Debt Surges Don’t Cause Recessions

Here’s Paul Krugman:

Second, a dramatic rise in household debt, which many of us now believe lies at the heart of our continuing depression. Here’s household debt as a percentage of GDP

What do you see? I suppose it’s in the eye of the beholder, but I see three big debt surges: 1952-64, 1984-91, and 2000-08. The first debt surge was followed by a golden age in American history; the boom of 1965-73. The second debt surge was followed by another golden age, the boom of 1991-2007. And the third was followed by a severe recession. What was different with the third case? The Fed adopted a tight money policy that caused NGDP growth to crash, which in turn sharply raised the W/NGDP ratio. Krugman has another recent post that shows further evidence of the importance of sticky wages. Forget about debt and focus on NGDP. It’s NGDP instability that creates problems, not debt surges.

I favor all sorts of public policy changes that would reduce consumer and business debt, such as tax reform and reducing moral hazard in banking. But the Fed needs to focus like a laser on NGDP.

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