For reasons I cannot imagine, Niall Ferguson has achieved some standing as an intellectual with interesting things to say about the economy. Whenever I have read one of his pieces I almost always find it so confused that it would take a blogpost at least as long as the original to set it straight. This is why I generally ignore Ferguson, except when prodded by friends and readers.
For this reason I was struck to see that my occasional Niall Ferguson corrections got me on the list of Paul Krugman's "... like-minded bloggers who play a sinister game of tag with him, endorsing his attacks and adding vitriol of their own. I would like to name and shame in this context Dean Baker, Josh Barro, Brad DeLong, Matthew O'Brien, Noah Smith, Matthew Yglesias and Justin Wolfers."
This was in the concluding segment of a three-part tirade from Ferguson directed at Krugman. Krugman is of course highly visible, and has been especially effective in calling attention to some of Ferguson's more absurd claims.
I have great respect for Paul Krugman and consider him a friend, but Ferguson's list of "like-minded" bloggers seems more than a bit bizarre. There is certainly overlap in the views of this group of bloggers, but not all that much. For example, I believe that Josh Barro considers himself a libertarian. The only attribute that we really have in common is that we took offense at some of the ridiculous pronouncements from Ferguson and used our blogs to correct them.
But it is hardly worth wasting time and killing electrons in a tit-for-tat with Ferguson. What matters is the underlying issues of economic policy. These affect the lives of billions of people. The absurdities pushed by Ferguson and like-minded people in positions of power, in direct defiance of massive evidence to the contrary, have ruined millions of lives and cost the world more than $10 trillion in lost output since the crisis began.
First, contrary to what Ferguson claims, the downturn is not primarily a "financial crisis." The story of the downturn is a simple story of a collapsed housing bubble. The $8 trillion housing bubble was driving demand in the U.S. economy in the last decade until it collapsed in 2007. When the bubble burst we lost more than 4 percentage points of GDP worth of demand due to a plunge in residential construction. We lost roughly the same amount of demand due to a falloff in consumption associated with the disappearance of $8 trillion in housing wealth. (FWIW, none of this was a surprise to folks who follow the economy with their eyes open. I warned of this disaster beginning in 2002, see also here and here.)
The collapse of the bubble created a hole in annual demand equal to 8 percent of GDP, which would be $1.3 trillion in today's economy. The central problem facing the U.S., the euro zone, and the U.K. was finding ways to fill this hole. Government stimulus is the most obvious answer. This is where the Ferguson types first began to obstruct efforts to boost the economy. They warned that stimulus would not be an effective way to boost growth and create jobs. We also heard dire tales of exploding interest rates and runaway inflation.
In fact, the stimulus in the United States went pretty much according to the textbook. It was far too small and too short to get the economy back to full employment (again, this was predictable at the time, see here and here), but it did create around 2-3 million jobs. The problem was that that the economy needed 10-12 million jobs.
This is all about as simple as it gets. At least in the U.S. case there is very little room for any financial crisis type explanations. Investment as a share of GDP is almost at its pre-crisis level. This is quite impressive given the huge amounts of excess capacity that persist in many sectors. Is there some story where we would expect to see much more investment if our financial system had not gone through a crisis?
The same holds with consumption. Contrary to conventional wisdom, consumption is quite high relative to disposable income. People are spending a smaller share of their income than at the peak of the bubble, but that should not be surprising since they lost $8 trillion in housing wealth. It is not the financial system or pessimism about the economy that is holding back consumption, it is loss of wealth.
If we can't reasonably expect much more out of investment or consumption than what we are now seeing, then that just leaves the government and net exports. This is not really a debatable point; it is a matter of accounting identities. That means we have to rely on the government sector to boost the economy. (I am a big proponent of a lower-valued dollar to boost net exports, but this is more of a longer term strategy since our trading partners will take time to adjust.)
In the years since the original stimulus, the Ferguson types have repeatedly raised absurd fears about the U.S. and other countries hitting debt limits and risking soaring interest rates and hyper-inflation. The result of people pushing this line is that efforts to boost the economy have been stunted. This is why the United States remains close to 9 million jobs below its trend path. Peripheral countries in the euro zone, such as Spain and Greece, have been even harder hit with unemployment rates hovering near 25 percent.
In addition to all the people who are unemployed or underemployed, the weakness of the labor market has made it impossible for most workers to be able to achieve real wage gains. As a result the benefits of the growth we have seen in the United States and other wealthy countries have gone overwhelmingly to the richest 1 percent of the population.
This story is not only devastating for the current generation of workers; it is also having a devastating impact on their children. There are millions of children having impaired childhoods because their unemployed parent(s) cannot properly care for them. (Bizarrely, Ferguson and his ilk are obsessed with deficit projections for 20 and 30 years out, which are entirely due to our broken health care system, as the worst threat facing our children.)
The horrible plight facing so many people in the United States and Europe is especially infuriating because it is so preventable. We know how to get people back to work -- Keynes taught us the answer almost 80 years ago. We just need to spend money. Keynes was shown right in the Great Depression and all the evidence that we have seen to date in the current downturn show that these lessons still hold. (Btw, we can also go the route of reducing work hours, while making up for most of the shortfall in wages. Reductions in work hours is the secret to Germany's 5.4 percent unemployment.)