What Would Fed Chairman Krugman Do?

Tyler Durden's picture

Steven Englander of Citi invokes 'String theory' to open the door to multiple universes, and in one of them Paul Krugman is undoubtedly Fed Chairman. Since the EUR is so dormant in this universe it may be interesting to expand our Strategy efforts to other, possibly more interesting, ones.

Start with the assumption that a Paul Krugman Fed would advocate strong fiscal and monetary measures and tolerate a significant run-up in inflation. At the end of the note I attach some links and some quotes which support this Krugman Fed view.

The question is how the USD would respond in this world. The first instinct is to say that the USD would be a lot weaker and that would undoubtedly be the first market reaction. There is enough suspicion about the US fiscal and monetary policy framework that additional fiscal and monetary easing combined with higher inflation are unlikely to allay.

Now consider some of the options – again multiple universes are helpful. The question is whether the ‘no holds bar’ stimulus measures could succeed in reducing unemployment. The Krugman view is that in the presence of excess capacity, fiscal policy is both justified and effective.  He argues that it is effective unconditionally and especially if the Fed is accommodating the fiscal stimulus.

The case for higher inflation is more controversial. Krugman makes the case that higher inflation would erode debt burdens, basically forcing haircuts on creditors.  So the needed balance sheet adjustment and reduction in real debt burdens would be accomplished quickly. And if the headwinds that the US economy faces is related to these balance sheet issues, full employment could be achieved and growth would be restored to trend.

My presumption is that the Krugman Fed would cooperate by financing the fiscal expansion, allowing government spending or (or in a very strange Republican Krugman parallel universe) tax cuts to have a real impact without affecting government debt. He makes a strong distinction between pumping liquidity into the banking system and directly into the real economy. In conventional terms,  this is Financial Repression 101, but inflation is desired, achieved and beneficial.

As a footnote there is an interesting parallel with Keynes’ 1930s argument that higher inflation was then needed to reduce real wages uniformly and efficiently. To a first approximation all workers take the same inflation hit. Efficiency is achieved because worker-by-worker negotiation is avoided.  A similar argument can be made with respect to the current need for creditor haircuts and the issues with one-by-one debt write-downs.

As a second footnote, the difference between Krugman Fed inflation and 1970s stagflation is that the Krugman inflation would have a real effect by reducing the real debt burdens, whereas the 1970s inflation in retrospect was doomed to fail because policymakers were trying to hit an employment target that was unachievable without constantly accelerating inflation.

The Krugman Fed (or maybe its successor Plosser Fed) would presumably revert to a lower inflation path once real debt burdens were cut, and full employment and trend growth achieved.  The low inflation path would be credible once the benefits from higher inflation disappeared. Put another way, what is needed is not permanently higher inflation, but a one-off step-up in wages and home prices relative to debt burdens, so the burdens can be more easily serviced. Once this is accomplished, inflation can return to a low level.

There are two downsides here. One is that the policies might not succeed. Plenty of economies have tried to spend and print their way to prosperity and the track record is not encouraging. In fact, if it worked, everyone would do it.  The argument in its favor is that real debt reduction would help resolve some of the headwinds facing the US economy.

The second negative is the Fed loss of credibility. Even if the Fed were able to convince investors that they would head back to the 2% inflation target, behavior might change because households, governments, corporations – in fact, everyone but savers – would come to see the Fed as the Tooth Fairy who fixes all wrongs.  Savers might demand permanently higher real rates on the view that inflation haircuts had been permanently added to the policy arsenal.

As Krugman points out there is a cost to an extended period of long-term unemployment. The bottom line is that unless you make low inflation a canonical virtue, you have to compare the long-term losses from lower credibility (if they exist) against the long-term gains from moving to full employment quicker (if they exist).

We took a long detour but now arrive at FX.   The potential Krugman Fed outcomes are:

1)    Full court press fiscal and monetary policies succeed, we get back to full employment and the Fed regains its virtue and shifts back to low inflation.


In this case we would see the USD as having a sharp and immediate real and nominal depreciation. This may be viewed as desirable by the Krugman Fed (who would suggest to other central banks with sluggish economies that they similarly inflate if they don’t like the currency outcome.) If the central bank is telling fixed income investors that they will face a significant haircut, foreign investors will likely impose a sharp cut in the price of US assets via the exchange rate.


However, if the policy succeeds, it means that eventually US policy rates can be normalized relatively quickly.  So the acute depreciation could eventually be followed by a USD rebound, especially if other countries were still facing headwinds that their policies had not addressed. It is probably the case that real USD would be stronger in real terms and weaker in nominal terms, but USD in a full-employment, normalized real rate environment would be a very attractive asset.


A major  downside risk is that the initial USD depreciation  generates a round of global capital controls that disrupt both economies and financial markets.


2)    Same as 1) but high inflation is stickier and becomes a permanent or semi-permanent factor.


Same as 1) but the USD rebound is less pronounced (and possibly nonexistent) in nominal terms, as the ongoing inflation discourages both domestic and foreign investment. Long-term higher inflation will probably be a negative for growth, so there would be an additional risk premium on both nominal and real USD.


3)    The policies fail - Weimar Republic


We can contrast with the potential USD outcomes from the current policy regime:

1)    Low inflation, stagnant growth and constant debate on whether additional the banking system will be forcefed additional reserves.


Continued battle between chronic risk of additional stimulus and the headwinds faced by other economies.  Foreign investors would prefer to sell USD in this environment because they see little exit from easy money and easy fiscal policies (a very dampened version of their reaction to the Krugman Fed) but are conscious of the tail risk associated with the EUR and the sensitivity of EM to the global business cycle. So we cycle between episodes of USD buying on safe haven concerns, and selling when risk appetite is restored.


2)    A Bernanke Fed that succeeds in gradually returning to full employment.


Virtue rewarded.  The USD rallies sharply in nominal and real terms as soon as there is any realistic prospect that the Fed will pursue its exit strategy and fiscal imbalances contract.

We leave it to you to weight the probabilities of these outcomes.


Links to recent Paul Krugman posts and selected quotes.





higher expected inflation would aid an economy up against the zero lower bound, because it would help persuade investors and businesses alike that sitting on cash is a bad idea.”

would a rise in inflation to 3 percent or even 4 percent be a terrible thing? On the contrary, it would almost surely help the economy.”

“Modest inflation would, however, reduce that overhang — by eroding the real value of that debt — and help promote the private-sector recovery we need”

“And now the results are in: Keynesians have been completely right, Austerians utterly wrong — at vast human cost.”

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
SilverTree's picture




battle axe's picture

There is not enough paper on the planet for him to print $$$$, he  would wipe out all the  forests.

SilverTree's picture


resurger's picture

you owe me Millinillion $103003

MillionDollarBonus_'s picture

Dr Paul Krugman is one of the most learned and influential intellectuals of our time. Sure, his views are radical to some. But this is the price one must pay to be virtuous in an ignorant and hateful society that lacks the maturity to think objectively on sensitive topics like "inflation" and "unemployment". I admire Dr Krugman’s stoicism in the face of the appalling verbal abuse he has received from libertarians and rednecks with no sense of courtesy, rationality, ethics or economic knowledge. Paul Krugman, Ben Bernanke, Timothy Geithner and Hank Paulson are modern-day founding fathers and will go down in history as the most successful economic planners of their time. They have succeeded in averting a double dip recession, and creating growth where none thought it possible, and our children will be ashamed that their elders treated these economists with such contempt.

magpie's picture

Indeed. In History, great men like him enable the institution of gold standards in the first place...

Leopold B. Scotch's picture

Modern day founding fathers!!!!!  Toooooooo Rich.

What's the word for milk coming out of your nose from gut busting laughter, at the same time you're shitting yourself in disbelief?

SilverTree's picture



We love to hate you and hate to love you.

BeetleBailey's picture

It's hard to resist not liking the turd, ain't it?

Element's picture

Ambivalence (noun) : mixed feelings or emotions [syn: ambivalency]  The coexistence of opposing attitudes or feelings (such as love and hate) towards a person, object or idea.

Extensive Definition
Ambivalence - a state of having emotions of both positive and negative valence or of having thoughts or actions in contradiction with each other, when they are related to the same object, idea or person (for example, feeling both love and hatred for someone or something). The term is also commonly used to refer to situations where 'mixed feelings' of a more general sort are experienced or where a person experiences uncertainty or indecisiveness concerning something.

Ambivalence in psychoanalysis
In psychoanalytic terminology, however, a more refined definition applies: the term (introduced into the discipline by Bleuler in 1911), refers to an underlying emotional attitude in which the co-existing contradictory impulses (usually love and hate) derive from a common source and are thus held to be interdependent.

Another relevant distinction is that whereas the psychoanalytic notion of 'ambivalence' sees it as engendered by all neurotic conflict, a person's everyday 'mixed feelings' may easily be based on a quite realistic assessment of the imperfect, inconsistent or self-contradictory nature of the thing being considered.


i.e.  not altogether unlike the process of getting a leg-over with the wife.

yogibear's picture

Krugman is the Adolf Hiter of Keynesian economics.

Clueless Economist's picture

Thanks MDB, I agree completely.

--P. Krugman


NY Times writer



Ivy Leaguer

All-Around douchebag

fuu's picture

I gave you a +1 only for "All-Around douchebag". Most accurate thing you've ever said Kruggie.

njdoo7's picture

The ignorant and hateful members of society are the ones who worship Krugman.  They also claim those who question krugman have no rationality, ethics, or economic knowledge..because they themselves lack these attributes and cannot hold a legitimate discussion with those who exceptionally practice these attributes.  There is nothing objective about creatively working within the box of keynesian theory (ie: making false assumptions).  Krugman's economic theory got us where we are today, facing the largest economic crisis in human history, and his kind has only suceeded in delaying/prolonging the inevitable. 


When the great keynesian experiment ends in catastrophe, will those hateful worshippers of Krugman scapegoat the failure on non-believers and those who naturally acted in contrast to keynesian assumptions?

Chump's picture

Dude you're back and nailing it! 

sgt_doom's picture

I guess you're serious $1MBonus, bus seriously, your the same guys who believe Obama, with his 100% neocon administration, is a democrat, right? ? ?

Krugman, Group of Thirty, phony crat or faux crat, still fools all those rightwingers who claim to be "liberals" or "democrats" easily enough --- except that each and everytime the topic involves massive financial speculation, Krugman ALWAYS comes down on the side of that vile bankster klass!

But that is predicable, after all, as Krugman has long been a member of that Group of Thirty.....

Zero Govt's picture

MillionDumbBureaucrats  - you just have to see a Doctor... I'm not sure he can do anything for you, it appears way too late for that, but at very least he'll valium your delusionally pickled brain

MeelionDollerBogus's picture

Ah, millionfecesbonus... Krugman hasn't been right yet, nor has Bernanke.

We're in a triple-layered recession which hasn't recovered for 20 years with the most recent layer being razorblades of overt fraud and theft, and the previous layer being 3 feet thick of monkey feces of overt insider trading and jobs shipped deliberately outside of domestic territory.

BeetleBailey's picture

Seek help. Seriously.

You have lapped water from the toilet far too long, and the combination of toxic waste and fluoride has damaged your once sound mind.

Maybe that's it - you never had one to begin with, and are some auto-bot in the bowels of Obama's Truth or Show me a Link Jonestown of deflect and deny it all.

It is almost fun skewering you like a piece of lamb ready for the BBQ.

Key word being "almost".

Then again, I'm adding up the time it takes to typographically lampoon your bizarre diatribes of ka ka.

My bill will be in the mail to your loboto-cave shortly. I'm not cheap, so account for that self-flagellating  million dollar bonus, and subtract much of it.


Krugman, Geithner, Helicopter Bennie, and Paulson...Founding Fathers.....LOL.....good one.

AgShaman's picture

Is that code for?....

"Jimmy Crack Corn"

ACP's picture

Madman Bernanke would simply morph into Krugman and call himself the Criminal Fed Chief Formerly Known as Bernanke.

CH1's picture

Freeking brilliant!

Appoint Krugman to the Fed and bring that sucker down!

redpill's picture

Ya know a part of me would like to see it happen just so we can get this crap over with and swiftly proceed to the inevitable demise.

Bam_Man's picture

Make Krugman Fed Chairman and you can immediately kiss the Dollar's reserve currency status good-bye.

And that will get you plenty of inflation. A lot more than even that maniac has in mind.

bigdumbnugly's picture


first i suppose the weasel would have to change his underwear after finding out he had a real job with real consequences and not one in which he can just give "sage advice" from the sidelines all the time.

after that, yeah, he'd prolly print plenty.

Whoa Dammit's picture


Walk on dollars.

Turn paper into whine.


WonderDawg's picture

WWKD? He would do what he's told to do by his employers, just like Bernanke does.

Whoa Dammit's picture

Forgot one...

Set up tables for the money changers.

The Alarmist's picture

I was on another page when I shuddered and felt a dark disturbance in the force.

mendigo's picture

Its kind of cool:
Picture Krugman as Fed Chairman; hold that image for a moment.
When you come out of the catatonic despair, you will experience a brief euphoria. Then you may hurl.

Everybodys All American's picture

Republican Krugman? Come on who ever wrote this knows better. That guy is the biggest progressive libtard on the planet.

SheepDog-One's picture

FED Chairsatan Krugman would probably immediately do $100 trillion QE. Of course it still wouldnt work, no amount actualy DOES work because its all just diluted currency and we'd be left with $100/gal gas and other horrendous real inflation but he'd still call himself 'right' because stocks would probably be way up. And we all know that stocks are all that matters. Nevermind the only entity who owned and traded stocks would be the FED itself, he'd still claim success. 

q99x2's picture

Obviously there is no dealing with these punks. Until some of them are arrested and thrown into jail nothing is going to change.

Revolution this summer coming to a town near you.

Dr. Engali's picture

The question should be...What should the Fed chairman Bernank and Paul Krugman do?



SheepDog-One's picture

They should tie themselves in a burlap sack and hurl themselves into a lake.

taniquetil's picture

Paul Krugman would no doubt initiate Eternal QE, where anyone could borrow as much money as they wanted at 0% interest.

SheepDog-One's picture

Anyone? Or just his elite central bankster friends?

jomama's picture

who cares, he's a fucking maroon.

Zero Govt's picture

Yep, totally away with the fairies

t_kAyk's picture


buzzsaw99's picture

Krugman would blow the same people the bernank blows.

Catullus's picture

They could always take the Treasury bonds purchased on the secondary market and mark them to zero and remit all interest payments back the Federal Government as Fed "profits". That way the Fed can reduce the interest burden in the Treasury Dept and they can continue to spend spend spend spend.

Krugman's big into the a huge government works project. Like pyramids or giant statues of great heroes in socialistic thought. So we need a giant statue of Carolina Kennedy's vagina built on top of the city of Cleveland, OH.

Also lowering the work week to 25 hours and increasing minimum wage to $20/hr to spread the wealth.

And increased funding for dry humor sitcoms on NBC like Frazier and Mad About You. Come to think of it, a statue of Helen Hunt would also be needed. That will be built in some "red state" city like Corsicana, TX or some shithole in Arkansas.

Clayton Bigsby's picture

Krugman sucks dicks and barks at the moon.

sgt_doom's picture

Krugman? ?

Knowledgeable in astronomy? ?

I dunno....that's kinda difficult to accept....

As for the Federal Reserve, is there truly anyone alive, with more than the usual complement of three plus neurons, who still doesn't understand that it's simply a speculation-bubble-machine? ? ?

I mean, with the introduction of the Federal Reserve Act way back when, there was immediate reduction in reserve requirments, etc., etc., etc., key to the present.......

The Swedish Chef's picture

I think he´d talk to whomever is in charge of NASA at the US government to see if they couldn´t provoke that alien invasion.

JW n FL's picture




Home > Your Role > Events

10th Annual Chicago Open Your Heart to the Children Benefit 5/23/2012 - Midwest

(Please note the change in date.)

Join us in celebrating our 10th Annual Hedge Funds Care Midwest Open Your Heart to the Children Benefit!

Wednesday, May 23, 2011

Venue One
1044 West Randolph
Chicago, IL 60607

Whoa Dammit's picture

The time to inflate was before the housing market crashed. Too late now.

Krugman is a day late and a dollar superfluous.

midgetrannyporn's picture

The trannies refuse to confirm recent stock market action.