugman scolded the ECB. (Ironically, the Chinese are doing the opposite!)
Earlier Krugman and I had a debate about whether the Bank of Japan had tried and failed to inflate, or had never really tried at all. He takes the former view, which required him to make the deeply implausible argument that even a fiat money central bank might get stuck in a liquidity trap. I pointed out that the BOJ had repeatedly tightened policy at any sign of even a tiny increase in the price level, hence it was no surprise that Japan fell back into deflation any time the inflation rate poked its head above zero.
I recall that Ryan Avent thought Krugman’s reply actually supported my argument. Now Matt Yglesias has weighed in the the issue. As you know, Yglesias’s Keynesian views on fiscal stimulus are much closer to Krugman’s than to mine. But he is also a very smart and fair-minded progressive. Here’s how he sees the evidence:
I heard from some readers, for example, that the Bank of Japan spent a lot of time trying to create inflation and failed. That’s not really what happened. Instead, the Bank of Japan spent a fair amount of time trying to fight deflationand had limited but real success. They always indicated, however, that they wanted “price stability” not inflation and certainly not catchup level targeting of anything. This kind of stop/start policymaking does exactly what it’s supposed to do—it prevents collapse without being unduly unorthodox—but it can’t really lift the price level or the economy. But that’s not to say policymakers don’t have the ability to say that unorthodox measures will remain in place until full employment resumes. Thus far, in both Japan and the US, they’ve simply chosen not to do so.
I can’t imagine how any fair-minded observer could look at all the evidence on the BOJ and reach any other conclusion. This blows away Krugman’s argument about the US being victimized by China. How can we claim to be a victim when we haven’t even tried to stimulate? Especially as monetary policy can do the job almost costlessly. And how do I know we haven’t made a good faith effort? Because Krugman said so today!
There are multiple things wrong with that paragraph — but what on earth would give one reason to consider our political system “responsive”? The truth is that we’re responding worse than Japan did.
Krugman’s right. Our attempts to boost AD have been completely pathetic. So why the heck are we blaming the Chinese for our failures?
Krugman’s right about one thing, we are in a recession and China isn’t. So we need the stimulus more than they do. But the issue is not how much unemployment China has now, but rather how many Chinese would lose their job if China sharply revalued the yuan. I favor a gradual appreciation in the yuan, and the Chinese government has recently resumed the policy of gradual appreciation that was conducted from 2005-08. But here’s what China expert Michael Pettis says might have if there was a sharp appreciation in the yuan:
And so there is a good chance that the US will overreact, and will use the threat of tariffs to force the renminbi to appreciate much faster than China can absorb.
. . .
So after years of dragging its feet, postponing a rebalancing, and forcing rising trade surpluses onto the rest of the world, China may have to adjust its currency policies so quickly that it risks a sharp contraction at home.
Note that unlike me, Pettis agrees with Krugman’s argument that the weak yuan has hurt the US. But he is still very concerned about the impact of a sharp revaluation. Think about it. How could such a policy help the US by sharply curbing our imports from China, without costing the jobs of many Chinese workers in the export sector? China’s a very big country, I could easily foresee more jobs being lost in China’s export sector, than gained in the US (even if you accept the zero sum approach used by some protectionists.)
So even if you accept Krugman’s argument that yuan appreciation would help the US (and I don’t) he’s still asking a country with 1.3 billion mostly poor people to take a chance on a policy that Michael Pettis says could cause severe problems, all because of our failure to boost AD. And even Krugman blames our own policymakers for that failure. How can a progressive make that argument?
Yes, I know, I don’t get the fact that we can’t be 100% sure that monetary stimulus will work. And can he or anyone else be 100% sure a sharp yuan revaluation wouldn’t cost China millions of jobs? Especially given that China’s economy slowed sharply and experienced deflation after the yuan became overvalued in 1998?
HT: Master of None