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Paul K's Strange Logic

letsgetitdone's picture

In an October 12th Post entitled “Foreigners and the Burden of Debt,” Paul Krugman made the following comment.

”. . . we’d all agree that deficits make us poorer if they crowd out investment spending — which they would if the economy were near full employment, but won’t if we’re deeply depressed. All we have to do is realize that net foreign investment — purchases minus sales of assets from and to foreigners — is also a form of investment. Or to put it a bit more simply, sure, budget deficits can make us poorer as a nation if they lead to bigger trade deficits.”

I have to say I have a bit of a problem understanding this one. Let's assume we're in a depressed state as we are now and the Government decides to run an additional $1 Trillion deficit, without, for simplicity, any corresponding debt issuance. Then, assuming that the private sector saves at the rate of 6% of GDP and the trade deficit is 4%, and, neglecting any fiscal multiplier, the additional Government deficit adds $900 Billion in aggregate demand to the US economy, $60 Billion immediately to savings, and $40 Billion to the foreign sector. So, the Government deficit spending has certainly made both the domestic non-Government sector, and the foreign sector richer in USD nominal wealth, though the domestic government sector has been made 24 times more wealthy than the foreign sector.

Of course, if we take into account the fiscal multiplier on the $900 B deficit, and we assume that the Fed will add to the money supply as necessary during the ensuing economic expansion, then that 900B deficit might end up adding as much as $2.7 Trillion in GDP to the economy if it's spent in the right way. So how has this made us poorer?

Maybe Paul K has real wealth in mind in the quote and not nominal wealth. So, would the $40 Billion in increased trade deficit decrease out real wealth? I don't see how, since in a trade deficit we send USD to the foreign sellers in return for real wealth, thus increasing the real wealth held by Americans. But maybe I'm missing something about the logic of the IS-LM model?

So, how, again, can budget deficits that increase trade deficits make us poorer?

(Cross-posted from New Economic Perspectives.)

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Submitted by Hugh on

Krugman is notorious for not understanding money. He thinks we still live under a gold standard.

It seems like he is saying that selling off more US assets to foreigners would be a way to balance out increased imports as a result of any deficit spending. Of course, if those assets generated any profits those would be repatriated abroad.

Truth is I try not to read Krugman anymore. He is an idiot constantly pushing the Democrats and their neoliberal Establishment line.

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Submitted by Jay on

Is that the Wealth of Nations is measured solely by trade surpluses and trade deficits. Running a deficit is 100 percent domestic spending. But if the goods and services purchased with the additional deficit spending wind up going overseas because of a trade deficit, the net effect in the context of the Wealth of Nations is that the total US wealth would go down relative to other countries.

I don't have the figures for the trade deficit, but my understanding is that we put $4 into the world economy for every $1 we get back. We import oil and finished goods from overseas factories, and export . . . whatever it is we make here nowadays. Plus, our multinational corporations take money from US operations and buy factories so they can make more finished goods to sell to the domestic market. But they park the profits overseas so they don't have to pay US taxes, and since the money is never repatriated, it affects the Wealth of Nations.

What would be the effects of such a trade deficit? We'd see the U.S. getting poorer, and developing nations (BRIC) getting richer and more industrialized.

The issue is not deficit spending per se, but what it is spent on. Tax breaks, the way they've been structured of late, actually add less to the economy than they cost, I think the figure is that for every ten dollars in tax breaks, the economy only gets a $3 boost. Deficit spending on items with intangible returns, such as the military, have some domestic effect because most hardware is made here in the U.S., but ultimately it's a waste because that hardware doesn't produce anything; it isn't productive. Zero military spending can also have very bad effects obviously. If access to oil is proportional to military spending, we'd be well advised to have sufficient intangibles floating around in the Persian gulf. Deficit spending on domestically-sourced infrastructure projects, education, and social programs to ensure a productive populace is very positive for the economy--I think you get $1.3 back to Uncle Sam's coffers for every $1 you spend on that, because it allows goods and services to be transported, provides jobs to people who would otherwise rely on unemployment, and they in turn buy local goods which employ other people. Education spending gives you a more productive, efficient, and better-paid work force. Social programs ensure that people who wouldn't be consumers are able to purchase necessities such as food and healthcare, or are able to maintain themselves during recessions so that they will be ready for new jobs when growth returns.

What would be best for the economy is higher taxes on rich people. From their perspective, the best of all worlds would be where the government provides all those things--defense, infrastructure, education, a social safety net--which improves an economy they can make money off, but without having to pay taxes. And that's the world they live in now. But that's short sighted eventually we will have an economy that resembles Haiti's. I don't think they care. They've taken their tax breaks to the race track, pushing commodities and equities higher and distorting the market so that the supply-demand mechanisms don't work any more. We should gouge them and spend it on projects that would improve the economy, lower costs for commodities that people who like to eat food depend on, create an industrial policy that creates products and jobs in the US (tariffs on imported goods and eliminating tax breaks for offshoring would help here), and develop alternative energies so we don't rely on the petrodollar (eliminating tax subsidies to oil companies would help here). The oil will all be gone soon anyway, so best to start now while we have the window of opportunity.

But that would make too much sense, and every aspect of our society is thoroughly corrupt, so the shit's going to hit the fan instead. As destructive as Obama is, I can't believe Willard Romney is polling as well as he does. He and his cronies will accelerate our downward trajectory and turn us into a third-world hell hole. I bet he wins. Stupid, stupid, stupid. If a majority of Americans elect Romney, it will be lights out. George W. Bush's fourth term in office.

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Submitted by letsgetitdone on

So let me see. I do $1 Trillion in deficit spending. That adds as much as $3 Trillion in goods and services here after multiplier effects and Fed-based QE to adjust the money supply. It also results in $40 Billion going overseas in return for real wealth. Now how is it, that we get poorer from that?

You said:

"I think what he means is that the Wealth of Nations is measured solely by trade surpluses and trade deficits."

Perhaps the trouble is that particular measure of the wealth of nations. It is a measure of relative wealth; and doesn't account for internal accumulations of wealth. Deficit spending results mostly in internal accumulations of wealth. So, of course, focusing only on Net International Investment Position (NIIP), and the USs negative 2.5 T position there is a complete distortion of the reality of the impact of deficits on national wealth.

I haven't been following the debate involving Krugman, DeLong, and Nick Rowe on this issue. But I understand the main concern here is that since there's no guarantee that our NIIP will ever become less negative or turn positive again, eventually accumulation of USD in foreign owned accounts will result in excessive purchases of US real assets by foreigners. I don't think this fear can be well-supported by any rigorous evidence-based model, and also that on its face, the idea that deficits make us poorer is just another attempt to save the policy concerns of neo-liberalism from extinction. I wish these guys would get off that crap and just advocate using the fiat money system to employ people to solve real national problems instead of always looking under the bed to create imaginary ones out of thin air.

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Submitted by Jay on

I'm just interpreting Krugman's econospeak shorthand, so I may be inferring Adam Smith's text, but I don't think there's a disagreement here. I also don't think Krugman is a deficit hysteric.

It's all very complicated but what I think we have here is a sophisticated version of three-card monte.

Under one nut you've got bank money. Under another nut you have the national budget money. Under the third nut you have social program money, let's call it Social Security.

So Wall Street and the bankers take the money under the first nut, and using leveraging and deregulation create a market bubble. They take all that money and the additional money they made and the bubble bursts. The central bank and the federal government says "oh noes, without the bankers we won't have loans, business will stop and we'll have a depression!" So they backstop the bankers by tying the budget to the bankers' losses with TARP etc. So the money under the second nut goes back into the first nut. Well whaddya know, the bankers stop making loans and we get a depression. Furthermore, they take the money from the second nut and take it to the horse races, laughing all the way to the bank. But now the second nut is running deficits, the economy is in the tank so they're not taking in taxes, so where are we going to get the money? There's still money in the third nut! And although Social Security is a creditor to the federal budget, they'll all pretend like it's the source of the deficit and if we just get rid of it to balance the budget, we can avert catastrophe. So they'll take that money and put it in the second nut. Which can then be transferred to the first nut, creating a roundabout conduit of money from Social Security into Pete Peterson's pocket.

Peterson can then hire a bunch of deficit peacocks like Barack Obama to run around and say the sky is falling and the only solution is tax breaks for the wealthy and the dismantling of Social Security, or else we'll turn into Greece. But our policy makers are making all the same moves to assure just that. It's a pretty neat trick to put a bomb under the economy, and warn there's a bomb, and then blow it up. Misdirection. Projection. Three-card monte.

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Submitted by lambert on

... which I would define operationally as (1) skewers Krugman, DeLong et al. right where they live and (2) is in paradigm with MMT, then it's postworthy and definitely worthy of propagation.

Is it? If so, will you convert to a post? I've been using the shell game trope for awhile, but never worked out the operational flow (I'm bad with money) so I find this very useful.

(It's also a variant of the long con because the shells get shifted in years not seconds. Not the "street version" but the "Wall Street version" as it were.

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Submitted by Jay on

Let me make it more pretty and I'll post it. I don't have a brief against Krugman but since he doesn't seem to see what's happening. . . .