Paul Krugman Suffers a Memory Lapse

smoot_hawleyPaul Krugman, who is very upset with Republicans on both sides of the Trump divide, ridiculed Mitt Romney’s attack on Trump for being a protectionist. Romney warned that if Trump implemented his proposed protectionist policies, the result would likely be a trade war and a recession. Now I totally understand Krugman’s frustration with what’s happening inside the Republican Party; it’s not a pretty sight. But Krugman seems just a tad too eager to find fault with Romney, especially since the danger that a trade war could trigger a recession, while perhaps overblown, is hardly delusional, and, as Krugman ought to recall, is a danger that Democrats have also warned against. (I’ll come back to that point later.) Here’s the quote that got Krugman’s back up:

If Donald Trump’s plans were ever implemented, the country would sink into prolonged recession. A few examples. His proposed 35 percent tariff-like penalties would instigate a trade war and that would raise prices for consumers, kill our export jobs and lead entrepreneurs and businesses of all stripes to flee America.

Krugman responded:

After all, doesn’t everyone know that protectionism causes recessions? Actually, no. There are reasons to be against protectionism, but that’s not one of them.

Think about the arithmetic (which has a well-known liberal bias). Total final spending on domestically produced goods and services is

Total domestic spending + Exports – Imports = GDP

Now suppose we have a trade war. This will cut exports, which other things equal depresses the economy. But it will also cut imports, which other things equal is expansionary. For the world as a whole, the cuts in exports and imports will by definition be equal, so as far as world demand is concerned, trade wars are a wash.

Actually, Krugman knows better than to argue that the comparative statics response to a parameter change (especially a large change) can be inferred from an accounting identity. The accounting identity always holds, but the equilibrium position does change, and you can’t just assume that the equilibrium rate of spending is unaffected by the parameter change or by the adjustment path the follows the parameter change. So Krugman’s assertion that a trade war cannot cause a recession depends on an implicit assumption that a trade war would be accompanied by a smooth reallocation of resources from producing tradable to producing non-tradable goods and that the wealth losses from the depreciation of specific human and non-human capital invested in the tradable-goods sector would have small repercussions on aggregate demand. That might be true, but the bigger the trade war and the more rounds of reciprocal retaliation, the greater the danger of substantial wealth losses and other disruptions. The fall in oil prices over the past year or two was supposed to be a good thing for the world economy. I think that for a lot of reasons reduced oil prices are, on balance, a good thing, but we also have reason to believe that it also had negative effects, especially on financial institutions holding a lot of assets sensitive to the price of oil. A trade war would have all the negatives of a steep decline in oil prices, but none of the positives.

But didn’t the Smoot-Hawley tariff cause the Great Depression? No. There’s no evidence at all that it did. Yes, trade fell a lot between 1929 and 1933, but that was almost entirely a consequence of the Depression, not a cause. (Trade actually fell faster during the early stages of the 2008 Great Recession than it did after 1929.) And while trade barriers were higher in the 1930s than before, this was partly a response to the Depression, partly a consequence of deflation, which made specific tariffs (i.e., tariffs that are stated in dollars per unit, not as a percentage of value) loom larger.

I certainly would not claim to understand fully the effects of the Smoot Hawley tariff, the question of effects being largely an empirical one that I haven’t studied, but I’m not sure that the profession has completely figured out those effects either. I know that Doug Irwin, who wrote the book on the Smoot-Hawley tariff and whose judgment I greatly respect, doesn’t think that Smoot Hawley tariff was a cause of the Great Depression, but that it did make the Depression worse than it would otherwise have been. It certainly was not the chief cause, and I am not even saying that it was a leading cause, but there is certainly a respectable argument to be made that it played a bigger role in the Depression than even Irwin acknowledges.

In brief, the argument is that there was a lot of international debt – especially allied war loans, German war reparations, German local government borrowing during the 1920s. To be able to make their scheduled debt payments, Germany and other debtor nations had to run trade surpluses. Increased tariffs on imported goods meant that, under the restored gold standard of the late 1920s, to run the export surpluses necessary to meet their debt obligations, debtor nations had to reduce their domestic wage levels sufficiently to overcome the rising trade barriers. Germany, of course, was the country most severely affected, and the prospect of German default undoubtedly undermined the solvency of many financial institutions, in Europe and America, with German debt on their balance sheets. In other words, the Smoot Hawley tariff intensified deflationary pressure and financial instability during the Great Depression, notwithstanding the tendency of tariffs to increase prices on protected goods.

Krugman takes a parting shot at Romney:

Protectionism was the only reason he gave for believing that Trump would cause a recession, which I think is kind of telling: the GOP’s supposedly well-informed, responsible adult, trying to save the party, can’t get basic economics right at the one place where economics is central to his argument.

I’m not sure what other reason there is to think that Trump would cause a recession. He is proposing to cut taxes by a lot, and to increase military spending by a lot without cutting entitlements. So given that his fiscal policy seems to be calculated to increase the federal deficit by a lot, what reason, besides starting a trade war, is there to think that Trump would cause a recession? And as I said, right or wrong, Romeny is hardly alone in thinking that trade wars can cause recessions. Indeed, Romney didn’t even mention the Smoot-Hawley tariff, but Krugman evidently forgot the classic exchange between Al Gore and the previous incarnation of protectionist populist outrage in an anti-establishment billionaire candidate for President:

GORE I’ve heard Mr. Perot say in the past that, as the carpenters says, measure twice and cut once. We’ve measured twice on this. We have had a test of our theory and we’ve had a test of his theory. Over the last five years, Mexico’s tariffs have begun to come down because they’ve made a unilateral decision to bring them down some, and as a result there has been a surge of exports from the United States into Mexico, creating an additional 400,000 jobs, and we can create hundreds of thousands of more if we continue this trend. We know this works. If it doesn’t work, you know, we give six months notice and we’re out of it. But we’ve also had a test of his theory.


GORE In 1930, when the proposal by Mr. Smoot and Mr. Hawley was to raise tariffs across the board to protect our workers. And I brought some pictures, too.

[Larry] KING You’re saying Ross is a protectionist?

GORE This is, this is a picture of Mr. Smoot and Mr. Hawley. They look like pretty good fellows. They sounded reasonable at the time; a lot of people believed them. The Congress passed the Smoot-Hawley Protection Bill. He wants to raise tariffs on Mexico. They raised tariffs, and it was one of the principal causes, many economists say the principal cause, of the Great Depression in this country and around the world. Now, I framed this so you can put it on your wall if you want to.

You can watch it here


18 Responses to “Paul Krugman Suffers a Memory Lapse”

  1. 1 Frank Restly March 6, 2016 at 10:43 pm


    “So given that his fiscal policy seems to be calculated to increase the federal deficit by a lot, what reason, besides starting a trade war, is there to think that Trump would cause a recession?”

    Tariffs could work as long as they were linked to debt outstanding. Rather than collect tariffs in the form of monetary payment, Trump could limit tariff collections to the redemption / cancellation of outstanding U. S. federal debt held abroad. If that could hold up under the WTO, then I think the benefits outweigh the costs.

    Presuming that tariffs implemented by Trump would cool foreign demand for U. S. federal debt the likely effect of Trump’s other initiatives (lower taxes, increased spending) will likely push interest rates and / or private savings rates higher absent intervention by the central bank.


  2. 2 Peter Schaeffer March 6, 2016 at 10:52 pm

    Gore “won” his debate with Perot. Since then the U.S. has moved drastically towards “free trade”. The results (notably since 2000) have been dismal. Vast job losses. Declining LFP. Declining median incomes. Massively greater inequality. Spiraling welfare dependency / “disability”. Quote from “The China Shock: Learning from Labor Market Adjustment to Large Changes in Trade” by David H. Autor, David Dorn, Gordon H. Hanson.

    “China’s emergence as a great economic power has induced an epochal shift in patterns of world trade. Simultaneously, it has challenged much of the received empirical wisdom about how labor markets adjust to trade shocks. Alongside the heralded consumer benefits of expanded trade are substantial adjustment costs and distributional consequences. These impacts are most visible in the local labor markets in which the industries exposed to foreign competition are concentrated. Adjustment in local labor markets is remarkably slow, with wages and labor-force participation rates remaining depressed and unemployment rates remaining elevated for at least a full decade after the China trade shock commences. Exposed workers experience greater job churning and reduced lifetime income.

    The mobility costs that rationalize slow adjustment imply that short-run trade gains may be much smaller than long-run gains…Using a quantitative theoretical model, Caliendo, Dvorkin, and Parro (2015) find that in the immediate aftermath of a trade shock, constructed to mimic the effects of growth in U.S. imports from China, U.S. net welfare gains are close to zero.”


  3. 3 Nick Rowe March 7, 2016 at 3:26 am

    Good post. In some ways, the decline in trade (between countries) caused by tariffs is similar to the decline in trade (both within a country and between countries) caused by a global monetary disequilibrium. In principle, central banks could prevent the first leading to the second, but whether they would in fact do that is not obvious. Probably not under the gold standard, and probably not under Inflation targeting, where a trade war is a supply shock.


  4. 4 Peter Schaeffer March 7, 2016 at 8:45 am

    Any number of books were published about the Great Depression at the time and in later decades. Strangely enough, none mentioned Smoot-Hawley and they barely mentioned trade. Only when “free trade” became a religious dogma in the U.S. was the supposed linkage between Smoot-Hawley and the Great Depression “discovered”.

    It is easy and correct to critique Krugman for ignoring the efficiency losses associated with lower trade values (particularly in a transition). However, Krugman also ignores (but certainly knows about) the vast trade deficit. It is straightforward to argue that any efficiency losses from tariffs would be more than offset by economic gains derived from eliminating the trade deficit.

    Overall, Trump’s trade plan is net plus for the U.S. Allowing for the diminishing marginal utility of consumption, the likely gains are quite large. Of course, the Corporate Roundtable opposes it as a threat to executive bonuses. They are correct of course.


  5. 5 David Glasner March 7, 2016 at 5:10 pm

    So it sounds like you don’t think Trump will start a recession, at least if he follows your advice. Maybe you should reach out to him.

    Peter, The Gore/Perot debate took place in 1993. What does LFP stand for?

    Nick, Thanks. In a certain sense, an increase in tariffs is less disruptive than monetary disequilibrium, because the (first-order) effects of an increase in tariffs would seem to be fairly predictable. The effects of a monetary disequilibrium seem harder to predict and therefore may be more disruptive.

    Peter, I very much doubt that there were no books that discussed Smoot-Hawley and its role in the Great Depression. Just to name one, Lionel Robbins’s book The Great Depression discussed the Smoot Hawley tariff as a contributing factor. I can’t imagine that there were not others that did as well. But you are right that the role of the Smoot Hawley tariff was greatly emphasized about 40 years after the fact by Jude Wanninski, who was a very brilliant journalist, but a nut, who wrote a remarkable book called The Way the World Works in the mid-1970s calling for greatly reduced marginal tax rates and influenced a young Congressman from New York, named Jack Kemp, who in turn convinced Ronald Reagan that tax cutting was the key to political success. Wanniski fairly ingeniously was able to show anecdotal correlations between the prospects of the Smoot Hawley tariff passing in 1929 and 1930 with the ups and downs of the stock market. Rhetorically at least it was a great read and made the Smoot Hawley tariff which had long been forgotten into a kind of symbol of the evils of protectionism. I don’t know if Al Gore was influenced directly by Wanniski but even if he wasn’t, there was certainly an indirect influence. Prior to that the Republican party was not dogmatically in favor of free trade, but the influence of Wanniski and Friedman on Reagan helped make free trade a plank of conservative orthodoxy. The support for free trade was always more rhetorical than practical, as both Reagan and Bush adopted import quotas when it was politically expedient to do so.


  6. 6 larsjdk March 8, 2016 at 2:04 am

    Dear David Glasner, I was directed to you on another article and got rather curious about your ‘mentor’ here. So I went to search for some of his works and fell over his book THE BALANCE OF PAYMENTS AND THE STANDARD OF LIVING by R. G. HAWTREY. I googled Jstor and found this review (I couldn’t access it all) but I am very interested in a comment from you on this book and the reasoning in it. I mean it must be relevant for a discussion of the so-called ‘trade agreements’ TTP, TTIP etc.


  7. 7 Frank Restly March 8, 2016 at 7:12 am


    The only way tariffs work is if they can be implemented without reciprocal action. Otherwise, they become a tit for tat nobody wins exercise in futility.

    That is why I brought up tariffs being assessed in terms of cancellation / redemption of sovereign debt held abroad. Presumably the country experiencing the trade deficit is a net debtor country while the country experiencing the trade surplus is a net creditor country. If the country with a trade deficit can impose tariffs by simply cancelling it’s external debt, it’s not like the trade surplus country can reply in kind.

    Obviously there are problems with this solution. The company / enterprise owning the external debt is not likely to be the same company / enterprise that exports goods. And so, the cancellation of sovereign debt would amount to whipping Peter to punish Paul.

    “So it sounds like you don’t think Trump will start a recession, at least if he follows your advice. Maybe you should reach out to him.”

    Trump does not need my advice. I don’t agree that tariffs are a good idea. My only comment was that for tariffs to be effective, they would need to be implemented without reprisal.


  8. 8 Capt. J Parker March 8, 2016 at 7:46 pm

    @Peter Schaeffer, You said: “It is straightforward to argue that any efficiency losses from tariffs would be more than offset by economic gains derived from eliminating the trade deficit.” The US trade deficit is financed buy net foreign investment in the US. So, it doesn’t seem to me it is at all straightforward that the existing US trade deficit amounts to an economic loss. It is merely an expression of American’s preferences for foreign products and foreigner’s preferences for American capital investments. Seems more likely to me that eliminating the ability for people to exercise either preference is a loss.


  9. 9 JKH March 11, 2016 at 5:41 am

    I think it’s worse than you think.

    Not only has Krugman reasoned from an accounting identity in a very questionable way, but he’s also incorrect in the way he’s interpreted the identity itself.

    If BMW cuts production to 0, then German GDP will shrink by that amount, other things equal.

    Other things equal, US GDP will be unaffected.

    So global GDP will shrink.

    The GDP equation Krugman uses shows a subtraction of imports. That’s because the value of imports is included in the domestic spending that is part of the GDP equation.

    So if imports of BMWs are no longer subtracted from US GDP (essential to Krugmans offset argument), I
    its because the value of BMWs as reflected in US spending is no longer included. This means that the net net US offset to the decline in German exports is 0 , and therefore global GDP shrinks by the value of BMW export decline, again other things equal which is Krugmans line of accounting reasoning here.

    In other words, Krugmans resort to argument by identity – which is an other things equal argument – actually shows the opposite of what he would like it to prove. It shows net full contraction rather than net offset.

    From that revised starting point, your analysis then holds.

    But unless I’m wrong, this seems like the compounding of 2 rookie errors by Krugman. It seems unbelievable,given that he’ a trade guy. But I don’t think I’m wrong.


  10. 10 JKH March 11, 2016 at 5:55 am

    i.e. the substitution effects should be argued from a starting point of full export contraction according to the accounting identity rather than net export/import effect of 0

    Krugman has inadvertently argued his own worst case by failing to understand the accounting identity in static terms

    again, seems unbelievable to me

    but show me where I’m wrong


  11. 11 Frank Restly March 11, 2016 at 6:38 am


    “If BMW cuts production to 0, then German GDP will shrink by that amount, other things equal. Other things equal, US GDP will be unaffected. So global GDP will shrink.”

    Even that is unclear. BMW’s production decline could be offset by an increase in production from Mercedes (no change in US net exports) or Chrysler (U. S. trade deficit falls as American buyers switch to domestic brands).

    “This means that the net net US offset to the decline in German exports is 0.”

    Only if U. S. car consumption falls commensurately with the extinction of BMW. If instead U. S. car buyers simply switch to a different brand, then there will either be a reduction in the U. S. trade deficit (Chryslers are bought instead of BMW’s) or no change in trade balance (Mercedes are bought instead of BMW’s).


  12. 12 JKH March 11, 2016 at 8:40 am

    no Frank

    I’m deliberately doing an other things equal consequence of an export contraction

    which is what Krugman is doing, but he’s doing it incorrectly from a GDP accounting perspective in the first order

    other consequences realistically follow through with ‘other things not equal’

    which is fair enough in the full analysis

    but that’s not my point

    PK has made an error in the static accounting assuming other things equal


  13. 13 JKH March 11, 2016 at 9:03 am

    in other words

    PK is reasoning from accounting

    which is not a good thing to do – as David points out

    but beyond that, his version of accounting that he’s reasoning from is itself incorrect – the way he’s doing it


  14. 14 Jerry Brown March 11, 2016 at 5:38 pm

    David Glasner- I have enjoyed reading your blog for many months now. It is great and highly educational. Thank you.

    This is my understanding of what Krugman is saying in his post. Krugman – Romney says Trump’s policies will start a trade war. The trade war will cause a recession. Don’t vote for Trump etc. etc.

    Krugman – Romney declares that drastically reducing trade will cause a recession. This is not necessarily so- look at how GDP is determined- here is one basic equation. Romney is making a mistake because you can’t assume that this reduction in trade will cause GDP to drop- look at the identity here, this one shows that an equal reduction in exports and imports does not necessarily cause a reduction in GDP. Romney is stupid etc. etc.

    So Krugman is saying ( actually quite carefully) that Romney is the one wrongly arguing from the identity. And Krugman doesn’t say a recession can’t happen, he just says that it won’t necessarily happen.

    So I don’t see that Krugman is arguing from the identity.


  15. 15 Frank Restly March 14, 2016 at 1:55 am


    “I’m deliberately doing an other things equal consequence of an export contraction.”

    But all things are not equal if BMW cuts production to zero. Either U. S. consumption will fall (it will not be equal to what it was before) or U. S. / Mercedes production will rise (they will not be equal to what they were before).

    If U. S. consumption falls with decreased imports then you are correct – German GDP falls, U. S. GDP is unaffected.

    If U. S. consumption stays the same and U. S. production rises then German GDP falls, U. S. GDP rises.

    If U. S. consumption stays the same and Mercedes production (and exports) rise then German GDP is unaffected, U. S. GDP is unaffected.

    The blanket statement “other things being equal” fails to define what those other things are.


  16. 16 David Glasner March 14, 2016 at 5:17 pm

    Lars, I am actually am not familiar with this book at all. With one exception all my knowledge of Hawtrey’s work is from his prewar writings. I was able to get a preview of the first page of the review, and I did not come away with the impression that there was a lot to be learned from it. It seems to have been written very specifically for the very special conditions that obtained in the years immediately after World War II.

    Frank, Tariffs, even if they lead to retaliation will benefit the domestic producers of import competing products and will shift output from industries that produce goods that are internationally traded to industries that produce goods that are not internationally traded. In other words, the composition of output will be affected by raising tariffs.

    J Parker, Certainly a trade deficit is not intrinsically a bad thing.

    JKH, Frank and Jerry, Sorry, but it’s just too hard for me to follow all these ceteris paribus assumptions, so I am going to have remain agnostic about how badly Krugman’s reasoning has gone astray.


  17. 17 Benjamin Cole March 14, 2016 at 6:44 pm

    Good post. But why is the topic always free trade, and never ubiquitous property zoning and or the routine criminalization of push-cart vending?


  18. 18 Frank Restly March 27, 2016 at 11:02 pm


    “Frank, Tariffs, even if they lead to retaliation will benefit the domestic producers of import competing products and will shift output from industries that produce goods that are internationally traded to industries that produce goods that are not internationally traded.”

    Even if true, that should benefit domestic producers on both sides of the ocean. And so neither country gains a net benefit. The only way an individual country can gain a net benefit from tariffs is if a trade partner (country) is unwilling / unable to retaliate.


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About Me

David Glasner
Washington, DC

I am an economist in the Washington DC area. My research and writing has been mostly on monetary economics and policy and the history of economics. In my book Free Banking and Monetary Reform, I argued for a non-Monetarist non-Keynesian approach to monetary policy, based on a theory of a competitive supply of money. Over the years, I have become increasingly impressed by the similarities between my approach and that of R. G. Hawtrey and hope to bring Hawtrey’s unduly neglected contributions to the attention of a wider audience.

My new book Studies in the History of Monetary Theory: Controversies and Clarifications has been published by Palgrave Macmillan

Follow me on Twitter @david_glasner


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