As I watched Paul Krugman Sunday night on Bill Moyers, I felt a familiar sense of despair. Krugman cares deeply about unemployment and inequality, as did John Maynard Keynes before him. Yet like Keynes, Krugman seems caught in the inequality-free neoclassical paradigm.
I study the "classical" economists, starting with Adam Smith.
Inequality loomed large in their world. They divided society into three
broad classes: First, the landlords: the original One Percent, the
Downton Abbey crowd, the "great proprietors" of vast estates. Then the
capitalists: the merchants and manufacturers. Last: the workers. The
classical economists asked, what determines the distribution of income
between these classes? But around the end of the 19th Century, the
"neoclassical" paradigm swept in. Gone were the three social classes
with dramatically different wealth and income. There were only consumers
-- from old Aunt Esther on Social Security to Donald Trump; producers
-- from Harry's Shoes to General Motors; and government. Business cycles
were best left to play themselves out.
During the Great Depression, to his credit, Keynes bucked his
colleagues by claiming that government spending could revive a depressed
economy. But, caught in the neoclassical paradigm, he got the mechanism
wrong. Keynes argued, as does Krugman today, that the problem is a lack
of consumer demand. Consumers want to save instead of spend. Lacking
demand, businesses won't invest. So there's a "savings glut" or
"liquidity trap" -- billions in cash sloshing around seeking in vain for
investment opportunities. The solution: government should borrow some
of that loose cash and spend it, no matter on what: war, high-speed
rail, fixing potholes, or education. Deficits be damned.
In my view, we don't have a "liquidity trap"; we have an "inequality
trap". What's that? An "inequality trap" happens in a downturn, when the
One Percent, big corporations and banks hoard cash, starving small
businesses for capital. The greater the inequality and deeper the
downturn, the tighter the trap.
The multinationals are indeed awash in cash. In an article appropriately titled, "Dead Money," The Economist
reports how major corporations trim real investment -- such as new
technology -- while piling up cash. For example, firms in the S&P
500 held about $900 billion in cash at the end of June, up 40 percent
from 2008. The Economist dismisses the conservative claim that
"meddlesome federal regulations and America's high corporate-tax rate is
locking up cash and depressing investment." Why? All big multinational
firms have been hoarding cash, not just U.S.-based ones; it's been a
growing trend since the 1970s.
The big banks are also awash in cash. For example, JP Morgan's September 2012 balance sheet
shows that out of $2,321 billion in assets, JP Morgan holds $887
billion in "Cash and Short-Term Investments" -- over a third! (The
"short-term investments" are gambles in the international money markets,
but that's a different story.)
To the One Percent, the cash bath may look like Krugman's liquidity
trap: a lack of investments yielding the high returns they enjoyed
before the 2008 crash. But try telling small businesses there's not
enough demand and too much cash! They face drastic "credit rationing" by
the banks. The banks are of course super-cautious these days, which is
why they pile up cash. But in addition, the collapse in home values has
reduced small business owners' collateral for loans. And following the
failure of many small banks and the consolidation of giant banks into
megabanks, far fewer banks can or will lend to small businesses.
Today's depression is a small business depression. Don't forget,
small businesses are the nation's employers, providing far more jobs per
dollar of assets or sales. According to Census data, in 2008, the 99.7
percent of U.S. firms with fewer than 500 workers accounted for 49.4
percent of U.S. employees. In 2007, comparing firms with under half a
million in sales to those with over $100 million, the small firms
averaged 15 employees per $100 million sales while the big ones averaged
I respect and admire Paul Krugman for fighting the good fight. I just
wish he would question the inequality-free neoclassical paradigm. An
"inequality trap" requires different measures from a "liquidity trap."
It requires raising taxes on the One Percent and the big corporations --
instead of borrowing from them and running up the deficit. It requires
protecting ordinary workers and small businesses from the impact of
payroll taxes like Social Security, for example by greatly increasing
the earned income credit. In the short run, it requires avoiding
capital-intensive spending like military or high-speed rail. Instead it
requires extra spending to maintain education, health care, unemployment
insurance and other urgent public services. In the long run, it
requires enforcing anti-trust legislation and breaking up the big banks.
SOURCE: PROFESSOR MARY MANNING CLEVELAND