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The Age of Diminished Expectations: U.S. Economic Policy in the 1990's.

PAUL KRUGMAN has written a brilliant gem of a briefing book on economic policy issues for the 1990s that business economists of all persuasions can recommend to their company's CEO, other top management, and anyone else desiring to be well-informed. A Professor of Economics at the Massachusetts Institute of Technology specializing in international trade and finance, Krugman is a scholar who can translate his impressive knowledge on a wide range of economic topics into lively, readable prose for a general audience that remains intellectually balanced and rigorous. In sixteen concise chapters, be provides a description and analysis of the economy in the 1980s, grapples with the policy issues that would make most economists' top ten lists, and considers economic performance and policy activity for the next decade.

The title, The Age of Diminished Expectations, aptly captures Krugman's theme: the U. S. economy has performed poorly by historical standards, better performance in the next decade is unlikely, and the public seems oddly complacent. This theme resounds through each of the book's five parts. Part I sets the stage by discussing trends in three major determinants of economic well-being: productivity and income growth, income distribution, and employment. Krugman gives the economy high marks for job creation and low marks for growth and distribution. In one chapter for each he presents the basic facts and explores the possible explanations. He argues that Americans have decided that they can live with low growth and a large gap between rich and poor. Thus, there is little public support for the kinds of massive policy changes that have been advocated to increase growth or decrease inequality. Moreover, Krugman doubts the ability of government to produce major changes in productivity or income distribution even if the political will were present.

Part II discusses the "chronic aches and pains" that Krugman believes are amenable to significant improvement through policy action: the trade deficit and inflation. He outlines their recent history, debunks popular myths about their importance, presents opposing views about why they really are (or are not) important, and explores the costs of doing something to reduce the trade deficit or eliminate inflation. He concludes that the costs of the solutions are sufficiently high compared to the costs of the problems so that no serious steps are likely to be taken on either front, although politicians will certainly claim to address these problems. Krugman is excellent here, sharing insights from economic analysis in such a way that the general reader will feel like an "insider" when it comes to issues such as devaluation and the relationship of exchange rates to the trade deficit.

Part III turns to more narrowly defined policy issues: the budget deficit, monetary policy, the dollar, protectionism, and trade policy toward Japan. Although related to the larger problems of earlier chapters, these issues are defined at the level of day-to-day policy debates and are important in their own right. A chapter on each issue introduces the important points of view left, right, and center, but Krugman goes beyond the simple recounting of arguments, adding critical, sometimes stinging, analysis, and staking out his own point of view. In these chapters, Krugman is a defender of mainstream economics against the more extreme academic and popular views of gold bugs, neomercantilists, and others. Of course, Krugman imparts his own spin to the presentation of facts and theories, a spin reminiscent of the views of another distinguished MIT economist, Paul Samuelson, who authored the Preface.

Part IV is devoted to the financial world, with chapters on the savings and loans bailout, third world debt, and the boom in takeovers and leveraged buyouts. Each chapter is remarkable for its incisive treatment of a current issue not well understood by the general public, at least if one is to judge by the statements and questions of media pundits. Krugman needs only seven pages to explain the savings and loan fiasco as a gamble taken to avoid raising the deficit that cost much more when the government lost its bet (rather like the farmer in the Western who bets the farm in a card game hoping to avoid telling the family he bas lost their savings). Interestingly, although he recognizes that the root of the problem is "partial" deregulation, Krugman puts forward the remedy of tighter government restrictions rather than privatized insurance. In the Third World debt chapter, Krugman makes a strong case that massive debt relief would cost U.S. taxpayers much less than many people think, on the order of $10 billion. the corporate finance chapter is outstanding, citing both sides of the debate on the source of the gains from corporate restructuring, producing a compromise view, and explaining the rapid rise of risk arbitrage and its extraordinary financial rewards.

Part V closes the book with three alternative views of the next decade. A "Happy Ending" takes place if productivity returns to the levels of the 1950s and 1960s. This would alleviate many of the economy's pressing problems. Overall economic well-being would improve, the twin peaks of our deficits would fall, and the pressure for protectionism would decline. Krugman assigns this scenario a probability of 20 percent. A "Hard Landing" takes place if foreign investors lose confidence in the U. S. economy and cut off capital inflows, producing a debt crisis. Krugman explores the reasons why this might or might not occur. He assigns the Hard Landing a 25 percent probability. Drift," is the highest probability scenario. Productivity growth is sluggish, unemployment falls slightly lower, and inflation creeps slightly higher. At home, the problems of the underclass become more severe. Abroad, the United States sinks to third rank as an economic power.

Krugman offers no recommendations for avoiding drift. He believes that the keys to understanding lagging productivity and growth of the underclass are to be found in sociology rather than economics. Perhaps we live in an age of diminished expectations for economics as well as for the economy.

W. Steven Barnett Rutgers University
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Author:Barnett, W. Steven
Publication:Business Economics
Article Type:Book Review
Date:Jan 1, 1991
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