Amity Shlaes vs. Paul Krugman

Amity Shlaes' excellent history of the Great Depression, The Forgotten Man, has already been featured in our Holiday Book Sale, and today she takes on Paul Krugman:

Paul Krugman of the New York Times has been on the attack lately in regard to the New Deal. His new book "The Return of Depression Economics," emphasizes the importance of New Deal-style spending. He has said the trouble with the New Deal was that it didn't spend enough. . . .
New Dealers raised taxes again and again to fund spending. The New Dealers also insisted on higher wages when businesses could ill afford them. Roosevelt, for example, signed into law first his National Recovery Administration, whose codes forced businesses to pay an above-market minimum wage, and then the Wagner Act, which gave union workers more power. . . .
High wages hurt corporate profits and therefore hiring. The unemployed stayed unemployed.

As I said Monday, many of Obama's supporters "will be disheartened to discover that there is no magic in Obama's economic plan, a patchwork of warmed-over Keynesian 'pump-priming' claptrap as stale as the memory of Hubert Humphrey."

It is evident that many liberals (even Nobel prize-winning liberals) simply can't shake their mental addiction to the Keynesian fallacy. Back in the '60s, liberals prescribed Keynesian "solutions" to an economy that was already running at full tilt, and the ultimate result was the "stagflation" of the '70s. Now, amid a deflationary financial freeze, their answer is yet more Keynesianism. When the only tool you've got is a hammer, every problem looks like a nail.

Don Boudreaux on the Keynesian demand-side obsession: "It's ultimately futile as a means of restoring vigor to a market economy." More comment from Bill Anderson and McQ.

If you don't get what's wrong with Keynes (and Krugman), let me try to explain what is really meant by "supply-side" economics. Keynesians have always focused on the demand side of the supply/demand market equation, trying to figure ways to boost consumer buying power. The genius of Art Laffer and the other so-called supply-siders was to realize that the secret of capitalism is . . . (wait for it) . . . capital.

You might have figured this out yourself, if you'd ever tried to start a business with change you found under the sofa cushions. Capital investment is the secret of creating new jobs, and the secret of promoting capital investment is a business environment that offers the opportunity for . . . (wait for it) . . . profit.

Once you understand that, political economy (which is what most people mean when they talk about "economics") becomes fairly simple. Governments worldwide make policies that have economic impacts on the business environment. The secret of success is to make policies that allow the kind of profit opportunities that will attract capital investment.

Keynesianism doesn't address this fundamental economic reality. The Keynesians suffer from a fixed-pie (static) conception of capital investment, and can never seem to grasp how their tax/spend/regulate approach serves as a disincentive to investment in a dynamic economic environment. They bitch, bitch, bitch about "outsourcing" and "offshore investments" without ever confronting how their policy schemes contribute to this exodus of capital.

UPDATE: Marion Maneker sneers at the "troglodyte right" (!) for their admiration of Shlaes' book, and then cites Megan McArdle's criticism of Shlaes: "There is an academic argument that the National Recovery Administration prolonged the Great Depression. . . . But the Great Depression is complicated, and it’s hard to make the case that government intervention was the main problem with the economy." A criticism that, even if accurate, does not vindicate Krugman!

It is not necessary to believe that "government intervention was the main problem with the economy" in the 1930s to believe that the interventions were, both specifically and generally, an impediment to recovery. There were fundamental economic problems (including the moribund condition of Europe) that, in the 1920s, led to the Crash -- a classic financial "panic" of the sort that the American economy had experienced before.

In the past, these panics had been sudden and severe, followed by a year or two of sharp recession, and then a gradual recovery. The fact that the normal historic boom-bust-recovery cycle didn't happen after 1929 -- that instead the crisis extended for a full decade and did not end until World War II -- is the salient fact to be explained. And this Shlaes has sought to do. (See also Jim Powell's FDR's Folly and Burt Folsom's New Deal or Raw Deal.)

Obviously, the Smoot-Hawley Tariff was a big contributing factor to to the Depression (protectionism doesn't work), but since that was a Republican policy, liberals don't waste their time defending the tariff. Where they get flinchy is when Saint Franklin comes under attack, because Roosevelt's approach -- programmatic interventionism -- is still the basic liberal economic policy 75 years later. To say that the New Deal didn't work, that it in fact made the Depression worse, is to undermine the entire economic rationale of the Democratic Party. And thus Krugman's partisan hostility to Shlaes.

Say what you will about Bill Clinton, at least in his embrace of global free trade, Clinton tried to break free of partisan dogma (Democrats having adopted protectionism about 40 years after Republicans abandoned it). As is becoming increasingly clear in the current crisis, most liberals are still clinging desperately to Keynesian nonsense like a frightened child clings to a security blanket. They would rather preserve their dogma than do things that might actually foster economic recovery. And I'm a troglodyte?

UPDATE: Krugman fires back. Nothing like a full-on pissing match between the Wall Street Journal and the New York Times. Life is good. And Alabama's leading Auburn 10-0 at the half.

UPDATE II: Linked by Fausta. Thanks.