Paul Krugman and the Case of the ‘Heroic’ Federal Reserve

Once an avid reader of Paul Krugman’s New York Times twice-weekly columns, I admit to rarely even glancing at his work now, since I know that anything he writes is going to have the theme of “Trump evil, Democrats good” each time, and it doesn’t take long to get one’s fill of that, even if one disagrees with Donald Trump’s policies or cringes at some of his public statements. The real problem, however, is that Krugman also manages to endorse unsound and inflationary economic policies as a “solution” to what he calls “Trumpism.”

If one reads Krugman to see what “vulgar” Keynesian fallacies he is promoting, the man rarely disappoints, and a recent column in which he attacks what he believes will be Trump’s future choice to head the Federal Reserve System only burnishes Krugman’s Keynesian credentials. After claiming that Trump has been like a “Category 5 hurricane sweeping through the U.S. government, leaving devastation in his wake,” Krugman then worries if the Fed will suffer the same fate. One only could hope….

Before looking at Krugman’s worshipful commentary on the current Fed leadership, a brief point is in order regarding the rest of official Washington that Trump allegedly has devastated. People like Krugman believe that Washington and its gaggle of Alphabet-Soup agencies regulating nearly every aspect of individual lives is the very source of social stability and economic prosperity in this country – provided there are little or no restraints on what government agents can do. As Krugman and his fellow progressives see it, we need more, not less, bureaucratic control of our lives, and especially control by people of progressive bent with “elite” academic credentials, since they are smarter than the rest of us, so they should be able to tell us what to do.

In his classic 1945 paper, “The Use of Knowledge in Society,” F.A. Hayek wrote that the kind of knowledge needed within a growing and prosperous economy is not the distant academic knowledge, but rather the boots-on-the-ground knowledge undergirded by a price system held by entrepreneurs and others directly involved with enterprises. Ludwig von Mises in many of his writings, including Bureaucracy, pointed out that free-market pricing of goods, along with profit (and loss) management, serves as an irreplaceable guide for an economy.

Krugman is having none of that, and his academic biases are exposed in his recent column. He writes:

The Fed, which sets monetary policy, is by far our most important economic agency; its chairwoman (or chairman) is arguably the most powerful economic official in the world, more than the president himself. Its institutional status is peculiar: It isn’t exactly part of the executive branch, but it isn’t exactly independent, either. Its board members are appointed by the president subject to congressional approval, but have traditionally been technocrats expected to distance themselves from partisan politics.

That is, however, a norm rather than a legal requirement. And we know what tends to happen to norms in the Trump era.

For more than a decade the Fed chair has been a distinguished academic economist — first Ben Bernanke, then Janet Yellen. You might wonder how such people, who have never been in the business world, who have never met a payroll, would deal with real-world economic problems; the answer, in both cases: superbly.

In particular, both Bernanke and Yellen responded effectively to a once-in-three-generations economic crisis despite constant heckling from back-seat drivers in Congress and on the political right in general. And their intellectual and moral courage has been completely vindicated by events.

Given this track record, you might expect to see either Yellen reappointed or an equally qualified technocrat take her place. But remember, we’re living in the age of Trump, which means that we should actually expect the worst.

And what were the policies driven by “intellectual and moral courage”? More inflation. That’s right, printing money. Writes Krugman:

When the financial crisis struck in 2008, it was essential that the Fed engage in aggressive monetary expansion — loosely speaking, print lots of money. There are circumstances in which that kind of action would be inflationary, but economists (like Bernanke and, well, yours truly) who had studied the subject understood that this wasn’t one of those times. Indeed, inflation stayed quiescent even as the Fed quadrupled the monetary base.

Beyond debating Krugman and others regarding the presence of Keynes’s “liquidity trap” that supposedly turns laws of economics upside down, there is another point I believe needs to be made, and it goes back to the Hayek-Mises theme of economic calculation driven by profits and losses and a free price system. In Krugman’s view, it is the market economy driven by ignorant and greedy know-nothings and always is prone to collapsing into the maw of “underconsumption” that is the real problem. If academics like Krugman, Bernanke, and Yellen were in charge of the economy, things would work smoothly and rationally.

For example, Krugman and many of his fellow intellectuals believe that the mortgage securities which bundled mortgages considered to be “sub-prime” (and later collapsed, bringing down much of the financial system with it) were the “natural” result of a laissez-faire economy, something the Austrians would have created if left to their own devices. The Alan Greenspan-Ben Bernanke Fed, along with government housing policies, had nothing to do with the creation and distribution of these doomed securities. Indeed, Bernanke and his minions only wisely reacted to the crisis once the free market, which created the disaster in the first place, had run its destructive course.

This is a re-occurring theme in Krugman’s writings: the free market creates crisis after crisis and then the “adults” from the federal regulatory agencies must step in and repair the damage, and if Krugman could have political control, those agencies would have unlimited powers to control the economy, since the agencies consist of people who know more than everyone else.

There are exceptions to the academics-must-rule-the-economy theme: Austrians, who have the effrontery to hold to doctrines of sound money and who argue for free markets, are not included in the guest list. Austrians, after all, are delusional, and actually know little-to-nothing about real economics. Properly-vetted economists such as Krugman and Bernanke know that federal policies that promise to backstop banking losses, push home ownership through artificial financial means (including Fed policies of pushing down interest rates to near-zero), and then manipulate housing prices actually had nothing to do with the financial madness known as the Housing Bubble. (That Austrians, such as Mark Thornton, warned long before the 2008 meltdown that the housing market was destined to fail spectacularly garners Austrians no credit; even a broken clock is correct twice a day.)

People like Krugman perpetuate the myth that the U.S. economy is a pure, laissez-faire entity that is driven to collapse by free markets, only to be rescued by the Ph.D. economists and federal regulators that are more intelligent than everyone else and set things right again, like an unstable democracy that every so often experiences a coup by its army, which cleans out the corruption and steers the government back onto a righteous path.

The future picks Donald Trump may have for the Fed leadership really is not the issue here, no matter what Krugman claims. Far from being the incorruptible general whose troops must clean up the wreckage left by the hurricane of free-market economics, the Fed usually is ground zero (or at least nearby) when it comes to economic crises. Instead of the hero academic economist “who saved the world,” Ben Bernanke actually helped to create and nurture the crisis, and then prevented a full recovery – along with his successor, Janet Yellen.

One does not answer Krugman’s claim that progressive academics should run the world by urging the appointment of more “conservative” academics – who also should the run the world the “right” way. No, one replies by saying that the last thing any credentialed academic economist should be doing is becoming the “visible hand” that substitutes for free market processes. Let markets work on their own, period.