To Get Back on Track, Grow That Economy

Wednesday, 09 February 2011 15:50 By Paul Krugman, Krugman & Co. | Op-Ed | name.

To Get Back on Track, Grow That Economy
Chinese money sits on a table at a tea restaurant in Lu Jia Zui, Shanghai, China. A simple way to redistribute global aggregate demand is to appreciate currencies in emerging-markets such as China, against advanced-country currencies. (Photo: Pierre LaScott)

Advanced countries’ economies still have plenty of room to grow, yet some economists have been arguing lately that global growth is hitting supply-side limits, and that not much can be done through policy to fix it.

The argument has arisen because high unemployment and low inflation prevail in advanced economies, while the rest of the world is facing accelerating inflation, together with rising commodity prices.

John Kemp, an economist for Reuters, wrote in a January column: “Monetary authorities in the United States, Britain and, to some extent, the euro zone are focused on the need to close national output gaps. But at a global level it is not clear an output gap exists. Rapidly rising food and energy prices suggest the economy is already hitting the speed limit of non-inflationary growth.” Mr. Kemp goes on to explain that some commentators, including myself, believe that a lack of sufficient demand is what is driving the global economy’s problems, and that a combination of policies that encourage government spending and monetary expansion would be a good solution. However, Mr. Kemp wrote, “the problem is not aggregate demand but its distribution.”

That assertion is questionable because, in fact, both problems apply.

Let’s look at world industrial production data, compiled for World Trade Monitor by the CPB Netherlands Bureau for Economic Policy Analysis, in the graphic on this page. I’ve indexed everything so that December 2005 is equal to 100, to make it easier to see the five-year trend. It shows that overall production has recovered the ground that the world economy lost during the recession in 2008, but it is still only slightly higher than the previous peak, which puts production well below any reasonable pre-crisis expectations about future trends.

Last modified on Thursday, 10 February 2011 09:52