Friday, March 18, 2011

Kling Responds to Krugman in a Strange Way

Menzie Chinn agrees with Paul Krugman that real interest rates during the 1980’s were very high, but then he also notes an email from Arnold Kling that tries to defend the original blog post:

The topic was not crowding out. It was liquidity traps.

I would argue that this is an odd way to respond for a couple of reasons. One is simply that we were not in a liquidity trap during the early 1980’s. Secondly – why do we care whether we are in a liquidity trap or not? The reason has to do with whether fiscal stimulus will lead to crowding-out. A lot of the arguments against fiscal stimulus assume either that we are near full employment (which of course we are not) or that the LM curve is not flat. In other words – the fear of crowding-out. While these arguments made sense during the early 1980’s, they do not make sense now. So I would argue that the topic has always been crowding-out.

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