The Corner

Stiglitz vs. Krugman and Friedman

And that’s our Friedman, not the Sulzbergers’. I guess if you live long enough and read enough economic blog posts, you see everything: Today, Paul Krugman took down several arguments by Joseph Stiglitz citing Milton Friedman, admitted that his political allegiances tempt him to agree with an activist-liberal read of our current economic situation but refused to do so, downplayed some of the effects of inequality, and admitted that the U.S. has a pretty progressive tax system.

Stiglitz, a Nobel economic laureate like Krugman, argued in an online New York Times op-ed on Saturday that America’s high levels of economic inequality are stifling our economic recovery. He set forth four arguments: 1. Our middle class is too immiserated to provide the kind of consumer spending necessary for economic growth — the income recovery has gone to the top 1 percent and it is usually assumed they save their incomes rather than spend them; 2. the immiseration of our middle class has meant that they cannot invest in education, hampering economic growth now; 3. Unequal income distribution and unequal distribution of recent growth means that tax revenues have been depressed, because the middle class pays lots of taxes and the very rich don’t; and 4. Inequality means unstable economic growth and contributes to financial crises.

Krugman notes right off the bat that, no matter how desperate Stiglitz is to link inequality to our current indisputably poor economic state, two of these issues, No. 2 and No. 4, cannot explain our current situation: The poor and the middle class, Krugrman and Stiglitz both seem to suggest, are increasingly unable to afford quality education — but this has nothing to do with our current stagnation (unless you believe in a structural/mismatch explanation for current unemployment — neither Krugman nor Stiglitz does, and nor do I really — and even the most passionate proponents of that theory think it’s only a partial explanation). And the fact that inequality causes financial crises doesn’t have anything to do with why our recovery has been slow — as financial crises go, this one has actually seen a pretty good recovery.

So what about the other two arguments, consumer spending vs. saving, and lower tax revenues?

Krugman’s take on saving:

It’s true that at any given point in time the rich have much higher savings rates than the poor. Since Milton Friedman, however, we’ve know[n] that this fact is to an important degree a sort of statistical illusion. Consumer spending tends to reflect expected income over an extended period. If you take a sample of people with high incomes, you will disproportionally include people who are having an especially good year, and will therefore be saving a lot; correspondingly, a sample of people with low incomes will include many having a particularly bad year, and hence living off savings.

So given those theoretical problems with Stiglitz’s point, Krugman looks at the data about our current situation: First, we know that during the last 30 years’ increase in inequality, savings rates have decreased. But since Stiglitz might contend that the rich’s savings end up in corporations, Krugman shows that overall private savings rates, too, decreased with rising inequality, and then rose dramatically after the financial crisis, slowing consumer spending in the way that Stiglitz worries about — but this is clearly the result of the recession, not increased inequality:

Thus, increasing inequality clearly needn’t mean decreased consumer spending, and it’s definitely not what’s causing depressed spending now. So there’s this delicious bit from Krugman:

So am I saying that you can have full employment based on purchases of yachts, luxury cars, and the services of personal trainers and celebrity chefs? Well, yes. You don’t have to like it, but economics is not a morality play, and I’ve yet to see a macroeconomic argument about why it isn’t possible.

He then also points out that Stiglitz’s assertion that our tax revenues are depressed because of increasing inequality also makes very little sense; Krugman grudgingly admits that “our tax system isn’t as progressive as it should be, but it is at least mildly progressive even when you take state and local taxes into account,” so higher inequality should mean higher tax receipts, not lower. It’s honestly baffling as to how Stiglitz thinks he can make this argument when the reality is so clearly the opposite. There may be plenty of loopholes and tax breaks for the rich, but in aggregate, they pay substantially higher tax rates than the middle class, and even on an individual level, a wide majority all of wealthy taxpayers pay higher effective rates than almost any member of the middle class, too. (It’s also unclear why a good Keynesian such as Stiglitz thinks that higher tax collections in a recession would be stimulative — it seems the investment he wants should be deficit-financed.)

Paul Krugman gets a lot of flak from the right, and it is sometimes justified, especially when it comes to the eagerness with which many of his readers accept his arguments on the grounds of authority, without really understanding his point. Here Krugman’s argument is quite sound, and Stiglitz is the one trading on his economic qualifications to advance a meritless argument. I will admit I am receptive to Krugman’s point here, having written about what I think is a tendency to overstate the economic effects of inequality, and emphasize policy prescriptions to reduce inequality as if they were wholly justified on economic grounds, merely because they don’t like inequality. Krugman obviously still believes its effects are a lot more significant than I do, but it is good see him reining in his comrades who have clearly traded their economic rigor for political sympathies.

#more#I will add a couple other points to their debate: While Stiglitz might think that, because of rising tuition costs, in the future getting a marketable education will become more difficult for the middle and lower classes, educational attainment steadily rose over the past several decades, during which America grew more unequal. It’s possible we could see slower growth in the coming decades if and because educational attainment stagnates, but I don’t think anyone thinks the key to our economic recovery is ensuring that it’s increasing right now — regardless of what inequality did, we have a well-educated workforce, and are continuing to produce well-educated workers (not that the situation couldn’t be improved, of course).

Second, I don’t think there’s really solid evidence for the role of economic inequality in weak or unstable economic growth (for the U.S.) or financial crises, which Krugman actually does (for the last bit, at least, he just believes it’s irrelevant here). Stiglitz refers to IMF work on the topic, and there are two IMF works of which I am aware: a paper that finds a relationship between higher inequality and unstable economic growth (booms and busts, basically), but it’s a cross-national comparison of almost all developing countries, suggesting it has little to tell us about the U.S.’s situation.  That is actually the work I think he’s referring to, because he mentions “the systematic relationship between economic instability and economic inequality.” (It’s also a problem that it’s a cross-national assessment, examining countries with varying degrees of partly endemic inequality, rather than an intertemporal one, which would be more relevant to the case that the U.S. needs to worry about our rising inequality. Here’s one intertemporal, developed-world study that seems much more relevant to the discussion; it finds no link). 

But he could be referring to another IMF paper, which suggests that when income inequality weakens the poor and middle class’s bargaining power, and strengthens the position of the rich, the economy tends toward dangerous levels of leverage, causing financial crises. The explanation sounds appealing, since everyone is aware that 1929 and 2008 featured both extremely high levels of inequality and financial crashes, but two cases does not an argument make. I think it is possible there’s a connection, but that there are better other explanations for the bubbles of the 1920s and the 2000s — so that when it comes to making policy to reduce the risk of such events, we would be better off addressing the actual financial causes of them than trying to get at economic inequality (leaving aside the moral case for the latter, of course). In any case, even if inequality did cause the financial crisis and financial crises produce slow recoveries, that doesn’t make a case for reducing inequality now to improve our growth prospects, which Stiglitz seems to think it does.

Patrick Brennan was a senior communications official at the Department of Health and Human Services during the Trump administration and is former opinion editor of National Review Online.


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