Monday, January 11, 2010

Krugman, Europe, and Social Democracy

In a post on his blog « The Conscience of a Liberal » January 9, Paul Krugman assails Jim Manzi’s essay “Keeping America’s Edge” published in National Affairs (Winter 2010).

The reason? “Manzi asserts that having a European-style social democracy is terrible for growth” writes Krugman, arguing that Manzi has presented incorrect data, especially because he included the USSR in his broad definition of Europe.

Krugman quotes the following paragraph from Manzi :
“From 1980 through today, America’s share of global output has been constant at about 21%. Europe’s share, meanwhile, has been collapsing in the face of global competition – going from a little less than 40% of global production in the 1970s to about 25% today. Opting for social democracy instead of innovative capitalism, Europe has ceded this share to China (predominantly), India, and the rest of the developing world.”

Note that this paragraph is the only passage in Manzi’s long article addressing the problem of the comparative growth of European and U.S. economies. The paper, in fact, is a rather balanced conservative reform manifesto, weighing the respective priorities of economic dynamism and innovation on the one hand, and of social cohesion on the other.

What infuriates Krugman,apparently, is the attack on social democracy (high taxes and high government spending) as an obstacle to growth, at the very moment when the Obama administration is nationalizing many big firms (the largest auto company, General Motors, the largest insurance company, American International Group, and largest bank, Citigroup), and pressuring the second largest bank, Bank of America, to purchase the country’s largest securities company, Merrill Lynch. Simultaneaously, the government current spending policy is such that it will most probably entail higher taxes in the future, in the form of an intriduction of the value-added tax.

That’s why the counter-performance of European high tax economies suddenly becomes a hot topic for debate in the U.S., and that’s why the American economists who favor more government spending and more taxes – such as Krugman – argue that such a counter performance does not exist.

Other evidence, for instance data from Mark Perry quoted on Mankiw's blog on November 23, and presented here, confirm Manzi's assertion.

Moreover, there is no doubt that GDP per capita are much lower in Europe compared to the U.S. (see the post of Greg Mankiw today, giving the IMF data) and that growth rates of European countries have been progressively slowing down since the early 1970s, as described in my paper “Comment Gagner Plus” (yes, in French, downloadable on my homepage) and in the references quoted in it including work by Alesina, Glaeser and Sacerdote, by Prescott, and by Aghion, Cohen and Pisany-Ferry for the French government). There is no doubt at all that even if Manzi’s data are not the best ones, they do reflect the underlying reality of comparative performance evolution on both sides of the Atlantic.

That’s why Krugman minimizes the European difficulties in today’s New York Times.

But he cannot completely obfuscate economic data and he thus cannot do otherwise than recognize in yesterday’s New York Times that:

“It is true that the U.S. economy has grown faster than that of Europe for the past generation. Since 1980 – when our politics took a sharp turn to the right, while Euope’s didn’t – America’s real GDP has grown, on average, 3 percent per year. Meanwhile, the E.U.15 – the bloc of 15 countries that were members of the European Union before it was enlarged to include a number of former Communist nations – has grown only 2.2 percent a year.”

He tries however to blur the matter by pointing that the per capita real GDP has risen at about the same rate in America and in the E.U.15: 1.95 percent a year here (America); 1.83 percent a year there (Europe)due to a faster population growth in the U.S..

But what he does not say is that the only slightly lower European growth rate applies to a much lower level of per capita GDP in Europe as Mankiw reminds us. And he does not mention either that while Europe was rapidly catching up on the U.S. from 1945 to 1975, it was the “left at the station” as Robert J. Gordon aptly wrote, when taxes went up and up during the 1970s 1980s, and still in the 1990s, while total working hours of Europeans kept falling, and as unemployment stayed at a high level, most often almost the double of U.S. rates.

The conclusion is that European catchup growth, which was a quite normal state of affairs in countries whose per capita income was much lower than the U.S. one, did stop after 1975, when social democratic and interventionnist policies were in full bloom. There is no other reason indeed why real income level should stay permanently lower than the U.S. one in these advanced economies. Arguing that Europeans have a "preference for leisure" will not do since in fact they used to work more, longer hours than Americans during the thirty high growth years 1945-1975.

The debate is serious, on both sides of the Atlantic. But it merits more than shrill criticism and arrogant half-truths from a good mathematical economist, but biased journalist, such as Krugman.

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