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Tuesday, May 30, 2006

Krugman the Crusader, Persuader, and Trade Theory Maker

More on Paul Krugman. This is good:

People in Economics , Economist as Crusader, Arvind Subramanian interviews economist Paul Krugman, IMF, Finance and Development:  Economics made Paul Krugman famous. Punditry has made him a celebrity, famous for being famous. But Krugman aspires to be long remembered, and, in this respect, John Maynard Keynes is the gold standard. Keynes left his mark in three distinct ways: through the power of ideas, through the art of public persuasion, and through the shaping of historic changes. This last is denied to all but those who find themselves at the right place at an epochal time. But on the first two scores, at least, Krugman may well become the first person outside the field of literature to win both the Nobel and Pulitzer Prizes, the acme of achievement in academics and journalism.

The dismal science has produced many versatile economists. Other giants of the 20th century, such as John Hicks, Ken Arrow, and Paul Samuelson, sparkled in several fields. Within international economics, though, specialization has tended to be the rule. ... But Krugman ... is a rare economist whose accomplishments at the highest level span ... subfields. He opened up the study of trade under increasing returns and imperfect competition and later resuscitated the study of economic geography. And his work on currency crises and exchange rates has been highly influential. In 1991, he was awarded the John Bates Clark medal... The cognoscenti know that this honor, which is awarded once every two years to an economist under 40, is a little more difficult to win than the annually awarded Nobel Prize.

Then there is Krugman the communicator. From writing "Greek letter" academic papers, he moved on to conveying economic ideas to the wider world (see Box 1). His Age of Diminished Expectations and Peddling Prosperity ... ended up being not just an analysis of the U.S. economy in the postwar period but also a cracklingly lucid primer on international economics. Peddling Prosperity was an incisive and opinionated account of the history of economic ideas...

Box 1
Sharp words

Jagdish Bhagwati tells the story of Krugman's first summer job as his research assistant at MIT. "I was in the middle of a paper on international migration. I gave Paul an outline of my thoughts—when he came back, he already had a finished paper, and I could not change even a comma! So I gave him the lead authorship." Princeton's Avinash Dixit has said that if Krugman were not so valuable to academics, "we should appoint him to a permanent position as the translator of economic journals into English."

Indeed, Krugman is perhaps without peer among economists in the clarity and sharpness of his prose. Commenting on the changing rationale for the tax cuts of the Bush administration, he called them "an obsession in search of a justification." His recipe for the Japanese deflation of the early 2000s was aggressive monetary expansion, and he called upon the ultraorthodox Bank of Japan to "credibly commit itself to being irresponsible."

Keynes's famous remark "In the long run we are all dead" is more widely quoted than understood. Here is how Krugman explains it: "What he meant was recessions may eventually cure themselves. But that's no more a reason to ignore policies that can end them quickly than the fact of eventual mortality is a reason to give up on living."

He raised questions about the plausibility of real business cycle theory by asking, "If recessions are a rational response to temporary shocks in productivity, was the Great Depression really just an extended, voluntary holiday?"

Krugman as public persuader was so successful that the New York Times offered him an op-ed column, the most prestigious piece of real estate in mainstream U.S. journalism. ... One of his former teachers, Jagdish Bhagwati, tells F&D, "We were all pleasantly surprised that Krugman has been able to play the Mike Moore of the economics profession." Another teacher, Nobel Laureate Robert Solow, calls his former student "an all-purpose pest to the Bush administration." To many on the right, Krugman has seemed a shrill partisan who makes repetitious whining his stock-in-trade. But to others, he is now a cult figure: a brilliant and prescient analyst and, more important, a man of courage who stepped up to the plate in the aftermath of 9/11, when his fellow journalists became derelict in their duty to question, probe, and dissent.

Powerful ideas

Born in 1953, Krugman grew up in the New York suburbs, earning an undergraduate degree from Yale and a Ph.D. from the Massachusetts Institute of Technology (MIT). Although initially drawn to history, he soon embraced economics because, as he has put it, while history could answer the how and when, economics could answer the why.

A 1978 conversation with his teacher Rudi Dornbusch sparked a decision to work on increasing returns—the notion that a firm's unit costs decrease as its scale of production increases—marking a defining moment in his career. At Boston's Logan Airport a few months later, the eureka moment came when he cracked the mathematical problem of incorporating increasing returns and imperfect competition into trade models. In the summer of 1979, he presented his results at the Summer Institute of the U.S. National Bureau of Economic Research. "It was the happiest 90 minutes of my life," he tells F&D. He knew he had wowed his demanding peers.

Krugman believes that this breakthrough is his biggest achievement. ... Krugman was one of the first economists to incorporate increasing returns and imperfect competition explicitly in trade models (he notes that these ideas were developed simultaneously but independently by two other researchers, Victor Norman and Kelvin Lancaster). This move represented a radical departure. Indeed, it was so radical that one of his early papers was rejected by the top journals, but Bhagwati ... published it in the Journal of International Economics despite the verdict of two very negative referees.

Krugman's increasing returns papers were powerful partly because they explained a simple but uncomfortable fact about international trade: in the postwar period, a large and increasing share of trade occurred not between rich and poor countries but among the rich, and involved countries importing and exporting similar goods like cars, machines, and cereals, the so-called phenomenon of two-way trade. Such trade between countries with similar endowments is difficult to reconcile with traditional trade theory. But increasing returns showed that countries could specialize in different varieties of goods, leading countries to simultaneously export and import different varieties of similar goods.

From the confines of positive economics ("what is"), the theory of increasing returns was developed and extended into normative ("what ought to be") terrain by Krugman (along with Helpman, Barbara Spencer, James Brander, and others) as the strategic trade theory. This extension led to controversial policy conclusions that appeared to support government intervention, contributing to perceptions of a certain schizophrenia in Krugman's position on free trade (see Box 2).

Box 2
A free trader or a protectionist?

It is hard to argue with the perception that Krugman is conflicted on trade policy. His work on strategic trade theory suggested novel and controversial policy conclusions against free trade, which, he now concedes, he was tempted early on to exploit in an effort to showcase the theory. In his 1987 article "Is Free Trade Passé?" he pronounced that free trade had "irretrievably lost its innocence" and that "it can never be asserted as the policy that economic theory tells us is always right."

But the very individuals of whom he was so dismissive—Robert Reich, Lester Thurow, and Robert Kuttner—aggressively peddled the interventionist policies legitimized by his work, especially vis-à-vis Japan in the late 1980s, in ways that he thought misguided. Any satisfaction in seeing his work informing the policy debate was replaced by outrage at the appropriation of his ideas by these "policy entrepreneurs" (whom he has described as "intellectually dishonest self-proclaimed experts who tell politicians what they want to hear"). Krugman promptly changed tack and summoned all the (very good) arguments against his earlier views. The result was Pop Internationalism, Krugman's tribute to free trade, arising as much from his desire to bury the policy entrepreneurs as to praise David Ricardo's great idea. But these days, even while disavowing overtly protectionist positions, Krugman's columns can sometimes have a protectionist tenor that disconcerts his purist colleagues.

On the macroeconomic front, Krugman developed the "first generation model" that locates the causes of currency crises in unsustainable government policies. ... he showed how and when a pegged exchange regime would be subject to a fatal speculative attack by investors. When the paper was first written, MIT's Dornbusch did not fully understand it—nor, apparently, did others because it found a home only in a lesser journal. Krugman faults the paper's craftsmanship... Still, it has come to be hailed as a groundbreaking study...

Krugman's exploration of currency target zones in the late 1980s was considered clever and published in the prestigious Quarterly Journal of Economics. ... Krugman's pioneering work on trade and geography, which showed a lot of early promise and continues to spawn an industry of academic papers (it is his most frequently cited work), has ... some interesting implications, namely, that spatial patterns of development can be arbitrary and that historical accidents can have long-lasting effects...

It is one of the ironies of Krugman the economist that for someone who said, "The point . . . is to wear one's technique lightly," his biggest contribution may well be that he provided the technique or language for discussing economic ideas and problems rigorously and sensibly. The contribution was immense because it allowed powerful ideas such as increasing returns and external economies, which had been around for some time, to be mainstreamed. It allowed models to replace metaphors as the basis for analysis. Without models, "guesswork is all that we have to go on, and those who discipline their guesses with models are more reliable than those who fly by the seat of their pants, no matter how well tailored." Krugman's style of building mathematical models is famously spartan...

Economist as pundit

Krugman's academic output, unlike that of some others, did not head dramatically south after the John Bates Clark award. But the frenetic pace did slow down because, as he explains honestly, "You begin to wonder about the value of yet another paper even if it finds its way into a good journal. You also begin to doubt your ability to be creative..." And with his reputation as a communicator starting to soar, academia perhaps took a natural backseat.

Over the past five years, Krugman the columnist has overshadowed Krugman the economist. Has it been worth it? Krugman accepted the New York Times offer late in 1999 ... his initial columns were focused largely on such standard economics fare as the new economy, globalization, and fiscal deficits.

But after 9/11, and especially after the war began in Iraq, Krugman judged that his comparative advantage had shifted from being an economist to being a political commentator. He was willing to see things differently because he was not an insider infected by groupthink or the "contagion of mutual imitation"... The typical insider ... needs "sources" to get information, becomes compromised, and hence is less prone to ruffling feathers. Krugman, by contrast, had the comparative advantage of distance from Washington, D.C., and a full-time job that gave him the independence to be "unrestrained by deference,"... He could also do the "budget arithmetic" on his own. So, to him, the normal journalistic ethic of balance and moderation, which he disparagingly dubs "he-said-she-said journalism," was less a virtue than an intellectual shortcoming...

Krugman counts a number of successes ... as a journalist: revealing market manipulation by insiders as the real cause of the California energy crisis...; challenging Alan Greenspan's iconic status when he appeared to bless the Bush administration's tax cuts ("Et tu, Alan?" was the title of one of his columns); and exposing weaknesses in the economic policies and arguments of what he calls the Bush administration's "fuzzy math." The broader success, in his estimation, is a sense of vindication because his opinions, considered beyond the pale in the years following 2001, have now become mainstream. But Krugman thinks he might have paid too high a personal cost in enduring the personal and professional attacks on his credibility for his political writings...

The reaction of some fellow economists to Krugman the columnist is often, "Ah, when Krugman used to be Krugman," combining a wistfulness for his brilliance with doubts about his current polemics. Solow calls Krugman's decision to become a full-time columnist a "big sacrifice" because he believes his former student has "so much good economics still left in him."

Does Krugman the economist have any regrets? He wishes he had done a greater amount of serious empirical work. He also wishes he had produced some really great students... But he does not regret missing out on a White House post in 1992 (see Box 3) and doubts he will ever want to be a full-time Washington policymaker. "I just don't have the right temperament..., I think I do more good on the outside."

Box 3
Just short of the White House

A fateful moment in Krugman's career occurred after Bill Clinton's victory in the 1992 U.S. presidential election. Krugman was widely tipped to be Chairman of Clinton's Council of Economic Advisers (CEA). Instead, Clinton chose Laura Tyson, then a professor at the University of California at Berkeley. Krugman was intensely disappointed and saw this as the revenge of Robert Reich, the head of Clinton's transition team, whom Krugman had criticized in 1983 for being a "policy entrepreneur."

Looking back, though, Krugman expresses relief that things turned out the way they did. "Had I been selected, I might well have been ineffective," he says. "Economic policymaking in the early Clinton years was dominated less by economists than by the policy entrepreneurs. Besides, a treasury led (a few years later) by Larry Summers (a personal juggernaut) would have been the power center, diminishing the role of the CEA." He also believes he would have been associated with Clinton's early economic policy failures (such as the aborted efforts at reforming health care) and may not have lasted until the later successes, especially the rescue of Mexico after the 1994 peso crisis, which he considers the high point for Clinton's economic policy team.

Krugman's abiding belief, like that of Keynes, is that ideas matter and matter a lot. The role of public intellectuals is less to come up with good ideas, which is fiendishly hard, but more to serve as a watchdog to get rid of bad ideas and prevent their coming back. There are more bad ideas and more purveyors of bad ideas than their benign counterparts. And the asymmetry is further compounded because, in Yeats's words, "The best lack all conviction, while the worst are full of passionate intensity." In Paul Krugman, we have the very best, with conviction and passion, rendering the struggle between good and bad ideas, and between disputation and acceptance, a little less unequal.

    Posted by on Tuesday, May 30, 2006 at 03:27 PM in Economics, International Finance, International Trade | Permalink  TrackBack (1)  Comments (3)

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    [Source: Economist's View] quoted: From the confines of positive economics (what is), the theory of increasing returns was developed and extended into normative (what ought to be) terrain by Krugman (along with Helpman, Barbara ... [Read More]

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