Paul Krugman argues that Fed's monetary inflation is the cause of economic growth and hasn't caused significant price inflation. Here's why he's wrong.

Paul Krugman thinks that since the housing bubble burst a decade ago, the Federal Reserve has managed the economy “superbly”. It is proper, in his view, that a small group of technocrats try to centrally plan the economy by manipulating the currency supply and interest rates.

This view is premised on the assumption that the free market could not function, or at least not function as optimally, without this central planning.

Is this correct? Are the Fed’s manipulations necessary for the economy to function and for economic growth to occur? Do we require the Fed’s intervention in the market for our standard of living to be increased?

We have good reason to be skeptical of Krugman’s contention. After all, this is a guy who throughout the 2000s advocated the Fed inflate the currency supply specifically in order to fuel a boom in the housing sector.

And we all know how well that worked out.

So is he on to something this time? Or are are his assumptions fundamentally flawed as in the case of the housing bubble?

The Fed’s ‘Superb’ Response to the Housing Bubble

The Federal Reserve “is by far our most important economic agency”, writes Krugman in his New York Times column of October 6, 2017. The Fed chairperson “is arguably the most powerful economic official in the world, more than the president himself.”

But never fear! The “technocrats” that make up the Fed Board are above partisan politics.

Krugman continues:

For more than a decade the Fed chair has been a distinguished academic economist — first Ben Bernanke, then Janet Yellen. You might wonder how such people, who have never been in the business world, who have never met a payroll, would deal with real-world economic problems; the answer, in both cases: superbly.

In particular, both Bernanke and Yellen responded effectively to a once-in-three-generations economic crisis.

As Krugman explains it:

When the financial crisis struck in 2008, it was essential that the Fed engage in aggressive monetary expansion — loosely speaking, print lots of money.

There are circumstances in which that kind of action would be inflationary, but economists (like Bernanke and, well, yours truly) who had studied the subject understood that this wasn’t one of those times. Indeed, inflation stayed quiescent even as the Fed quadrupled the monetary base.

Krugman chastises critics of the Fed’s inflationary monetary policy who warned that it would “would debase the dollar and lead to runaway inflation.” He scolds:

And it goes more or less without saying that none of the people who kept warning that the Fed would cause terrible inflation have admitted having been wrong, or learned anything from the experience.

So is there anything wrong with Krugman’s belief that the Fed has been managing the economy “superbly”?

Fed Technocrats Are Not Omniscient

Economics Professor William L. Anderson at the Mises Institute pinpoints the absurdity underlying Krugman’s belief:

People like Krugman believe that Washington and its gaggle of Alphabet-Soup agencies regulating nearly every aspect of individual lives is the very source of social stability and economic prosperity in this country – provided there are little or no restraints on what government agents can do. As Krugman and his fellow progressives see it, we need more, not less, bureaucratic control of our lives, and especially control by people of progressive bent with “elite” academic credentials, since they are smarter than the rest of us, so they should be able to tell us what to do.

The fallacy of this thinking, Anderson points out, is that “the kind of knowledge needed within a growing and prosperous economy is not the distant academic knowledge, but rather the boots-on-the-ground knowledge undergirded by a price system held by entrepreneurs and others directly involved with enterprises.”

Underlying Krugman’s position is the assumption is that the Fed “had nothing to do with” creating the housing bubble:

Indeed, Bernanke and his minions only wisely reacted to the crisis once the free market, which created the disaster in the first place, had run its destructive course.

This is a re-occurring theme in Krugman’s writings: the free market creates crisis after crisis and then the “adults” from the federal regulatory agencies must step in and repair the damage, and if Krugman could have political control, those agencies would have unlimited powers to control the economy, since the agencies consist of people who know more than everyone else.

However, as Nobel Prize-winning economist Friedrich A. Hayek observed in a 1945 essay, no one individual or small group of technocrats have the totality of knowledge necessary in order to be able to efficiently direct scarce resources toward productive ends. It is the market’s pricing system that enables such efficiency, and without it, decisions about how to direct resources must be made arbitrarily.

As Hayek wrote,

[T]here is beyond question a body of very important but unorganized knowledge which cannot possibly be called scientific in the sense of knowledge of general rules: the knowledge of the particular circumstances of time and place. It is with respect to this that practically every individual has some advantage over all others because he possesses unique information of which beneficial use might be made, but of which use can be made only if the decisions depending on it are left to him or are made with his active coöperation. We need to remember only how much we have to learn in any occupation after we have completed our theoretical training, how big a part of our working life we spend learning particular jobs, and how valuable an asset in all walks of life is knowledge of people, of local conditions, and of special circumstances.

This individual knowledge is something no Fed chairperson could possess to such an extent that, by manipulating prices, they are able to more efficiently direct scarce resources.

As Hayek pointed out, “the essential utility of the price system consists in inducing the individual, while seeking his own interest, to do what is in the general interest.”

This is because market’s prices are the signal that instructs entrepreneurs and investors how to direct resources toward productive ends as determined by the will of consumers–that is, by all of us.

Reviewing Krugman’s Record

Krugman’s economic belief system simply fails to take into account Hayek’s important observation about the role of prices and individual knowledge. Krugman thinks a small group of technocrats who are supposedly smarter than the rest of us should instead steer the economy precisely by manipulating prices.

In his Mises Institute piece, Anderson also cites my own article “Denying Fed’s Role in Housing Bubble, Paul Krugman Exposes His Intellectual Dishonesty“, which illustrates the utter absurdity of Krugman’s belief system. In that article, I reviewed Krugman’s record of having advocated the Fed push down interest rates to blow up the housing bubble.

He has of course since denied the Fed’s role in blowing up the bubble, but his denials are simply untenable in light of his own statements about it prior to the bubble’s bursting. I provided some enlightening examples, pulled from my book Ron Paul vs. Paul Krugman: Austrian vs. Keynesian Economics in the Financial Crisis:

“Millions of Americans have decided that low interest rates offer a good opportunity to refinance their homes or buy new ones.” – May 2, 2001

“To reflate the economy, the Fed doesn’t have to restore business investment; any kind of increase in demand will do…. [H]ousing, which is highly sensitive to interest rates, could help lead a recovery.” – August 14, 2001

“Low interest rates, which promote spending on housing and other durable goods, are the main answer.” – October 7, 2001

“[T]he Fed’s dramatic interest rate cuts helped keep housing strong” – December 28, 2001

“To fight this recession the Fed … needs soaring household spending to offset moribund business investment. And to do that … Alan Greenspan needs to create a housing bubble to replace the NASDAQ bubble.” – August 2, 2002

“[T]hose 11 interest rate cuts in 2001 fueled a boom both in housing purchases and in mortgage refinancing….” – October 1, 2002

“Mortgage rates did indeed fall briefly to historic lows, extending the home-buying and refinancing boom that has helped keep the economy’s head above water.” – July 25, 2003

“Low interest rates … have been crucial to America’s housing boom.” – May 20, 2005

“Now the question is what can replace the housing bubble…. But the Fed does seem to be running out of bubbles.” – May 27, 2005

[T]he Federal Reserve successfully replaced the technology bubble with a housing bubble. But where will the Fed find another bubble?” – August 7, 2006

“Back in 2002 and 2003, low interest rates made buying a house look like a very good deal. As people piled into housing, however, prices rose—and people began assuming that they would keep on rising.” – July 27, 2007

And Krugman has the chutzpah to lecture others about refusing to admit they’ve been wrong and learning nothing from their mistakes!

As Anderson pointed out in his article, Krugman’s recent column praising the Fed for “superbly” manipulating interest rates by inflating the currency supply assumes that the Fed, in quadrupling the monetary base, was simply stepping in to correct a problem caused by an overly free market.

That assumption is false, as illustrated by Krugman’s own arguments prior to the bursting of the bubble. In Krugman’s own words, the Fed “successfully replaced the technology bubble with a housing bubble.”

And it’s since been working hard at creating the next bubble.

How the Fed Has Already Caused the Next Crash

Let’s take a look to see what that quadrupling of the monetary base looks like:

Monetary Base


Now, Paul Krugman would have you believe that this has not caused any significant price inflation.

That’s also laughable. Here, too, as with his observations about how the Fed’s low rates fueled the housing bubble, we can turn to Krugman’s own past writings for a clue.

As I’ve previously observed, in a September 2013 column instructively titled “Rich Man’s Recovery”, Krugman wrote that “95 percent of the gains from economic recovery since 2009 have gone to the famous 1 percent. In fact, more than 60 percent of the gains went to the top 0.1 percent, people with annual incomes of more than $1.9 million.”

So what was driving those “huge income gains at the top”? Well, conveniently, Krugman provided a link to the source where he got that data. His source provided the answer:

[G]enerally, richer households have disproportionately benefited from the boom in the stock market during the recovery, with the Dow Jones industrial average more than doubling in value since it bottomed out early in 2009. About half of households hold stock, directly or through vehicles like pension accounts. But the richest 10 percent of households own about 90 percent of the stock, expanding both their net worth and their incomes when they cash out or receive dividends.

Got that? So here’s what the Dow Jones Industrial Average looks like now:

Dow Jones Industrial Average

Here’s the S&P 500:

S&P 500

Here’s the NASDAQ:


Do you see any inflation? Now, do you think that’s real economic growth based on solid fundamentals? Or do you think that perhaps engaging in legalized counterfeiting and making “money” out of thin air might possibly be the cause of what you see?

On one hand, Krugman advocates a Fed policy of printing money while criticizing how this has resulted in a “Rich Man’s Recovery”, laying bare the extreme cognitive dissonance upon which his whole economic framework depends.

An important aspect of the government’s response to the bursting housing bubble was how, to “solve” the problem caused by the government’s intervention in the market, they acted to try to reinflate the bubble. Here, for instance, was Barack Obama tweeting in August 2013:

Obama: there's still more to do

And, of course, the central planners have done a lot more work since then. Here’s the Case-Shiller US National Home Price Index:

Case-Shiller US National Home Price Index

Do you see any inflation?

And let’s not forget the biggest bubble of them all: the bond bubble. Here’s one illustration, a graph showing the historic lows of yields (i.e., low real interest rate) on long-term US government IOUs:

US Long-Term Real Yields on Treasury Bonds

In Europe, the public has experienced negative interest rates. This bizarre phenomenon, in which lenders pay borrowers to spend their money for them, could never occur in a free market. It is only the consequence of central banks’ attempts to manipulate prices throughout the economy by affecting interest rates with their creation of massive amounts of new currency out of thin air.

The Fed does this primarily by monetizing US government debt.

The Fed has been holding interest rates at near zero since the financial crisis that was precipitated by the bursting of the housing bubble. In response to this problem that it created by printing money, it printed even more money, quadrupling the base money supply.

This has helped keep government borrowing costs low as it engages in massive deficit spending. The Fed is today the primary purchaser of US government debt, which creates a demand for US Treasury securities that would not otherwise exist. Furthermore, unlike private sector actors, when the Fed purchases government IOUs, it does so with dollars created out of thin air.

Krugman in his recent column denies that this monetary inflation has debased the dollar. This is equivalent to arguing that the law of supply and demand does not apply to currency. It is a logical impossibility that the Fed has quadrupled the currency supply without debasing the value of the dollar.

To support his illogical contention, Krugman claims there’s no significant price inflation. But he’s only looking at the Consumer Price Index (CPI). This ignores how the Fed’s newly created dollars flow into the economy, even though he touches on it himself in his “Rich Man’s Recovery” column from several years ago.

The use of the CPI is a questionable method of determining the decline of purchasing power of the dollar. The Fed’s own preferred measure of inflation, for instance, excludes food and energy–which working class American consumers can hardly exclude from their household budgets.

But even if we accept the CPI as an accurate measure of price increases for consumer goods, it must be kept in mind that the Fed does not create new dollars by printing up a bunch of Federal Reserve Notes and dropping them from helicopters to people on the street.

Rather, the Fed’s new dollars flow first to the politically and financially elite, who are able to benefit from the monetary inflation by purchasing assets like capital goods, bonds, stocks, or real estate, before the resulting increase in the prices is seen.

Hence the “Rich Man’s Recovery” so astutely observed by Paul Krugman–who has consistently advocated the very policy by which the 1 percent have so benefited at the expense of everyone else in society!


Fed chair persons and board members are not omniscient. They don’t know better than the market with its pricing system how scarce resources ought to be directed in order to increase efficiency and increase our standard of living by creating economic growth.

Central planning is not the solution to our economic problems. Central planning is the problem. The solution is to allow the market’s pricing system to function.

Wealth does not come from a printing press.Through its inflationary monetary policy, the Federal Reserve, rather than producing a real recovery, has only prolonged the pain and set the economy up for the next, even worse crash.

[Author’s note: Bold emphasis has been added throughout.]

This article was originally published at on November 24, 2017.