Thursday, February 6, 2014

4 things that mystify me about laissez-faire economists

I was watching a few videos on youtube, which had Paul Krugman in "debates" with people who oppose Keynesianism. The first video is a meeting where someone asked Krugman a question, and the second video is a discussion on a British TV show. There are some problems that they doesn't quite understand:
  1. Inflation as theft is inaccurate, it is a redistribution of income between debtors and lenders. When interest rates are higher lenders are better off and borrowers can't borrow as much, when interest rates are lower the opposite happens. It isn't so much theft as a redistribution of wealth which are different things.
  2. The real key point which Krugman got close to is that yes, inflation is important and extremely high inflation can destroy economies, but the big question is how high is our Real GDP per capita growth rate*, meaning is our economy growing after inflation and population growth? In this sense, the US and Canada are doing better than most of Europe. Canada's stayed the same, and the US declined by only -0.3% last year. This is compared to Greece which has seen its inflation collapse and go into negative territory to correct the immense collapse in demand (demand has collapsed forcing prices to drop which is negative inflation) which is the invisible hand at work correcting the collapse in the demand curve, but it has taken the invisible hand 5 years to correct the implementation of austerity. Looking at Real GDP per Capita is a much more accurate measure to determine whether the economy is growing because it corrects for population growth and inflation which are important points. Any one of the three inputs, GDP, inflation, and population growth give us only part of the picture. Because it is Real GDP per Capita that is important at the end of the day it tells us one very important lesson on inflation which is that if you increase inflation by 1% but your GDP growth rate rises by 2% your economy is better off at the end of the year with the higher inflation and higher growth than having a stagnant economy. This is one reason why government spending to counter a collapse in consumer demand works, along with my next point.
  3. Government spending to offset consumer spending and private investment is important because of how GDP is calculated. GDP is calculated by multiple methods, but the expenditure approach is the sum of consumer spending, private investment, net exports, and government expenditure. This fixes many problems that one has when looking at an economy. Even if you are an economy that imports a lot (like most developed countries) if your GDP growth is positive that is not such a large issue because your economy is producing more than it is purchasing from abroad. It teaches us that if the consumer spending collapses (like happened when almost 5% of Americans lost their jobs between 2008 and 2009) the government needs to rebuild that loss in the economy and it can because the government is part of the economy too.
  4. The last and most important thing people frequently don't understand is there is the multiplier effect of employment, similar to how there is a multiplier effect for money printed. The classic economic example is how the Federal Reserve (or really any central bank) creates money is that it will lend out to a bank which will lend to other banks and because our money supply is only 1/3 dollars for every dollar the Federal Reserve prints it injects more than $1 into the economy through lending and IOUs. A similar thing happens with businesses. One thing that the people from the second video surprisingly don't understand is that businesses need to make a profit, or at least have enough capital saved to survive if they don't make enough money to cover expenses. Even the most caring employer cannot stay in business if he/she has no customers to provide revenue, and investments from investors have to be paid back so are a very different to a businessman from actual hard income. When the government hires people into the public sector they will spend most of their income in the private sector generating demand for goods and services. When businesses and entrepreneurs find that there is demand for a good and a profit to be made someone will identify the market, hire employees, and provide the service. No entrepreneur on Earth can run a business without demand, and merely having a great product isn't enough if people don't want it, because demand is both ability and desire. With the increase in demand from public employees for private sector goods businesses will have more income and a similar multiplier effect will happen in the economy as happens in the federal reserve. The government may only spend a billion dollars to hire the workforce needed to get a project done, but those billion dollars (minus taxes which are usually minimal) will then be spent in the private sector increasing private sector revenue, and the multiplier effect will come into play. I honestly don't know how people who deny Keynesian policies think private businesses will be able to afford to hire employees when there is no one to purchase their product.
*The only drawback to using Real GDP per Capita growth rate is that it doesn't take into account income distribution which is an important part of having a stable economy where people have purchasing power, but its the best one I have seen to date.


No comments:

Post a Comment