Should be easy to find where this discussion started, but hey, what don’t I do for my readers. The link: http://smilingdavesblog.blogspot.com/2011/07/krugman-and-baby-sitting-co-op.html
By now I think we can agree that Krugman’s baby sitting analogy is as full of holes as a Swiss cheese. So the point of this post is not so much to discredit the discredited…ah why the pretense. Of course it’s to discredit him even further. The guy won a Nobel Prize in economics, he needs discrediting. Without further ado:
So far we have shown the following flaws in this ridiculous analogy. First, that printing more coupons doesn’t hurt anyone, but printing more money certainly does. Second, that the problem in the baby sitting community is completely different than the problem an economy has during a recession. Third, that printing coupons will solve the baby sitters’ problems, but printing money will not solve anything, not Krugman’s mistaken conception of the problem, nor the real problem. It will but exacerbate the economy’s real problem, too much newly printed money.
Now we will show yet another fatal flaw in the analogy. The thing is, in the previous article we merely contented ourselves with granting for the moment Krugman’s mistaken analysis of what the problem is during a recession [hoarding of money causing lack of aggregate demand], and showing that even given that mistaken analysis, the baby sitting co-op teaches us nothing about recessions. Now we will go for the jugular, showing why his analysis is mistaken, and in doing so will lay bare the new flaw in his silly analogy.
Coupons and money do not work the same way. The coupon only allows one hours worth of baby sitting. That’s it. It can never be worth two hours of baby sitting, or half an hour. Because that’s what it says on the coupon. “Redeemable for one hour of baby sitting.”
But money can change in value. A dollar bill does not say, “Redeemable for three oranges”. How many oranges you can get for a dollar changes constantly. One day it’s two, another it’s three, another it might be four. Many factors determine what a dollar can buy. One of them is the law of supply and demand, which applies to dollars just as it applies to anything else. When there is less money, by the law of supply and demand, its purchasing power goes up. Krugman himself acknowledges this by being a Keynesian. After all, Keynes solution to wages being too high to his liking was to increase the supply of dollars, thus lowering the purchasing power of the dollar, [meaning thus lowering wages].
So of course the amount of money in circulation directly affects the purchasing power of the dollar. No one disputes this, I hope. So when Krugman says hoarding is a big problem because there is “not enough” money out there to buy everything factories are producing, because now it’s under somebodies mattress, he is forgetting something [besides the fact it historically this just doesn’t happen]. Hiding some money under a mattress reduces the supply of money used for buying. Meaning that hoarding money, by definition, reduces the supply of money. [Which Krugman also admits to, because he says we have to increase the supply of money in response].
But reducing the supply of money, by the law of supply and demand, increases its buying power. When half the money is hidden under a mattress somewhere, then the money left in peoples wallets will be able to buy four oranges, not two. Unlike those inflexible coupons, money is flexible. Its buying power shrinks and grows all the time. So that if we assume that the problem in a recession is not enough money out there, that problem will solve itself. No need to print more money, ever.
So there you have it, yet another flaw in his silly comparison of baby sitting problems to recessions. Printing coupons really was needed. There were not enough commitments to baby sit, and printing more coupons meant increasing the amount of time each housewife was committing to baby sit. [As we explained at length last article]. But there is never any need to print more money.
Just to make sure all the pieces are clear in the reader’s mind, let me explain something. The very first flaw we pointed out in his analogy, back in our first article on the subject, was that printing baby sitting coupons helps, printing money hurts. Now we are saying that printing coupons is necessary, printing money is unnecessary. One may argue, “You are slipping, Smiling Dave. If printing money hurts, then it is certainly unnecessary. We don’t need more hurt. So why bother with this last article which gilds the lily?”
Good question, and here’s a good answer. The first article was saying that even if we admit Krugman’s problem, his solution is a disaster. Now we are saying that the problem he posits doesn’t exist in the first place.
[Edit: Peter Schiff talked about the baby sitting co-op today, Nov 29, 2011. His take is that the co-op was doomed from the start, as those coupons were price fixing the baby sitting job. But a baby sitter for a lazy summer day is not worth as much as a baby sitter on New Year’s Eve. People baby sat on slow days to get sitters on the valuable days, meaning trying to get sitters at less than what they were worth. Of course it couldn’t work.
He then goes on to show how Krugman’s example actually disproves his thesis. Hopefully this edition of Schiff’s radio show will be saved for posterity. It’s a deep analysis.]