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‘Economics Is Not a Morality Play’: Paul Krugman on Managing Financial Crisis

June 6, 2013 at 12:00 AM EDT
Should we have let foundering financial firms fail in 2008? Economics correspondent Paul Solman sits down with economist Paul Krugman to discuss the provocative bestseller "The Great Deformation" by David Stockman and the government's role in mediating economic meltdowns.


JEFFREY BROWN: And now to the continuing debate over the government’s role in the economy and the decisions taken in the aftermath of the financial crisis.

Earlier this week, we aired a conversation with David Stockman, a businessman and former White House budget director whose book focused on the dangers of too much intervention.

Tonight, economics correspondent Paul Solman gets a different perspective, part of his ongoing reporting, “Making Sen$e of Financial News.”

PAUL SOLMAN: We recently interviewed former Reagan budget chief and private equity deal-maker David Stockman about his provocative bestseller “The Great Deformation,” in which he argues that America’s economic system is busted, corrupted by debt, crony capitalism, and government meddling, case in point, the bailouts during the crash of 2008.

DAVID STOCKMAN, Former Reagan Administration Budget Director: We basically made a mockery out of free markets and financial discipline and we will never come back.

PAUL SOLMAN: But, of course, Stockman’s verdict has its share of critics, including the prodigiously well-read Nobel Prize-winning economist Paul Krugman. A New York Times opinion piece by Stockman drew several written retorts from Times columnist Krugman.

In one, he called Stockman a cranky old man.

We asked Krugman to respond to Stockman at greater length, first to the idea that we should have let foundering financial firms simply fail in ’08. But that risked doomsday, Krugman said.

PAUL KRUGMAN, Columnist, The New York Times: Destroying the world is not something you want to do by mistake.

Unfortunately, what we have learn from 150-plus years of history is that financial crises, left unmanaged, unfought, can produce mass suffering. I mean, it’s been pretty bad, but it could have been much, much worse than it was.

PAUL SOLMAN: Is there, in David Stockman’s phrase, no economic basis for contagion, that is, the dominoes, where one institution goes and all the rest go?

PAUL KRUGMAN: You see contagion everywhere.

I mean, the great banking crisis of 1930-’31 began with the failure of a quite small bank in New York, that these — these domino effects are very, very real. They partly run through the fact that people see a bank run down the street. Then they — so they run the bank at this end of the street. They partly take place because, in a banking panic, everybody’s trying to sell the same assets, and all those assets collapse in price, so that companies that were not in financial trouble all of a sudden are in financial trouble.

PAUL SOLMAN: Stockman’s argument, for example, with respect to the auto industry is, yes, we saved 40,000 jobs, but those are 40,000 jobs that would have been added in the South by automakers who were already there, foreign automakers, many of them, Nissan, Hyundai.

PAUL KRUGMAN: It’s not clear that allowing GM to go under would actually have opened up space for its competitors.

It’s all very easy now, now that it turned out that we didn’t have a collapse in the auto industry, to say, oh, well, everything would have been fine if we did nothing, but that’s certainly not the way it looked at the time, and I think it wasn’t in fact true, that we did need to act, and it’s a good thing we did.

PAUL SOLMAN: But, surely, you’re sympathetic to Stockman’s charge that crony capitalism is a major problem in this country?

PAUL KRUGMAN: Yes, of course.

No question that there are a lot of companies, a lot of people who make their way not by having the best product or the best idea, but by having the right connections. The question is whether the solution to crony capitalism is to say, let’s have a depression that destroys everything, so that we don’t bail out those fat-cat bankers on Wall Street.

And I think that’s not the answer. The answer is to regulate the bankers, but at the same time save the workers.

PAUL SOLMAN: Stockman, like many others, blames the Federal Reserve for inflating the housing bubble that caused the crisis in the first place by keeping interest rates too low too long. He says low interest rates are again fueling a speculative frenzy on Wall Street, enabling traders to bet with cheap borrowed money. But Krugman doesn’t buy it.

PAUL KRUGMAN: We had very low interest rates in the 1950s. Did we have wild speculative bubbles? Did we have crazy stuff? Was all this happening? Did we have wildly overpaid bankers? The answer is, no, we didn’t.

The difference between now and then is not that the Fed has cut interest rates when the economy is depressed. It’s supposed to do that. That’s the Fed’s job. The problem is that we took away the safeguards that prevented financial abuse. And the truth is that financial abuse has been pretty widespread even when interest rates are not near zero.

PAUL SOLMAN: One of Stockman’s main points is that we have become addicted to debt, and he says, acknowledges that he himself knows, because, as a leveraged buyout guy, he too was addicted.

PAUL KRUGMAN: I don’t think it’s an addiction.

Financial sector has a lot of debt, but I think you need to be a little careful, because it’s — a lot of that is just complexity. You have multiple layers, and so the money gets lent several times. But we actually don’t have a problem with government debt, not yet, but, you know, people are worried about the rise. And, of course, you can throw around big numbers.

But the fact of the matter is that the U.S. is a $16 trillion dollar-a-year economy, and the numbers are not as overwhelming as they sound if you just give the raw number.

PAUL SOLMAN: But there’s got to be a point at which we simply are taking on too much debt, no?

PAUL KRUGMAN: It’s a long ways off.

To say that debt is a problem is not to say that renouncing all debt is the way you solve it. And government debt, yes, I mean, I think that’s — I will turn deficit and debt hawk once we’re out of this depression, but not now.

PAUL SOLMAN: I asked David Stockman, so what happens next? And he says, not Armageddon quite, but more than even cruising for a bruising right, I mean, that the stock market cannot sustain itself, that interest rates cannot stay this low.

PAUL KRUGMAN: The argument is supposed to be that the Fed is printing all this money to keep interest rates low. But then isn’t the price of printing too much money supposed to be inflation? And the Fed is actually worried right now that inflation is running too low. So where’s the inflation? Where is the limit? What’s unsustainable here?

PAUL SOLMAN: So what do you think happens next?

PAUL KRUGMAN: I think, eventually, the economy spontaneously recovers, unless we screw it up with more and more government austerity, and unless we have a really major crisis.

It’s a dangerous world always, but my sort of central forecast is of a slow, grudging, much-too-late recovery, but eventually a recovery.

PAUL SOLMAN: Now, Krugman does agree with Stockman about crony capitalism, but not much else.

So, at the end of the interview, I asked Krugman why he thinks Stockman’s overall indictment has made such a splash.

PAUL KRUGMAN: Everybody wants economics to be a morality play. Everybody wants it to be a tale of sin and excess, and then the punishment for sin.

And this notion that we had a bubble, we had runaway stuff, we had bankers run wild, therefore, the economy must suffer a sustained slump, and anything you do to mitigate that is somehow enabling the sin and we will pay for it, that’s …

PAUL SOLMAN: Even though there were sins?

PAUL KRUGMAN: Even though there were sins. But economics is not a morality play. There is nothing about the fact that bankers made bad loans in 2005 that says that ordinary workers should be out of work in the year 2013.

People love to write about the — or talk about the lurid details of everything that went crazy in the bubble years, and they don’t really much like to talk about the kind of prosaic, OK, but how do we get people back to work right now?

So, I think that’s — you know, the sermon aspect — people love to treat economics as a sermon, when it’s actually — it’s actually just a job. You know, here’s this economy. How do we fix it?

PAUL SOLMAN: Paul Krugman, thank you very much.

PAUL KRUGMAN: Well, thank you for having me on.

JEFFREY BROWN: And the debate continues online. You can find much more from both Paul Krugman and David Stockman on Paul’s Making Sen$e page.