5 MIN READ - New York Times columnist Paul Krugman is “upbeat” about the prospects for a post-Covid economy. Which means the Cautious Optimism Correspondent for Economic Affairs and Other Egghead Stuff is now officially worried.
OK in all seriousness, Krugman has given us something rarer than an objective reporter at MSNBC: an interesting interview which is almost as big a surprise to us as the post-2016 election stock market was to him. But in all fairness there’s a very un-Krugmanesque humility on his part regarding the novelty of the 2020 sudden full-stop depression.
So Krugman might not win another Nobel Prize for disproving the broken clock theory after all.
However, in case anyone thinks the Economics Correspondent has gotten soft and joined the Legion of Krug there’s always the recovery, a phase where the Nobel Laureate will be tempted to fall right back into his Keynesian “stimulus” groove which we’ll discuss at the end of this column.
First the good and not-so-bad:
1) PK: “Is this a demand shock or a supply shock? Yes. And no. The aggregate-demand-aggregate-supply framework doesn't work well for this crisis.”
“What's happening now is that we've shut down both supply and demand for part of the economy because we think high-contact activities spread the coronavirus. This means we can't just use standard macro models off the shelf.”
So the Economics Correspondent agrees with this. For many sectors both the supply and demand curves have quickly gone “inelastic” and nearly vertical. On the demand side it doesn’t matter how low prices fall—for airline tickets or cruise lines or movie theaters, for example—because people are simply not going to buy many things at pre-Covid levels.
Even those who are willing are often being prohibited by government social distancing restrictions, but absent those ordinances demand in most sectors will still be down considerably from 2019.
Likewise on the supply side it doesn’t matter how much people are willing to pay to go to a sporting event or a concert. The suppliers are simply not going to make more of their product available. Even when paying for in-person college classes or fitness clubs, schools and firms are going to severely limit supply to a fraction of original capacity, also either voluntarily or by government decree.
And the “can’t use standard macro models” comment reflects a rare little bit of humility from Krugman that this recession is unique in a way we’ve never seen before, and that it’s hard to return to one's favorite playbook that’s been used over and over before. It’s a very, very rare dose of modesty from Krugman who typically claims to know more than everything.
So don’t let it be said the Economics Correspondent doesn’t give credit where it’s due—even when it goes to an incurably wrong polemicist like Krugman.
2) PK: “The fall in demand isn't just households postponing consumption until they can go to restaurants again; it's also a crash in construction of houses, commercial real estate and so on. Who wants to build an office park in a plague?”
Krugman is referring to investment demand as well as consumer demand and he has a valid point here. That demand curve for major capital investment spending has temporarily steepened as firms are more interested in preserving cash to ride out an uncertain future than risking lots of money on a new investment projects.
3) PK: “My take is that the Covid slump is more like 1979-82 than 2007-09: it wasn’t caused by imbalances that will take years to correct. So that would suggest fast recovery once the virus is contained... …All that said, right now I don’t see the case for a multiyear depression. People expecting this slump to look like the last one seem to me to be fighting the last war.”
This is not a unique take, but it’s probably correct. Although it would be foolish to say there were absolutely no bad investments or economic imbalances in February 2020, the reality is there wasn't one giant sector whose economics were completely out of whack such as commercial real estate and the S&L’s that financed them in the late 1980’s, dot-com companies in the late 1990’s, or residential housing and the banks/mortgage companies that were partially compelled to finance them in the mid-2000’s.
However the Economics Correspondent would warn that the longer the virus goes unresolved, the longer the recovery will take since more and more households, firms, and financial institutions will experience losses that take longer to recoup, leading us to…
4) PK: “Another is that even if we didn’t have big imbalances before, the slump may be creating them now. Think of business closures, which will require time to reverse.”
Again, this is the moderate risk to recovery. The longer the negative effects of lockdowns, or partial-reopenings, or even the virus’ effect on voluntary consumer behavior, the more business that fail—typically small and medium sized although we have seen a few high profile large bankruptcies already such as Hertz, Neiman Marcus, JC Penney, and several energy firms that were already on the margin. And it will take time for the liquidated failures to either restart or more likely be replaced by some new entrepreneur who fills the gap left behind.
5) PK: “In particular, we know enough to understand why conventional responses like stimulus or tax cuts are inappropriate…”
Krugman surprises here recommending restraint on higher inflation and stimulus spending (gasp!), his favorite go-to Swiss army knife for all economic problems, but he also predictably dismisses tax cuts.
While tax cuts are a question of degree of economic benefit, and government stimulus spending is a question of degree of harm (or more specifically, postponing a recovery), the crisis phase is likely one where tax cuts aren’t going to have as positive an effect as usual.
Again, a marginally higher incentive to invest isn't going to inspire many firms that are reluctant to risk large sums of investment capital while the future is so uncertain. Their focus is maintaining cash reserves to get to the end of the crisis.
Which leads me to where I think Krugman will drop the Doctor Jekyll routine and revert to Mister Hyde: during the recovery.
6) Will Krugman continue to be halfway reasonable when the crisis is resolved and America starts picking up the economic pieces and rebuilding?
Don’t bet on it.
The Economics Correspondent has read Krugman for almost twenty years. Based on his writings, speeches, lectures and general ideology here is a back of the napkin prediction for Krugman’s policy stance in a year or two:
Once the virus itself is contained, if the economy shows even the slightest iota of sluggishness during recovery—that is, it doesn’t return to full employment within two quarters—Krugman will drop the “standard models don’t work in this new environment” humility and go right back to the Keynesian stimulus playbook.
Because joblessness might be 15% or 10% or 8% we will need to hasten recovery with aggressive government action, he will say. And it’s all the evil GOP’s fault for stubbornly refusing to borrow and spend another $2 trillion here or $3 trillion there or $4 trillion anywhere on a giant stimulus package.
And even though firms will be in more of a risktaking mood once recovery is underway, Krugman will argue anyone who calls for tax cuts or deregulation to encourage more investment is just another free market/conservative neanderthal who doesn’t understand Macroeconomics 101 (ie. New Keynesian economics).
He may even call for the nationalization of healthcare as a “stimulus,” or a government “investment bank” as Keynes urged during the Great Depression, or something akin to the Green New Deal. And it will all come in lockstep with calls for tax hikes on businesses, investors, and the wealthy.
If Trump is still president he may find some common ground on a giant infrastructure spending package.
Because when the crisis has bottomed out and the upward recovery slope kicks in, Krugman will likely toe the Keynesian “in the short run” line yet again, transforming back into the hammer that sees everything as a nail.
If Krugman surprises and doesn’t revert straight back to his personal obnoxious brand of New Keynesian orthodoxy then the Economics Correspondent will, in very un-Krugmanlike fashion, be the first to admit error. In fact it will be a pleasant mea culpa to see him remain civil and reasonable more than a few days. On the other hand I’ve also never seen a rattlesnake permanently forswear biting either.