Question for Krugman: Can the Rich Provide All the Demand?
I’ve long been troubled by a Paul Krugman comment from 2008:
There’s no obvious reason why consumer demand can’t be sustained by the spending of the upper class — $200 dinners and luxury hotels create jobs, the same way that fast food dinners and Motel 6s do.
And I find in his concluding comment from his recent AEA session that he remains completely uncertain on the issue:
…we do not know how rising inequality interacts. There are more poor people who are liquidity constrained but they have less spending power, so we are not sure how it goes.
I’m kind of astounded by this thinking, and even more by his apparent lack of curiosity about the issue. It strikes me as being absolutely central to any discussion of public policy. (Viz: all the talk about a strong middle class vs. trickle-down.)
I’ve poked at this question a couple of times:
In my model here and here looking at how (re)distribution of wealth affects demand, hence production, and
In discussions of imaginary ultra-high-productivity worlds in which a single person could own an atomic fabrication machine that produces everything that everyone needs (and hence receives all the income from that production).
Paul has clearly been shifting his thinking to encompass the possibility of a post-Luddite-Fallacy world. I wonder if his thinking has also developed on the related issues of inequality and distribution, and their effect on demand.
Cross-posted at Asymptosis.
Isn’t a significant part of the problem of distorted income distribution that those at the upper end of the scale don’t actually put enough back into circulation, instead purchasing existing assets. Higher taxes on those high end income recipients would put a large portion of what might be called sequestered income, back into circulation. I’m reasonably certain that I’ve read that purchasing existing assets hasn’t the same strength of effect on the economy as does general spending.
I’m not astounded, but I would think by know a person who is known as a thinker such as Krugman would have figured it out. But alas, he’s victum of the concept that has been driving economics for decades now. It’s that aspect of monetary theory that boils down to thinking you just have to mind the dollar’s efficency and all will be well. You know, mind the macro and the rest is automatic.
It’s Albert chasing his theory of everything. It’s the idea that believing in one god was an advancement over believing in multiple gods. It’s thinking if you just spray on the magic juice that oil slick is no more an issue.
On the comments on Nick Hanaur’s talk
I got involved in a discussion about the validity of the statement “Tax destroys jobs”. I couldn’t find any World bank data covering all countries, so I used OECD data, pasted into excel and graphed it, and discovered that OECD countries employment rates seem to correlate with the % of total tax rate/gdp. This is not accepted by my co-poster and I can’t find out why, he just keeps repeating the opposite but wont look at my data.
Am I into some elephant trap that is too obvious to be explained to me, or is my little dataset from 34 countries anomalous because they are all welfare states? Has anyone a broader source of data fore all countries? The World Bank doesn’t seem to routinely list tax as % of gdp across all countries.
“….they are all welfare states?”
There are no welfare states. There are countries the governments of which practice policies of protective social concern for their citizens.
Regardless of economic data, which generally proves nothing and is the poster child of all other sciences for bad research technique and lose measurement, taxes serve the purpose of paying for government activities. If Republicans want to genuinely reduce the budget deficit they would support the immediate end to military adventurism, pork barrel military spending and corporate welfare. It ain’t rocket science. It doesn’t require lots of data and graphs. It requires only honesty of intention.
In Eggertsson and Krugman’s 2011 paper, the model has 2 agents, distinguished by their different discount factors. The more patient agent lends to the less patient agent, so the more patient agent is richer in equilibrium. In the model, the dynamics are driven by the Euler equation of the rich agent, so getting in and out of a liquidity trap depends on the consumption preferences of the rich. So in their model, yes, rich people can provide all the necessary demand. But I think that is a just odd consequence that comes from the way the model is set up, and not a realistic feature of the economy.
@Jack: “those at the upper end of the scale don’t actually put enough back into circulation”
That’s the basis of the model that I link to — declining marginal propensity to spend from wealth. Go read through the assumptions and poke at the spreadsheet if you’re so inclined. Wandering around in models and data often helps me think about this stuff.
@Daniel: “boils down to thinking you just have to mind the dollar’s efficency and all will be well”
Do you mean by that, efficient allocation of resources?
@Alan: “OECD countries employment rates seem to correlate with the % of total tax rate/gdp.”
So you found that higher taxes/GDP correlates with higher unemployment? What kind of R2 did you come up with? Have you posted this anywhere?
@Carola: I’ll go back to that paper. I should know it better. Thanks.
No, efficient allocation is a societal decision, thus political. I know economics likes to think it’s the market’s domain.
The efficiency of the dollar is the finanicialization of our economy. Grease the buck, make it as free of friction as possible. You know, free markets and all that.
More simply, minding the efficiency of the dollar is the antithesis of minding the efficiency of people.
Thus, what we call economics, in minding the efficiency of the dollar is actually the science of markets. Minding the efficiency of people (which means reducing people’s risk of living) would be the true academic endeavor that would be entitled to be called “economics”. Markets would be an area of such academic territory.
Of course, in the quest for the unitary everything, the current rendition of the economic’s profession believes they have found theirs: the dollar.
Let me just add, that minding the effiency of the dollar thinking is why all we got initially from the Fed was the idea that the solution was QU I, II, etc, etc. Just pump the money in at the top thinking.
Of course, now they know that ain’t gonna work. But minding the effiency of the dollar doesn’t allow them to take the steps you and I know needs to be done.
The problem is that Krugman hasn’t done his basic accounting. If you are rich, you can’t spend everything you make or you won’t keep getting richer. If everyone spent what they earned, you’d have a stable system, but as soon as anyone starts saving, you need to pump lots of money into the system or more and more people have to make downward adjustments to their life styles.
Yeah, I’m with Jack on this one. With the added point that bidding up the price of existing assets leads to bubbles, as the actual returns (dividends for stocks, rental equivalent for RE) become less important in setting the price compared to estimates of future appreciation.
This problem of whether the rich can supply all the consumption the economy needs, gets lost in the confusion between money and the human effort it can command.
Viewed that way, the question becomes “Can the wealthy require enough human effort deployed directly or indirectly on their behalf, to keep the rest of the population gainfully employed?”
When you put it like that, the problems of such a system become immediately and painfully evident. “The wealthy,” being people, will deploy their credit for short-term advantage. They will pay the least they can for goods and services, and will avoid as best they can the social and other costs of the complex systems underlying a lot of these goods.
So, whether the wealth (command of human effort) of the wealthy is sufficient to get everyone working is a tautology. But whether they would use that command in that way — the answer appears to be, “Not likely.”
Nice way to put it Noni. I believe you just put real life mechanics/flow to the model Caroli mentioned.
But, if I may, the Krugman model and your question are the difference I have attempted to capture when talking about the efficiency of money vs people.
Money IS people, that’s the core point. What we have seen is the deflation of the value of human effort, and the concentration of the control, the “permissions,” that allow disallow the value of the remuneration for that effort, into a very few hands.
Thank you Noni!!!
In my mind money is just an intermediary for exchange of goods and services. So if one person needs a good or service and isn’t involved in an payment in kind, they need the intermediary to complete the transaction. In my mind. As long as “money” is intended to reenter the economy at some point in a reasonable amount of time, every thing should turn out OK.
I think the problem arises from two sources. One is collecting money just for the sake of owning it like it was a real good or service. The other, which may not be a different problem, is using “money”, including debt, without purchasing anything beneficial to the economy with it. (Making money on money or even bubbles or interest in excess to utility.) [ I must admit my second thought makes me ask all sorts of questions about what is utility or how to measure. Does utility demand an upside in excess to potential downside?]
Just non-economist musing here but I really don’t see how taking a job from one person to give to a cheaper person in order to hoard ??liquidity?? (or whatever) more than one person needs is ever a good thing. You can’t just keep saying it creates jobs when jobs just move around at equal or lesser wages. But I guess it makes sense to the economists here.
a little less theory here and a little more attending to real world needs and the problem would take care of itself.
my reading of real world needs at this time is “a lot of people don’t have jobs. there is plenty of work that needs to be done. the “economy” is not working as advertised. “government”… that is, communities making decisions to solve their problems… could fairly easily find a way to get the work done and pay the people to do it. if, of course, the people were not fooled into believing that taxes is theft.”
Not only do the wealthy have a lower propensity to spend marginal dollars, they have a much greater propensity to spend it out of the country. Differences in after-tax income measured in a mere four digits (a few thousand) also have a disproportionate impact on the discretionary income of the middle class — the 95% at minimum — that really fuels a humming economy.
What we are seeing, with the combination of rising unemployment and income inequality, is the inability of the wealthy to do this. They cannot, of themselves, provide enough demand to keep the economy at full employment.
To do so, they would have to spend as much as they earned, mostly on the productive economy, not just on real estate and such, which would just be the churning existing assets. And this production would necessarily involve the massive production of useless, or at least unused, artifacts. That is, this production would largely have to be economic waste. They already do the best they can, with their yachts and mansions, and yes, $200 dinners, but they are already failing, and it is only going to get worse, as income becomes increasingly concentrated and mal-distributed.
I suspect the “model” is broken.
As long as unlimited growth in GDP is the driver of the economy, you are going to have some problem making it happen when it is possible to replace workers with machines, or just lower wage workers here or abroad.
I think that frankly even the rich can’t think of enough to spend it on… except bribing congressmen. And the poor… up to a point… can’t either. Once they have “reasonable” work, vacation time, health care, retirement security… buying more high end running shoes and stuff to have garage sales with just isn’t that compelling. Of course the poor would like to be rich enough to buy a yacht, but even they can see that that is not going to happen, and if it did, there’d be no room at the yacht basin.
OH, you say, the poor don’t have reasonable work, health care, or retirement security… ? Funny that. Anyone working on that problem?