In the beloved Rotwang Xmas/Yule tradition, a medley of thoughts in the holiday spirit, with a big musical finish . . .

All I want for Christmas is New York's Senate seat. And I don't mind telling you my father was a very distinguished person, though nobody ever heard of him. His main failure was to be the son of a man who declined to enter the bootlegging business. More's the pity, who knows where I might be today.

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I would like the eulogy at my funeral to be delivered by a national socialist, as a commitment to dialog and a symbol of reconciliation. Because Nazis are part of America too.

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Wow -- what an amazing discussion. What I take from all this is that while fast action is the first priority, we need to be thinking, hard, about what comes next. We want to do better than FDR at fighting an economy that wants to go into depression; but we also want to figure out why so much went right under Harry Truman, so that the WPA didn't have to be resurrected.

I think there's another book waiting to be written ...

Meanwhile, thanks to everyone who weighed in on this terrific discussion.

For the medium to longer term, we need to put into place policies that will encourage sustainable economic growth. Here I discuss 8 important areas for reformulation of policy.

1. Green Policy: Economic sustainability will require more attention to the environment. This is an area that Obama has already identified as important, and I have no special expertise here. I would simply caution that economic recovery could reverse the course of oil prices (likely back toward $80 per barrel). Some combination of pressure on our oil producing "friends", subsidies for alternative energy and conservation, and energy costs relief for low income households will be needed.

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In the final chapter of his The Return of Depression Economics, Paul Krugman offers advice as to how the United States should address the deepening economic recession it finds itself in. Paul does so with a degree of pessimism about the likelihood that his advice (or policies consistent with it) will be adopted that is unwarranted.

Paul lays emphasis on the need to bring "good old-fashioned demand-side macroeconomic" to bear on the current crisis, "but its defenders lack all conviction, while its critics are filled with passionate intensity."

I would say instead that its defenders are busily designing a stimulus package likely to be five or six times the size of last year's and by far the largest in absolute terms in U.S. history. Meanwhile, many of its critics, including some politicians who agreed this fall that our economy is fundamentally sound, will be out of a job next Jan. 6 when the new Congress is sworn in.

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The President's lifeline to the auto industry includes the provision Senate Republicans were insisting on last week, which scuttled the deal -- cuts in UAW wages and benefits to make them comparable with wages and benefits in non-union automakers' plants (all owned by foreign automakers, all mostly in the South). Last week, Bush lobbied against this provision. Now he's adopted it, without any legislation at all.

What's really going on? Bush doesn't want messy bankruptcies of GM and Chrysler, potentially threatening more than a million jobs, to tarnish his last weeks in office. So he's giving the automakers what they need to tide them over, and kicking the can to the Obama administration. But nor does he want to leave office slapping down Senate Republicans, so he's giving them what they demanded, too.

How to square the circle? Read the fine print: The automakers don't really have to bring wages and benefits down in order to get the money. That requirement can be "modified" in negotiations with the UAW. So everyone gets a Christmas present, and W. leaves town before the bill arrives.

The punditocracy is gravely concerned about business ethics in America.

Bernard Madoff's "alleged Ponzi scheme was only slightly less outrageous than the 'legal' scheme that Wall Street was running, fueled by cheap credit, low standards and high greed," Thomas Friedman wrote Tuesday in the New York Times. "The Madoff affair is the cherry on top of a national breakdown in financial propriety, regulations and common sense. Which is why we don't just need a financial bailout; we need an ethical bailout."

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Dean Baker says that Alan Greenspan should have used his public appearances to warn people about the stock and housing bubbles, and if he had, the bubbles would not have inflated to such dangerous levels.

I don't have any problem with Dean's suggestion that talk matters. I'm not sure Greenspan could have been convinced there was anything more than "froth"; in housing markets, and that's part of the problem with this approach, and one reason why

I like rules that move against rising asset prices automatically rather than relying upon the discretion of Fed officials. But if somehow Greenspan had been convinced that a dangerous bubble was developing, and he was confident that he was correct in this assessment, sure, he should have sounded the warning.

But what if he was wrong about whether there was a bubble (and he was)? What good does it do to have the Fed chair saying there's no problem, go take out a variable rate mortgage and live happily ever after? With all of Dean's criticisms about economists missing bubbles, why is he confident the next time will be any different? And who will believe the Fed chair the next time anyway given how wrong Greenspan was? That's another reason I prefer rules that move against prices automatically, they don't require that people doing the talking be believed.

But my main problem with this approach comes with the implicit suggestion that one person, the Fed chair, should hold so much power within the Federal Reserve system, that it was Greenspan's job alone to sound the warning.

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One of the most novel and provocative assertions that has appeared in this week's Book Club forum was made Tuesday evening by Randall Wray in Stability is Destabilizing, as follows:

Those familiar with macro accounting recognize that the nongovernment sector balance must be equal to the government sector balance (sign reversed). If the government runs a budget surplus, the nongovernment must run a deficit of the same size. The Clinton government surplus sucked income and net financial wealth out of the private sector--leading to the Bush recession. That is not something to be wildly celebrated and emulated as fiscally responsible policy. Thank goodness that "Rubinomics" will not be adopted by the new Obama team.

When governments run deficits, they spend more than they take in; that is, they borrow, diverting private saving into public consumption. Because private saving is diverted to support public consumption, the private saving cannot underwrite private investment. That is why public deficits reduce the long-term growth of capacity -- when they occur under conditions of full employment, as they did in the late 1990s. Surplus spending or, more accurately, fiscal policy that increases the surplus or reduces the deficit, contributes to the growth of national economic capacity.

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Look, I don't really care whether Caroline Kennedy becomes the junior senator from New York, but I do care about what I read, even from six thousand miles away; and there are some pretty fatuous things being written in the name of protecting the commonwealth from plutocracy. As if achievement, merit, and judgment are proved by degrees, promotions, and apprenticeships--that to be born privileged is to live above life.

Caroline Kennedy faced the world-historical murder of her father, relentless media scrutiny ever since, the strange marriage (and subsequent divorce) of her extraordinary mother, who then was wasted by cancer in her sixties; the murder of the uncle who protected her family; and perhaps the cruelest blow of all, the death in a plane crash of her baby brother. Through it all, she has managed to keep her sanity and exhibit dignity--make a marriage, mother her children, achieve professional standing, write serious books, and take on an important role in a presidential campaign. The comparison, as some suggest, to Sarah Palin is silly. The real comparison should be to John McCain, who was born to privilege, but also expected voters to see, reasonably, that mettle is tested at least in part by a person's way of overcoming unimaginable suffering.

The newly designated Secretary of Labor, Congresswoman Hilda Solis, is a terrific appointment not only for the country-but for America's workers. She's a staunch pro-union advocate, but as important, she is someone who can speak to and for the growing portion of the workforce who face daily work and life dilemmas.

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Obama's nomination of Hilda Solis to be Labor Secretary was designed to please pro-labor supporters given her strong pro-labor record. Whether Obama meant her nomination to deliver a message, she is a special symbol of the power labor has been willing to exercise within the Democratic Party to hold candidates accountable. As Harold Meyerson recounts in the LA Times:

And in 2000, she did something else that career politicians just don't do: She challenged an entrenched incumbent from her own party for his congressional seat. Marty Martinez, a nine-term incumbent who thought he was cruising to his 10th, was much more conservative than his constituents. He had voted for NAFTA, backed the extension of the 710 Freeway through South Pasadena and opposed abortion rights.

Against the wishes of the party's national legislative leaders, who never like to see their members challenged, Solis ran against Martinez and, with the assistance of the L.A. labor movement, defeated him by a stunning 69% to 31%.

Her election put all Democrats on notice that labor would not give incumbents a pass if they voted against labor. Some would argue that labor hasn't supported enough Solis-style challengers, but there is little question that putting her at the Labor Department will help reinforce the message that labor will hold Representatives and Senators accountable for their votes.

My initial reaction to Obama's Rick Warren announcement was horror.

After what seems like weeks of intense back-and-forth, but in fact is only a day's worth, I'm still appalled. It's one thing to invite the adversary into the tent the better to defeat him with a smile--neutralize him, in colder terms--but it's quite another to give him a throne, even if a purely symbolic throne. Warren's political interventions are mostly terrible (AIDS and environment are the exceptions). The argument that this was crass political calculation--triangulation, as another president once said--comparable to FDR making nice to segregationists and Stalin, falls afoul of the fact that this overture to Warren was unnecessary. To get the New Deal, FDR really did have to make deals with the racist devil. To defeat Hitler, FDR really had to ally with Stalin. It's history: get used to it. But I've yet to see a single argument to the effect that Obama's invitation to Warren accomplishes a single practical thing, let along that it was necessary. So I take it as an ugly brush-back: a gratuitous slap at feminists and LGBT's. I hope it's ill-considered, impromptu, but suspect it's actually one of a series--bridge-building to the right on principle.

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It was a brutal year for the conservative movement, which at long last came crashing down after dominating American politics for nearly 30 years. One small consolation for at least some leading thinkers on the right is that they began to demonstrate perceptiveness that by and large eluded them in preceding years. Here are the top twelve insights of prominent conservatives in 2008:

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Now that economists have finally discovered that asset bubbles can be harmful (next week, they learn about the shape of the earth), we are getting a debate about how to deal with them. I'm sure that this debate can provide full-time work to hundreds of economists, but at the risk of sending some of my colleagues to the unemployment lines, let me suggest a simple solution: talk.

Economists seem to hold a bizarre view, that it is both very important that people like Fed chairs and Treasury secretaries be careful about what they say, but also that what they say does not really matter. While such contradictions are standard for the economics profession, I will argue that what these folks say can really matter.

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Here is my wish list of policies. First we will need a comprehensive package of policies to deal with the immediate crisis. Here I will not delve deeply into the causes of the financial meltdown--interested readers are referred to my Policy Notes and Policy Briefs at www.levy.org, which foresaw and then analyzed the processes that created a "perfect storm" (the title of a piece I wrote in 2000--perhaps a wee bit prematurely?). It is, however, necessary to remember that "stability is destabilizing"--successful resolution of this crisis and restoration of a semblance of stability will encourage a return to risky practices. That is why we also need a package of policies for the medium- and longer-term. While we can never go back to the New Deal institutions and regulations, we can certainly learn from them. Recall that we did have quite a long run of good times after WWII, and Roosevelt's New Deal had a lot to do with that. The unraveling of the social and economic fabric over time--partly in response to deregulation but mostly due to "natural" profit-seeking behavior of innovative firms--created conditions in which "It" (a debt deflation and possibly a depression) became possible again. Hence, what we want to do is to promote institutions, regulations, and practices that can constrain modern capitalism's inherent thrust to fragility.

Originally I had planned to put all of this into one post, but due to length I have decided to devote Part One to the current crisis, and Part Two to the longer-run.
(And sorry for the back-to-back posts; I'm on Oz time and I guess the rest of you are asleep on USA time.)

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Paul Krugman has noted that we all seem to be "big government types"--recalling Nixon's statement that "we're all Keynesians now"--but we have not yet addressed whether our nation can afford a big government.

News reports today indicate that some on the Obama team are backing off on the size of the promised stimulus--to something less than $850 billion. I suspect that a big part of the reason can be attributed to Rubinitis (better known as deficit-phobia). Why, in the face of the biggest economic catastrophe this nation has faced since the 1930s, would Obama lose his courage? The three "eyes": Inflation, Investment crowding-out, Insolvency. I will try to calm those fears.

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Alan Greenspan, writing in the current issue of the Economist, argues that in the future banks will need more of a capital cushion than they needed before the crisis because holders of bank liabilities will require them to hold more capital. "Today, fearful investors clearly require a far larger capital cushion to lend" to financial intermediaries. In other words, there's no need for additional regulations requiring banks to have more capital. The financial market will take care of itself. Greenspan has learned nothing at all.

In 2004 and 2005, when many economists warned that a speculative bubble in home prices and home construction posed a risk to the financial system, Greenspan brushed aside such worries, saying housing prices never declined. Before that he had resisted calls for tighter regulation of subprime mortgages and other instruments which allowed people to borrow far more than they could afford. He had also opposed tougher regulation of derivatives. Almost a decade earlier, Greenspan had urged Congress to knock down the regulatory walls that separated investment and commercial banks, thereby inviting investment banks to place huge bets with other peoples’ money.

Barely two months ago, when Greenspan appeared before Congress to explain what had happened to the economy, Representative Henry Waxman asked him pointedly: "Were you wrong?"


"Partially," Greenspan responded. "This crisis has turned out to be much broader than anything I could have imagined."

It might be argued that Alan Greenspan’s failure of imagination was not just about the scale of the crisis. More basically, his ideology had made it difficult for him to imagine what could happen when financial markets are left to themselves. He had supposed that the interplay of millions of self-seeking individuals would make government regulation unnecessary – except to prevent outright fraud or theft. To Greenspan and others like him, the global financial market represented the almost perfect form of the free market, because buyers and sellers were could gather almost unlimited information about one another, at almost instantaneous speed, at very low cost. Not only would the financial market be self-correcting, but it would automatically give us everything we might reasonably wish from it.

Greenspan’s real failure of imagination was his inability to believe there are useful market rules beyond those that protect private property and prevent outright fraud. This, presumably, was why he kept insisting for so long that government be held at bay.

But now the United States has chosen to deal with the financial crisis by buying up a significant fraction of the shares of the nation’s major banks and its largest insurance company, underwriting the loans of a large portion of the nation’s home-lending industry, and is on the verge of underwriting the nation’s largest automobile makers. Yet little if any of this largesse has found its way to the broader public – to homeowners in danger of defaulting on their mortgages and losing their homes, small businesses close to insolvency, state and local governments cutting public services because of budget shortfalls, families unable to afford health insurance, or young people unable to obtain loans to finance university tuition.

The ideology of a perfectly self-correctly free market has given way to what might be described as a raid by America’s biggest banks and corporations on the public purse, supposedly justified by benefits to the broader public which seem never to materialize. What happened to the ideology? On closer inspection, it turned out to be something of a cover all along.

During the same years Greenspan called for deregulation of financial markets, Wall Street was accelerating its bankrolling of the U.S. Congress. Securities and investment firms contributed larger and larger amounts of money – not just to conservative Republicans who might expect such support but also to Democrats who had never been so graced before. According to Center for Responsive Politics, Wall Street firms dramatically increased their contributions to both parties during these years. Their share of total donations to the Democratic Senatorial Campaign Committee, for example, rose continuously, from 5 percent during the 1999-2000 election cycle to 15 percent by the 2007-2008 cycle.

The money was accompanied, and often raised, by Wall Street lobbyists who pushed Congress in the same direction Greenspan urged – blocking regulation of derivatives, weakening oversight of subprime mortgage lending, and preventing the Securities and Exchange Commission from doing its job.

To take but one example, the collapses of Enron, WorldCom, and several other giant corporations in 2002 revealed a troubling pattern of credit-rating agencies repeatedly assuring investors that such companies were good investments until just before they went under. When the Securities and Exchange Commission asked Congress for additional authority to oversee the credit-rating agencies, Wall Street and its lobbyists blocked the measure. With hindsight, it’s clear why. Wall Street investment banks were paying the agencies to rate various mortgage backed securities after first advising the firms that issued them – and collecting fees – on how to package them to get high ratings. Years later many of these same securities, based on risky loans, would prove to be worthless, threatening financial institutions worldwide.

Apparently Greenspan hasn't learned anything from all this, but the rest of us have no excuse. The real choice ahead is between democratic capitalism and authoritarian capitalism. China is perfecting the latter. But unless we are careful we – the citizens of democratic capitalist nations – will discover that our form of capitalism has become more authoritarian than democratic. The current economic crisis surely poses a test for capitalism. But it is also a test of democracy.

I haven't written much on what the role of the new administration is, on getting to bottom of the violations of International and U.S. constitutional law by the Bush Administration. On one level, I can understand Obama's reluctance to engage in a vendetta against the outgoing administration and focus his energies on the future. But the bipartisan report of the Senate Armed Services Committee leads me to believe that we probably need our version of South Africa's Truth and Reconciliation Commission.

The abuse of prisoners at Abu Ghraib, the report says, "was not simply the result of a few soldiers acting on their own" but grew out of interrogation policies approved by Mr. Rumsfeld and other top officials, who "conveyed the message that physical pressures and degradation were appropriate treatment for detainees."

We need to understand that there is a permanent Establishment in America that rules no matter what party holds the Presidency.

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Brad's definition of non-depression economics gives us a set of policy beliefs that "is no longer sufficient doctrine for our age," but he doesn't tell us why it is no longer sufficient, or what the new doctrine should be.

One reason the doctrine is no longer sufficient is that it has not been able to prevent the development of large asset price bubbles. And worse, as we are seeing right now, monetary policy cannot necessarily clean up the problems that occur when asset bubbles pop. The question, then, is how the doctrine can be updated so that it does a better job of preventing asset bubbles from developing.

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It is not a simple matter to be a Jew in America this time of year. Not in Jerusalem either, a few miles from Bethlehem. Christmas, as John Updike writes, is Christianity "at its sweetest." Many have written, some with an air of sweet resignation, about the yearning Jews feel as the days darken: to share in the melodies, the hearth, the love of the child.

It was only a matter of time--was it not?--that we would start finding ways to be absorbed into the spirit of the moment. So we exchange presents, greet the "season," tease out of the ancient Chanukah story our own celebration of light and grace--God bless, eight days, not just one! And we leave behind, in mildly embarrassed obscurity, the tale of Maccabean guerrilla war against Greek occupiers around 165 BC--a mythical victory that had been so much solace for medieval rabbis, forced into ghettos, and more recently, for outnumbered Zionists.

But when you give a second thought to the Chanukah behind the candles, you do feel at odds with the spirit of the time, and not really because the ancient heroics of Judeans seem out of step with Pickwickian fellowship. The fact is, Chanukah is Judaism at its gravest: a radical attack on all forms of idol-worship, including the worship of the love of the child.

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This discussion has so far one major lack: it does not tell us what "depression economics" is supposed to replace--it does not tell us what non-depression economics is, or was.

So let me try my hand at a definition of non-depression economics.

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Picking up on Paul's question about why we didn't go back into recession/depression after World War II (and following Randall's point), I think unions did play a very important role. Strong unions are a great mechanism for ensuring that workers will get their share of productivity growth. Workers are far more likely to spend their income than owners of capital or managers. Therefore the strong labor movement that came out of the organizing drives of the the thirties and the war was a powerful mechanism for sustaining demand growth.

Of course many economists have complained that strong unions are harmful for precisely this reason. The argument was that they raised costs and created inflationary pressure. Obviously there is some truth to this story, but clearly unions are an effective tool against the sort of deflationary spiral that we saw at the beginning of the depression.

This is something to keep in mind as Congress debates the Employee Free Choice Act next year.

Paul Krugman provides 4 plausible factors for the early postwar success: pent-up demand, baby boom, moderate inflation, and big government. To these I would add (again, in no particular order):

5. High wage/high consumption bias: strong unions pushed up wages, allowing growing domestic consumption based on income (not debt); this also promoted labor-saving innovation, technological advance, and all of that good stuff.

6. High government debt ratios/low private debt: we emerged from WWII with private balance sheets stuffed full of very safe government debt; in Minsky's terminology we had a "robust" financial sector with highly liquid assets (note this also is related to Paul's "pent-up demand" point).

7. External markets for US output: thanks to the Marshall Plan that provided the financial where-with-all to purchase US exports (as well as some destruction of productive capacity in war-torn Europe and Japan), the US could sell abroad.

8. Government spending "ratchet": government spending grew faster than GDP, supplementing private sector demand and thereby keeping labor, plant, and equipment operating near to full capacity.

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How does the massive expansion of the public sector in the aftermath of WWII "prove" the secular stagnationists wrong? "Once there was full employment .."

Full employment was not conjured out of a magician's hat. It was the result of deliberate growth of the public sector. How to kill one bird with two stones.

Exclude women from employment and build suburbs. Use the GI Bill to help veterans buy houses. Suburban housing creates commuters. Commuters need highways. Highways create demand for giant gas guzzling cars with fins (and those very cool glow-in-the-dark space ship dashboards). All those houses need refrigerators, dishwashers, washers, dryers, and vacuum cleaners and a mind-boggling array of NEW! IMPROVED! cleaning products.

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What's happened to democracy? GM and Chrysler say they desperately need money to avoid bankruptcy in the next few weeks. Treasury Secretary Hank Paulson now says the Big Three "will get the money as quickly as we can prudently do it."

But didn't Congress just vote down that money?

Don't get me wrong. I'm among those who think there's good reason to give the automakers a $14 billion bridge loan to stave off immediate bankruptcy until they come up with a restructuring plan (although, as I've said before, the plan ought to demand real sacrifices from every stakeholder). But I have to tell you, I'm deeply troubled by the administration's likely decision to give it to them when last week Congress said they can't have it.

Call me old-fashioned but I believe in the democratic process. Under our Constitution, Congress is in charge of appropriating taxpayer money. If Congress explicitly decides not to appropriate it for a certain purpose, where does the White House get the right to do so anyway by pulling the money out of another bag?

That other bag, by the way - called the Troubled Assets Relief Program, or TARP for short - was enacted to rescue Wall Street, not the automobile industry. Personally, I think there's more reason to rescue big automakers than big Wall Street banks, but what I want isn't the issue. It's what our representatives voted for. When they voted for TARP, at the start of October, they didn't say to the President: Here's a $700 billion slush fund to use as you wish. They said: Here's $700 billion for Wall Street.

If TARP is a slush fund, everything's arbitrary. We're no longer a nation of laws; we're a nation of Treasury and White House officials with hundreds of billions of dollars of taxpayer money to dispense as they see fit. Why rescue autos and not, say, the newspaper industry, which is heading for oblivion. Better yet, why not rescue state and local governments? They're running short about $100 billion this year and as a result are slashing public services, including the nation's schools.

Even as it is, TARP is shrouded in secrecy. The Treasury has burned through $335 billion so far, and no one knows exactly how or by what criteria. Why, for example, did it set tough conditions on AIG while giving Citigroup the sweetest deal imaginable?

The dictionary meaning of a "tarp" is something used to cover things up, which is exactly we've got.

But our system of government depends on sunlight, transparency, and public awareness. It also depends on Congress exercising its constitutional duty to make laws and the President executing them.

An economic crisis is no excuse for turning our back on democracy.

Since all of us in this discussion seem to be big-spending types of guys, a lot of our discussion has been about what comes after-- about when and whether the economy can stand on its own. There are, I think, two historical models for this. On one side, World War II put a definite end to the depression economics of the 30s. On the other, Japanese stimulus efforts helped the economy while they were on, but it's not clear that they ever provided a long-term solution.

So here's a question I haven't seen discussed (I'm sure someone has, but I haven't seen it): why did WWII "work", why did it prove the secular stagnationists wrong?

I can think of several possible reasons. In no particular order:

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It's a good thing Alabama doesn't have its own monetary policy. Otherwise it might be tempted to devalue its currency to boost exports. But it can still subsidize domestic industry, not least of all its plants of foreign auto companies. Latest triumph is the $811 million greased path laid down for ThyssenKrupp. We trust the use of slave labor will not be permitted.

And it has a senator by the name of Richard Shelby to sabotage the competition. Shelby and other peckerwood princes block aid to U.S. auto companies, while they suck in dollars for pork and their state government does for foreign companies what Shelby won't let the Feds do for Detroit. My personal favorite project of Shelby's, who has a long career of pork-sucking, is the Federally-funded statue of Vulcan.

Harold Myerson is good on this today.

What is going to be the new leading sector? What is going to allow us to maintain full employment without running huge long-term budget deficits that will, eventually, sap our rate of economic growth somewhat?

If it weren't for the fact that the furshlugginer dollar refuses to fall in value, the answer would be obvious: we will have a boom in import-competing manufacturing (and exports). But then the rest of the world has a long-run problem: if we decide to no longer be the world's importer of last resort, than what serves as a locomotive to keep it near full employment?

But if the dollar doesn't fall, then we have a long-run problem. The only answer I can think of is for the U.S. to then become the world's largest private-equity fund: they lend us their money, and we then invest the money back in their economies--in industries and companies that then have a very high demand for U.S. high-tech goods and for U.S. services exports.

The U.N. Security Council today passed its first resolution on Israeli-Palestinian peace process-related issues in 5 years. The resolution was essentially intended to anchor the Annapolis process as an ongoing effort in moving forward beyond the Bush Administration and it closely followed the language of a Quartet statement from last month. UNSCR 1850, however, not only contains little that is new, it also offers very little encouragement that progress is being made by the current approach to Israeli-Palestinian peace-making.

From the Bush Administration's perspective it is a last gasp effort at legacy-building, having failed to achieve the goals set out at Annapolis one year ago. How ironic that this Administration would seek a U.N. imprimatur for that legacy, given its characteristic hostility to the U.N. and indeed to multilateralism and international law in general. But this is an unhelpful resolution, and it looks like the Bushies are having a farewell snicker at the U.N. Plaza.

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I do not think that Paul Krugman should apologize for recognizing the canary in the coal mine back in 1997-98. Hyman Minsky saw this coming as early as the late 1950s. To the extent that we really did have a "great moderation", it would have fueled the longer-run transition toward fragility that had been developing over the entire post-war period. Indeed, 1996 saw for the first time ever persistent private sector deficit spending (taken as a whole, American firms and households were spending more than their incomes). This continued without let-up through to 2008 (with a brief respite during the depths of the Bush recession). So I do think there was something to the claims about a "great moderation"--in that there was an absence of fear that helped to generate debt-fueled bubble after debt-fueled bubble--although those promulgating these claims never understood the true ramifications. All of that was building toward what Minsky called "It" (as in "Can 'It' Happen Again?", the title of an early 1980s book that collected his essays): a Fisher-type debt deflation process. Some have called this current crisis the "Minsky Moment", but actually it is more accurate to recognize this as the culmination of the "Minsky Half-Century".

Turning to the other side of the private sector deficits coin, we find the Clinton budget surpluses. Of course these were widely proclaimed as beneficial (supposedly enhancing our future ability to take care of retiring baby-boomers--particularly ironic as we now watch our pension funds disappear). Those familiar with macro accounting recognize that the nongovernment sector balance must be equal to the government sector balance (sign reversed). If the government runs a budget surplus, the nongovernment must run a deficit of the same size. The Clinton government surplus sucked income and net financial wealth out of the private sector--leading to the Bush recession. That is not something to be wildly celebrated and emulated as fiscally responsible policy. Thank goodness that "Rubinomics" will not be adopted by the new Obama team.

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Participants in this discussion share the view that the toughest choices facing policy makers are imposed by the clock: how quickly can government spending flow into the economy thereby propping up demand, and slowing the rate of business collapse, while making the economy cleaner, greener, and fairer too.

The views expressed earlier in this discussion are that serious errors of theory and policy led to the belief that depressions had gone the way of the dodo bird. Yet, many of my colleagues in economics--with views dismissed by the academic establishment, rejected by policy makers, and ignored by the press--never bought into the idea that monetary policy and tax cuts would banish economic crises. The profession's surprise at the current disaster shows us just how well economists understand the real world.

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Paul Krugman is trying to get us to understand that depression economics is different from the economics of good times, that "normal rules don't apply."

Let me try to illustrate this point by looking at some objections to depression economics policy measures, in particular two recent objections to fiscal policy.

Tyler Cowen says that when it comes to fiscal policy, new research shows that deficit financed tax cuts are far more powerful than increased government spending at stimulating the economy.

But when I read the paper, I didn't think the results applied to depression economies because of the following sentence:

Furthermore, we find that deficit spending weakly stimulates the economy, that it crowds out private investment...

As I'll explain below, it's the claim of crowding out that raised red flags for me.

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I love the prospect of secular stagnation (raised by Bob Reich) primarily because the answers are so easy. :Let's keep our eyes on the ball. The problem in this picture is that we are capable of producing more goods and services than we want to consume. It's a problem of too little money chasing too many goods and services.

Well, there are two really simple answers to this problem:

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Bob Reich raises an important question that's been worrying me: what does the end game look like? When, if ever, can the economy throw away its crutches and do without big stimulus? I'm not sure I agree with his answer, but my own answer raises some awkward issues, as I'll explain in a minute.

Basically, what's happening now is that the things that supported our economy in the middle years of this decade -- high consumer spending relative to income and a housing boom -- are gone, and won't come back for the foreseeable future. So what will take their place?

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Consumer prices fell by 1.7 percent last month, according to the Bureau of Labor Statistics. That's the steepest drop in 61 years. Why? Because producers and sellers have discovered that consumers have just about stopped buying. The only way producers and sellers can shrink their inventories and pay their bills is to slash their prices low enough to get some consumers to buy. Automakers with acres of unsold cars are giving deep discounts. Retailers with piles of Christmas goods are holding "40-percent-off" sales. Cable-TV operators are cutting monthly fees.

The good news is that all this price cutting is helping average people at a time when wages and benefits, and jobs, are also being cut. The bad news is it's also cutting deep into producer profits, causing them to cut even more jobs and wages. The big danger is it may cause some consumers to delay purchases, thinking they can get a better deal when prices drop further. That's a self-fulfilling prophesy. If more and more consumers take this view, sellers will have to reduce prices further to get them to buy now. That may sound good until you realize it means more layoffs, and more cuts in wages and benefits.

Deflation is more vicious than inflation because it's much harder to reverse deflationary expectations than inflationary ones. Japan's "lost decade" is evidence. The last time America witnessed a fall in consumer prices as large as we have now was in 1947, when wartime mobilization and large-scale government spending were winding down, there was lots of underutilized capacity, and producers and sellers were trying to lure consumers back into the habit of buying. What producers and sellers didn't know was that a whole new generation of returning GI's and baby-booming parents were about to spend like mad.

Now, the situation is quite different. Rational consumers are starting to save whatever they can because they're understandably worried about the future.

The sooner we have a major stimulus package, the better. The danger is that it will be too small.

Paul Krugman writes:

[M]y main answer to Brad's question is that the events of 1997-1998 were, for me, a wake-up call. Before then I'd taken it for granted that central banks could always pump up demand, but Japan showed that the liquidity trap was a very real danger in a world in which inflation rates were fairly low.... I'd also assumed that bank runs were a thing of the past, but the Asian and LTCM crises showed that events functionally equivalent to bank runs could happen even if depository institutions - the denizens of big marble buildings with "FDIC insured" signs in their windows -- were protected. So I didn't take much comfort in the fact that a makeshift, cobbled-together set of measures managed to contain the crisis; it seemed all too obvious that the next crisis could be too big for improvisation to handle...

So what, in the long run, should the new regulatory and management system consist of?

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Paul Krugman writes:

My first answer is that the 1998 crisis was not, in fact, resolved all that easily. Bear in mind that there were really two crises: the high-speed capital-flight crises of Southeast Asia and the prolonged Japanese slump. The capital-flight crisis did subside quickly -- although even there it left permanent damage (Indonesia, with a bigger population than all the other crisis countries combined, has never recovered to its old growth track.) But Japan's woes went on and on. And Japan was the clearest omen for the United States...

Touche...

Brad DeLong asks a very good question: why did I see the 1998 crisis, which by some measures ended fairly quickly, as an omen of much worse to come; and why was 2008 so much harder to deal with?

My first answer is that the 1998 crisis was not, in fact, resolved all that easily. Bear in mind that there were really two crises: the high-speed capital-flight crises of Southeast Asia and the prolonged Japanese slump. The capital-flight crisis did subside quickly -- although even there it left permanent damage (Indonesia, with a bigger population than all the other crisis countries combined, has never recovered to its old growth track.) But Japan's woes went on and on. And Japan was the clearest omen for the United States.

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When the U.S. Senate killed the auto industry rescue bill last week, some conservative commentators saw it as payback for Michigan voting the wrong way in the November election.  William D. Zeranski at the popular rightwing American Thinker site argued, "We know which way those 17 Electoral College votes will go.  So, how does helping bailout the Big Three help the GOP?" 

Local Michigan Republican leaders themselves began worrying that national party leaders would begin ignoring state concerns after McCain lost the Great Lakes states.   As Republican pollster Steve Lombardo said after the election, "It's a matter of worry...It may be that Republicans begin to write off Michigan, Wisconsin, Minnesota."

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The exhortation to "spend, spend, spend" willy-nilly is not only absurd on its face -- why build pyramids, or bombs, when you can build bridges, or, still better for stimulus purposes, increase unemployment benefits? It also runs the risk of abusing the public trust insofar as it lacks accountability. Take the Troubled Asset Relief Program (TARP), for example. TARP, the $700 billion economic recovery package, is the single-largest expenditure authorized by Congress in one bill ever, in absolute terms. The lack of transparency regarding how these taxpayer dollars are being spent threatens to corrode the already diminished public trust and could impair the ability of the government to respond commensurately with the magnitude of crises and threats in the future.

Addressing this problem should be at the top of the agenda when the new Congress convenes next month.

Many people, from lawmakers on Capitol Hill to citizens around the country, have expressed frustration and disappointment that they cannot get more than cursory information regarding transactions executed to date pursuant to the TARP legislation. Even more dismaying is widespread confusion about what strategy the Treasury Department is following in making its transactions. Furthermore, many have serious concerns about the possibility that taxpayer money is being used for bonuses, golden parachutes, dividends, stock repurchases, etc., that is, in ways not contemplated when Congress passed the TARP legislation.

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How much do you pay per month on your credit card balance(s)? The minimum suggested? The full balance? Somewhere in between? Does the "suggested minimum" payment (a legal requirement) have an effect?

It may not seem so, but psychologists have determined that those minimum payment numbers may cause card holders to pay less than they normally would if a number wasn't suggested. From the Economist:

Mr Stewart presented 413 people with mock credit-card bills of £435.76 (about $650) that were identical--except that only half mentioned a minimum payment of £5.42. Participants were asked how much they would pay.

Among those inclined to pay the bill in full, the presence of the minimum payment hardly made any difference. However, those who wanted to pay just part of it handed over 43% less on average when presented with a minimum payment. In the real world, this would roughly double interest charges.

I for one am more well-intentioned about paying off my bill every month than I am successful at it. But I always try to pay the max I can afford, regardless of the suggestion. I also try not to use my credit card very often. "Balance-sheet solvent" is a good place to be these days, considering how long that line for government bailout money is at this point.

So says Eschaton: "Lucky that few understood the potential and didn't try to legislate or regulate it out of existence before it took off. Imagine telling senators in 1992 that soon every 13 year old would have a porn machine on his/her desk."

Well it was 1994 mostly, but we didn't mention the dark side to the senators and besides we were told by Andy Grove and Eric Schmidt and Marc Andreessen (who wore bib overalls and no shoes in the first meeting) that the upside case was worth the risk on the downside. So to summarize: yes. Saying yes to everything is a not bad first principle for conducting life as we know it, subject to having an exit strategy.

Depression Economics begins with a discussion of the overconfidence
economists had in their ability to stabilize the economy during the period known
as The Great Moderation. Overconfidence in our abilities is a mistake economists
seem to be prone to making, and the book recalls the 1960s when, after the
discovery of the Phillips curve, "economists were holding conferences with
titles like 'Is the Business Cycle Obsolete?'" The volatile 1970s took care of
that attitude, and should have cured us of the tendency to be overconfident for
good, but it didn't. With the decline in the volatility in output and the taming
of inflation after 1984 - the period known as The Great Moderation - we found
Robert Lucas proclaiming in 2003 that the "central problem of
depression-prevention has been solved for all practical purposes.

Some of that confidence has, of course, eroded away as the current problems
the economy have unfolded and policy appears powerless to do anything about it.
It feels like watching a slow motion train wreck and being unable to do anything
about it. But the question I want to ask is whether overconfidence in policy is
responsible for our current predicament. I think the answer is yes, in part, but
I believe it is actually underconfidence in policy that has been the
bigger problem.

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Paul is correct in arguing for a large stimulus. I can't help wondering, though, if we'll need something more. Keynesianism is based on two highly-questionable assumptions in today's world. The first is that American consumers will eventually regain the purchasing power needed to keep the economy going full tilt. That seems doubtful. Median incomes dropped during the last recovery, adjusted for inflation, and even at the start weren't much higher than they were in the 1970s. Consumers kept spending by borrowing against their homes. But that's over. The second assumption seems even more doubtful: that, even if middle-class Americans had the money to continue the old pattern of spending, they could do so forever. Yet the social and environmental costs would soon overwhelm us. Even if climate change were not an imminent threat to the planet, the rest of the world will not allow American consumers to continue to use up a quarter of the planet's natural resources and generate an even larger share of its toxic wastes and pollutants.

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Dean Baker wrote:

Several Bush administration officials have suggested reducing mortgage interest rates to 4.0 percent, or possibly lower, with the intention of boosting the housing market. While there are markets in which it would be reasonable for the government to intervene to prevent a downward spiral of house prices, it is difficult to see anything good that would come from delaying a full adjustment in the markets that have still yet to fully deflate.

If extraordinarily low mortgage rates can succeed in preventing prices from falling back to trend levels, then house prices in these markets will presumably plummet when the economy recovers and mortgage interest rates return to more normal levels...

I disagree.

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Not long ago I was talking to someone who once had been a deficit hawk but the current recession had turned into a full-blooded Keynesian. He wanted a stimulus package in the range of $500 to $700 billion. "Consumers are dead in the water," he said, fervently, "so government has to step in." I agreed. But I didn’t tell him his traditional Keynesianism is based on two highly-questionable assumptions in today’s world, and the underlying logic of Keyenes leads us toward something bigger and more permanent than he has in mind.

The first assumption is that American consumers will eventually regain the purchasing power needed to keep the economy going full tilt. That seems doubtful. Median incomes dropped during the last recovery, adjusted for inflation, and even at the start weren’t much higher than they were in the 1970s. Middle-class families continued to spend at a healthy clip over the last thirty years despite this because women went into paid work, everyone started working longer hours, and then, when these tactics gave out, went deeper and deeper into debt. This indebtedness, in turn, depended on rising home values, which generated hundreds of billions of dollars in home equity loans and refinanced mortgages. But now that the housing bubble has burst, the spending has ended. Families cannot work more hours than they did before, and won’t be able to borrow as much, either.

The second assumption is that, even if Americans had the money to keep spending as before, they could do so forever. Yet only the most myopic adherent of free-market capitalism could believe this to be true. The social and environmental costs would soon overwhelm us. Even if climate change were not an imminent threat to the planet, the rest of the world will not allow American consumers to continue to use up a quarter of the planet’s natural resources and generate an even larger share of its toxic wastes and pollutants.

This would be a problem if most of what we consumed during our big-spending years were bare necessities. But much was just stuff. And surely there are limits to how many furnishings and appliances can be crammed into a home, how many hours can be filled manipulating digital devices, and how much happiness can be wrung out of commercial entertainment.

The current recession is a nightmare for people who have lost their jobs, homes, and savings; and it’s part of a continuing nightmare for the poor. That’s why we have to do all we can to get the economy back on track. But most other Americans are now discovering they can exist surprisingly well buying fewer of the things they never really needed to begin with.

What we most lack, or are in danger of losing, are the things we use in common – clean air, clean water, public parks, good schools, and public transportation, as well as social safety nets to catch those of us who fall. Common goods like these don’t necessarily use up scarce resources; often, they conserve and protect them.

Yet they have been declining for many years. Some have been broken up and sold as more expensive private goods, especially for the well-to do – bottled water, private schools, security guards, and health clubs, for example. Others, like clean air, have fallen prey to deregulation. Others have been wacked by budget axes; the current recession is forcing states and locales to axe even more. Still others, such as universal health care and pre-schools, never fully emerged to begin with.

Where does this logic lead? Given the implausibility of consumers being able to return to the same level of personal spending as before, along with the undesirability of our doing so even if we could, and the growing scarcity of common goods, there would seem only one sensible way to restore and maintain aggregate demand. That would be through government expenditure on the commons. Rather than a temporary stimulus, government would permanently fill the gap left by consumers who cannot and should not be expected to resume their old spending ways. This wouldn’t require permanent deficits as long as, once economic growth returns, revenues from a progressive income tax refill the coffers.

My friend the born-again Keynesian might not like where the logic of Keynesianism leads in today’s world, but the rest of us might take heart.

This is a tough situation. I don't want to just parrot Paul Krugman, but I find it hard to disagree with much of what he has to say in this book.

So, I will take a slightly different tack. Paul is absolutely right that we must spend big time right now. This is a situation in which, to refer back to Keynes, completely wasteful forms of spending would be better than no spending at all. We must generate demand, and in this respect paying people to dig holes and then fill them up again is better than doing nothing.

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I'm delighted Caroline Kennedy is seeking the soon-to-be-vacant junior senator seat in New York.

With Hillary Clinton's departure New York loses alot of juice in the Senate. Hillary came in to the Senate as a novice (like Caroline would) but had instant clout and credibility because of who she was -- and who she was connected to.

Same with Caroline who also, like Hillary, brings the aura of future President or Vice President. Who else in New York politics can match that?

As an Obama guy, I've never been impressed with the experience argument. I like brains, character, liberal politics and the ability to attract top staff. Yes, we've only heard of Caroline because of who her parents were. But the same applied to Hillary; she was Bill's wife and that made her First Lady and a credible candidate. Now she is going to be Secretary of State.

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Let me ask Paul two related questions:

Paul, you wrote the first version book a decade ago, back when you were worried that the East Asian financial crisis of 1997-8 was a dying canary in a coal mine, a reflection not of faults in the Asian model but rather a sign that the old business cycle malady that we thought was controlled by monetarist eurythromycin was gaining immunity. But the East Asian financial crisis of 1997-1998--although sharp--was quickly cured (i) once the International Monetary Fund realized that the crisis was not one to be cured by administering painful medicine to governments, (ii) once the U.S. Treasury was freed from the fetters that Alfonse D'Amato and Bob Dole had imposed on it, (iii) once the IMF and the U.S. Treasury understood that their role was that of a lender-of-last-resort, and (iv) once Bob Rubin had bailed the big New York banks into Korea. The old monetarist eurythromycin seemed to work pretty well.

So, first, why did you back in 1998 think that the business cycle malady had developed some immunity?

And, second, why now does it seem as though the business cycle malady has developed some immunity?

Hi everyone. So, a few words about my new book, The Return of Depression Economics and the Crisis of 2008.

This is a heavily revised new edition of The Return of Depression Economics, originally published 9 years ago. When I wrote the original version, I had Asia on my mind. Some people looked at the crisis that swept Southeast Asia and at Japan's monetary trap, and saw them as proof of the superiority of the American system. I looked at the same things and saw them as omens. I worried that similar things could happen to us. And now they have.

Right now the world economy is in a nosedive, and understanding what I call "depression economics" -- the weird world you get into when even a zero interest rate isn't low enough, and a messed-up financial system is dragging down the real economy -- is essential if we're going to avoid the worst.

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This week at Cafe, Paul Krugman is joining us to talk about his new book The Return Of Depression Economics And The Crisis of 2008-- a revised version of his 1999 book. The first version focused on Asia and Latin America-- this one turns its gaze on our current economic troubles and America.

Paul's first post will be up shortly, and he'll introduce the discussion. In the meantime, check out his Nobel Prize lecture, which he recently delivered in Stockholm on December 8th.

We've roped in a great group of economists to discuss with Paul all week: Dean Baker, co-director of the Center for Economic and Policy Research, and assistant professor of economics at Bucknell University; Brad DeLong, professor of economics at UC Berkeley, and former Deputy Assistant Secretary of Treasury in the Clinton Administration; Robert Reich, professor at UC Berkeley's Goldman School of Public Policy, and former U.S. Secretary of Labor from 1993 to 1997; Dana Chasin, Senior Policy Advisor at OMB Watch; Jo-Ann Mort, the founder and CEO of ChangeCommunications, Randall Wray, professor of economics and research director at the Center for Full Employment and Price Stability at the University of Missouri-Kansas City; Mark Thoma, associate professor of economics at the University of Oregon; and Susan Feiner, professor of economics and women's and gender Studies at the University of Southern Maine.

Says Eschaton: "The open internets was a bizarre historical accident, necessary to defend and unlikely to be repeated. People always object when I say this, but they're wrong."

But the open Internet as an experience and an ideal came from the decisions of the Federal Communications Commission, dating back to the 1980s and but most particularly in the salad days of Internet 1.0, aka dial-up circa 1990s, when we dinosaurs roamed the halls of the government and had our common carrier paradigm followed by the network-owning telephone companies. The Internet was open, cheap and widespread, because we said so. It was one speed because phone lines were all the same.

Then the FCC, with Congressional support, adopted unbundling and competition was the key to open: in a competitive world no one firm could successfully adopt closed as its business model. Those that tried, failed.

But the 00s brought a series of FCC decisions that repudiated common carrier as to data links, and encouraged consolidation, repealing unbundling, abandoning the goal of widespread high-speed connectivity, and changing open into an open door toward collaborative special deals between big content and big conduit. This is a history lesson for those too young or too concerned with other matters to have lived or learned these arcane facts.

This is something.

Steve Rosen, the top AIPAC honcho under indictment for espionage, is interviewed by the Jerusalem Post on US Mideast policy.

Frankly, I don't think the case against Rosen amounts to that much, although I'm not a lawyer. But he is under indictment for providing US secrets to Israel. He's not exactly a credible source on US policy toward that country.

Truly bizarre. But amusing. I guess an indicted for espionage guy is the best the Jewish right has got these days. And Rosen's new boss, the professional hatemonger, Daniel Pipes.

I love it.

Don't miss the New York Times expose on Chuck Schumer today. It will enrage folks who believe that all Democrats by definition are on the side of the angels. It raises some interesting questions. If you are a Senator from New York, it is your job to represent Wall Street and capitalist fat cats? Same question applies to Michigan Democrats. Is it their job to represent the auto industry and fight clean air mandates?

This is how these legislators see their jobs and the case can be made. The Times suggests that it's all too convenient.