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.

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