Tuesday, January 25, 2011

Krugman!

I guess it is time to do a Krugman bashing, Brad reintroduces him to us:
[T]here are many... problems with the notion of a recession as a supply shock. A short sample: If inflation is a case of too much money chasing too few goods, why aren’t slumps associated with accelerating rather than decelerating inflation, as the supply of goods falls? Why is there such a strong correlation between nominal and real GDP? Why is there overwhelming evidence that when central banks decide to slow the economy, the economy does indeed slow? And on and on.
In 2006 the Fed begin chasing inflation.  The Fed caught inflation at its peak only because the economy had already began its downturn.  The supply of critical goods was falling up to that point.   At the crash, someone didn't get their oil at the planned price,  probably the USA. Nominal GDP and real GDP are well correlated because bankers are reasonably accurate people.  Because of aggregation the Fed is usually late to the party. The economy slows when the Fed slows because the Fed is part of the economy and coherent to the economy.  The Fed is surrounded and trades with traders who spend a great deal of their time measuring the economy, as does the Fed.
And:
I know that Austrians take refuge in cosmic talk about the complexity of production and how measured investment may not show what’s really happening, etc
The Austrians say this because their research team is about six months behind me, and I am about six months behind the mathematicians.
The point is that the real world looks a lot like the one Keynes and Friedman envisioned, in which the demand side drives the business cycle.
No, we ran out of oil and crashed.  In 1929 we ran out of street space and crashed.  We crash because of the obvious, some input is very short of the plan.  The economy has only a sparse solution set so adjustments beyond the reserve level require a requantization and rank adjustment.

As for Keynes and Friedman, I tire of debating dead people.

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