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A lightly edited transcript follows. Janet Gornick, a director of the Luxembourg Income Study, where Paul Krugman also does research, moderated the event.

MODERATOR: Good evening, I ’m Janet Gornick. I am a political economist and professor of political science and sociology here at the Graduate Center of the City University of New York, and I ’m also the director of Luxembourg Income Study Center, with offices in Luxembourg and here at the Graduate Center. The format for the evening is as follows: First, Jeff Madrick will offer some remarks about his new book, Seven Bad Ideas, which talks about how mainstream economists have damaged America and the world. Second, we ’ll be treated to a conversation between Jeff and Paul Krugman about the book and about whatever else we wish to discuss. Their conversation will be unregulated, in the spirit of the topic. And, for the final part of the evening, we ’re going to take questions from the audience.

So let me just take a moment to introduce our two speakers. It’ s really a great treat to have these two guests with us this evening. Few people any- where have done more than either Jeff Madrick or Paul Krugman to explain contemporary economics to general audiences. Having them here together jointly assessing the state of the economics discipline is really a double treat. Jeff Madrick is an award-winning economic analyst and journalist. He ’sa regular contributor to the New York Review of Books and a former economics columnist for the New York Times.He’s also director of the Bernard L.

Schwartz Rediscovering Government Initiative at the Century Foundation, where he’ s also a senior fellow, and several of his colleagues and ours from the Century Foundation are here with us this evening. Jeff is also an editor of Challenge magazine, and he’ s a visiting professor of humanities at Cooper Union. Jeff is the author of many widely read and much cited books, includ- ing Age of Greed, The Case for Big Government, End of Affluence , andTaking America . Jeff’s books are notable for attracting diverse audiences, often 112 receiving praise from progressives and the business press alike. This new book,Seven Bad Ideas is, as I think you know by now, an assessment of the ways in which mainstream economics failed to anticipate —and he would argue also contributed to —the economic turmoil of the last six years. And that analysis is rooted, of course, in a larger critique of the economics profession, especially an overreliance on modeling. The book has already attracted considerable attention, much of it positive, and a surprising amount of positive response has come from economists. I for one heartily rec- ommend it, and I might add that one does not have to be an economist to find the book both clarifying and delightfully readable. To the non-economist academics in the audience, you might be pleased to know that in this book Jeff argues that one thing that contemporary economics needs is more engagement with sociologists, anthropologists, and historians. That ’s not an observation that one hears all that often. Paul Krugman needs little introduction here. As I think most of you know, Professor Krugman is in transition now, shifting his home institution from Prin- ceton University to here at the Graduate Center of the City University of New York. In the middle of 2014 he joined the List Center and serves there as a distinguished scholar, and in September 2015 he will join the economics faculty at the PhD program here at the Graduate Center. Paul Krugman is known for his extensive body of academic work, for which he has received an enormous array of honors, including in 2008 the big one, the Nobel Memorial Prize in Economic Sciences. He ’s also known to many of us for his much-read biweekly column in the New York Timesand for his lively blog, “ The Conscience of a Liberal. ”He contributes to other publications as well, and he attracted considerable attention last month for his article in Rolling Stone titled “In Defense of Obama. ”We ’ll editorialize for a moment: I just have this to say, I wonder what would have happened last week if some key Democrats had taken that article to heart. In any case, we ’re really delighted to have Paul with us this evening, and I ’m especially grateful that he ’sabletojoinus as he is just back from a whirlwind trip to Japan, another petri dish for curious macroeconomic thinking, and perhaps this evening he and Jeff will help us make sense of Japan, after they ’ve clarified the state of macroeconomics in the United States. Jeff and Paul, I turn the evening over to you. Welcome. JEFF: Thank you all very much for coming. A special thanks to Janet Gornick, who you just heard from, who runs the Luxembourg Income Study Center and very generously made all of this available to us. Thanks to the Century Foundation for cosponsoring this. Thanks to Paul for giving his time, and thanks to mainstream economists for making so many mistakes. Now obviously I have to place a caveat in here. There are many excep- tions to the conventional mainstream thinking that I criticize in my book, or what I guess we could call neoclassical economics. Economists would call it more or less economics based on the market itself solving our problems, with a variety of qualifications. But I got an e-mail that said, if you were really What ’s Wrong with Economics 113 an anti-mainstreamer, you would have talked about Marx in the first chapter.

And I was a little bit taken aback. I did talk about Duncan Foley of the New School, who is a Marxist. But it occurred to me I’m probably not an anti- mainstreamer in that sense. I ’m surely anti –what mainstream became. If neo- classical or mainstream economists were arguing that all we need is a little jolt from fiscal policy or monetary policy and the self-adjusting qualities of the economy would take over, well, I’ m not very sympathetic to that. If efficiency is identical to prosperity, which many did argue, I’ m not sympathetic with that. If it just means to get rid of the obstacles in the way of a free market work- ing; if labor is getting paid what it deserves, as many neoclassical or main- stream economists contend, I am not sympathetic to this contention. If it means we shouldn ’t worry about inequality —and a surprising number of mainstream economists talk about how inequality is not their concern, equal- ity of opportunity is their concern— well, I’m not very sympathetic with that, because inequality of outcomes matters a lot. If mainstream economists mean we need only worry about the inflation rate and keeping it at 2 percent a year, well, I ’m not very sympathetic to neoclassical or mainstream economics. If it means a low deficit is our first or second priority, as you might guess, I’ m not sympathetic. If government ’s purpose is only to counteract— and this is important —if it ’s only to counteract market failures, I ’m again not sympathetic because market failures are rampant and very hard to define. If it means pub- lic investment should be modest, and it often did in the last thirty years, again I ’m not sympathetic. If it means you really can reduce the sources of growth to abstractions like technology plus savings plus human capital, I think we ’ve got to be a lot more specific and particular about why economies grow. What happened in mainstream economics is not that these neoclassical classical tools are bad per se, but that they were abused and they are at their core oversimplified. The pendulum of economics swung to rule-of-thumb ideology and especially antigovernment attitudes. Economics swung with the rest of the nation. And I think I wrote this to be sure that we ’re not going to repeat the same mistake, but it ’s not obvious to me we ’re not. I ’m not talk- ing about another bubble, another crash. I’ m talking about the same basic assumptions that lead to bad policy. So I got very frustrated over the years since I ’ve been out of school. We had Walter Wriston fighting Regulation Q well before Regulation Q was eliminated.

To some degree Regulation Q had kept a lid on the amount of money you can pay on interest rates to savers. To some degree we had to get rid of that, but we got rid of it in a very haphazard fashion. Walter Wriston lent all that oil money to South America. Probably it should have been an international government agency doing that. He bowled over the Nixon and Ford administrations and took it on his own shoulders. One consequence was repeated financial crises over Latin American debt in the subsequent years. The approbation given to Paul Volcker for his shock therapy, I am just tired of that, but you can ’t say that without being humiliated by economists for your lack of knowledge of what 114 Krugman and Madrick was necessary at that time. We didn’t need that severe a correction. We had rational expectations theorists telling us in 1982 that the recession would not be very steep, we could cut inflation without a severe recession. They ’re still around, they still are prestigious. We had an astounding S&L, savings and loan, deregulation. I didn ’t hear that much from dissenting economists in that per- iod. We had Democrats railing against deficits under Reagan using Say ’slaw, which I ’m sure Paul and I will talk about a little bit. And we had the Clinton administration placing basically all the surplus revenue into reducing debt, directly or indirectly based on a Say ’s law argument. We accepted that the Fed could solve just about any problem, we had financial deregulation under Clinton, we had a Boskin Commission, which is too complicated to go into, but it overstated the understatement of inflation due to quality increases in products, a political operation if there ever was one, and then we had the phenomenon of Alan Greenspan, the legend. I ’ll leave it at that.

That was the preamble of my long speech, and probably if I had a little more time I could clarify all those points, but I do want to make two observa- tions very clear. Where the ideology does damage. The ideology is basically about a free market that solves our problems through the invisible hand, which probably almost everybody here studied at one time or another. The invisible hand in a narrow sense and the invisible hand as an explanation of the entire economy. Now you may think, “Well, economists know better than that, ”that they know there are lots of exceptions to the invisible hand and to laissez-faire policy. But let me take two cases where a broad spectrum of mainstream neoclassical economists agree. One was something called the great moderation. The great moderation was hailed by economists like Ben Bernanke, the former chairman of the Fed and a very respected and very bright economist from Princeton, and Olivier Blanchard, a former MIT econ- omist with an equal reputation and now head of the economics department of the International Monetary Fund. They said the great moderation was proof we knew how to control the economy. The great moderation meant the econ- omy was stable. GDP, our national income, didn’ t fluctuate that much. It fluc- tuated a lot less than it used to. Stability was a goal in itself. Well, stability is useful. For example, we don ’t want periodic bouts of high unemployment.

Sure, stability matters. But the underlying argument was that if we had stab- ility, then the market would basically work well and solve our problems, so stability became an objective in itself. Consider what happened over this per- iod of the great moderation —high levels of debt, soaring inequality, stagnat- ing wages, and one financial crisis after another— I’m going to name the years just for fun: ’82, ’87, ’90, ’94 and ’97, ’98, 2000, and 2008 financial crises under this ideal period of the great moderation based on an ideology that the market would solve the problems as long as the economy was stable. But number one, and the one that worries me most, is inflation targeting.

Both soft inflation targets and hard inflation targets, we ’ve come to an idea that 2 percent inflation was the maximum inflation rate this economy could What ’s Wrong with Economics 115 tolerate. Again it was based on an ideological notion, that if we keep inflation low and very stable, we will remove the uncertainties from the economy that are obstacles to the true functioning of the market, or a general equilibrium, as it’s known. That idea still prevails. We do not need a 2 percent lid on inflation, but we get it, and it ’s determining Fed policy to this day, even under Janet Yellen, who I admire a lot.

So my point is this: ideology is still determining policy in America. There has been a shift, there have been mea culpas, especially with the 2008 crisis.

Many of these ideas set the stage for the 2008 crisis. And they permeated the public consciousness and the consciousness of Washington policy makers.

Some of that ’s been reversed, but my argument is that the basic ideology is still with us, and we ’ve got to be aware of it or we ’re going to make the same mistakes over again, and the best example of that is a 2 percent inflation target. I ’m sure Paul has a couple of things to say about this, and then he and I are going to have a good conversation.

PAUL: So I ’m actually going to do this a little differently. Because one thing I want to say is that there ’s a possible takeaway that many people might get from the kinds of things that you ’re saying, which would be worse descriptions of economics than they should be, is to conclude, “Okay, so economists don ’t know anything, they ’re useless, so we ’ve got to turn to smart, successful businessmen like Mitt Romney. ”What you really don ’t want is to think that all this economic analysis is useless. There are several scripts that people have in mind. One is, oh, so we ’re going to show that economics is useless and therefore we ’re going to turn to practical business people. That ’s one script.

Another one is that the end of the story has to be that we go back to Marx, which is what you ran into, and I don ’t think either of those is a direction we really want to go. The fact is that business people are actually really lousy macroeconomists on average. They extrapolate from what it ’s like to run a business, which is nothing like running an economy, and when it comes to Marx, there ’s no particularly fresh thinking about these issues that should lead you there. But what is true is that economics let us down really badly, which was revealed a lot in the crisis, and I think I want to make a distinction between two kinds of sins here, both of which happened. One is the intellectual sin of basically getting the economy wrong in the models and in the analysis and having the wrong structure of thought, which is a lot of what you ’re talking about. The other risk is the actual policy, when the moment comes, when something has to be done, choking on what your own analysis says and going instead for conventional wisdom, something that feels plausible to politicians and the political process. I really would like to talk about the way I see what happened. So something I really got from your book, which I hadn ’t thought about that clearly, is that we actually had an unintended case of bait and switch in the way that economic analysis was done. In economic analysis we use lots of models, and I ’m a big believer in models. You have to use models to 116 Krugman and Madrick discipline your thought. Models are how you tell yourself what the story is, but you should always think of them as being metaphors, guidance, and not truth.

There’s one model that economists like a lot because it ’s such an overarching story, the story of competitive markets, ratio nal behavior, and general equilibrium— it all fits together in this wonderful story, and it ’s a great story. It tells you a lot of stuff. As soon as you start to look at the real world, you realize, wait, people don ’t actually maximize and markets are not competitive and so there ’re lots of details here that are not right. There ’s an answer to this charge you talk about at some length, which is when Milton Friedman said that the precise truth of the model is not critical, you need to look at whether or not it fits reality. Does the behavior seem to be what seems to happen, which is OK, we all do that some? But then having done that, having said, “Well, these models are OK because we can make some use of them even if they ’re not precisely right, ”you then turn around and say, “This is the model, and there- fore all policy decisions must be based on this model. ”For example, you say, “ I’ve got this model of maximization and perfect markets and the market is exactly right, ”and I say, “But people don ’t actually behave that way, ”and you say, “That ’s OK, because it ’s a good enough prediction,” and then I say, “Well, we have this phenomenon out here which is that clearly unem- ployment does not self-correct, ”and they say, “That can’ t be true because of maximization and equilibrium— the model says that can’t be true.”You’ve said, reality lets me ignore the fact that the assumption is not true. Well, but the assumptions must be true, and therefore you have to ignore reality, and actually I call it bait and switch in my review. I call it the Chicago two-step in this context. And it has played a very big role in desensitizing economists to the flaws in their view, which were really very severe. Let me talk just for a second —and I hate to go on at length on one of these points —but let me talk about 2 percent inflation. I actually put in some work on that, because I ’m one of those people who ’re arguing that we need to loosen that up on the upside. I did a paper for a European Central Bank con- ference this past summer— which, by the way, even though the European Central Bank is not what you would think of as the most wildly radical thought institution, they were certainly willing to let people like me come in and present papers saying you ’re doing it all wrong, so at least they ’re willing to hear the criticism. Anyway, I spent some time on the trail: where did that 2 percent inflation come from? How did we get 2 percent inflation? It turns out to be remarkably unscientific. It turns out that it ’s not a case of people who sat down and really figured out what is the optimal inflation rate. There were several converging strands. There was one strand of people who were said that we should have stable prices, zero inflation, that has to be right thing, and at least there was enough good sense among a number of economists to say, that can’ t be, that could get us into big trouble. They were afraid that if you started from zero inflation and then there was adverse shock, you would be into deflation, and you couldn ’t cut interest rates below zero, so what do What ’s Wrong with Economics 117 you do? So you need some leeway, and some historical episodes suggested that if you have 2 percent inflation, that would give you enough room to usually deal with that. So that was kind of one strand. Also, there are always changes—some people’ s wages go up relative to other people, some go down, and it ’s very hard to cut wages. So there were some calculations that suggested that 2 percent inflation would give you enough leeway that you could make the necessary wage adjustments without actually having to have a lot of wage cuts. And finally, there were the people claiming that inflation is actually overstated because of quality improvement, and it ’s possible to argue that 2 percent inflation is actually zero it. That was the Greenspan argument, and these things all converged on 2 percent, which was a number that could make a number of people happy, but then it solidified into a dogma. Everyone was targeting 2 percent inflation so we better target 2 percent inflation, too, and it became respectable to advocate 2 percent and disrespectable to advo- cate anything higher than that. Now it turns out that everything what people thought is wrong. The idea that 2 percent would be enough of a cushion that you would rarely have episodes when cutting interest rates to zero was not enough. We ’ve now passed the sixth anniversary of the Fed having had interest rates of zero, and it ’s not been enough, so the idea that that would be a rare phenomenon is clearly not true. The idea that the wage adjustments is not going to be a big deal, I mean, look at what’ s going on in Europe where we ’re experiencing year after year of nightmarish unemployment in Spain and Portugal as they try to get their wages down relative to Germany. That minor wage turns out not to be true. But the 2 percent target that emerged from this process sits there now as an unbreachable icon. I ’ve tried to talk to people at the Fed, and they will admit sort of in principle that the case for 2 percent that we used to make is not as good, but we can’ t change the target because that would hurt our credibility.

JEFF: To me that ’s the classic example of what’ s gone on, and as you know, there ’s no serious empirical evidence that an economy running inflation at 3 or 4 percent will grow more slowly than an economy running at 2 percent. PAUL: Sure.

JEFF: In fact, even at 6 and 8 percent there ’s no significant empirical evi- dence. To say that would be a problem, and yet we stick to this 2 percent rate, and it becomes inviolable, and we have people like economists on the FOMC, such as Jeffrey Lacker, who (even though we haven ’t reached 2 percent inflation) are still worried that they ’re stepping on the gas too hard. But people like Lacker would argue, well, it ’s coming any minute now, and yet wages are not going up, which is the main cost-push element of inflation, but wages are a lagging indicator, so we better get ahead of that. Of course, I’ ve written and Paul has written that these guys had been wrong time and again. Richard Fisher, a great proponent of this idea, wanted to raise interest rates in the mid- dle of 2008 when we were collapsing into the worst economy since the Great 118 Krugman and Madrick Depression. This kind of mythology makes you wonder at these claims that economics is a science when, so easily, 2 percent becomes embedded in a way of thinking and it cannot be violated. The reason people want zero percent inflation is that they believe fully in this perfect market idea, that if you remove all uncertainty so that all participants in the market can make rational decisions, then the market will work itself out, work out our prob- lems, and maximize prosperity.PAUL: But maybe this is the question —where do we draw the line between economics as a discipline and economics as practiced as policy?

It’ s not the case that papers being published in the Quarterly Journal of Economics make the case that 2 percent is a sacred target. That ’s not it at all, in fact, if you take the papers that people write on new Keynesian macro- economics, they definitely don ’t say that there ’s anything sacred about that number. And, in fact, if you take the theoretical models seriously, which maybe you shouldn ’t, but if you take them seriously, they would suggest that given what we ’ve seen, targets should be higher than that. It’ s in the practice of economics at the central banks that it has become this magical target, so is that a problem with mainstream economics, or is it a problem of the sociology of central banking? I think we may be crossing categories here.

JEFF: But it seems only in the last couple of years that some mainstream economists like Blanchard and Larry Ball are talking about raising the inflation rate, and it ’s always put in terms of not violating the lower, zero bound.

PAUL: Yeah.

JEFF: And to me, I wondered about your opinion about this. I would like to see —here ’s heresy for you —something like the Phillips curve come back.

George Ackerloff, who is a Nobel Prize winner, has talked about this a little bit. Not only would a 3 percent or even 4 percent target help us avoid the zero lower bound so we could cut interest rates to stimulate the economy again, but it might get the unemployment rate down on a more consistent basis. PAUL: No, actually that is an argument that ’s out there. We took this notion that government policy, or demand side policy, can’ t permanently lower the unemployment rate, and there ’s a lot of reason to believe that that ’s true, that raising the inflation rate from 8 percent to 13 percent is probably not going to buy you anything on employment, but that an inflation rate of 4 as opposed to 2 might very well buy you something on unemployment. That is actually not being rejected by the mainstream. By the way, one thing to say is that the people that you ’re criticizing are all on the good side. I mean Olivier Blanchard and Janet Yellen are good guys in all the current policy debates, they are people who are well to the left or to the activist side of the spectrum, so you have to give some credit, even if you would like to see them be more. JEFF: I ’ll always give credit to Janet Yellen, but I ’m a little more hesitant about Blanchard. After all, the IMF, I don ’t know if he was there at the time, was pretty supportive of England ’s David Cameron. The fact that they What ’s Wrong with Economics 119 reversed their point of view on austerity sometime after the 2008 crash was pretty common across the board and the slightly left-of-center mainstream economic community. They weren’t that beforehand, and Blanchard admits it. He says with some shock, we never thought that financial regulation was part of macroeconomic policy. Well, that ’s quite extraordi- nary, and very rarely was finance ever part of macroeconomic models, and Hyman Minsky, who became the man of the moment, I remember was pretty highly ridiculed. At one ADA conference, there was a memorial for Minsky sponsored by the Levy Institute, where he worked, and he was just scoffed at.

So, because some economists got religion after 2008 I don ’t think totally exonerates them for the damage done until 2008. In fact, in Larry Ball’ s stuff I haven ’t seen much about if you champion 3 percent or 4 percent inflation targets on the Phillips curve basis— that is, to get unemployment down—it would work.

PAUL: OK, maybe I ’m a little too close to it, but I ’ve certainly been mak- ing that argument and not getting a lot of pushback, which is kind of inter- esting. I mean, not getting a lot of pushback analytically. The policy thing is another thing. You can go and talk to European Central Bank senior people, and they ’ll say, that ’s an interesting case, and the Fed people will certainly say that, but then they ’ll say, but of course we can’ t actually implement that.

But that ’s a little bit less a question of the intellectual structure of economics and more the weird things that happen in policy formation. Actually, I wanted to talk more about the great moderation —since I ’ve been traveling, I can actually bring it in. So people don ’t notice, there were papers by, I think it was actually Ben Bernanke, you may have heard of him, and certainly Olivier Blanchard, chief economist of the IMF, who we ’ve mentioned here.

So what Blanchard and others had done was show that, in fact, the wig- gles had gotten smaller, that after around 1985 the U.S. economy had seemed to be much more steadily growing than it had been previously, and Ben Bernanke coined a phrase for it, the great moderation, and this was attributed to superior management by central banks. That has always seemed to me to be a really bizarre episode, because although it was true that the U.S. was more stable, there is a rest of the world out there.

I wrote a book in 1999 called The Return of Depression Economics , which was a little ahead of the curve, but then I was able to write The Return of Depression Economics and the Crisis of 2008, that’s the second edition. But that was not coming out of nowhere, that was coming out of the fact that Asia had had severe financial crises —it seemed like the end of the world to us then, although it was trivial compared to what came later —and Japan slid into a prolonged stagnation, and it was amazing to me that people did not take that as a lesson, did not take that as an indication that we do not have this thing under control. It’ s not a problem exactly that the models didn’ t allow for it, 120Krugman and Madrick because we had the model even before Japan, but it was this weird sense that won’t happen here in the U.S.

JEFF: Well, I do quote Milton Friedman telling Charlie Rose in 2005 that the American economy has never been more stable and isn ’t that great. It was something of a charade, and I think what’ s mostly aggravating to me about it is that economists manufactured their own criterion of success, so inflation targeting thus worked, and it was sort of the single policy lever that was adopted. Keynesian as a fiscal policy was by and large shoved aside and put in the back seat of the car. There was a single policy lever, which they said worked like magic, and in this period, which you do call bizarre, we have all kinds of things going on, and it happens that the Fed got us out of serious trouble in ’97 and ’98 and in 2000 and 2001 again, only to lead to the 2008 debacle. People took it as a kind of law; I think mainstream economists said the Fed could by and large always save the day. There was worry about the so- called Greenspan Put or moral hazard, but there was no great uprising by economists, and I think there could have been. I would call it two kinds of errors but somewhat different than yours. One is errors of commission, and one was errors of omission. Economists who made errors of omission failed to analyze and be up in arms about Wall Street, because there were conflicts of interest, there seemed to be monopoly profits like crazy, there was manipu- lation of markets, and there was no transparency of information in derivatives whatsoever. Economists weren ’t up in arms. One can say, well, what power do economists have, but, my gosh, they have power in free trade arguments.

They certainly were up in arms about that. So where were they about these conservative invisible hand violations of the market, where were economists at that point? We hardly even saw studies, maybe you know more than I, studies about what Wall Street did. They began to come out later, but only a couple.

PAUL: Now actually this is an interesting thing, because there were cer- tainly studies. I mean, I ’m not going to try and do biographical stuff here, but I remember back around 2000 we were already getting some papers that were looking at the way hedge fund managers are compensated —2 percent commission and 20 percent of profits, which you don ’t have to give back if then everything goes to hell, and pointing out that all the incentives were there to basically leverage up, borrow as much money as possible, take big risks, and then it ’s heads, you win, and tails, your investors lose. The incen- tives were clearly there for unproductive, risk-increasing behavior. So there were papers out there, and the question is, why didn’ t people make this a cause? Why were people so willing to accept that the market was working?

Partly it ’s don ’t rock the boat, it ’s very hard to argue with success. I think these things are actually interactive. The notion that we had it all under control — what’ s really amazing, how could we have gotten all the way to 2008, and then suddenly said, oh, we have a problem with finance, because there was actually a terrifying crisis in ‘98, the Asian crisis, which was very much a prefiguring of What ’s Wrong with Economics 121 what happened 10 years later. But there was also Long-Term Capital Management, and I happen to have been in a briefing by a senior Fed official, right after Long-Term Management went under, and they were describing the collapse of transactions—essentially the financial markets had just frozen — and after this pretty grim description, somebody asked, “So what do we do? ” And this senior official said, pray. What actually happened was that Alan Greenspan and Robert Rubin gave a press conference and sounded very confident, and magically the markets thawed out, but that should not have been a lesson saying that we have this thing under control, that should have been a My God, we don ’t know how we pulled out of that one, and yet it was ignored and I think that ’s a very big story. It ’s not exactly a problem with economic doctrine, it ’s a problem of what does it take to get people ’s attention.

JEFF: Well, I wrote a piece that if we saved Lehman Brothers, what would have happened? There ’s a good chance we would have had a less serious recession, but we probably would not have gotten Dodd-Frank. We had had a vicious crisis with Long-Term Capital Management. Greenspan and the folks rounded up the banks and basically forced them to put capital into Long-Term Capital Management to keep it afloat, or at least pay off the cred- itors, and stop the run. But no financial regulation came out of that episode because we got out of it. The same thing probably would have happened if we saved Lehman Brothers this time around, we might not have gotten any- thing like Dodd-Frank, we may have pushed catastrophe back that much far- ther, and I think it ’s something about the sloppy thinking, or at least the failure to address public issues, or the reality of the economics profession, or their duty to inform people that there ’s something wrong here. It is a bloodless pro- fession, and it lacks red corpuscles, and the methodology allows economists to distance themselves from the problems. There was a lot of work about corruption, but it didn’ t really get to the heart of the matter, and I just don ’t understand how people like Greenspan got away with so much with so many allegedly good economists out there. PAUL: I ’m introspecting a little bit here because even though I had written about Depression economics, and even though I invented the academic litera- ture of currency crises, I was caught completely by surprise by the severity of the financial crises. How did that happen? Partly was that I just wasn ’t paying attention. I had no idea that more than half of our banking system were no longer banks and therefore had none of the safety nets, none of the regula- tions. Part of the problem, I think, is that the world is a big, complicated place, and nobody is going to keep track of it. There were people for whom financial markets were their specialty, and there is where I think you get into issues of cooptation, and in some cases corruption. JEFF: We should talk a little bit about that, because there is an ethics issue here. PAUL: Yeah, there was no question of that. By and large, people who were actually doing finance or actually studying what Wall Street did also 122 Krugman and Madrick tended to be, and continue to be, rather close to Wall Street. There are various levels—I mean, there are some actual plain hired guns —but there ’s also a broader thing, which is if you ’re studying financial economics and you ’re busy saying the end is nigh and this is a corrupt field, then you ’re probably not going to get a whole lot of invitations to Wall Street –sponsored conferences.

You’ re not going to get a lot of consulting gigs for sure, so there is probably something going on there. And people who did not have stake in that —good macroeconomists— would have been pretty much unaware because it ’s somebody else’ s subfield and they just didn’ t know. Again, I’m being self- justifying to some extent, but also I just had no idea. I had no idea what the financial system as of 2008 looked like until it came crashing down. JEFF: The scarier thing, I think, is that it seemed like the New York Fed had too little an idea, and they didn’ t look under the hood of collateralized debt obligations, for example. They didn’ t try to, they didn’t begin to understand what was going on until the market started coming apart. Now how could this be anything except an ideological attitude? Maybe I oversimplify here, but I don ’t think so. There ’s the idea that things can’ t get too out of hand if a market is operating well. If something is priced too high, some smart person will sell it, and if something is priced too low, some smart person will buy it, and the correct prices will be reached. That became an underlying assumption, cer- tainly of Greenspan, who became a kind of ideologue, I ’d say, as he gained more and more confidence in himself. But I think it existed in many regulatory agencies, manned by good economists, or at least well-trained economists. PAUL: Could we actually have had for a long time mainstream economic models that tell you that an unregulated financial system can be highly fragile?

As soon as Lehman fell and everything, you could wander around the corri- dors of Princeton, and there were people muttering because we had that model. As soon as you said, oh wait, these are banks, even though they aren ’t banks, but they don ’t have capital requirements, then immediately it ’s slotted in, so the analytics were there, but no one who knew enough to know what was actually going on was willing to apply those analytics. So some of it is maybe free market ideology but applied in a place where standard economics itself says free market ideology is not right. Standard textbook economics says that banks need to be regulated. Adam Smith said the banks need to be regu- lated —right, one of the places where he really takes steps away from laissez- faire in the Wealth of Nations is when he says banks need to be regulated and that you may say this is an unwarranted intrusion on freedom, but it is no more so than requiring firewalls in housing, so something else is going on. It ’s not the inherent model, it is maybe libertarian ideology, which is not mainstream economics but affects Greenspan. He ’s not an economist, he ’s an Ayn Rand follower, and I would say mostly it ’s soft corruption, but sometimes not so soft.

JEFF: Yeah, soft corruption can lead us down the wrong road, too.

PAUL: The specific problem with finance, I just want to say, is bigger even than other stuff, like if you ’re dealing with the oil industry, for example, there What ’s Wrong with Economics 123 is lots of money and corruption. The thing about Wall Street is that they tend to be smart, impressive people. You’re going to have a hard time arguing down these Wall Street guys, they come in to a room, they act like they know what they ’re talking about, and they seem like they know what they ’re talking about. They ’re rich, they have great tailors, they ’re often funny so they ’re impressive, and it ’s very hard to get past that.

JEFF: I don ’t see why that would bother a scientist, though. Let me bring up an example where I think you may be giving the profession too much credit: efficient markets theory. It’ s a very good example, it’s one of my Seven Bad Ideas that was valuable when it started because it taught us that many managers had a very hard time beating the market. Now, that was extrapo- lated into claiming the market was so efficient that the actual stock price was right, it reflected the future value of the company, and therefore speculat- ive bubbles could happen, but they would be temporary and not very danger- ous, and you could motivate CEOs by giving them stock options and their performance would be rationally rewarded by rising stock price because it would reflect the value of the company. But when Bob Schiller tried to upset the capital apple cart created mostly by Chicago, but also MIT economists, he had a hard time making his argument heard by these people. He showed pretty clearly that there were serious stock market bubbles, but the stock price wasn ’t right over time, and he had to beat them. I admire him a lot, but he’ s forgotten. He was a little more tentative in the early years of his work gives, because he was knocking on a door that was so solidly closed to him, and pretty soon his ideas prevailed, at least to some degree in the profession, but they mostly prevailed after stock market crashes, not before. So that was an example of efficient markets —free market theory that got carried away ideologically. PAUL: A couple of stories on that, because one of the things you ’re overly optimistic about is that you think that Schiller has won. Not a chance. A friend of mine got me to be on a panel at the International Finance Association Meeting, I guess this was two years ago, and they had several eminent finance theorists, and the question was “Has the financial crisis led you to think that we need to revise anything? ”and the answer was no, no problem. These are people who have advocated for efficient market theory, and they saw no reason to change their views, so they were waving it off, saying that it was other stuff and maybe it ’s all Obamacare or something.

For the sake of clarification, what Schiller did was, several decades ago was to calculate a maximum estimate of how much fluctuation in stock prices could be accounted for by fundamentals, like the growth of dividends and earnings. It was clear the fluctuations in stock prices were too great, it was as if even if you had known everything that was going to happen, he showed that the actual fluctuation of stock prices was much greater than that. That says, there have to be herd-behavior bubbles going on. Compelling over- whelming demonstration, mostly rejected by people. But now the interesting 124 Krugman and Madrick thing is, one person took this kind of argument very seriously and wrote some very strong, caustic condemnations of efficient markets—Larry Summers. So Larry Summers in the eighties wrote the ketchup paper. Larry took on the alleged demonstrations that the markets are efficient by using arbitrage strate- gies that will work. Larry said that it ’s like looking at the market for ketchup and finding that two quart bottles of ketchup always sell for twice the price of one quart bottle of ketchup and concluding from that that the price of ketchup is therefore always right. Now what’ s interesting is this same person becomes a senior administration official and is a strong advocate of financial deregulation, that financial markets do set the right price. JEFF: But he’ s my representative character, actually, in my book because he was a shape shifter, given his past.

PAUL: But it ’s interesting, in his analytical work, never. His analytical work has always been critical of efficient markets and so on, but in positions of influ- ence, he ’s often been part of the ongoing policy consensus, which doesn ’t necessarily have very much to do with what the economics literature says. JEFF: Well, he certainly utilized his reputation as a man who knew eco- nomics to wage his influence there. But I did work on efficient markets in school, but it ’s interesting that those in the Shiller camp and perhaps includ- ing Summers didn’ t prevail at all in that argument for quite a while.

PAUL: I would say still have not. I would single out actually the financial piece of the profession as being the part that performed worst and had reformed least, and it ’s quite amazing when you talk to people there.

JEFF: There ’s nothing I would fear more than being called an optimist, but we are getting government capital requirements out of this to some degree, which is recognition that there are bubbles. We are getting people talking about it, at the IMF, the OECD, the Fed, and this is an important issue.

For a while people thought the only lever to control bubbles would be inter- est rates, and then Greenspan appeared, and Janet Yellen is talking about capital requirements, capital controls, and actual regulation like what I would call the good ol ’days. So I think that ’s some progress, and in the academic field it ’s so easy to rationalize the efficient markets theory. There ’s always an alternative explanation that the bubble is actually rational. PAUL: Yes, that ’s the… , well, certainly some of the people start yelling at you if you even use the word bubble.

JEFF: Right.

PAUL: There are no bubbles.

JEFF: It’ s a title, by the way, of one of my chapters. One thing I would like to tell the audience about a little bit, and I would love to hear your thoughts about, is economists ’attitudes toward government, because the best main- stream economics calls for government to intervene only when there are mar- ket failures, and I find the definition of market failures way too ambiguous. It narrows the definition of what government should do and I think that ’s harmed us a lot. It’ s by and large the best there is —maybe interventions for What ’s Wrong with Economics 125 asymmetric information, sometimes behavioral economics, but I don’t think that ’s gotten far enough given that we know how irrational people can be. I wondered if you thought a little bit about that, because I think government is the sideshow in mainstream economics, and government is not a sideshow, in the economy or in our economic history. PAUL: Yeah, I was thinking about that a bit. I think the problem here is to show how you do it, and it ’s the way that textbooks do it, even the very best textbooks like mine. You start with this beautiful model of the perfectly efficient free market economy and then you say OK, now we ’re going to talk about deviations from that model, and you actually have two kinds of devia- tions. One is that markets may not work right for a variety of reasons — pollution, externalities, asymmetric information, if buyers don ’t know as much as sellers do, whatever —so that ’s one kind of source for government intervention. The other is that, at least if you say the market outcome has no moral significance and there is reason to believe that it ’s fair or acceptable, if you wanted to help the poor, we could certainly have a valid role of public policy in helping the unfortunate or unlucky. But you ’re always starting from the baseline position that the economy gets it all right, the market gets it right, and we ’re working at the edges. And you can certainly argue that that ’s really wrong, that markets are full of market failure, full of ways in which they don ’t actually fit that model. Actually real economies have big governments, and it ’s funny how the textbook approach is one in which the government is kind of a marginal factor there. Yet even in the United States, 30 þpercent of the econ- omy passes through the government, and in other advanced countries it ’s clo- ser to 50, and government obviously regulates a lot of stuff. Now the question is, “So how do you do that? ”Jamie Galbraith and I have this conversation fairly often. He says we should start from a paradigm which doesn ’t have perfect market as the baseline, and I said OK, but how do I actually teach it that way? I don ’t even know how to make the argument. I mean, the trouble is that starting reality-based is not easy. I guess I believe that you ’re always going to be doing models that are somewhat abstracting from reality, so I’ m waiting for somebody to come up with a way to do this.

JEFF: This is a key point, I think, and one of the key points I make in the book. Because it ’s hard to do, we often don ’t do it, and that just doesn ’t cut it.

What you get is a propensity, and Paul has written about this in other contexts, a propensity to do what I would call clean economics in a very dirty world.

And in my view, there are ways to think about economics at least in policy terms that deal with the specific problems of the time in context, as opposed to shoehorning in rule-of-thumb answers to all policy questions. I think there ’s been a strong tendency in mainstream economics to shoehorn in these rule-of-thumb policy answers, and I think that economists have to deal with that even though it becomes a sloppy, dirty profession as a consequence. PAUL: I ’m [thinking] of an old joke about the drunkard looking for his lost keys under the streetlamp, and they say, did you actually drop them here, 126 Krugman and Madrick and he says no, but I can see here, there’s light. But I think actually the situation is more like you ’re not actually sure where you dropped the keys, and so you look under the light hoping that you dropped them there. JEFF: This is a big issue that I think has to be first.

PAUL: Yeah, let’ s put it this way: my advice to a young mainstream econ- omist would be not throw it all out, if only for your personal career, but to … JEFF: …and not always.

PAUL: …always be aware. At the very least, you should be aware that there is this strong bias in the way we tend to do economics that is pushing you toward understating the possible role of government, overstating how well markets work; and at least remember that that is just a model, and it ’s not a model that has actually been borne out by lots of real-world experience.

JEFF: Well, let me challenge you as a textbook writer, and I do this to some degree in the book as well. Why not tell people how the invisible hand works —freshman in college —and then immediately tell them it doesn ’t work, and here are the problems with it. It’ s increasingly happening, I think, in textbooks, but not nearly enough to be valid.

PAUL: Yeah, we try. But actually there is also, I have to say this, the equiva- lent —maybe this is soft corruption —you do want the textbook to be used, and that partly means that some really overstretched person teaching six sections of a course at a community college has to have a book that is not toodifferent from the way her notes look, and it ’s going to be something that can be adopted. So there is some shading, but I guess the point is always you have to fight the easy path, which doesn ’t mean jumping completely away from the way everybody does it, but means pushing the environment a little bit. JEFF: Probably Janet wants to allow you all to ask some questions. But I just want to say one last thing because my own platform for America, my own agenda, would be far more public investment than this deficit, these deficit fears, allow; a significantly higher inflation target; and a lot more fiscal stimulus. I think to some degree Paul agrees with that. PAUL: Yeah.

JEFF: My view is that mainstream economics inhibits especially the role of government as always defined by the amount of borrowing it can do, the deficit. PAUL: Yeah.

[Questions from the audience] TIM McGUIRE: Thank you, this has been very interesting. My name is Tim McGuire and I have a degree from this place. What bothers me is that within the last fifty years, with the decline of labor unions and other institutions, there were no institutions to push back on prevailing establishment ideas about economics. We ’ve lived with a stagnating economy where kids are graduating with debt between $40,000 and $100,000 and end up back stocking shelves in a supermarket, and nobody sees that as a crisis. I don ’t understand how that can be allowed to happen. What ’s Wrong with Economics 127 JEFF: I think a lot of people think of it now as a crisis. There is some disagreement about what to do about it. I think on this stage we both agree that there ’s a lot more room for fiscal stimulus to get economic growth going, and economic growth in itself could start to raise wages and create more jobs.

There may be a globalization issue on top of that, of course, but —and I may disagree a little bit with Paul on this— people are talking about secular stagnation at a time when we really haven ’t used the tools at our disposal to get our growth rate going again. So maybe there ’s some historical secular stagnation, but I think people are very concerned. I don ’t think it ’s fair to say they ’re not concerned. There ’s disagreement about what to do, and I think Republicans did so well in this election because they had a very simple and very wrong answer —you get growth by cutting back government spending and government regulation and getting business motivated again. That ’s not what’ s missing in this economy.

PAUL: Secular stagnation is an old idea that has come back. It was rejected as being wrong because markets get it right, but it ’s coming back. And, again, the leading proponent is Larry Summers. What secular stagnation states says is that there are environments in which the economy wants to be depressed and it requires much more activist government policies to fight it, so it ’s not actually a contradiction. What we ’re saying is that we ’re actually in an environ- ment where just having the Fed do its normal thing is not enough to produce consistent, full employment, where we need higher inflation targets and pub- lic investment. So there ’s not actually a contradiction here. Now the thing is, it ’s always political, so how do we get people to do this stuff? The great frus- tration I ’ve had is that the pro –government spending, anti –tight money forces have won every argument. They have won on the facts and have made the other side look ridiculous again and again, yet nothing changes in the political sphere, nothing changes in the policy, and that, I guess, is not a problem with mainstream economics exactly, but a problem with life, the universe, and everything.

JEFF: I just want to say this about secular stagnation, because it ’s come up repeatedly in economic history, especially after the Great Depression. A lot of people claim that technological advancement just runs out of gas. PAUL: That ’s a different story. That ’s not what I mean by that, and it ’s not what Larry means by referring to that.

JEFF: Anyway, we should move on.

DAVID LEMPER: My name is David Lemper, and I ’m a senior international economist at the IRS and a 2014 graduate of the economics program here at the Graduate Center. I ’m an especially big fan of Krugman, I’ ve read all your books, and I ’m sorry I ’m missing you joining the department, but I ’m glad to be done. Six years while working full time, it was rough. My question has to do with the critique of inflation targeting, that sort of religion of a 2 percent inflation targeting. Obviously I was in graduate school during an economic environment of financial crisis and very weak demand, and we have interest 128 Krugman and Madrick rates at zero, so how relevant is the religion of the 2 percent inflation targeting?

What is your critique of it in the current environment where they don’t have to really worry so much about inflation targeting? If anything, we really need to pump the economy by keeping interest rates as low as possible.

PAUL: The first point is if we had had 4 percent inflation instead of 2 per- cent coming in, then interest rates probably would have been about 2 percent- age points higher to start with, so there would have been an extra 200 basis points of interest rate to cut. So the point is that if we had not been so good at achieving price stability, we would have had more room to deal with this crisis as it happened. And then to some extent looking forward, if you can convince people that there ’s going to be inflation, you can convince people that borrowing more is not a bad thing and that sitting on cash isa bad thing.

What the Japanese are trying to do right now is to create a self-fulfilling proph- ecy that inflation will end, they will do whatever it takes. Unfortunately, they ’re saying to get it up to 2 percent when it really should be 4 percent.

So the point is, yeah, the inflation target has not been a constraint, but we would have been in much better shape had we had a higher inflation target in the past. And, arguably, getting out of where we are now, convincing people that we were in fact raising the inflation target, would —even though it wouldn’ t be operational for a few years —help us bootstrap ourselves out of where we are. Now if the Fed were to announce that we ’ve decided that 2 per- cent was too low a target and we ’re going to move it up to 3 percent, that would be a tremendously shocking announcement, which is a good thing.

We want people to be shocked and to change their expectations.

JEFF: It’ s remarkable to read the minutes of the FOMC about this because they do hold 2 percent as inviolable, and even people who might agree with this argument that it should be 3 or 4 percent have to work within the con- straint of that. I think they ’ve talked a little bit about going above 2 percent.

A couple of the gentlemen who run the Boston Fed talk about going over 2 percent, so I ’m sure deep down, Janet Yellen feels we should be above 2 per- cent. But when you read the arguments and the FOMC minutes, especially when they come out five years later, it ’s disheartening to say the least, and it ’s ideologically biased. I mean, the same people who have said inflation is coming back every year in a big way for five years are saying it again and mak- ing public speeches about it, which the media, who are not uncomplicit —to coin a word— in all this, pick up as if there ’s some special knowledge these people have.

SEYMOUR AMMON: My name is Seymour Ammon. I’ m a retired television executive. Full disclosure, I ’m a neighbor of Dr. Krugman ’s. My question is addressed to both of you. Given that we live in a global market economy fueled by consumer demand, when a large proportion of households (I would estimate in the U.S. it ’s somewhere between 15 and 25 percent) have little or no discretionary income —how can we possibly have a thriving or growing economy, and why do most economists ignore this problem? What ’s Wrong with Economics 129 JEFF: Well, I think fewer economists are ignoring that problem, and I think it ’s getting more attention. Part of it is this new attitude about inequality that ’s receiving more and more attention among a wide, broader number of economists. It used to be that even Bernanke would make comments that inequality didn ’t matter, but more people are claiming that inequality doesmat- ter because low-wage people tend to spend more, and they ’re spending less.

It ’s not obvious that America is saving too much if you look at the big numbers.

PAUL: Yeah.

JEFF: I think this is a point you make, Paul. But I, for one, think that higher wages are stimulative. That ’s another thing you don ’t talk much about in main- stream economics. In mainstream economics, for the most part, higher wages have been a cost that reduces profits and may even increase inflation, the bugaboo of 2 percent inflation. So I think you ’re right, an economy that doesn ’t have strong wages is in trouble. An economy that doesn ’t have dom- estic demand that ’s not dependent on huge bubbles and consumer borrow- ing, which was the case obviously in the 2000s with the mortgage boom, is an economy in trouble. So I think with the Washington policy establishment that sits on government spending and apparently will continue to do so no matter what, low wages are notrising, and if they are, it ’ll take some time for them to come back —and we ’ve got a central and tragic problem.

PAUL: It’ s not quite as simple as the story that the middle class and below doesn ’t have enough income and therefore we don ’t have enough consumer demand. In fact, consumer spending as a share of GDP has been relatively high all throughout all of this stuff, by historical standards. What ismore argu- able is that the extremely skewed income distribution has been sustained by rising debt, which then leads you to a crisis, but that ’s not as solid, the evi- dence for that is not as strong as I’ d like. I would say that inequality is a prob- lem for a number of reasons, and this is maybe not the most important of them. And if you ask what the problem is with the world economy as a whole, what’ s actually is the case right now is that investment is low; it ’s not actually that consumer demand is low. Right now what’ s holding us back is that invest- ment is low, and some of that is residential investment, which still has not recovered, but also that corporations are sitting on cash which they don ’t see much reason to spend because growth is slow. It’ s kind of a self-fulfilling pessimism here. Additionally, I think if you try to ask what you need to do, the answer would be that there are multiple reasons for wanting to raise wages.

There are multiple reasons for wanting to do what you can to reduce income inequality, and there ’s a huge case for more public investment as well. The thing is, none of this is actually particularly hard or mysterious. Borrow money to build infrastructure considering that inflation (index bonds) has essentially zero percentage, so it doesn ’t actually cost anything. Print some money, that ’s supposed to be fun, right? But what happens is that we can’ t, the political sys- tem stands in the way of doing all of the stuff that ’s supposed to be an irresist- ible temptation and turns out to actually be impossible to get happening. 130 Krugman and Madrick JEFF: OK.

IRENE COPLEY: My name is Irene Copley. I’m retired from several activi- ties. And what I ’m going to say is really bigger than economics, and I ’m taking the opportunity to discuss this with you, because I ’m scared. Just plain scared.

Paul Krugman, I have the highest regard for you when I hear you say you had no idea that there were organizations acting as banks but they weren ’t banks, you had no idea. And I have this innocent notion that economists know every- thing about everything, but I understand that you can’ t. And then you mention ideologies, and I was reading Erwin Chemerinsky ’s book, The Case Against the Supreme Court, which you talked about in today ’s column, Paul Krugman.

And if they are corrupt and if people in government are corrupt and Repub- licans talk about climate hoax, and the NRA, and the path to oligarchy that we are in —and when we talk about 2 percent inflation, that seems to be an itty- bitty question, because what it all depends on is who is in charge. Now Republicans have taken over 2014. If they win the presidency, where am I going to move to? I ’m scared.

JEFF: One issue we ’ve addressed to some degree, but maybe not enough, is this issue of capture and ethics and revolving doors in Washington, or people going to Washington as a means to get a better job elsewhere in the economy. It’ s not only Wall Street, it ’s the defense industry and it ’s the health industry. We can argue that to some degree there ’s a similar ethics problem in economics. People want to get grants, they want to rise in their universities, they want consulting jobs, they want to get a government post so they can get a better university position and then more consulting jobs. It’ s become a career, a very lucrative career for some economists. We do have a serious issue here, but it ’s hard to regulate. I ’m a fan of regulation, but it ’s hard when people stop believing in the rule of law or think that the way you make money or the way to get ahead in life is to find the loopholes. There ’s an argument especially prevalent among economists that says, no matter how you regulate, Wall Street is going to find the loophole, but I’ m not sure this was always the case. I think there was once a kind of attitude, a sensibility, that to some degree you have to abide by the law and not just find a way to get around the meaning and spirit of that law, and I think that we ’ve lost that to some degree. In fact, I think one reason why we ’ve lost it is this emphasis on the idea that when the market is working, everything is right with the world and the market works best with minimal government interference. Govern- ment as a moral force has been minimized in America, and I think that affected this campaign. Those who run for office talk about it as a moral force only in terms of eliminating it, or certainly minimizing it. We face a serious uphill battle both morally andin economic theory and practice.

PAUL: I would say if you ’re not frightened by some of these things, then you ’re not paying attention, and of course it ’s scary. Now all you can say is that there have been dark moments in U.S. history and world history, worse moments, and some of them have turned out right in the end, or at least What ’s Wrong with Economics 131 something was worked out on the specific issue of financial regulation. I don’t believe that Wall Street can find its way around anything. and in fact Wall Street doesn ’t believe that, or they wouldn’ t have campaigned so furiously against Dodd-Frank, or firms that are being designated as strategically impor- tant and therefore subject to extra regulation wouldn’ t be fighting so bitterly not to get that designation. So these things matter. On other issues, sure, cli- mate is a very scary thing. The fact that the head of the Senate Environment Committee is likely to be James Inhofe, who thinks that there ’s this vast con- spiracy of scientists who perpetrate a hoax about the climate —that ’s pretty scary stuff. But you keep on plugging. I ’ve been writing a column for the New York Times now for fourteen years, and in 2004 it was all over. It was “Lib- eralism is dead, and there ’s conservatism domination of everything forever.” In 2008 it was “The Democrats have won, and it ’s the end of conservatism.” In 2010, it was “There ’s no way that Obama could be reelected after this. ” So nothing is permanent except mass extinction, which we may be working on. But I think the point is that we just keep on plugging, and you have to work. You can’ t only work on the big issues. I mean, in some sense climate change swamps everything, but meanwhile you dohave to worry about inflation targets.

JEFF: Well, I think one reason to be a little more pessimistic is that money talks louder than ever now in politics. So I don ’t think it ’s a matter of cyclical history anymore. PAUL: Well… JEFF: Arthur Schlesinger Jr. talked about that all the time, the cycle swings back and forth. I hope that ’s right.

PAUL: Well, and yet … JEFF: There ’s an argument for it.

PAUL: Strange fact: the most expensive presidential election as a share of GDP was 1896. So, you know, it ’s not as if we haven ’t had previous eras when money talked.

JEFF: Yup. We needed quite a revolution to come out of the mess of that period.

IRA KRISTADULU: My name is Ira Kristadulu. I ’m a retired executive. This question is primarily to Professor Krugman. Professor, you mentioned that large complex systems are inherently fragile and by extension this also means large economic and large financial systems. Now there ’s a new book, Fragile by Design by Professor Charles Calomiris and another gentleman from Columbia. In fairness to the book, only one piece of it is what I want to focus on, which is really that the reason for the 2008 crisis is due primarily to the Fannie Mae and Freddie Mac problem lending —or in effect, giving —subprime mortgages to the wrong people, namely the poor who couldn ’ t pay them back.

Now, I wanted to ask you, Professor Krugman, if you agree with this, because there is the counterargument on the other side that is called “the big lie. ”He calls thisthe big lie. And if you don ’t agree with it, it seems amazing to me that 132 Krugman and Madrick six years after the crisis, if science is the basis for economics, that the tools don’t exist to put this question to rest once and for all and not have a high-level disagreement by a person like Charles Calomiris and the other side arguing about such a basic point about what caused the crisis. Thank you.

PAUL: OK. The answer is it isa big lie, and the tools doexist, and it has been totally refuted. The vast bulk of bad loans were made by private lenders, not by Fannie Mae and Freddie Mac. And in any case, Fannie Mae and Freddie Mac did not collapse. They were not part of the financial crisis. The attempt to claim that they were involved in lots of subprime lending and other high-risk categories was sleazy because it turns out it wasn ’t actually high risk, and this whole story that the government “did it ”has been completely refuted. And among other things, there ’s this claim that all of this was happening because Barney Frank was forcing the government and forcing banks to make all of these bad loans at a time when Republicans controlled the House of Repre- sentatives. How is this supposed to have happened? Now the question you have to ask is why some well-known economists would buy into this. A lot of them, well-known economists, endorse this thoroughly refuted theory.

Well, we ’ve been talking about some of the incentives going on there, but it ’s astonishing. There was one review of that book that says it is a tour de force, and I mean that in the worst way. It’ s incredible that they would go with that lie. It just makes no sense at all, given everything we know.

JEFF: This a highly ideological debate supported by vested interests in well-financed think tanks. PAUL: Yeah. It’ s like the proposition that tax cuts for the wealthy yield enormous economic growth. Why haven ’t we been able to put that away?

Well, the answer is that wealthy people who want tax cuts finance an unquenchable faith in that view, no matter what the evidence is. MODERATOR: It is my grave duty to bring the evening to a close. But before we do, let me just ask Jeff and Paul if you each would like to make a final comment before we send our guests out into the night. JEFF: Well, I think this is an uphill battle. I hope economists engage more faithfully and maybe I shouldn ’t use the world intelligently, but more sincerely in this battle. I think economics has become subject to careerism. Economics has been simplified in order to make career advancement easier. And I think it ’s time to recognize that it ’s an academic discipline full of the difficulties and dirtiness of the real world, and it ’s time to make it less antiseptic, to make it less distanced from reality, and to make it flow with red blood again.

PAUL: I ’m not sure about the sanguinary metaphors, but there ’s a lot to be upset about and depressed about when it comes to the state of economics. But good work continues to be done. Particularly there are younger people in the field —for example, I was at a dinner with a mix of Wall Street economists— good guys, actually, there are some —and academics, but there were also some of the younger macro people there, and I came away enormously encouraged, that there is still hope. The new thing now is for us to grapple What ’s Wrong with Economics 133 with reality. Let’s grapple with what actually happens and not be too constrained by what was supposed to happen. Will we see complete redemp- tion? Will we get anybody who got it wrong admitting that they got it wrong?

Probably not. But you don ’t give up hope. I think the answer is not to burn down the whole structure and start over, so you work on what you can work on, and books like Jeff ’s are helpful. If they make people feel guilty, if they make people in the profession feel worried, that ’s the first step toward redemption.

JEFF: I hope so.

MODERATOR: On that note … [applause] … buy some books on the way out.

JEFF: OK, Paul, thanks.

PAUL: Thanks a lot.

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