Jhon Cochrane

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H O W D I D PA U L K R U G M A N
GET IT SO WRONG?1
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John H. Cochrane

This article is a response to Paul Krugman’s New York Times Magazine article,
‘How Did Economists Get It So Wrong?’ Krugman’s attack on modern economics –
and many adhominem attacks on modern economists – display a deep and highly
politicised ignorance of what economics and finance isreally all about, and a
striking emptiness of useful ideas.
Keywords: Paul Krugman, stimulus, Keynes, efficient markets.

Many friends and colleagues have asked me
what I think of Paul Krugman’s New York
Times Magazine article, ‘How Did Economists
Get It So Wrong?’2
Most of all, it is sad. Imagine this were not
an economics article. Imagine this were a
respected scientist turned popularwriter, who
says, most basically, that everything everyone
has done in his field since the mid-1960s is a
complete waste of time. Everything that fills its
academic journals, is taught in its PhD
programmes, presented at its conferences,
summarised in its graduate textbooks, and
rewarded with the accolades a profession can
bestow (including multiple Nobel Prizes) is
totally wrong. Instead,he calls for a return to
the eternal verities of a rather convoluted book
written in the 1930s, as taught to our author in
his undergraduate introductory courses. If a
scientist, he might be an AIDS-HIV disbeliever,
a creationist or a stalwart that maybe
continents do not move after all.
It gets worse. Krugman hints at dark
conspiracies, claiming ‘dissenters are
marginalised’. The list ofenemies is evergrowing and now includes ‘new Keynesians’
such as Olivier Blanchard and Greg Mankiw.
Rather than source professional writing, he
uses out-of-context second-hand quotes from
media interviews. He even implies that
economists have adopted ideas for pay, selling
out for ‘sabbaticals at the Hoover institution’
and fat ‘Wall Street paychecks’.
This approach to economic discourseis a
disservice to New York Times readers. They
depend on Krugman to read real academic
literature and digest it, and they get this
attack instead. Any astute reader knows that
personal attacks and innuendo mean the
author has run out of ideas.

Indeed, this is the biggest and saddest
news of this piece: Paul Krugman has no
interesting ideas whatsoever about what
caused the financial andeconomic problems
that culminated in the crash of 2008, what
policies might have prevented it, or what
might help us in the future.
But maybe he is right. Occasionally
sciences, especially social sciences, do take a
wrong turn for a decade or two. I think
Keynesian economics was such a wrong turn.
So let us take a quick look at the ideas.
Krugman’s attack has two goals. First, he
thinksfinancial markets are ‘inefficient’,
fundamentally due to ‘irrational’ investors,
and thus prey to excessive volatility which
needs government control. Second, he likes
the huge ‘fiscal stimulus’ provided by
multi-trillion dollar deficits.
Market efficiency
It is fun to say that we did not see the crisis
coming, but the central empirical prediction
of the efficient markets hypothesis is preciselythat nobody can tell where markets are going
– neither benevolent government bureaucrats,
nor crafty hedge-fund managers, nor
ivory-tower academics. This is probably the
best-tested proposition in all the social
sciences. Krugman knows this, so all he can
do is rehash his dislike for a theory whose
central prediction is that nobody can be a
reliable soothsayer. It makes no sensewhatsoever to try to discredit efficient market
theory in finance because its followers didn’t
see the crash coming.
Krugman writes as if the volatility of stock
prices alone disproves market efficiency, and
believers in efficient marketers have just

© 2011 The Authors. Economic Affairs © 2011 Institute of Economic Affairs. Published by Blackwell Publishing, Oxford

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