The Paul Krugman Problem and Why it Matters

September 28, 2016


[ Ian Fletcher| September 27, 2016 | Huffington Post]

Here’s a question: guess which public figure wrote the following passages? The language in the second one is a bit technical, but shouldn’t be impossible to understand:

“There is still a case for free trade as a good policy, and as a useful target in the practical world of politics, but it can never again be asserted as the policy that economic theory tells us is always right.
“The strategic trade policy argument thus shows that at least under some circumstances a government, by supporting its firms in international competition, can raise national welfare at another country’s expense.

The answer, surprisingly, is economist Paul Krugman, in the Journal of Economic Perspectives. (“National welfare” above means economic well-being, not “welfare” in the sense of poverty programs.)

If you follow economics, Krugman is one of the key people, over the last 50 years, who discovered why free trade, contrary to what we are usually told, isn’t necessarily best. A major theory demonstrating this is what he won the Nobel Prize for in 2008. There’s a nice summary of the whole story of so-called New Trade Theory, which his work was a part of, in an old Fortune magazine article here.

Unfortunately, and this is the Paul Krugman Problem in the title, he’s rather pulled his punches in acting on his own insights. He should by rights have been one of America’s – indeed the world’s – great critics of free trade. Instead he’s done just enough to evade the charge of having done nothing at all, but no more.

It’s a kind of soft cover-up.

For example, he’s mumbled a bit of opposition to the Trans-Pacific Partnership, but that’s about it. His column in the New York Timesburns with evident passion against quite a number of things, but free trade isn’t one of them. He even went out of his way to pooh-pooh concerns about harm the TPP would do, here.

The criticisms of the TPP he has made are softball stuff, anyway, from an economic point of view. Nowhere, so far as I can find, has he questioned free trade itself as a policy. It’s all complaints about patent law (read “Disney’s drug prices”) and giving foreign corporations the ability to overturn U.S. laws.

This has been going on rather a long time, and I’m not the only person to have noticed. When I started writing my own book criticizing free trade in 2008, I attended a large meeting in Washington convened by the Coalition for a Prosperous America, a trade-reform organization I eventually went to work for. Somebody mentioned Krugman’s name, and immediately someone else piped up and described him as “notoriously unhelpful on this stuff. He’s just as likely to attack you if you criticize free trade as say anything helpful.”

This goes back to the 1990s. Krugman wrote two books, PopInternationalism and Peddling Prosperity, which contain some fairly reasonable criticisms of a lot of uninformed economic nostrums that were being peddled by pundits and politicians in the Clinton era. But they also contain some uncalled-for swipes at criticisms of free trade.

Granted, some criticisms of free trade are indeed invalid. That’s why there’s a whole chapter entitled “Criticisms of Free Trade to Avoid” in my own book. If one is going to attack free trade, one should avoid saying stupid things that easily get rebutted by its proponents, creating the false impression in the audience that all criticisms of it are unfounded.

But equally, it tilts the argument the wrong way to just criticize bad criticisms without explaining the good ones, if you know about the latter. And Krugman, of all people, does.

Then there’s his notorious 1994 article in Foreign Affairs, the very bible of the foreign-policy establishment, entitled “Competitiveness, A Dangerous Obsession.” In it, he basically says that countries don’t compete like companies, international competitiveness doesn’t determine prosperity, and it’s impossible to precisely define competitiveness anyway. So we shouldn’t worry about America being economically competitive.

This is a trio of narrowly true but broadly false assertions followed by a non-sequitur. Nations do compete economically, even if not in the same way that companies do, and even if their prosperity isn’t wholly determined by international competition (it isn’t), it’s still significantly affected by it. Furthermore, competitiveness having complicated and rival definitions doesn’t mean the thing those definitions are trying to grasp doesn’t exist. So yes, America should be concerned with whether it’s internationally competitive.

As I said, unhelpful.

Neither has Krugman engaged much with the seminal work of Ralph Gomory and William Baumol, whose book Global Trade and Conflicting National Interests is the single biggest advance in criticism of free trade since his own work.

These two are not minor figures, Marxist grad students scribbling away in a coffee shop in Berkeley. They are about as respectable as economists can get: Baumol is the former President of the American Economics Association, and Ralph Gomory, a Princeton PhD whose mathematical work alone would secure his reputation, was Vice-President for Science and Technology of IBM back when it was the world’s leading computer company.

Krugman’s own work demonstrated that in a world of scale economies, i.e. one of large modern industries as they actually are, not an imagined world of small proprietors in perfectly free competition, trade can exhibit what are called “multiple equilibria.” What this means is that the free market won’t just serve up one outcome that may be reliably assumed to be best. It can serve up different outcomes, depending on how things play out. And some of these outcomes are better for any given nation, some are worse, and protectionism can hypothetically help obtain the former. As Krugman put it, to repeat,

“The strategic trade policy argument thus shows that at least under some circumstances a government, by supporting its firms in international competition, can raise national welfare at another country’s expense.

So nations are indeed, as common sense seems to say but free-trade economics denies, winners and losers in trade, and governments can potentially “play to win” if they know what they’re doing.

I don’t mean to sound – win! win! win! – like Donald Trump here, but international economic rivalry is a fact of life. Whether governmentsshould play to win is, of course, a complicated question drawing in a lot of other considerations, some purely political. But the idea that economics just “proves” that free trade is always best, is not tenable. (Yes, there are other reasons, too, why it’s not, but let’s stay on topic.)

Now Gomory and Baumol’s work takes the possibility of multiple equilibria that Krugman demonstrated and models not just a single equilibrium at a time, but the entire set of possibilities at once. It thus reveals the “spectrum” of winning and losing outcomes that entire national economies can attain. (If you’ve ever looked at their work, each dot on one of their graphs encapsulates an entire case of the Krugman’s theory.)

Krugman’s response to their work has basically been a shrug, the assertion that economists have long known about these multiple equilibria and that they don’t ultimately amount to much.

Now it is true that economists have long known about multiple equilibria. But there’s a big difference between knowing about a phenomenon, and actually drawing the right conclusions from this knowledge and assigning it proper importance. To acknowledge a fact and then quietly drop it is an evasion.

Now one can certainly argue that quantitatively, the phenomena in question aren’t that big – though I and others would dispute this – but the logical implication of that would be that Krugman won the Nobel Prize for something of little importance. If that’s so, maybe he should give the prize back and let them reassign it to an economist who discovered something that actually matters.

The other argument that Krugman, and others of his opinion like his teacher Jagdish Bhagwati (whom I argued this with in a bookstore in New York in 2006) make is that even if multiple equilibria exist and have big dollar amounts attached, governments can’t reliably shift these equilibria in a nation’s favor.

Granted, a certain skepticism about the efficacy of government is always appropriate, but there are problems with this argument, too:

  1. Mindless skepticism about the efficacy of government intervention can easily go too far in the opposite direction, as we learned in the financial crisis and other recent crises.
  2. Plenty of governments, most famously in East Asia, certainly seem to be succeeding at strategic trade, though naturally they do a lot of other things too and it would be an error to imagine this is the sole reason for their economic success.
  3. Even if governments can’t engage in “aggressive” strategic trade, the U.S. desperately needs to engage in “defensive” strategic trade, i.e. preventing our economy from being victimized by the strategic trade policies of other nations.
  4. Successful governance of trade strategy is not a black-and-white “it works or it doesn’t” thing. Like the governance of everything from Social Security to the National Science Foundation, there are techniques for insulating decisions from political meddling and making government work well enough.

Krugman doesn’t seem interested in any of the above facts, though one would think, given his center-left technocratic political views, that none of this would be that repellent to him. So I respectfully submit that it’s fair to say Prof. Krugman has been pulling his punches for years on this issue.

The natural question to ask next is why?

He’s always been nice to me personally (he conceded in his blog that I was right about the euro having the effect of a currency manipulation scheme for Germany), despite being a much more important fellow than I am, so I’m not going to engage in name-calling. And I don’t actually know him, so I’m not going to impugn his character. (I’ve only met him face-to-face once.)

Some people I’ve mentioned all this to have suggested he wants an administration post, and recent Democratic administrations (Clinton, Obama) have been free traders. A high government position is, indeed, the only prize economists can win that he hasn’t won yet. Others have offered quasi-conspiratorial theories as to his motives. I can only give my standard answers here: if there is a conspiracy, I’m not in on it, so I don’t know. And I have no idea what job he wants.

The one answer that does make sense is that he does seem, if one reads his column and blog, to have a philosophical commitment to cosmopolitanism as an ideal in its own right. So, it would follow, he dislikes elevating strategic trade from a theoretical curiosity to a potential basis for real policy because it implies that economic nationalism is rational. And nationalism, in his eyes, is bad.

In other words, don’t say anything or you’ll just encourage people to think that Donald Trump makes at least some sense. And yes, as I’vewritten, I think that economic nationalism, whatever else you may think of him and I’m not endorsing the guy, is the essence of what Trump is up to. Obviously, Krugman’s position predates Trump’s emergence, but he doesn’t seem to like any kind of economic nationalism, hairpiece or no.

Prof. Krugman is welcome to set the record straight here if I’ve misunderstood him, but this is definitely the impression one gets reading his words.

His personal political philosophy is, of course, his own business. He’s entitled to assign any value to cosmopolitanism, whose worth has been debated since Plato’s time, that he likes. But there are two problems:

  1. A personal philosophical commitment doesn’t change what the logic of the economics says. The whole point of economics being a discipline, not just a body of opinion, is that it entails conclusions independent of what any particular economist may like or dislike ideologically. There are plenty of conclusions in economics I don’t particularly enjoy ideologically.
  2. Individuals may be cosmopolitan, but national governments that are elected to serve the people who elected them have an obligation to do so. If they can run for office and get elected on a platform of serving the interests of the world, not U.S., economy, then and only then will this be appropriate. The source of political legitimacy matters when considering actions of state.

Why does the Paul Krugman Problem matter? Because he’s not just a prominent thinker, he’s an example case of an entire class of people who know, on technical substance, that free trade (or “free” trade) is harming the U.S. right now, but refuse to speak up about it because of their attachment to globalism (the contemporary version of cosmopolitanism).

Economist Dani Rodrik at Harvard would be another obvious example. He’s been aware of the problems with free trade at least since publishing Has Globalization Gone Too Far in 1997, but always seems to flinch when pressed to endorse hard policy against it. And there are others.

This certainly isn’t a left vs. right thing. Ralph NaderWilliam Greider,Paul Samuelson, and Michael Lind, to name examples, are left-of-center commentators who seem to understand that you can’t help American workers while ignoring the fact that they’re Americanworkers.

If philosophically globalist economists don’t start admitting in public what they know in private, they risk discrediting economics as a discipline in the eyes of a public that is sickening of globalism and already suspicious of experts. This would result in turning policy over to interest-group pressures and populist nostrums that would be even worse. The last thing we need is the economic equivalent of the anti-vaccine movement. So it’s time to stop airbrushing known problems with free trade out of the picture. Starting with Prof. Krugman.

Showing 14 reactions

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  • William Ryan,

    Thanks for the kind words. I do recall that we often had similar views on the issues. I miss the days when this website had more robust conversations. There is a website that you might enjoy visiting if you haven’t. It’s www.idealtaxes.com It is run by three generations of economists — very sharp guys by the name of Richman. They have done a lot of work on the issue of balanced trade, and have a couple of books dedicated to that issue. They are occasionally published on AmericanThinker, where their articles get a lot of feedback. Best Regards, Bruce Bishop
  • Hi Bruce I just wanted you to know that I began reading your posts with great interest a few years ago because they are usually spot on and you have a knack for putting often very complex issues into very easy and commons sense terms. Therefore again I want to give you big thanks and say that I agree with you views most often… Best Regards, Bill Ryan.
  • Jim Crawford,

    I don’t blame China for taking our jobs, our technology and our intellectual property. We made them freely available, in the name of "free trade — with a little help from Bill Clinton, whose presidential campaign was partly funded by China. I don’t blame the sharks for eating people who are dumb enough to swim in shark infested waters.

    Most prosperous countries have manufacturing that is supported by the government. Our government has been adversarial to manufacturing for decades. Check out “Sand in the Gears,” by Andrew O. Smith, which explains the various ways in which our government has increased the costs without increasing the benefits to manufacturing, through ever-escalating taxes and regulations. (I have a whole theory as to why our “progressive government” is hostile to manufacturing.)

    China is practicing mercantilism — not free trade. In the beginning, the United States practiced mercantilism — to great success. Alexander Hamilton convinced George Washington that, if we were to become an independent nation, we must protect our industries from foreign competition by tariffs. Those tariffs not only allowed our industries to grow, but they provided enough revenue that we didn’t need an income tax until 1913. It was mercantilism, not free trade, that made us the richest, most powerful nation on earth.

    Over the decades, those tariffs were politicked away, and our manufacturing was left vulnerable to cheap (slave) labor in third world countries, with no concern for human rights, worker safety or the environment.

    This thread will probably vanish within the next 24 hours. I have enjoyed this conversation. Hopefully, we will be able to reconnect on some future thread.

    All the best.

    Bruce B.
  • Bruce,

    Thanks, I enjoyed Mr. Read’s essay, a good statement of conservative principles.

    From an historical perspective I would say that the question is not whether or not central planning “works”, but rather that it does not work as well as free markets do to generate economic & political progress. Feudalism, for example, is clearly a form of socialism that features central planning and the Romans made a pretty good go of it, as did most of Europe in the Middle Ages.

    In fact, the fact the truths we hold to be self-evident in the Declaration are pretty much the exact opposite of the truths underlying feudal thought. In this regard there is a very fine piece of scholarship written by Lovejoy titled “The Great Chain of Being”.

    The question of the day is what will work better than our existing trade policies? And I would be happy to include placing new restrictions on the mobility of capital into the pot.

    I do not believe, however, that doing so will fix all of our problems. But it does put the policy focus where I believe it belongs, which is on putting our own house in order rather than blaming our plight on evil foreign mercantilists. Indeed, unless you are willing to defend the proposition that some form of Free Trade exists that would work perfectly, then it is irrational for governments not to actively manage trade in the interest of avoiding / remedying breakdowns in the system, as, for example, the European Union now finds itself doing so with Greece, amongst whose problems is a huge trade deficit, which is how all of their carelessly managed money got vacuumed out of the country.


  • To James Crawford — I just spent ten minutes typing some thoughts in answer to your post. The gist of it was that central planning, and hence socialism cannot work. I suggested that you read Leonard Read’s 1958 essay, entitled, “I,Pencil.” This will explain, better than I could, why central planning on a global scale could not possibly work. I hope this is helpful.

    Best regards.

  • Mr. Bishop,

    I am also very glad that trade policy has become an important issue this year. And I was disappointed that Bernie Sander’s’ was not the nominee of the Democrats because of his equally staunch opposition to existing trade policy.

    So I am interested in finding ways to bridge the differences between Sanders and Trump supporters such as yourself.

    On the issue of comparative advantage, for example, Ian Fletcher developed a fairly exhaustive critique of the concept that went well beyond the mobility of capital to support his thesis that “Free Trade” does not work.

    So, is it your view that Ian is either a “dimwit” or a so called “expert”?

    Similarly, do you believe that all nations can and should engage in Free Trade as you define it? In other words, would doing so be possible? – and would it result in balanced flows of international trade?


  • What the experts, and the dimwits, keep referring to as “free trade,” is NOT free trade. Paul Craig Roberts, the “Father of Reaganomics,” in his book “How The Economy Was Lost,” says, on page 155, “I want to say this as clearly as it can be said. The offshoring of American jobs is the ANTITHESIS (my emphasis) of free trade. Free trade is based on comparative advantage. Jobs offshoring is an activity in pursuit of lowest factor cost — an activity that David Ricardo, the originator of the free trade theory, described as the betrayal of one’s own country in pursuit of ‘absolute advantage.’”

    While we are practicing “free trade” by opening our market to China, China is practicing mercantilism, which is the opposite of free trade. Ask yourself why a Jeep Grand Cherokee, which sells for $27,500 in the U.S. costs $85,000 in China due to the layers of tariffs applied by the Chinese to imports from the U.S.

    The experts, and the dimwits say, if we were to apply a tariff to goods from China, we would start a trade war. We are IN a trade war, and we are losing. Trump is the first presidential candidate to bring this up, and for that, he will get my support.
  • Yes, Marsha I agree. People who believe Free Trade is morally good implicitly assume that if everyone just plays by the rules things will work out wonderfully. This faith in the rules is a form of Platonic idealism that is so deeply imbedded culturally that it is hard to make people conscious of it. History shows pretty clearly that patterns of trade destabilize and breakdown.

    Given this reality the cheaters are actually being more reasonable and morally responsible than the Free Traders who watch in disbelief as we go over the cliff and insist it is all the other guys fault for cheating.
  • I say more power to the “Trade Cheaters” who do not play by the “Rules” and recognize that the rules insofar as they mandate international unimpeded flow of goods, capital and people can prove to be a menace to everyone. There is such a thing as common sense when it comes to architectural systemic risk.
    If it looks like a bad idea to place six nuclear reactor units 80 miles from a major subduction earthquake fault at sea, it probably is very very bad idea, though the risk can never be mathematically quantified until it is too late.
  • When we have the big 6 banks and the big 6 corporations that are controlling 90% of the wealth in America we have a problem. Predatory capitalism or globalism recognizes no borders or sovereignty as we need to reward and protect the democratic countries of the world with more fair and balanced trade. Communist countries should not be given trade privilege or priority over democratic countries. We also need to bring modern and advanced economics, economist and economic modeling out of the closet to be able to provide the best approaches and solutions to more fair and better shared wealth and prosperity in the world.
  • Ian,
    Thank you for this excellent and thought provoking essay. I agree with you that it is time for the U.S. to move beyond the “Free but Fair” trade paradigm to an overtly defensive posture aimed at countering the strategic trade policies of other nations. And I agree that the dogged and dogmatic efforts of mainstream American economists to promote Free Trade has created a dangerous domestic political problem.

    I would, however, also like to provide some criticism.

    I believe you set the bar too high when you expect economists to produce facts rather than perspectives. The oddity of your work versus Krugman is that you believe in mathematics more reverently than he does.

    Economics at its best is a social science that makes room at the table for all of the other social sciences. Keynes “General Theory”, for example, injects social psychology and a specific critique of Protestant aesthetic’s into the heart of his arguments.

    Conversely, what is your take on Steve Keen’s book “Debunking Economics”?

    My belief is that a positive form of economic nationalism needs to be cultivated in the United States in order to provide the stable political support required for changing our trade laws.

    People like Trump that foster domestic hatred and DiMicco, who fosters international hatred of “Trade Cheaters” are ultimately more dangerous to our country’s interests than continuing to engage in free trade is.

    The truth is that there is no way to manage international trade that is risk free or will work as a matter of science. Despite our best efforts trade imbalances and breakdowns will never be eliminated completely. Consequently specific political action, preferably by elected legislators, will be an ongoing necessity.

    Thanks again, would certainly be delighted to discuss trade policy with you anytime.


  • Giving foreign corporations the ability to overturn U.S. law is not softball stuff but very serious stuff. Is is true however that ISDS has nothing whatsoever to do with trade, free or otherwise, and therefor does not belong in a “trade” agreement.
  • “Now it is true that economists have long known about multiple equilibria.” Economists never thought about dynamic non-equilibrium, i.e. 2008, crashing and burning, having a whole lot to do with free trade induced imbalances in the global system. Also could the Euro common currency have acted as a tightly coupled contagion factor in the European meltdown?
    Economic nationalism could be thought of in a non-idealogical way as simply a defacto safety firewall feature against the worst case scenario.