The Mellon Doctrine

OP-ED COLUMNIST
The Mellon Doctrine
By PAUL KRUGMAN
Published: March 31, 2011

�Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate.� That, according to Herbert Hoover, was the advice he received from Andrew Mellon, the Treasury secretary, as America plunged into depression. To be fair, there�s some question about whether Mellon actually said that; all we have is Hoover�s version, written many years later.

But one thing is clear: Mellon-style liquidationism is now the official doctrine of the G.O.P.

Two weeks ago, Republican staff at the Congressional Joint Economic Committee released a report, �Spend Less, Owe Less, Grow the Economy,� that argued that slashing government spending and employment in the face of a deeply depressed economy would actually create jobs. In part, they invoked the aid of the confidence fairy; more on that in a minute. But the leading argument was pure Mellon.

Here�s the report�s explanation of how layoffs would create jobs: �A smaller government work force increases the available supply of educated, skilled workers for private firms, thus lowering labor costs.� Dropping the euphemisms, what this says is that by increasing unemployment, particularly of �educated, skilled workers� � in case you�re wondering, that mainly means schoolteachers � we can drive down wages, which would encourage hiring.

There is, if you think about it, an immediate logical problem here: Republicans are saying that job destruction leads to lower wages, which leads to job creation. But won�t this job creation lead to higher wages, which leads to job destruction, which leads to ...? I need some aspirin.

Beyond that, why would lower wages promote higher employment?

There�s a fallacy of composition here: since workers at any individual company may be able to save their jobs by accepting a pay cut, you might think that we can increase overall employment by cutting everyone�s wages. But pay cuts at, say, General Motors have helped save some workers� jobs by making G.M. more competitive with other companies whose wage costs haven�t fallen. There�s no comparable benefit when you cut everyone�s wages at the same time.

In fact, across-the-board wage cuts would almost certainly reduce, not increase, employment. Why? Because while earnings would fall, debts would not, so a general fall in wages would worsen the debt problems that are, at this point, the principal obstacle to recovery.

In short, Mellonism is as wrong now as it was fourscore years ago.

Now, liquidationism isn�t the only argument the G.O.P. report advances to support the claim that reducing employment actually creates jobs. It also invokes the confidence fairy; that is, it suggests that cuts in public spending will stimulate private spending by raising consumer and business confidence, leading to economic expansion.

Or maybe �suggests� isn�t the right word; �insinuates� may be closer to the mark. For a funny thing has happened lately to the doctrine of �expansionary austerity,� the notion that cutting government spending, even in a slump, leads to faster economic growth.

A year ago, conservatives gleefully trumpeted statistical studies supposedly showing many successful examples of expansionary austerity. Since then, however, those studies have been more or less thoroughly debunked by careful researchers, notably at the International Monetary Fund.

To their credit, the staffers who wrote that G.O.P. report were clearly aware that the evidence no longer supports their position. To their discredit, their response was to make the same old arguments, while adding weasel words to cover themselves: instead of asserting outright that spending cuts are expansionary, the report says that confidence effects of austerity �can boost G.D.P. growth.� Can under what circumstances? Boost relative to what? It doesn�t say.

Did I mention that in Britain, where the government that took power last May bought completely into the doctrine of expansionary austerity, the economy has stalled and business confidence has fallen to a two-year low? And even the government�s new, more pessimistic projections are based on the assumption that highly indebted British households will take on even more debt in the years ahead.

But never mind the lessons of history, or events unfolding across the Atlantic: Republicans are now fully committed to the doctrine that we must destroy employment in order to save it.

And Democrats are offering little pushback. The White House, in particular, has effectively surrendered in the war of ideas; it no longer even tries to make the case against sharp spending cuts in the face of high unemployment.

So that�s the state of policy debate in the world�s greatest nation: one party has embraced 80-year-old economic fallacies, while the other has lost the will to fight. And American families will pay the price.