Posts Tagged ‘Paul Krugman’

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The latest bank to admit criminal fraud is Wells-Fargo. The largest U.S. mortgage lender and third-largest U.S. bank by assets, Wells-Fargo deceived the U.S. government into insuring thousands of risky mortgages, and formally reached a record $1.2 billion settlement of a U.S. Department of Justice lawsuit. Several lenders, including Bank of America Corp, Citigroup Inc, Deutsche Bank AG, and JPMorgan Chase & Co, previously settled similar federal lawsuits.

To read Paul Krugman (who’s “been doing a lot of shovel work for the Hillary Clinton campaign lately”), the real problem in the run-up to the spectacular crash of 2007-08 was not Too Big to Fail banks like Wells-Fargo, but the so-called shadow-banking system. But, as Matt Taibi [ht: db] explains, “Krugman is just wrong about this.”

The root problem of the ’08 crisis lay in a broad criminal fraud scheme in the mortgage markets. Real-estate agents fanned out into middle- and low-income neighborhoods in huge numbers and coaxed as many people as possible into loans, whether they could afford them or not.

Those loans in turn were bought up by giant financial companies on Wall Street, who chopped them up into a kind of mortgage hamburger. Out of this hamburger, they made securities. These securities were then sold to institutional investors like pension funds, unions, insurance companies and hedge funds.

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source (pdf)

There’s no doubt shadow-banking activities surpassed those of the traditional banking system in the years leading up to the crash. But—and this is crucial—they weren’t two separate systems or sets of institutions; they were just two different sets of activities by a wide variety of firms within the financial system. And so-called traditional banks were heavily involved in the shadow-banking activities.

The two economically most important shadow banking activities are securitization and collateral intermediation. According to Stijn Claessens, Zoltan Pozsar, Lev Ratnovski, and Manmohan Singh,

The first key shadow banking function, securitisation, is a process that repackages cash flows from loans to create assets that are perceived by market participants as almost fully safe and liquid. The repackaging occurs in steps, and takes the form of risk transfer. First, risky long-term loans are ‘tranched’ into safe and complementary (‘equity’ and ‘mezzanine’ respectively) tranches. Then the safe tranche is funded in short-term money markets, with additional protection provided by liquidity lines from banks. The resulting assets, such as Asset-Backed Commercial Papers (ABCPs), were regarded prior to the crisis by market participants as safe, liquid, and short-term, i.e. almost money-like, but with returns exceeding those on short-term government debt. . .

Another key function of shadow banking is supporting collateral-based operations within the financial system. Such operations include secured funding (of bank and, especially, nonbank investors), securities lending, and hedging (including with OTC derivatives). Collateral helps deal with counterpart risks and more generally greases financial intermediation. One of the main challenges in using collateral is its scarcity. The shadow banking system deals with the scarcity through an intensive re-use of collateral, so that it can support as large as possible a volume of financial transactions. The multiplier of the volume of transactions to the volume of collateral (the ‘velocity’ of collateral) was recently about 2.5 to 3.

The key is that traditional banks (such as Goldman Sachs, Morgan Stanley, JP Morgan, Bank of America-Merrill Lynch, and Citibank in the United States, in addition to Barclays, BNP Paribas, Crédit Suisse, Deutsche Bank, HSBC, Royal Bank of Scotland, Société Générale, Nomura, and UBS elsewhere—all of them classified as “strategically important financial institutions”) both financed and directly participated in shadow-banking activities. The traditional banks made record profits from those activities and served both to expand shadow banking and to increase the degree of risk, instability, and contagion.

In other words, traditional banks played a key role in creating the financial house of cards that came crashing down in 2007-08.

So, it’s simply wrong to assert that Too Big to Fail or Jail banks were peripheral in creating the conditions that caused the global financial crisis—or, for that matter, that continue to plague the financial system today.

What this means is that regulating and transforming the financial system—by taxing financial transactions, breaking up the now-Too Bigger to Fail banks, and creating new forms of financial intermediation (such as various forms of public and community banking)—are still on the agenda.

It’s time, then, to bring both the financial system and arguments by mainstream economists that attempt to shield traditional banks and their favorite political candidates out of the shadows.

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A week ago, I noted the pushback against liberal mainstream economists’ attacks on Bernie Sanders’s plans and Gerald Friedman’s analysis of those plans.

The first set of attacks, as Bill Black explained, plumbed “new depths of moral obtuseness, arrogance, and intellectual dishonesty.”

More recently, Christina D. Romer and David H. Romer (pdf) have responded with a more detailed critique of Friedman’s calculations, which has led to additional gloating by Paul Krugman and more publicity to only one side of the debate in the pages of the New York Times.

But, fortunately, that didn’t end the debate.

James K. Galbraith reminded us that “all forecasting models embody theoretical views.”

All involve making assumptions about the shape of the world, and about those features, which can, and cannot, safely be neglected. This is true of the models the Romers favor, as well as of Professor Friedman’s, as it would be true of mine. So each model deserves to be scrutinized.

In the case of the models favored by the Romers, we have the experience of forecasting from the outset of the Great Financial Crisis, which was marked by a famous exercise in early 2009 known as the Romer-Bernstein forecast. According to this forecast (a) the economy would have recovered on its own, in full and with no assistance from government, by 2014, (b) the only effect of the entire stimulus package would be to accelerate the date of full recovery by about six months, and (c) by 2016, the economy would actually be performing worse than if there had been no stimulus at all, since the greater “burden” of the government debt would push up interest rates and depress business investment relative to the full employment level.

It’s fair to say that this forecast was not borne out: the economy did not fully recover even with the ARRA, and there is no sign of “crowding out,” even now. The idea that the economy is now worse off than it would have been without any Obama program is, to most people, I imagine, quite strange. These facts should prompt a careful look at the modeling strategy that the Romers espouse.

Mark Thoma, for his part, argues that, while he does not believe that “we can sustain 5% growth over the next eight years. In the short-run—over the next two to four years—the situation is different.”

I’m worried people will accept without question that the gap is small due to the pushback against Friedman’s analysis of the Sander’s plan, and that will justify policy passivity when we need just the opposite. So let’s stop arguing, put the policies we need in place, and push as hard as we can to increase employment until inflation reveals that we have, in fact, hit capacity constraints. Maybe that happens quickly, but maybe not and we owe it to those who remain unemployed, have dropped out of the labor force but would return, or took a job with lousy wages to try. People who had nothing to do with causing the recession have paid the costs for it, and if we experience a short bout of above target inflation I can live with that. We’ve been wrong about this before in the 1990s, and we may very well be wrong about this again.

Finally, there’s a much more mainstream supporter of the idea that it’s not technologically impossible to imagine “materially super-normal rates of growth in the coming four years”: former Minneapolis Federal Reserve President and University of Rochester economist Narayana Kocherlakota. His view is that “given current economic circumstances, demand-based stimulus is likely to be more effective than supply-based stimulus.”

Why? Because, as Kocherlakota explained elsewhere, labor’s share remains extremely low by historical standards. So, faster growth would serve to push the share of income going to labor back to their historical (pre-1990) ranges and thus boost economic growth above the so-called consensus among economists.

And that’s exactly the basis of Bernie Sanders’s economic plans and Friedman’s analysis : raising labor’s share via redistributive measures is a spur to faster economic growth and encouraging unemployed and underemployed workers to take decent, better-paying jobs will sustain those faster rates of economic growth.

As I’ve written before, that’s not so much a forecast of what will happen as a mirror that demonstrates how diminished are the expectations created by contemporary capitalism and the policies that continue to be put forward by liberal mainstream economists.

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Contemporary capitalism has a big problem. And no one seems to be able to refute it.

The problem, as Robert J. Gordon sees it, is that economic growth is slowing down, it has been for decades, and there’s no prospect for a resumption of fast economic growth in the foreseeable future. After fifty (from 1920 to 1970) years of relatively fast growth, and a single decade (the 1950s) of spectacular growth, the prospects for continued growth seem to have dimmed after 1970.

In the century after the end of the Civil War, life in the United States changed beyond recognition. There was a revolution—an economic, rather than a political one—which freed people from an unremitting daily grind of manual labour and household drudgery and a life of darkness, isolation and early death. By the 1970s, many manual, outdoor jobs had been replaced by work in air-conditioned environments, housework was increasingly performed by machines, darkness was replaced by electric light, and isolation was replaced not only by travel, but also by colour television, which brought the world into the living room. Most importantly, a newborn infant could expect to live not to the age of 45, but to 72. This economic revolution was unique—and unrepeatable, because so many of its achievements could happen only once. . .

Since 1970, economic growth has been dazzling and disappointing. This apparent paradox is resolved when we recognise that recent advances have mostly occurred in a narrow sphere of activity having to do with entertainment, communications and the collection and processing of information. For the rest of what humans care about—food, clothing, shelter, transportation, health and working conditions both inside and outside the home—progress has slowed since 1970, both qualitatively and quantitatively.

From what I have read, Gordon appears to privilege technical innovation over other factors (such as dispossessing noncapitalist producers and creating a large class of wage-laborers, concentrating them in factories and cities, and so on). He also seems to argue that the fruits of past economic growth were evenly distributed and that the drudgery of work itself has been eliminated.

Still, the idea that rapid economic growth took place during a relatively short period of time dispels one of the central myths of capitalism, much as the discovery that relative equality in the distribution of wealth and constant factor shares characterized an exceptional phase of capitalism.

And that’s a problem: the presume and promise of capitalism are that it “delivers the goods.” It did, for a while, and now it seems it can’t—which has mainstream commentators worried.

They’re worried that capitalism can no longer guarantee fast economic growth. And they’re worried, try as they might, that they can’t refute Gordon’s analysis. Not Paul Krugman or Larry Summers or, for that matter, Tyler Cowen.

All three applaud Gordon’s historical analysis. And all three desperately want to argue he’s wrong looking forward. But they can’t.

The best they can come up with is the idea that the future is uncertain. Thus, as Cowen writes, “many past advances came as complete surprises.”

Although the advents of automobiles, spaceships, and robots were widely anticipated, few foretold the arrival of x-rays, radio, lasers, superconductors, nuclear energy, quantum mechanics, or transistors. No one knows what the transistor of the future will be, but we should be careful not to infer too much from our own limited imaginations.

Indeed. We certainly don’t know what lies ahead. But, since the 1970s, we’ve witnessed growing inequality in the distribution of income and wealth, which resulted in and in turn was exacerbated by the most severe economic crisis since the 1930s. Capitalism’s legitimacy, based on “just deserts” and economic stability, was already being called into question. Decades of slow economic growth and the real possibility that that trend might continue for the foreseeable future mean that capitalism (not to mention those who spend their time celebrating capitalism’s successes and failing to imagine alternatives) has an even bigger problem.

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I’ve been telling friends for weeks that it was going to get ugly. If and when the race on the Democratic side tightened in Iowa and New Hampshire, the gloves would come off.

And now they have.

David Brock, a Clinton supporter and founder of a super PAC that coordinates with her campaign told The Wall Street Journal that, if Mr. Sanders were to win the nomination, his democratic socialist identity would trigger a Republican rout in the general election.

Clinton allies with ties to her campaign are highlighting past statements Mr. Sanders has made that, they say, are at odds with America’s market-based, capitalist economy and its two-party political system. . .

“Democratic voters need to know before they vote what’s in the Republican arsenal on Sen. Sanders,” Mr. Brock said. “It’s clear that when Republicans…get done with Sanders, we’ll have President Trump or President Cruz.”

In the interview, Mr. Brock mentioned various speeches and interviews given by Mr. Sanders when he was mayor of Burlington, Vt., in the 1980s and a congressman in the 1990s. He cited an article published in a Vermont newspaper in January 1984 that quoted then-Mayor Sanders saying he was unique “in not believing in the capitalist system.”

This, of course, is the same David Brock who, after a stint as a research fellow at The Heritage Foundation, authored a sharply critical story about Clarence Thomas’s accuser, Anita Hill, in The American Spectator magazine (which he later expanded into a book, The Real Anita Hill).

And then we have Paul Krugman, who has followed up on his version of the “art of the possible” by attacking those on the Left—where “there is always a contingent of idealistic voters eager to believe that a sufficiently high-minded leader can conjure up the better angels of America’s nature and persuade the broad public to support a radical overhaul of our institutions”—for veering into “destructive self-indulgence.”

Krugman’s view is that “current polling is meaningless, because [Sanders] has never yet faced their attack machine.”

Well, Sanders is now facing the red-baiting attack machine, and it’s coming from inside his own party.

Addendum

One never knows how representative comments on columns are but the latest Krugman column has been challenged by many respondents, including fg from Ann Arbor, Michigan:

Oh oh, Mr. Krugman, it appears that your idealism has veered into destructive self-indulgence, but please don’t paint the rest of us believers with the same brush. You sound exhausted, we’re not. We absolutely must continue to fight for the ideals, promises and potential of this nation, even if it means backing an irascible old social democrat, a Don Quixote, because he is not tilting at windmills, he is tilting at real danger to our existence as a free and enlightened nation.

And then there’s BH from Houston, Texas:

The best way to make sure change doesn’t happen is to not even try. Single-payer may not be politically feasible with the current Congress, but political capital can be created; Congress is not immutable. Millennials support Sanders by a 3:1 margin, and their influential electorally will only grow in the coming decades.

“No we can’t!” is not a smart strategy, politically, intellectually or emotionally by Clinton and her surrogates (fishing for a position in her administration, Paul?).

Whenever a commentator declares that “politics is the art of the possible”—and proceeds to make whatever arguments they deem necessary to delegitimize ideas that challenge the current common sense—I’m on my guard. What we’re being told is to accept present conditions as immutable facts of life, and to trim our goals accordingly. We’re being told not to entertain ideas that point in the direction of the not-yet possible.

So it is with Paul Krugman these days. Now that Bernie Sanders has to be taken seriously, Krugman has taken to invoking the art of the possible and, in the process, both rewriting history and declaring that Sanders’s plans represent deceitful fantasies.

In order to make a thinly veiled case for Hillary Clinton against Sanders, Krugman has decided that Too Big to Fail Banks—Bank of America, JPMorgan, Citigroup, Wells Fargo, and Goldman Sachs—which now long after the crash are all Too Bigger to Fail—played no significant role in 2008. Instead, the problem, as Krugman (citing Mike Konczal) sees it, was shadow banking. While breaking up the big banks might not solve all the problems of the financial sector, it’s simply disingenuous to try to whitewash the history of the crash of 2007-08 by arguing that the nation’s largest banks played only a marginal role in creating the conditions of the bubble that eventually burst and, when it did, in bringing the world economy to its knees.

If the art of the possible with respect to financial reform is one or another version of Dodd-Frank, it’s extending private health insurance to cover more people—and decidedly not proposing a single-payer (let along a single-provider) plan. Here, Krugman relies on Ezra Klein to assert that Sanders’s plan is a fantasy, since it relies on cost-savings associated with government setting health reimbursement fees (like the current Medicare system) and it would mean disrupting the existing, private insurance system. And, of course, we can’t have that.

The fact is, Krugman (along with Konczal, Klein, and many others in recent days) is determined to make the American electorate stick to existing policies and policy options, which don’t disrupt business as usual. That’s the art of the possible, as proposed and practiced by Clinton.

What Sanders and his growing number of supporters are relying on is our disenchantment with the existing possibilities, which put us in the Second Great Depression and left too many Americans without decent healthcare, and a desire to make strides that challenge the current common sense and help us imagine the next steps.

That’s politics as the art of the not-yet possible.

Or, alternatively, we can just let Juan Perón take over.

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John Lennon (on the B side of “Imagine”) thought that life was hard, “really hard.” I can understand that.

But is modeling inequality really all that hard?

Paul Krugman seems to think so, at least when it comes to the size or personal distribution of income. That’s his excuse for why mainstream economists were late to the inequality party: they just didn’t know how to model it.

And, according to Krugman, not even Marx can be of much help.

Well, let’s see. It’s true, Marx focused on the factor distribution of income—wages, profits, and rent, to laborers, capitalists, and landowners—because his critique was directed at classical political economy. And the classical political economists—especially Smith and Ricardo—did, in fact, focus their attention on factor shares.

That was Marx’s goal in the chapter on the Trinity Formula: to show that what the classicals thought were separate sources of income to the three factors of production all stemmed from value created by labor. Thus, for example, laborers received in the form of wages part of the value they created (“that portion of his labour appears which we call necessary labour”); the rest, the surplus-value, was divided among capitalists (“as dividends proportionate to the share of the social capital each holds”) and landed property (which “is confined to transferring a portion of the produced surplus-value from the pockets of capital to its own”).

It is really just a short step to show that, in recent decades (from the mid-1970s onward), both that more surplus-value has been pumped out of the direct producers and that investment bankers, CEOs, and other members of the 1 percent have been able to capture a large share of that mass of surplus-value. That’s how we can connect changing factor (wage and profit) shares to the increasingly unequal individual distribution of income (including the rising percentage of income going to the top 1, .01, and .001 percents).

See, that wasn’t so hard. . .

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Paul Krugman is right: there is no clear or unambiguous relationship between inequality and capitalist economic growth.

If there were such a relationship, liberal thinkers could make their case that less inequality would promote more growth and everyone would benefit.

The fact is, however, there are more unequal and less unequal forms and periods of capitalist growth. As a result, there’s no general correlation between inequality and growth within capitalism.

The chart above depicts both inequality (the profit-wage ratio, in blue on the left) and economic growth (nominal GDP growth, in red on the right) for the United States. We can clearly see periods of relatively high economic growth accompanied by growing inequality (e.g., in the late 1970s) and periods of very slow economic growth also accompanied by growing inequality (e.g., since 2009). The converse is also true: high economic growth with falling inequality (in the early 1950s) and slow economic growth with falling inequality (e.g., late 1980s).

What this means, at least for me, is we need to pay attention to the particular conditions for economic growth during each period or phase of capitalist development. In general, capitalism can grow (or not) under both more unequal and less unequal conditions.

That’s not to say, however, that within any given period (more or less) growth and (more or less) inequality are not connected. A plausible story can be told that growing inequality during the 2000s fueled the financial bubble that eventually burst in 2007-08.

We also need to reverse the relationship and look at the relationship from growth to inequality. It’s pretty clear that the nature of the growth that has occurred since 2009 has created more inequality, that is, the particular form of the recovery that has been enacted since the crash of 2007-08 has enhanced corporate profits (and incomes at the very top) and made everyone else (who receive wages to get by) pay the costs.

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Finally, while we’re on the topic, there is one general tendency of capitalist growth we need to point out: the role of profitability. In the end, profitability is what makes capitalism work (or not). As we can see from the chart above (which includes just the corporate profit share and growth), each period of a declining profit share is followed by a recession, after which the profit share rises (at least for a time).

So, to paraphrase the Rolling Stones: capitalists can’t always get what they want. When they don’t (leading up to the most recent financial crash), neither will anyone else. And, even when they do (as they have since 2009), there’s no guarantee anyone else will.