Dr. Krugman Was Much Better At Defending Free Trade Than Is Mr. Krugman At Defending Mercantilism

by Don Boudreaux on March 29, 2016

in Balance of Payments, Myths and Fallacies, Seen and Unseen, Trade

Here’s a letter to the New York Times:

On his blog hosted by the New York Times, Paul Krugman asserts that only “in normal times” is a U.S. trade deficit not a problem, for only then is “the counterpart of a trade deficit … capital inflows, which reduce interest rates” (“Trade Deficits: These Times are Different,” March 28).  But today, Mr. Krugman argues, because interest rates are already very low, “trade deficits do indeed cost jobs and … there are basically no benefits to capital inflows.”  In other words, trade deficits do not “cost jobs” only if they spark capital inflows that reduce domestic interest rates which, in turn, increases investment spending.

Mr. Krugman errs.  Falling interest rates aren’t the only means by which capital inflows result in investments that support existing jobs as well as create new jobs.  For example, in 2015 foreign direct investment in the U.S. was, at $379.9 billion, higher than during any other year of the 21st century.*  Such investments are capital inflows into the U.S. – capital inflows that simultaneously increase the U.S. trade deficit and maintain and create jobs in the U.S.

Donald J. Boudreaux
Professor of Economics
Martha and Nelson Getchell Chair for the Study of Free Market Capitalism at the Mercatus Center
George Mason University
Fairfax, VA 22030

* See the first spread-sheet file here.

Over at EconLog, Scott Sumner correctly takes Mr. Krugman to task for his continued assertion that the U.S. economy remains caught in a liquidity trap.

There is yet a deeper economic fallacy that infects Mr. Krugman’s recent defense of mercantilism – a problem that I hope to blog on soon.


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