Krugman has sealed his fate here as a partisan-hack of the sort we deride on the right. Below I've sort of laid out my critique sentence by sentence of his "Deficits Matter Again" blog post at the NYT January 9th. I have tried to explain operations as simply as I can. What you should recognize is that Paul Krugman has completely flip-flopped on deficits because Trump is President-Elect. Deficits are never a principle problem, but they always matter. The American public has a lot to learn about how government deficits matter. Government deficit=non-government surplus.
....."America, which borrows in its own currency and therefore can’t run out of cash, isn’t at all like Greece."
This is absolutely correct. Krugman was late to the party of the lonely few progressives who were saying that from the very beginning. This completely correct statement is followed by dark omens of things to come.
"But running big deficits is no longer harmless, let alone desirable.".......
First of all, the quantity size of the deficit tells us nothing without further context. Meanwhile, if we 'borrow our own currency,' then there are no real financial solvency constraints, and the 'limits' are on the real side of the economy. So what follows makes no sense if Krugman thinks that unlike Greece, the United States government is a sovereign currency issuer. Federal government 'borrowing' operations are nothing more than a matter of Treasury offering special insured savings accounts at the Fed that earn interest.
"In the depressed economy that prevailed for years after the financial crisis, government borrowing didn’t drive up interest rates,"
He's talking about the federal government here and federal government 'borrowing' NEVER drives up or down interest rates; because the 'borrowing' always supports or is accommodated by Fed policy so as not to disrupt the interest rates fixed and targeted by the Fed. If government borrowing, which is uneven and happening daily, was disruptive to financial markets by competing with the funds available to the entire market and thereby raising/lowering interest rates based on the levels of government borrowing, there would be massive financial chaos day to day, and you would read about it in the newspapers. The federal government can always deficit spend without the threat of additional extortion from bond vigilantes with the given institutional settings of the Fed and the Treasury. Now by law, which has been and can be changed or suspended, the Treasury cannot overdraft on its account at the Fed or 'borrow' directly from the Fed. However, in the event that the market is short deposits to buy new issues of government securities, the Fed would adjust the composition of dollars in the banking system from older securities to deposits, or it could simply offer to repurchase those new securities from bond dealers once they have purchased them from the Treasury. All the prohibition on Treasury overdrafts at the Fed does is force interest payments to rich people on account of the normal business of government. Even if the government is running a surplus, some 'borrowing' is going to happen because of 'timing' issues. Treasury cannot do its job without paying some ransom at the Fed's interest rate targets, but its not subject to bond vigilante attack. Operations and financial markets would be much more efficient if Treasury simply ran continuous overdrafts at the Fed and the FDIC offered unlimited deposit insurance.
"money creation by the Fed didn’t cause inflation"
QE was a tax in the first place, not money creation. When the Fed purchases government securities and Treasury backed agency debt, it adds dollars to the economy, and removes government securities and interest incomes.
QE removed interest income from the economy and added it to the Fed's balance sheet allowing the Fed to report record profits to the U.S. Treasury. The economy has less dollars as result. More of the remaining dollars exist as deposits, added by the Fed, and less exist as interest bearing bonds, securities, and Tsy backed mortgage agency debt, removed by the Fed. This is all simple financial accounting. So of course the Fed didn't cause any inflation. It took dollars out of the economy and its profits contributed to Treasury revenue that reduced government deficits.
"and nations that tried to slash budget deficits experienced severe recessions."
Yes, trying to reduce deficits in the face of recession is bad news bears.
"But these predictions were always conditional, applying only to an economy far from full employment.".....
Krugman is using an unrepentant ISLM macroeconomic approach still taught to most university undergrad macro students even though it was repudiated by its founder John Hicks. While it's a great class room exercise, it does not conform to the monetary system that we have and later in life Hicks recognized that.
"What changes once we’re close to full employment? Basically, government borrowing once again competes with the private sector for a limited amount of money. This means that deficit spending no longer provides much if any economic boost, because it drives up interest rates and “crowds out” private investment."
This is the most damning paragraph. Nothing changes at full employment as far as the dollar supply is concerned. Unlimited funds are always available per demand for savings and investment at interest rates fixed and targeted by the Fed. The Fed might raise interest rates as a consequence of inflation, but the dollar supply is always unlimited at the Fed's policy rates. When government deficit spends, funds are added to the economy in the form of government securities and the interest income they earn. I repeat. When government deficit spends, dollars are added to the economy in the form of government securities that earn interest. Again, basic accounting here. Noncontroversial. Not in dispute. So where is the limited amount of dollars that government and those seeking investors are competing for? How is increasing the dollar supply shrinking it?
Krugman is offering himself up for strong rebuke from across the spectrum.
Democrats should deny that government deficits are ever a principal problem. Inflation is not about government deficits, but about total spending in the economy and total output. Government deficits are a residual reflecting non-government savings attempts with the given institutional structure and economic conditions. The government budget balance is always a meaningful piece of information when understood with the right context. Deficits always matter, but not the way broadcasted by media and politicians would have you think. Democrats should worry about full employment and price stability, and keeping the government limited to public purpose.