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Title : 22 Days Inward Paul Krugman's Masterclass (Day 3) (The Horrific Lesson)
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22 Days Inward Paul Krugman's Masterclass (Day 3) (The Horrific Lesson)

Lesson iii inwards Paul Krugman's Masterclass is vii minutes together with twoscore seconds long.

It is 1 infinitesimal together with 51 seconds shorter than Lesson 2 but on a theoretical level much greater harm is done than in yesterday's lesson.

In this lesson, Krugman introduces Ricardo's rent theory equally a foundation of economics. This is a disastrous start.

I volition allow Murray Rothbard explicate the job here. From Rothbard's Classical Economics:

The toll of corn, inwards its turn, is determined according to Ricardo's famous
theory of rent. Rent served equally the linchpin of the Ricardian system. For,
according to Ricardo's rather bizarre theory, only terra firma differed inwards quality. Labour, equally nosotros convey seen, was assumed to hold upward uniform, together with thus wage rates are uniform... 

Rent, inwards Ricardo's phrase, is payment for the 'use of the master and
indestructible powers of the soil'. This hints at a productivity theory, and
indeed Ricardo did encounter that to a greater extent than fertile together with productive lands earned a higher
rent. But unfortunately, equally Schumpeter pose it, Ricardo together with so 'embarks upon his
detour'. In the starting fourth dimension place, Ricardo made the supposition that at whatsoever moment
the poorest terra firma inwards tillage yields a cypher rent. He concluded from that
alleged fact that a given slice of terra firma earns rent non because of its own
productivity, but just because its productivity is greater than the poorest,
zero-rent, terra firma nether cultivation...

Hence, to Ricardo, rent is purely a differential, together with Land H5N1 earns rent
solely because of its differential productivity compared to Land B, the
zero-rent terra firma inwards cultivation...

And since the quantity of labour needed to hit corn keeps rising
equally to a greater extent than together with to a greater extent than inferior lands are pose into production, this agency that the
cost of producing corn together with hence the toll of corn locomote along rising over time.
And, paradoxically, spell rent keeps rising over time, it remains cypher at the
margin, together with thus without whatsoever touching on costs.

There are many flaws inwards this doctrine. In the starting fourth dimension place, fifty-fifty the poorest
terra firma inwards tillage never earns a cypher rent, just equally the to the lowest degree productive slice of
mechanism or worker never earns a cypher toll or wage. It does non hit goodness any
resources possessor to locomote along his resources or ingredient inwards production unless it earns a
positive rent. The marginal land, or other resource, volition indeed earn less of a
rent than to a greater extent than productive factors, but fifty-fifty the marginal terra firma volition always
earn around positive rent, yet small.

Second, apart from the zero-rent problem, it is simply incorrect to scream back that
rent, or whatsoever other ingredient return, is caused by differentials. Each slice of land,
or unit of measurement of whatsoever factor, earns whatever it produces; differentials are simple
arithmetics subtractions betwixt 2 lands, or other factors, each of which
earns a positive rent of its own. The supposition of cypher rent at the margin
allows Ricardo to obscure the fact that every slice of terra firma earns a productive
rent, together with allows him to skid into the differential as cause...

[I]n discussing the rising inwards cost of producing corn, Ricardo reverses
displace together with effect. Ricardo states that increasing population 'obliges' farmers
to piece of work terra firma of inferior character together with then causes a rising inwards its price. But equally any
utility theory analyst would realize, the causal chain is exactly the reverse:
when the demand for corn increases, its toll would rise, together with the higher price
would Pb farmers to grow corn on higher-cost land. But this realization, of
course, eliminates the Ricardian theory of value together with alongside it the entire Ricardian
system...

Ricardo's differential rent theory has been widely hailed equally the precursor
of the neoclassical police push clit of diminishing returns, which the neoclassicals were
supposed to convey generalized from terra firma to all factors of production. But this
is wrong, since the police push clit of diminishing returns applies to increasing doses of a
ingredient to homogeneous units of other, logically fixed, factors - inwards this case
land. But the whole indicate of Ricardo's differential rent theory is that his areas
of terra firma are non homogeneous at all, but varying inwards a spectrum from superiority
to inferiority. Therefore the police push clit of diminishing returns - equally grasped by
Turgot together with rediscovered past times the neoclassicals - simply does non apply.

Then Krugman goes completely off the rails past times his telling of the "Parable of the Baby-Sitting Co-Op".

I convey discussed inwards the past the problems alongside this "parable":

In 1998, Krugman wrote in Slate of an earth shattering experience:

Twenty years agone I read a story that changed my life. I scream back most that story often; it helps me to rest calm inwards the expression upward of crisis, to remain hopeful inwards times of depression, together with to resist the line of fatalism together with pessimism.

The story was the babysitting co-op story of which he writes:

The Capitol Hill co-op adopted i fairly natural solution. It issued scrip--pieces of newspaper equivalent to i sixty minutes of baby-sitting time. Baby sitters would have the appropriate number of coupons straight from the babe sittees. This made the organisation self-enforcing: Over time, each duo would automatically hit equally much baby-sitting equally it received inwards return. As long equally the people were reliable--and these immature professionals sure as shooting were--what could larn wrong?

It is of import to sympathize what is going on here. In a 2nd Krugman is going to liken this babysitter co-op to the economy. But this is far from the example of what the co-op is, on whatsoever scale. In actuality, what is going on hither is barter. You lookout adult man my kids, I'll lookout adult man your kids, alongside scrip inserted to brand sure at that spot is a residue betwixt watching together with leaving off. 

So the starting fourth dimension of import matter to sympathize is that inwards Krugman's picayune public at that spot is no money! Money is a medium of telephone substitution you lot occupation inwards nearly all daily transactions, non a slice of script that tin only hold upward used for babysitting purposes. So he is trying to justify the printing of coin using a model where at that spot is no money! 

Let's displace on. Krugman writes:

Well, it turned out that at that spot was a pocket-size technical problem. Think most the coupon holdings of a typical couple. During periods when it had few occasions to larn out, a duo would likely effort to build upward a reserve--then run that reserve downwards when the occasions arose. There would hold upward an averaging out of these demands. One duo would hold upward going out when around other was staying at home. But since many couples would hold upward asset reserves of coupons at whatsoever given time, the co-op needed to convey a fairly large amount of scrip inwards circulation.

Now what happened inwards the Sweeneys' co-op was that, for complicated reasons involving the collection together with occupation of dues (paid inwards scrip), the number of coupons inwards circulation became quite low. As a result, most couples were anxious to add together to their reserves past times baby-sitting, reluctant to run them downwards past times going out. But i couple's determination to exit was another's run a jeopardy to baby-sit; so it became hard to earn coupons. Knowing this, couples became fifty-fifty to a greater extent than reluctant to occupation their reserves except on especial occasions, reducing baby-sitting opportunities soundless further.

In short, the co-op had fallen into a recession.

First, let's consider this "small technical problem". Krugman doesn't larn into details, but for around argue at that spot is an obvious taking away of script from around of the participants. The dues audio similar around form of a tax. The rational conclusion would be, "Hey taxes are bad, they are taking from around together with giving to others. If you lot hit it at a high plenty rate, you lot are going to collapse the system". The script system, because of these tax/dues, appears to convey pretty much collapsed the co-op. But what is cute is that Krugman doesn't telephone telephone this tax/dues caused collapse a tax/dues caused collapse, he calls it a recession.

It's Krugman getting actually mentally disorderly. These scripts, I emphasize again, are barter tools, non money. The scripts hit non convey an telephone substitution ratio against all products the way coin does, i.e. coin is most prices. The scripts simply reverberate a telephone telephone on babysitting services. That's it. H5N1 recession is most changing prices. The stock marketplace collapses inwards a recession, housing prices collapse, prices are also high for around products, causing fewer sales resulting inwards businesses laying off employees together with sometimes failing. How is whatsoever of this activeness reflected inwards Krugman's babysitting story? The response is that it is not.

Yet, Krugman plows along alongside his model together with says that the issuing of to a greater extent than calls on babysitting services is similar printing money. But, it is an solely dissimilar thing. If the coin furnish somehow dropped, prices would suit downward so that the economic scheme could function. In Krugman's model alongside script, when the script declines because of dues/taxes, at that spot is no mechanism to suit the economy, because nosotros are non talking most an economic scheme or a medium of exchange, nosotros are talking only most a script skilful for i sixty minutes of babysitting. Print to a greater extent than calls for babysitting services and, duh, you lot volition larn to a greater extent than demand for babysitting services. If you lot impress to a greater extent than money, prices suit through out the economic scheme having only distorting touching on the economic scheme that favors those who larn the novel coin first. 

Bottom line: Krugman's babysitting model is so poorly constructed together with has so picayune to hit alongside the existent economic scheme that i has to scream back that it's slow to understate the depth of his incomprehension.

-RW 

Links to discussions of all Krugman's Masterclass lessons are here.

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