Bloomberg TV hosted a showdown between Ron Paul and Paul Krugman. They actually contacted me, having just published the book Ron Paul vs. Paul Krugman last month, to see if I would come on their program to give my view of the debate. Since I live in Taipei, I couldn’t do that, but here’s my take on it. Business Insider has a partial transcript, which I’ll correct and expand upon. Let’s break it down:
Ron Paul: [Krugman] believes in big government, from what I read and hear, and I believe in very small government. I emphasize personal liberties. I don’t like a managed economy, whether it’s through central economic planning or monetary policy or even Congress doing it. So it’s a completely different philosophy that markets are supposed to work, you know, in a natural way.
I want a natural rate of interest. I don’t want the government or Federal Reserve fixing the rate of interest. That’s price fixing, and wage and price controls never work, so pricing the cost of money doesn’t work either. This idea that somebody or some group might know what the proper amount of money might be or what the proper rate of interest should be is sort of presumptuous. I don’t where they get this knowledge, and [Friedrich A.]Hayek called it a pretense of knowledge, because they pretend they know, but they really don’t. So when we talk about electing a president or a Congress to run the economy better, they’re missing the whole point. Governments aren’t supposed to run the economy. The people are.
Paul Krugman: You can’t leave the government out of monetary policy. If you think we’re going to let it set itself, it doesn’t happen. The government is actually always, the Federal Reserve, the central bank is always going to be in the business of managing monetary policy. If you think you can avoid the government from setting monetary policy, you’re living some—you’re living in the world as it was 150 years ago. Right, we have an economy in which money is not just green pieces of paper with faces of dead presidents on them. Money is a part of the financial system that includes a variety of assets. We’re not quite sure where the line between money and non-money is. It’s a continuum.
And, look, history tells us that in fact a completely unmanaged economy is subject to extreme volatility, subject to extreme downturns. I know there’s this legend that people like—probably you, Congressman—have that the Great Depression was somehow caused by the government or the Federal Reserve, but that’s not true. The reality is it was a market economy run amok, which happens—happens repeatedly over the past couple of centuries. You do need—you know, I’m actually a believer in the market economy. I’m a believer in capitalism. I want the market economy to be left as free as it can be, but there are limits. You do need the government to step in to stabilize. Depressions are a bad thing for capitalism and it’s the role of the government to make sure they don’t happen, or if they do happen, they don’t last too long.
So, Ron Paul says that interest rates should be determined by the market. Paul Krugman replies that “it doesn’t happen” that “monetary policy” will “set itself”. In context, of course, the specific monetary policy Ron Paul was addressing was the fixing of interest rates, so this translates into Krugman saying that interest rates being determined by the market “doesn’t happen”. Well, under our monetary system, that is true, it doesn’t happen, but Krugman is trying to argue that it can’t happen, it just won’t work, which is, needless to say, completely asinine. As Ron Paul pointed out, interest rates are a price just like any other price that is determined by supply and demand.
Krugman then has a few comments on money as a “continuum”. He seems to be trying to say that Federal Reserve notes (“money”) are not just worthless pieces of paper, they are backed by “a variety of assets”, primarily U.S. Treasury securities (“non-money”). So his point seems to be that Fed notes (“dollars”) are backed by the full faith and credit of the U.S. government. What does this have to do with what Ron Paul said about how interest rates should be determined by the free market? Nothing, really. Krugman is just blowing smoke, trying to argue that there’s nothing wrong with fiat, debt-based currency (every dollar is borrowed into existence, at interest, which is also why there is a need for steady, constant inflation).
But then Krugman says something really rich: “History tells us that in fact a completely unmanaged economy is subject to extreme volatility, subject to extreme downturns.” He says we “need the government to step in to stabilize” the economy, that “it’s the role of the government” to prevent depressions or at least make sure “they don’t last too long.” Think about that for half a second. That’s about as much time as it should require to recognize that Krugman just described history since the Federal Reserve was created, from the Great Depression to today’s Great Recession. It is a patently idiotic argument that we need the Federal Reserve iron out the business cycle. The Fed has obviously done a really lousy job of that. But even that is an understatement, becuase it is the Fed that causes the business cycle, first by manufacturing the boom with its artificially low interest rates, which is then followed by the bust as the illusion of economic growth becomes apparent, the malinvestment is revealed, and the market attempts a correction.
Krugman seems to recognize how this argument could possibly look very weak, given the Fed’s actual record, and addresses it by trying to argue that the Great Depression was not caused by the Federal Reserve, but was a consequence of the free market. This, too, is patently idiotic. To begin with, by definition, since the Fed was created, the U.S. hasn’t had a free market economy. Returning again to Ron Paul’s focus on fixing interest rates, it wasn’t the market that had determined interest rates, but the Federal Reserve. Krugman doesn’t actually present an argument to support his assertion that the Fed didn’t cause the Great Depression, but the argument that it was caused by a “market economy run amok” is pure nonsense. I recommend Murray Rothbard’s America’s Great Depression for further reading on this idiotic argument, which Rothbard absolutely destroys, documenting how it was the Fed’s inflationary policy that caused the depression and the government’s interventionary policies that helped make it “Great”, unlike the depression of ‘20-’21, when the government took a relatively much more hands-off approach. Rothbard points out:
In the 1920-1921 depression … wage rates were permitted to fall, and government expenditures and taxes were reduced. And this depression was over in one year….
And as Rothbard points out in his introduction to the third edition of his book (emphasis added):
We existed without such a central banking system before 1913, and we did so with far less rampant inflations or depressions.
Krugman next states that he is “a believer in capitalism” who wants “the market economy to be left as free as it can be”, which is just more patent nonsense. Obviously, that is false. Obviously, if that were true, he would believe that interest rates should be determined by the free market, not by government bureaucrats or Fed officials who think they can repeal the law of supply and demand and who think they know better than the market what rates should be. Krugman’s view is that if you don’t agree that interest rates should be determined not by the market but by government fiat, then you are just an unenlightened relic, “living in the world that was 150 years ago”. Ron Paul responds:
Ron Paul: Well, inflation is theft. You’re stealing value from people who save money. So if you have a 2% or 10%, the value of the currency is lost. And it really destroys an important feature of the economy, and that is savings. Savings tells us something, and it tells us if capital is available. This notion that capital can come out of the expansion of money supply is remote.
Now, professor Krugman indicates we just want to go back 100 years or so. That is not exactly true. We want to improve on what it was like back then. But he wants to go back 1,000 years or 2,000 years just as the Romans and the Greeks and all other countries debased their currency. They didn’t have a computer. This idea that we need a Federal Reserve to run things, or a central bank, that’s just a modern era [version of the same thing], and it’s never… [interrupted by host, who asks him to clarify what he means by going back 1,000 years]
What did the Romans do to their currency? The Byzantine Empire had a gold standard for a thousand years and they did quite well and they didn’t fight wars. But the Roman empire eventually destroyed their currency. They put in wage and price controls before they diluted the metals. They inflated. They thought wealth could come by fooling the people. Who would want today—if they had 10 years to send their kid to college, would they put their money in gold coins or a Treasury bill making 1% or 2%? They can’t keep up with the inflation or the devaluation of the currency. There’s nothing there….
Paul Krugman: I am not a defender of the economic policies of the Emperor Diocletion, let’s just make that clear.
Ron Paul: Well, you are. In a way you are. That’s exactly what you’re defending.
Paul Krugman: No, I’m a defender of the economic policies that we followed after World War II that produced the best generation of economic growth this country has experienced. We had a set of policies that provided—there was mild inflation, there was effective government regulation of the financial system so it didn’t go wild the way it did after we lifted those regulations. We had fiscal policy that stimulated the economy when it was needed. We had policies that fostered a strong middle-class instead of using the worship of the supposedly ideal force of the market to lead to plutocracy. I like the America that my parents prospered in. I think we can restore a lot of that.
So Ron Paul argues that fixing interest rates by printing money devalues the currency, and thus steals wealth from savers. Capital comes from savings, not from a printing press. He points out that he doesn’t want to go back to the system that existed before the Fed, but responds in kind to Krugman’s suggestion that his thinking is archaic by pointing out that Krugman is arguing in favor of what the Roman empire did, which was to debase its currency. Touché. Given Krugman’s remark, that’s a fair enough response.
But look at how Krugman responds to it. He says wryly that he doesn’t defend the economic policies of Diocletion. So he just completely dodges Ron Paul’s point, which is that the Fed’s running of the printing presses is really no different than Roman emperors diluting the precious metal content of their coinage. It is a debasement of the currency. Krugman’s denial is meaningless (and disingenuous) because he does in fact defend an economic policy of devaluing the dollar. He actually illustrates this when he goes on to defend an economic policy of “mild inflation”.
Humorously, Krugman commented on this in his blog at the New York Times:
Actually, though, appeals to what supposedly happened somewhere in the distant past are quite common on the goldbug side of economics. And it’s kind of telling. I mean, history is essential to economic analysis…. Somehow, though, people like Ron Paul don’t like to talk about events of the past century, for which we have reasonably good data; they like to talk about events in the dim mists of history, where we don’t really know what happened.
A reader, Chris, from Florida, rightfully observed:
Wait a minute….you accused Ron Paul of clinging to economic thinking that was out of date, so he responded in kind. You implied that his preferred monetary policies demonstrably failed 150 years ago, so he pointed out that yours failed over 1000 years ago.
Just as you are not a defender of Diocletian’s economic policies (except the general idea of central monetary manipulation), he never claimed to defend the monetary policies of 19th century US (except the general idea of commodity-backed currency).
Ron Paul and the Austrian economists talk about recent economic events all the time, if you care to listen. You were the one who started the “your view is outdated” accusations, so you’re not really in a position to complain.
Nicely done, Chris. Right on. Returning to the Bloomberg debate, Ron Paul then returns to Krugman’s denial that the Fed had anything to do with the Great Depression and argument that the postwar prosperity was a consequence of government management of the economy:
Ron Paul: There are some reasons for that. Just remember that Friedman—[Fed Chairman Ben] Bernanke apologized to [economist Milton] Friedman because the Federal Reserve was responsible for prolonging the agony of the depression. You have to liquidate the debt. After World War II, a lot of the debt was liquidated. But guess what else we did? Troops were coming home. 10 million people were coming home. Big government liberals wanted to have job programs. They weren’t put into place. We cut spending by some 60%, we slashed taxes. Finally, the Depression ended….
Paul Krugman: That’s ah… That’s not my version of history…
Ron Paul: So, it was that liquidation of debt that made it [capital] available that we could come back to work again.
Paul Krugman: I want to say something about Milton Friedman here because if you actually read what he wrote in his writing for economists, as opposed to some of his slightly loose popular writings, he actually said that the Federal Reserve was responsible for the Great Depression because it didn’t do enough. Friedman’s complaint was that the Federal Reserve did not print enough money.
Ron Paul: [Laughing] I know, that’s…
Paul Krugman: I know this really—when Ben Bernanke was talking about the helicopter, he was taking that metaphor from Milton Friedman. That was really his idea, and it’s really telling that the state of America right now, Milton Friedman would count as being on the far left on the debate over monetary policy. That’s something terribly wrong with your way we’ve gone here.
Notice, first off, that Ron Paul was very much talking about “events of the past century”, which Paul Krugman disingenuously suggested in his blog Ron Paul does not like to talk about. And Krugman’s remark that the facts Ron Paul gives are not his version of history is hilarious. Yeah, no kidding.
That aside, Ron Paul was making the point that it wasn’t only the Austrian school economists who argued that the Fed caused the Great Depression; Chicago school economist Milton Friedman had blamed the Fed, though for a much different reason. Paul Krugman rightfully replied that Friedman’s argument was that the Fed didn’t do enough, didn’t inflate enough. (This is an argument Krugman himself frequently makes. When he was arguing that the Fed should lower interest rates to create a housing boom, and the Fed did lower interest rates, but it didn’t lead to a recovery, Krugman’s repeated argument was that the Fed just wasn’t lowering rates enough. When government spending doesn’t lead to a recovery, he argues that the government just isn’t spending enough. I review his record on the housing bubble in my book.)
But what may not be understood by most viewers is that Ron Paul doesn’t agree with Friedman. He was simply observing that it is not only Austrian economists who point to the role of the Fed in causing the Great Depression. Whether or not Krugman agrees with Friedman that the Fed should have inflated more isn’t clear, but given his constant mantra that the Fed needs to inflate and lower interest rates, it seems safe to presume so. Of course, that would contradict his contention that Fed policy had nothing to do with it, but self-contradictions and cognitive disconnects are also the norm for Krugman (which I also document in my book).
The trouble with Friedman’s argument, as Rothbard shows, is that the Fed’s inflationary policy was the problem. True, prices remained relatively stable leading up to the depression, but this was because if it had not been for the Fed’s inflationary policy, prices would have been falling, the same way the prices of computers are continually falling today (the machine I’m typing this on is a thousand times better than my first laptop, and yet it cost significantly less). As Rothbard explains:
[T]he designation of the 1920s as a period of inflationary boom may trouble those who think of inflation as a rise in prices. Prices generally remained stable and even fell slightly over the period. But we must realize that two great forces were at work on prices during the 1920s—the monetary inflation which propelled prices upward and the increase in productivity which lowered costs and prices….
Over the entire period of the boom, we find that the money supply increased by $28.0 billion, a 61.8 percent increase over the eight-year period. This is an average annual increase of 7.7 percent, a very sizeable degree of inflation….
We cannot prove inflation by pointing to price increases…
Federal Reserve credit expansion, then, whether so intended or not, managed to keep the price level stable in the face of an increased productivity that would, in a free and unhampered market, have led to falling prices and a spread of increased living standards to everyone in the population….
If the Federal Reserve had an inflationist attitude during the boom, it was just as ready to try to cure the depression by inflating further.
Rothbard further explains how the money supply did decrease during the depression, but this monetary deflation did not occur as a consequence of Fed policy but in spite of it:
The inflationary attempts of the government from January to October  were … offset by the people’s attempts to convert their bank deposits into legal tender.
That is, the Fed was trying to inflate, but people were taking cash out of the bank (or redeeming their Federal Reserve notes for gold), reducing reserves upon which the banks could pyramid under the fractional-reserve system, wherein banks may loan out many times more than they actually have in reserve by creating “money” (i.e., credit) out of thin air.
The original edition of Rothbard’s book came out the same year as Friedman’s A Monetary History of the United States, and Rothbard actually addresses the argument the Fed didn’t do enough to inflate, pointing out that
The Federal Reserve System … has been sharply criticized by economists for its “tight money” policy in the last quarter of 1931. Actually, its policy was still inflationary on balance, since it still increased controlled reserves.
Thus, the falling prices during the depression were not the consequence of a deflationary monetary policy, but occurred in spite of the Fed’s inflationary policy. Rothbard comments further about how government intervention exacerbated the depression:
The maintenance of wage rates in the face of steadily declining prices (wholesale prices fell by 10 percent in 1930, by 15 percent in 1931), meant that the real wage rates of the employed were sharply increasing, thereby greatly aggravating the unemployment problem as time went on.
Ron Paul obviously did not have time to get deeply into the details, but responded to point out that Krugman was missing his point in bringing up Friedman’s explanation for the Great Depression:
Ron Paul: The point is, the Fed does either too much or too little [i.e., depending on one’s school of economic thought] and they can’t do it [i.e., successfully manage the economy]. They don’t have a good record—they’ve ruined 98% of the value of the currency since 1913. That’s dishonest—that steals value from people. Why should people get 1% for their money for savings in the banks get it for practically free? Why did the Federal Reserve bail out the rich and not give the money to the mortgage holders? If you care about poor people.… Why didn’t you use helicopters and pass it back to the home builders? That would have been more fair, wouldn’t it?
…I’ll tell you what we could do. Even with my book, End the Fed, if you read it, it doesn’t call for the end of the Fed because it would be chaotic if tomorrow we ended the Fed. Too many people depend on it. But all I want to do is get rid of the monopoly. I want to legalize competition. There’s legal competition on currencies around the world, so why can’t we allow ourselves here the legal competition over gold or silver standard? Why is the Fed so frightened about this?
Paul Krugman: I have no idea what that’s about, to be honest.
Ron Paul: And then, if I’m wrong, who cares? If I’m right, if I’m right—if you want the paper money and I’m wrong, it doesn’t hurt anybody. Just allow me to legalize the currency, get rid of the monopoly, take the taxes off gold and silver and get rid of the sales tax and capital gains tax and legal tender laws, don’t hide behind a monopoly and force. People today if they use gold and silver, you can go to jail.
Paul Krugman: That’s not my understanding of the law. But do you really think people use dollar bills only because the federal government isn’t allowing them to use other stuff? That seems like a very strange point of view.…
Ron Paul: Well, you don’t have a choice, you go to jail if you use anything else.
Paul Krugman: That’s not what I’ve heard. You can do barter with all kinds of stuff. The fact of the matter is, we actually have too much currency competition, too much money competition. This crisis was brought on by an expansion of what amounted to private money in the form of things like repo, which were uncontrolled and turned into an enormous crisis when they collapsed…
Notice firstly that Krugman tacitly acknowledges Ron Paul’s point (though he doesn’t even realize it) when he says people are free to barter. So, yeah, okay, people can either use Federal Reserve notes or they can barter. That’s pretty much the exact same point Ron Paul is making, that those are the only two choices people have, because the Fed has a government-enforced monopoly on the supply of money.
Notice secondly that Krugman is effectively arguing that the financial crisis was brought about because the Fed did not have enough of a monopoly over the money supply. The idiocy of that argument pretty much speaks for itself, but, actually, the financial crisis was brought on by the Fed’s inflationary monetary policy, which created the housing bubble. Krugman now denies this, but his denials are really ludicrous. As I wrote in my book:
Krugman again argued in the New York Review of Books in September 2010 that the Fed had had no choice but to lower interest rates following the collapse of the dot-com bubble. “It’s hard to see,” he wrote, “even in retrospect, how the Fed could have justified not keeping rates low for an extended period.” However, now his argument was that “it would be wrong to attribute the real estate bubble wholly, or even in large part, to misguided monetary policy.”
Yet how could Krugman reconcile his argument here that the Fed was not “wholly, or even in large part” responsible for creating the housing bubble with his earlier arguments that the Fed should lower interest rates to spur investment in housing? How could he reconcile this argument with his earlier statement that “Millions of Americans have decided that low interest rates offer a good opportunity to refinance their homes or buy new ones” (May 2, 2001)? Or with his observation that “those 11 interest rate cuts in 2001 fueled a boom both in housing purchases and in mortgage refinancing” (October 1, 2002)? Or with his acknowledgment that it had been “the Fed’s dramatic interest rate cuts” that had “helped keep housing strong” (December 28, 2001)? Or his statement, “Repeated interest rate cuts encouraged families to buy new houses and refinance their mortgages“ (December 22, 2002)? Or his remark that “Mortgage rates did indeed fall briefly to historic lows, extending the home-buying and refinancing boom that has helped keep the economy’s head above water” (July 25, 2003)? Or, “Low interest rates … have been crucial to America’s housing boom” (May 20, 2005)? Or, “interest rate cuts led to soaring home prices, which led in turn not just to a construction boom but to high consumer spending, because homeowners used mortgage refinancing to go deeper into debt”(May 25, 2005)? Or, “A snarky but accurate description of monetary policy over the past five years is that the Federal Reserve successfully replaced the technology bubble with a housing bubble“ (August 7, 2006)? Or, “Back in 2002 and 2003, low interest rates made buying a house look like a very good deal. As people piled into housing, however, prices rose—and people began assuming that they would keep on rising. So the boom fed on itself” (July 27, 2007)?
What can explain Krugman’s self-contradictions? When he thought the housing bubble was a good thing, the road to recovery, he was all for it, lavishing the Fed with praise for single-handedly rescuing the economy from the much more painful recession that otherwise would have occurred without it. Once the devastating consequences of the housing bubble became clear, however, he changed his story, denying that he had ever called for a bubble and even denying that the Fed was responsible for having created it.
Ron Paul responded by pointing out how the Fed effectively operates as a legalized counterfeiting operation and causes the boom-bust cycle:
Ron Paul: If a private company commits fraud, they go to jail. If the Federal Reserve commits fraud, they get nothing…. So the Federal Reserve—if you had a private issue of money and you committed a fraud, you would go to jail for that. But, no, governments can debase the currency and injure a lot of people and cause the business cycle and cause inflation and cause unemployment and get off scot-free.
Krugman: I have been pretty harsh on Ben Bernanke, but fraud is not one of the things I would charge him with.
Ron Paul: [Laughing] Yeah, you want him to print more money faster.
Krugman: Well, of course I do.
Ron Paul: But, believe me, it doesn’t work. We have enough evidence of that.
Well, of course Paul Krugman wants the Fed to inflate more! It’s all he knows. Just watch this three-minute video I made to promote my book, which consists of a selection of quotes from Ron Paul and Paul Krugman summing up their opposing arguments in the wake of the bursting of the dot-com bubble:
One of the show’s hosts then switched gears a bit to the topic of the government’s debt as a percentage of GDP, which is “right now about 100%”. His question is “How much higher could we go?”
Paul Krugman: I don’t have a fixed number. But if it takes another 30 points to get us out of this depression, then I’m willing to accept that. I won’t claim that there’s no risk, but the risk of not doing what it takes to get out of a depression is a clear and present danger. I don’t want us to go up to Japanese levels of debt, even though they turn out to be able to carry those levels of debt. But we’re not anywhere close to a red line here, is the point. I can’t give you a specific number….
When John Maynard Keynes was writing, Britain had debt on the order of 130% of GDP. That didn’t stop fiscal stimulus from being the answer. The main point is that trying to reduce that number by slashing spending even now actually makes even the debt problem worse. It’s one thing to say, “Oh, I don’t like that level of debt”, but if you’re going to say, “And my proposal is to actually destroy the economy so we can’t afford to carry the debt we already have,” that’s not a helpful policy.
Ron Paul: [Krugman] just ignores the fact that we did better after World War II when we did reduce the debt and the spending. But, no, one thing I can agree with him, we don’t know the precise date. We don’t know if it’s 110, 130 [percent], it could be tomorrow or some other event because there is a subjective factor involved. We are sort of given a leeway because the world still trusts our dollar, I agree with him. But it just means a bigger bubble for our bonds and our dollar, so we don’t know. But if this were true—if you believe that the world will continue to take our dollars no matter what our debt is, Americans shouldn’t have to work anymore, because then we just print all the money. The worst part about all this is the facilitation of debt. Because the Fed is the lender of [last] resort—not only to their friends on Wall Street and all their banker friends, but also the politicians who get re-elected by running up these debts, and that the Fed always is there. They have to be there. So there’s no restraints on the Congress to run up debt. So if you love big government and think it can last forever, no, I can understand why you love the Fed. But some of us believe in freedom and markets and sound market and no more wars.
Paul Krugman: I believe in markets. I don’t believe in monetary policy to perpetuate depression.
The problem with Krugman’s comments here is that they are based on an assumption that the correct response to a recession is more government spending and more inflation, and that cutting spending and not running the printing presses will worsen the recession. Notice his strawman argument about how anyone who doesn’t agree with his prescription must therefore be arguing that they “want to destroy the economy”. Well, obviously Ron Paul isn’t arguing that he wants to “destroy the economy” rather than to increase spending and to run the printing presses. Rather, Ron Paul believes that what Krugman advocates is what is destroying the economy. He rather disagrees that the policies Krugman advocates are founded on a belief in markets. And Ron Paul is absolutely correct. Krugman clearly does not “believe in markets”, his meaningless remarks to the contrary notwithstanding. And Ron Paul also disagrees that Krugman does not “believe in monetary policy to perpetuate depression”. On the contrary, Ron Paul’s view is that the policies Krugman advocates do indeed perpetuate depression. After all, more of the same policies that created the depression in the first place cannot possibly at the same time be the cure.
And Ron Paul is, of course, right. There’s no better illustration of this than their respective positions with regard to the housing bubble. Paul Krugman was arguing that the Fed should cut interest rates in order to create a housing bubble to replace the dot-com bubble, rather than allowing a market correction to occur (compare again the depression of the early ‘20s with that of the ‘30s). The Fed followed just such a course and in doing so did create a housing bubble. Krugman’s response to the bursting of the housing bubble was to call for even more inflation, just as he had called for more inflation in response to the bursting of the dot-com bubble. It really is all he knows.
For more on that, check out my book, Ron Paul vs. Paul Krugman, which reviews their records on the housing bubble in detail. The bottom line: Ron Paul is right and Paul Krugman is wrong.