Krugman's Tax-Enhanced Recovery Fantasy

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Paul Krugman
apparently believes that he has struck the mother lode: He has declared
that Ronald
Reagan actually was more “Keynesian” than Barack Obama
. Why?
He writes:

O.K., by
now many readers have probably figured out the trick here: Reagan,
not Obama, was the big spender. While there was a brief burst
of government spending early in the Obama administration — mainly
for emergency aid programs
like unemployment insurance and food stamps — that burst is long
past. Indeed, at this point, government spending is falling fast,
with real per capita spending falling over the past year at a
rate not seen since the demobilization that followed the Korean
War.

He then goes
on:

Why was government
spending much stronger under Reagan than in the current slump?
"Weaponized Keynesianism" — Reagan's big military buildup
— played some role. But the big difference was real per capita
spending at the state and local level, which continued to rise
under Reagan but has fallen significantly this time around.

And this,
in turn, reflects a changed political environment. For one thing,
states and local governments used to benefit from revenue-sharing
— automatic aid from the federal government, a program that Reagan
eventually killed but only after the slump was past. More important,
in the 1980s, anti-tax dogma hadn't taken effect to the same extent
it has today, so state and local governments were much more willing
than they are now to cover temporary deficits with temporary tax
increases, thereby avoiding sharp spending cuts.

Actually, there
is a mother lode of confusion here, something that Krugman is good
at creating with his sleight-of-hand use of statistics, not to mention
a total refusal to examine the substance of the economic recovery
that occurred after the recession of 1982. First, the notion that
“revenue sharing” programs by the federal government actually helped
lead the recovery is a True Krugman Howler. The actual amounts of
money that was distributed in the form of block grants with minimal
federal regulatory oversight (something that Krugman no doubt would
claim was evil) was a pittance in terms of overall state budgets.

Second, and
even more important, Krugman is claiming that temporary tax increases
by state governments played an important role in bringing about
economic recovery. In other words, money taken from private
citizens and businesses and given to state employees and businesses
contracting with the state somehow turned around a nasty recession.

Unless Krugman
wants to appeal to the silly “balanced budget multiplier,” I am
not sure that his “logic” makes sense. (The “balanced budget multiplier”
is based upon the belief that government will spend all of the money
taken from households instead of just part of it, so a tax increase
will bring about stronger economies. Obviously, this “logic” ultimately
leads to the Mother of All Prosperity Schemes: a 100 percent tax.)
To claim that robbing Peter to pay Paul would bring about economic
recovery simply does not pass the laugh test.

Krugman grasps
at more straws with his statement that “weaponized Keynesianism”
also helped bring about economic recovery. It is true that Reagan
did push through spending increases for the Pentagon, and no doubt
that made military contractors and their employees better off, but
if ramping up military spending truly were a pure benefit rather
than a cost, then I guess the key to prosperity today would be for
the USA to invade yet another hapless Third World country.

(As in his
statement that tax increases in the states played a strong rule
in bringing economic recovery, Krugman would be hard-put to complain
about American military adventures abroad, since they do result
in more government spending, and as every good Keynesian knows,
more government spending means more general prosperity.)

There is something
that Krugman does not address in this article, and that is the amount
of liquidation and economic shifting that took place during the
1980s. Since Krugman and I were born in the same year, both of us
remember some of the things that occurred during the recession of
1982 — and the claims that were being made at the time.

A lot of farmers
that had piled up debt (at the urging of federal agriculture officials)
in anticipation of inflation and a permanent increase in crop prices
found themselves watching their farms being sold at auction after
crop prices fell in the wake of the Federal Reserve System’s efforts
(under Paul Volcker) to cut back money growth. I distinctly remember
Dan Rather beginning one of his broadcasts at a farm auction, and
Hollywood produced a spate of movies decrying the demise of debt-ridden
farmers.

A large number
of older iron and steel foundries were abandoned, giving rise to
Billy Joel’s hit song, “Allentown,” and places like Pittsburgh,
Pennsylvania, underwent fundamental economic changes as whole industrial
sectors that were the basis of the economies in those places shut
down. Likewise, a number of U.S. automobile plants shut down permanently
(and the way was paved for automobile companies from other countries
to build non-unionized plants in the USA, plants that have performed
much better than their American counterparts).

There also
were fundamental changes in transportation, as the Interstate Commerce
Commission regulatory schemes that created cartels in trucking and
railroads were changed drastically and the ICC actually was phased
out altogether. Entire new high-technology industries grew rapidly
during this time, as changes in the rules governing telecommunications
ultimately paved the way for the modern use of the Internet.

In other words,
Reagan actually permitted huge portions of the economy to liquidate,
a term that is anathema to Keynesians like Krugman. Despite the
demands by members of Congress to adopt “industrial policies” that
would prop up failing industries and create huge new subsidies for
sectors favored by congressional Democrats, there actually was substantial
free-market growth in the economy, and by the beginning of 1984,
it was clear that the economy was in strong recovery mode.

Now, according
to Krugman, what happened then actually was impossible. Yes, there
was some growth in government, but certainly nothing like the massive
spending that Keynesians claim would have been necessary for real
economic recovery to have occurred. Furthermore, Keynesians would
have us believe that the amount of liquidation that happened in
1982 and beyond would have dragged the U.S. economy into oblivion,
but that clearly is not what happened.

People
trained in statistical methods know that there always are clever
ways to present numbers, and Krugman is playing that game. A number
of people already have dealt with his numbers trickery and I won’t
join them. Instead, I wish to deal with Krugman on the basis of
theory.

According to
Paul Krugman, the economic recovery of 1983-84 could not have happened,
given the liquidation that accompanied the recession, yet it did.
Thus, he is forced to make up the fantasy story that “revenue sharing,”
“weaponized Keynesianism,” and state tax increases really were the
secret to prosperity. Oh, and the rate of inflation fell sharply
during that time, something that Keynesians would argue is not possible
during a recovery.

Unfortunately,
a lot of people buy into this nonsense — and it is nonsense — and
it gives Washington the excuse that taking more of our money and
blowing it on “green energy” boondoggles and worse will hasten economic
recovery. No, these schemes hold back whatever recovery we might
get.

June
11, 2012

William
L. Anderson, Ph.D. [send him
mail
], teaches economics at Frostburg State University in Maryland,
and is an adjunct scholar of the Ludwig
von Mises Institute
. He
also is a consultant with American Economic Services. Visit
his blog.

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