Legal Commentary

Income Inequality And Wage Stagnation

By Big Tent Democrat

In his discussion at FDL, Paul Krugman wrote:

. . . I should say that I don’t buy the idea that inequality and stagnant wages, bad as they are, are responsible for the financial mess. You can have a fully employed economy producing disgusting luxury goods rather than middle-class necessities; it’s not nice, but it can work.

Perhaps that is true regarding the financial crisis, but is it true regarding our economic crisis? In the modern American economy, as Krugman himself notes, consumption is 70% of GDP. Even if the long term goal is to increase savings (also known by economists as "investment"), in the short term, can we have an sustainable economic recovery that does not cut income inequality and reverse wage stagnation? More . . .

It is basic Keynesian Depression economics that in a depression environment such as the one we currently face, the only way to stimulate aggregate demand is through government spending. In his column today, Krugman berates the German government for not accepting this Keynesian postulate:

So here’s the situation: the economy is facing its worst slump in decades. The usual response to an economic downturn, cutting interest rates, isn’t working. Large-scale government aid looks like the only way to end the economic nosedive. But there’s a problem: conservative politicians, clinging to an out-of-date ideology — and, perhaps, betting (wrongly) that their constituents are relatively well positioned to ride out the storm — are standing in the way of action.

I am . . . talking about Angela Merkel, the German chancellor, and her economic officials, who have become the biggest obstacles to a much-needed European rescue plan. . . . As in the United States, monetary policy — cutting interest rates in an effort to perk up the economy — is rapidly reaching its limit. That leaves, as the only way to avert the worst slump since the Great Depression, the aggressive use of fiscal policy: increasing spending or cutting taxes to boost demand. Right now everyone sees the need for a large, pan-European fiscal stimulus.

Everyone, that is, except the Germans. Mrs. Merkel has become Frau Nein: if there is to be a rescue of the European economy, she wants no part of it, telling a party meeting that “we’re not going to participate in this senseless race for billions.” Last week Peer Steinbrück, Mrs. Merkel’s finance minister, went even further. Not content with refusing to develop a serious stimulus plan for his own country, he denounced the plans of other European nations. He accused Britain, in particular, of engaging in “crass Keynesianism.”

This seems sound thinking to me, but it does not deal with the question of how to achieve a sustainable economic recovery. Later at the FDL discussion, Krugman wrote:

We do need eventually to have growing consumer demand, but once the savings rate has risen to something more historically normal, consumption can start growing again. . . . [There is a] “secular stagnation” view — the idea of a sustained shortfall in demand, going forward from here. I guess I’d say that history is not on [the] side [of that view] — a lot of people expected persistent demand problems after WWII, and it didn’t happen. That doesn’t mean it can’t happen, but it’s not a good bet.

I suggest that the wage and income inequality situation after WWII were significantly different that they are today and that we are at much greater risk of "secular stagnation" than Krugman credits here.

Here's my point, while, prior to 1937, FDR was engaged in the type of Keynesian government stimulation - there was also a concerted effort to stimulate job creation, fight against wage stagnation (the support of unionization was key here) and against income inequality.

In that sense, we are back to an old New Deal debate - the one between Harry Hopkins, who emphasized job creation, and Harold Ickes, Sr., who emphasized investment. That debate is not occurring now and I would like to see it. Indeed, I think it is an imperative debate.

From the assignment desk (h/t Ezra Klein) - more from Mr. Krugman on this issue please.

Speaking for me only

Full post as published by TalkLeft on December 15, 2008 (boomark / email).