Paul Krugman on Euro Rescue Efforts
'Right Now, We Need Expansion'05/23/2012
In a SPIEGEL interview, Nobel Prize-winning economist Paul Krugman argues that this is not the time to worry about debt and inflation. To save the euro zone, he argues that the European Central Bank should loosen monetary policy and the German government should abandon austerity.
SPIEGEL: Mr. Krugman, does Greece have to leave the euro zone?
Krugman: Yes. I don't see too much alternative now. It's going to be terrible in the first year if they do leave. So I am really reluctant to say that it's a little bit like shouting "Fire!" in a crowded theater, but what is the realistic option here? It's not as if anything anyone's proposing has any hope at all of getting them out of the mess they're in.
SPIEGEL: If Greece should leave, will this finally contain the euro crisis or, rather, make things worse?
Krugman: What happens if Greece leaves? Then you have again a bank run in other peripheral countries because they've set the precedent. But, again, that could be contained with lending from the ECB (European Central Bank). What has to happen is that the ECB has to be willing to replace all euros withdrawn as is necessary. And I think the case we're making for that lending becomes a lot easier because the Greeks were actually irresponsible. The Greeks actually did behave badly, and so the political case for unlimited exposure to Greece is very hard to make. A much easier case to make is for Spain and then Portugal and Italy, all of which did nothing wrong on the official side. So you could argue that the bad actor has been ejected, but we need to save the good actors.
SPIEGEL: But is the ECB ready to act in the way you propose?
Krugman: That's the mystery, right? We will see a big flood of money out of Spanish and Italian banks, and then the ECB has the choice to accept a big increase in its exposure to those countries. The ECB lending that much money with ultimately the Bundesbank on the hook for a lot of it -- that seems impossible. But if you say, well, the ECB won't be willing to do that, then the euro blows apart. And allowing the euro to fail -- that's impossible. But one of those two impossible things is going to happen.
SPIEGEL: Could Europe have avoided the current situation with more decisive actions early on?
Krugman: Greece was probably a doomed prospect from the moment that we got the truth about their budget. Spain, which is really the epicenter, is still savable.
SPIEGEL: In your columns, you have repeatedly criticized Chancellor Merkel for her management of the European crisis. Do you blame her for the situation we are in right now?
Krugman: She has certainly drifted; she has temporized. Could she have done more? I don't know. I just have the feeling that we really are looking at the gears of fate grinding along.
SPIEGEL: But you have repeatedly pointed out that Germany's pushing for austerity will lead Europe on a death trip and that prosperity through pain is a fantasy.
Krugman: That's right. I thought it was obvious from the beginning that this is never going to work. If the policy makes any sense at all, it's through mass unemployment, driving down Spanish wages. How many years is that supposed to take given that we've seen that, even with close to 25 percent unemployment, you will have a glacial pace of wage adjustment?
SPIEGEL: You call austerity a "zombie" economic policy.
Krugman: Yes, the whole point about zombies is that they just keep on champing forward no matter how many times you think you have killed them. We've got really almost two and a half years of experience with how these policies actually work, and the fact that this is still the recipe that is being preached despite all the evidence that they are not working.
SPIEGEL: Doesn't it just take some time for the austerity measures to deliver results?
Krugman: Where's the evidence?
SPIEGEL: Greece's economy grew in the first quarter.
Krugman: That's possible. Greece has actually achieved some improvement in cost competitiveness. But think about how long it would take to fully restore. The thing about unemployment at these levels is that the damage is cumulative. People's lives are being destroyed as their savings run out.
SPIEGEL: So you think we should go the other way and spend our way out of trouble?
Krugman: Any individual country, except Germany, doesn't have this option. It's not as if the government of Spain can simply reverse and go to Keynesian policies. They can't fund that. Put it this way: If you're the prime minister of a small European country, even a fairly big one like Spain, you have no option. Your options are to have some form of austerity, possibly while protesting, or simply to leave the euro. But Frankfurt and Berlin have choices.
SPIEGEL: What do you want the ECB and the German government to do?
Krugman: First of all, give the green light to the ECB and say: Price stability is the mandate, but it's not defined. So the reality is we're going to need to see 3-plus percent inflation over the next five years. No more tightening, no more raising interest rates at the first hint of inflation, even if it's obviously a commodity blip. If anything, cut interest rates. Open-ended lending to governments and banks.
SPIEGEL: And Berlin ...
Krugman: ... should not be doing austerity in Germany. I'm tempted to add that I wish for all of that and a pony as long as we're wishing for things we don't expect to get.
SPIEGEL: And maybe that's a good thing. Because 4 or 5 percent inflation may be fine for a short while, but how do you make sure that it doesn't rise to 7 and 8 percent or more once the expectation is there?
Krugman: It's not actually hard. Just raise interest rates once it's creeping up to the level you don't like. I mean, people have the notion that inflation just explodes out of nowhere. It just isn't true. It just hasn't happened. If you actually look at the histories of the inflations that we've had, hyperinflations come from a very different story. They come from governments that can't raise revenue and just rely on the printing press.
SPIEGEL: But if inflation really isn't that big of a problem, why is everybody so afraid of it?
Krugman: For one, it's that central-banker culture. Central bankers almost define themselves that way. Their job is to take away the punchbowl just as the party really gets going. And, in the current circumstance, they seem to be eager to take away the punchbowl even though there isn't any party to begin with. Plus, in Germany, you have this weirdly lopsided historical memory where everyone remembers 1923, everybody remembers Weimar. And nobody remembers Chancellor Brüning (Germany's chancellor from 1930 to 1932, who pushed austerity measures). more
Thursday, May 24, 2012
I have occasional issues with Paul Krugman but as you easily glean from the following interview, he is light-years ahead of the conventional wisdom in Germany. But at least they are giving Krugman a serious forum. They MUST be worried about a Greek default.