Sumner on Krugman on the UK

Scott writes:

Krugman also ignores the fact that his own graph shows fiscal policy in Britain getting more contractionary in 2013, and yet growth picked up sharply!

Read the whole thing.  I also would note that the demand-side secular stagnation meme also seems to be gone or at least shelved in the cupboard, as today Krugman wrote: “Economies do tend to grow unless they keep being hit by adverse shocks.”   The reallocation of labor from previous cuts in government spending is now seen unambiguously a good thing, whereas the previous argument was that in a liquidity trap such positive supply shocks could very well push economies into an even worse position.  Most of all, British price inflation has continued at a robust rate and that is because of British monetary policy, again no sign of very low short rates being a “liquidity trap” in this regard.  The UK labor market experience also seems to support Bryan Caplan’s repeated claims that real wage cuts really can put people back to work.

And here is a remark on timing:

I find it astonishing that Krugman and Wren-Lewis, having done post after post in 2012 describing how the UK does have real fiscal austerity in 2012, are suddenly happy to now argue that a relaxation of fiscal austerity in 2012 is the “reason” for GDP recovery in… erm, 2013.

Don’t let the emotionally laden talk of “Three Stooges” or “deeply stupid,” or continuing problems in the UK economy, distract your attention from the fact that this one really has not gone in the directions which the Old Keynesians had been predicting.


Real wage cuts through inflation, that is, no evidence at all of real wage cuts nominally working

Between the botched obamacare roll-out, strong growth in the UK despite austerity measure, surging stock market etc krugtron the invincible should use this as opportunity to reflect how wrong he has been instead of histrionically lashing out at his critics, many of whom have been right all along. Krugman said the sequester, wealth inequality, and shutdown would hurt the economy and yet the data in terms of consumer spending, GDP growth, profits & earnings, and stock market gains refutes this. He predicted numerous times the Euro would dissolve. Niall Ferguson was right about Krugman being impertinent in his discourse towards his critics.

Niall Ferguson is never right.

After the second worse recession in US history the US economy has had the weakest recovery or expansion on record.

Exactly how does this refute Krugman.

What refutes him is that he predicted things and the reverse happened.

Other than that, he's dead on though.

So the economy is rosy? All is well?

I think not...

Yeah, we had a good GDP number today and the stock market is up nearly 30% in the U.S. But food stamp usage is still off the charts, unemployment is around 7%, and a lot of accounting tricks (buybacks in particular) are propping up stock prices. And over half of young Spaniards and Greeks are out of work.

Not sure why anyone is suddenly crowing that the economy is strong. It's not.

It's all relative. If you're in a nosedive in a plane, leveling out is a good thing.

One of the few things Ferguson has been correct about in recent times. It's embarrassing to see the extent to which he relies upon his Harvard credentials whilst disseminating shallow economic analysis. Thank goodness Ben Stein did not stay in academia.

If you call a potato a tomato, that must make it a tomato and not a potato.

I read Sumner's piece, and want to take up one point he made: "Krugman argues that the slow British recovery was caused by a contractionary fiscal policy, which reduced aggregate demand. Fair enough. He’s done that before. Then he presents absolutely no evidence that AD in Britain has done poorly in recent years. None." He doesn't have to because the Bank of England has said as much, as have most economists.

I'm sorry, but the Bank of England has made the same point that Krugman has made several times, including this 4th Quarter (2013) report on the economy:

"Macroeconomic performance in the United Kingdom has been disappointing in recent years:
for most of the post-crisis period, GDP growth has been unexpectedly weak, and inflation
unexpectedly strong.
• That unexpected weakness in GDP reflects a combination of weaker growth in the
United Kingdom’s trading partners, tighter domestic credit conditions and slower dissipation of
• Unanticipated rises in energy and other imported costs can broadly account for the surprising
strength in inflation since mid-2010.
• Weak effective supply is likely to have counteracted the impact of weak demand on inflation."

...But since mid-2010, growth has been closer to 1% onaverage, leaving the level of GDP in 2013 Q2 almost 7% below the central expectation in the August 2010 Inflation Report. A key reason for that weakness was that the effects of the financial crisis did not fade as anticipated. In particular, world trade, credit conditions and uncertainty dragged on growth by more than anticipated."

Then, for your holiday entertainment, go to the charts in this paper to see how the economy has greatly underperformed relative to projections based on austerity.

Maybe Sumner doesn't have to challenge Krugman for stating the obvious because some things are common knowledge.

The very quotation you cite: "inflation unexpectedly strong" -- supports Sumner, and not you, on the AD question.

Inflation from oil is not inflation from increased demand.

"Inflation from oil"

...huh? In 2013?

The Bank of England Report said energy prices, including oil. The point is, though, that cartels, particularly with inelastic demand, raise or maintain prices, even if the economy slows, and oil prices are not something that England controls, so you can have inflation without an increase in aggregate demand.

Similarly, as the Band of England report states, tuition increases increased inflation, after England reduced state spending and support.

So, the inference that inflation increase signaled an increase in aggregate demand is incorrect.

But, don't take my word, just read the Bank of England paper.

Oh, and the Bank of England paper also said--in addition to energy, tuition increases--that the price of imports increased. Hard to state that inflation from these sources indicates an increase in aggregate demand based on economic activity--one is a cartel, one is import costs, and the latter is government policy increasing tuition.

Specifically, you are equating inflation with increased aggregate demand, where the report notes that inflation was due to increased energy prices, increased prices for imports, and tuition increases:

"Based on those judgements, the MPC’s central view was for
four-quarter GDP growth to recover to a little above its
pre-crisis average, and for inflation to fall back to below the
2% target by 2012.
But, according to ONS estimates, growth has been closer
to 1% on average (Chart 2), leaving the level of GDP in
2013 Q2 almost 7% weaker than the central expectation in the
August 2010 Inflation Report. That unexpected weakness was
disproportionately accounted for by exports and business
investment, with consumption also playing a role (Chart 3).
There was a partial offset from lower imports.
Despite weaker GDP, inflation did not, as expected, fall back
towards the target, but picked up sharply, reaching around 5%
in 2011 Q3 (Chart 4). Compared with the August 2010
projection, annual inflation has been, on average, around
11/@ percentage points higher than expected.
The unexpected weakness in GDP and strength in inflation
reflected underlying drivers of the economy evolving
differently to the key judgements underpinning the
August 2010 Inflation Report (Table A). In particular, global
activity was weaker than expected — especially in the
euro area — and UK exporters did not gain market share as
anticipated. Credit conditions remained tight, and uncertainty
dissipated more slowly than expected. Import and energy
prices continued to rise. And labour productivity fell. Other
unexpected developments include stronger labour supply and
rises in tuition fees."
See pages 339 and after including table 2 from the report I cited above.

"....and UK exporters did not gain market share as anticipated..."

I see this all the time, and it is simply not correct. UK exports have risen by nearly 25% since the trough in 2009. Today the UK exports L40bn or E50bn a month, compared to E38bn for France, E35bn for Italy and E19-20bn for Spain.

I think that the problem here is that people are confusing exports with net exports. Net exports are exports minus imports. UK exports have risen strongly, but imports have risen just as strongly. That's reflection of high wages in the UK

jon, I assume that when the BOE said that exporters did not gain market share as anticipated they meant it. Furthermore, "starting from a trough" means you can only go up. The question is, net or not, did exporters gain as anticipated, and the answer from the BOE is: NO. And, I can also assume that they new your priors of English labor costs when they made their projections.

"exporters did not gain market share as anticipated"

Actual numbers, as listed above are better than how the FEEL about it.

No, he is equating NGDP with aggregate demand. If RGDP remains constant, then sure, Inflation will increase aggregate demand. But since you can't really change one without affecting the other, looking at inflation alone isn't that important.

Also, how do you actually plan to separate the inflation caused by monetary policy from the inflation caused by other factors? Given that the rest of the western world doesn't have a big inflation surge, then maybe the reason UK inflation is higher happens to have something to do with real economic elements that are unique to the British, or by the monetary stance of the Bank of England.

Or, you can take the view of the Bank of England that inflation was due to increased energy prices, increased prices for imports, and tuition increases:

You can't argue with the Facts in the Bank of England report. Equating inflation with increased aggregate demand when their is an oil cartel which raises prices, increased costs of imports, and tuition increases which account for the inflation is ... well... ignoring facts.

You can have inflation without increased AD.

Really, you can't argue with it? Where is the data?

Sorry, I meant Bill.

Bob, that amounts to the same thing. Listing the components of NGDP is not an argument against NGDP as an indicator of aggregate demand. It's simply listing the components. You may be confusing NGDP with the intuition behind RGDP.

Al, See Sadowski below: "Taken individually, inflation and short run RGDP growth are each very poor indicators of shifts in AD as changes in inflation and short run RGDP growth can also be caused by shifts in the SRAS curve. The only reliable way of determining if there has been a shift in AD is to look at AD itself, that is, to look at the rate of change in NGDP."

I am not an economist so forgive me for a dumb question. The Cameron government tried to reduce government spending. What economic model predicts unexpectedly high inflation when government spending is cut, especially since private sector demand did not increase very much? I have never heard of a model that predicts that outcome.

To be precise, aggregate demand (AD) is nominal GDP (NGDP) when inventory levels are static (i.e. nominal Final Sales of Domestic Product). Thus for all intents and purposes AD is in fact virtually identical to NGDP.

And if you look at the dynamic AD-AS diagram that I link to below, and which can be found in “Modern Principles: Macroeconomics” by Tyler Cowen and Alex Tabarrok, you’ll note that the rate of change in the AD curve is equal to the sum of the inflation rate and the rate of change in RGDP, and so is precisely equal to the rate of change in NGDP.

Note also the short run AS (SRAS) curve and the Solow growth curve. In the short run wages and prices are sticky causing the SRAS curve to be upwardly sloped. In the long run money is neutral and wages and prices are flexible so the Solow growth curve is vertical. Thus shifts in AD influence the rate of growth of RGDP in the short run, but not in the long run.

Taken individually, inflation and short run RGDP growth are each very poor indicators of shifts in AD as changes in inflation and short run RGDP growth can also be caused by shifts in the SRAS curve. The only reliable way of determining if there has been a shift in AD is to look at AD itself, that is, to look at the rate of change in NGDP.

The following is a graph of the NGDP of the four big advanced currency areas with NGDP indexed to 100 in 2008Q2, that is, before large scale monetary base expansion started in September 2008.

Note that the U.K. led in relative NGDP growth from 2010Q1 through 2011Q3 with the exception of 2010Q4 and 2011Q2. Today the U.K. remains well ahead of both the Euro Area and Japan in terms of relative NGDP growth and is only slightly behind the U.S.

Aggregate demand include changes in inventories. This is (like profits in the income part of the national account) in fact the accounting item which make the whole thing tick. When stuff is not sold it is considered to be an investment (and it is, albeit not a chosen one, but that's not the point). Also, the income/production/expenditure identities only work for nominal values, of course. They show flows of money.

Also, a great deal U.K. inflation in 2010-2012 time period cam from the Cameron-Osborne-Clegg decision to raise the U.K.'s VAT to 20% from 17.5% in January 2011. I also know Wren-Lewis has frequstly noted that Osborne had relaxed "austerity" in the second half of 2012 (and of course there was Olympics last August), and the first half of this year, even t though Osborne has never changed his rhetoric (or targeting the targeting of austerity on the lower and middle orders of society). Further, economic growth in the U.K. is really not that great and it is dangerously dependent on rising house prices (hopefully the rich foreigners keep buying as I don't see how the average Brit will with those "falling real wages."

Here is excerpt from Wren-Lewis on Osborne's retreat from austerity in 2012 and early 2013.

...An alternative summary statistic to judge the fiscal stance is to look at government consumption of real goods and services. Although this tells only half the fiscal story, because it ignores taxes and transfers, many people will be able to smooth the income effects of tax changes through saving. Government consumption, however, feeds straight through into demand. Real Government Consumption showed little growth in 2010, fell slightly in 2011, but increased by over 2.5% in 2012. These numbers depend on the government consumption deflator, which may not be very well measured, so the final row shows the share of government consumption in GDP. The pattern is similar.

So there you have it. Plan A was temporarily abandoned. Austerity stalled. Was that important in boosting the recovery that followed in 2013? We cannot know for sure, but that is not the key issue here. The important point was that Plan A was clearly put on hold. Claims that the government stuck to Plan A are false. The reason Plan A was abandoned, of course, was that it was delaying the recovery, and the government needed a recovery before the next election.

I have stopped commenting on Wren-Lewis' blog altogether, because I have come to the conclusion that he is indulging in quite a bit of intellectual dishonesty for political purposes.

In the EU, "austerity" consists of actually cutting Government spending. It's no surprise at all that this causes GDP to contract.

In the UK, what Krugman and Wren-Lewis insist is "austerity" consists of Government running a 6-7% fiscal defict, and Government spending rising. UK Government spending in the UK is now 107% of 2008 levels, while in places like Spain and Greece it is down to 80-90% of 2008 levels.

There really is no "austerity" in the UK at all, and Krugman and Wren-Lewis are playing games with words. What is really going on in the UK, and what is really bothering these two guys, is that Cameron is moderating the rate of growth of Government spending, which was out of control under the previous Labour administration, and in doing so he is slightly cutting the size of Government. That's a classic Tory strategy when they take control from Labour after some economic disaster, adn that's what the Labour Party and its supporters in Academia really hate.

Well this timely post is a great time to reflect on all those ABC economists who predicted hyperinflation.

Don't confuse financial talk show pundits with economists who accept ABC.

The addition of epicycles to failed theories has begun -- in this very thread.

Anyone who puts his trust in illegitimately aggregated models is just being foolish. If in addition to trusting such models he also advocates radical measures with large potential harm (e.g. "stimulate without worrying about debt", or "don't worry whether the stimulus goes to a good project") then he is also a charlatan.

To put a cherry on such irrational trust in extremely poor models, Paul Krugman is back (see today's NYT blog post "Microfoundations and the Parting of the Waters") at the traditional saltwater pastime of denying that macroeconomics needs microfoundations. To be fair, what macroeconomists mean by microfoundations is something like using a rational representative agent, which is just garbage. But Krugman's conclusion is not "Let's get better microfoundations!" Rather, his conclusion (and the usual conclusion of saltwater economists) is "We don't need microfoundations!"

I can only conclude that such macroeconomists like the thrill of being charlatans.

Well on the opposite end of the spectrum, the loony Austrians deny that microeconomics needs macroeconomic foundations. These clowns think that there's no such thing as Aggregate Demand, that each supply and demand graph is specific not just to particular industries but to particular firms, corporations and individuals, and they don't sum. So each person or firm is an island, and there's no aggregate whatsoever. Yet they turn around and adopt at times stuff that looks monetarist or Keynesian to me. That's my understanding of their theory, and I got kicked off the Mises Institute forum for trying to argue some sense into them.

I would think you have the harder case to prove. You went in there thinking they'd take your word for it?

A) The real economy is still 2% down on it's previous peak (2008). It's difficult to find and epoch when the British economy did worse.

B) We have to learn to look not just at consumer price inflatin but at broader domestic demand inflation. Consumer price inflation is allright when you want to calculate the purchasing power of household income but not when you use moentarist ideas about money and the *general* price level. Compare: "The price index for gross domestic purchases, which measures prices paid by U.S. residents, increased 1.8 percent in the third quarter" from todays press release of the third estimate of fourth quarter USA GDP. Domestic demand inflation is falling sharply, in the UK, since the beginning of 2011 and since the effects of the devaluation are ebbing away

C) The unprecedented decrease in productivity was expected by nobody. It was a magnitude larger than during 'the winter of discontent'. However - there seems to be quite some 'composition' effects as productivity in (high productivity) finance decreased while finance decreased too, as part of the British economy. Which was a double whammy for average British productivity. The enigma is however slightly getting smaller, as GDP is slowly revised upwards and upwards for 2012.

Domestic demand inflation might have even been quite a bit lower than indicated by the graph I linked to, as the Eurostat data in that graph do not include the considerable implicit downward revision in the British price level of the revision of third quarter growth published today

It's bad enough that economists can't agree on models and assumptions...

And bad enough that they can't agree on empirical models and data quality...

And bad enough they can't agree on policies...

They can't even agree on what happened to government spending last year.


Honest ones can

I know Tyler has to defend all that Koch money coming in to GMU economics, but he's wrong here. Everytime he makes these posts about Krugman, it comes off as just whining. Of course, his sycophant students will stick up for him. But outside the libertarian cult, real investors that listen to Krugman are ahead of the whole Chicago/Rand/Koch libertarian group. The latter group is great at blowing investor money.

So, you're saying that Krugman predicted a booming stock market & 7+% unemployment in 2013?

JWatts, I have not seen any predictions from Krugman on the stockmarket. Asset prices can be influenced by monetary policy. And, yes he did predict that unemployment would remain where it was--above 7.0%--with nonstimulative fiscal policies. Too bad for young people not getting into the labor market or getting the jobs they want because of an unresponsive congress since 2010. Or, maybe you believe in the benefits of fiscal drag and austerity to prosperity.

TC is also right on another matter: the government shutdown in the USA not only did not hurt the US economy, but it expanded at a record rate of 4.1% last quarter.

"Financial ratings agency Standard & Poor's reported this week the 16-day U.S. government shutdown costs delivered a massive $24 billion hit to the U.S. economy.

Standard & Poor's said the shutdown equaled some $1.5 billion a day and "shaved at least 0.6% off annualized fourth quarter 2013 GDP growth." Moody's Analytics reported similar numbers, saying the shutdown cost $1.4375 billion per day, for a $23 billion wallop to U.S. gross domestic product."



Made up number that comes out of the same models that assured us the 'depression' would get worse in 2013 because of sequester, shutdown blah blah blah.

If government employees were half as useful as they claimed, they would have succeeded in their shakedown and our goose would be cooked.

Yeah, it was a massive $0.023 trillion wallop.

Yes, S&P piggybacked on some really tendentious estimates fabricated by OMB. OMB had to make some pretty unorthodox calculations to figure out what happened over the course of less than a month.

"Dear OMB, please provide me some proof that the shutdown was bad" -BHO

"Yes, Sir" - OMB

Brian, Tom, and Rich:

The sequester was in the 4th Quarter, not the third.

Don't let your biases get the best of you.

a few things:

1) if "demand-side secular stagnation" is a meme, what does that make "We're not as wealthy as we thought we were/Great Stagnation/Great Reset/Zero Marginal Product Workers"? Is there a term for a failed meme?

2) From what I can tell, the Krugman/Summers "demand-side secular stagnation" dealt more with the United States then anywhere else, so whatever Krugman is saying about another country probably isn't relevant.

3) The United Kingdom's performance in the last few years doesn't seem to fit neatly into anyone's story. The better play here might have been to just admit that, rather than display WSJ-Editorial page quality poutrage.

"TC is also right on another matter: the government shutdown in the USA not only did not hurt the US economy, but it expanded at a record rate of 4.1% last quarter."

To be fair, GDP growth at 4.1% happened in the third quarter of the year, while the government shutdown took place in early-to-mid October, which, last time I checked the calendar, belongs to the fourth quarter. I also believe TC will be right on this, but let's wait the correct data to make the claim.

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