Friday, December 16, 2011

Krugman Doesn't Understand Inflation

Krugman is off saying silly things again:

"Look, the Austrian/Ron Paul types made some very strong predictions about inflation — and rightly, given their model of how the world works. In their version of reality, it really isn’t possible to triple the monetary base without dire effects on the price level. In my version of reality, of course, that’s not only possible but what the model predicts in a liquidity trap."

Apparently Krugman does not take several things into consideration in his model.

The first thing one should consider is that, in a recession, there is real deflation. That means that monetary inflation is of course going to be partially offset by that deflation. Krugman should know that. And, of course, he does. This is the entire basis of his argument. It may account for the small trickle of money that has actually entered the economy, but certainly not all of it.

Krugman forgets two other facts. The second thing one should consider is that the banks are not releasing the created money into the economy, but are sitting on it. They are waiting for better lending conditions before the lend the money they have. Bernanke is hoping he can get all that money back before that happens. I wouldn't hold my breath. Finally, third, there is the fact that money doesn't go into the economy equally, but rather enters it in one or two places. Like housing -- which is what happened last time, and helped create the housing bubble. Where is the money entering now? Look for one or two sectors where there is inflation -- that's likely to be your entry point. Inflation spreads from there.

So, considering all three things are in play, we shouldn't be surprised we don't see inflation yet. Yet. Of course, Austrian economics helps us understand the second and third points are in play -- points Krugman is apparently ignorant of. Which is why his analysis is way off.

Once the economy does get going -- if it is allowed to get going through all the continued distortions going on, all of which Krugman approves -- we will see that inflation the Austrians and Ron Paul have been predicting. I am sure Krugman will have some other explanation for it when it comes, though.
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