Tuesday, June 23, 2009 7 comments ++[ CLICK TO COMMENT ]++

The Atlantic's Paul Samuelson Interview

But you know, people say, 'greed has suddenly increased.' But it isn't that greed's increased. What's increased is the realization that you've got a free field to reach out for what you'd like to do. Everybody would still like to retire with a satisfactory nest egg in real terms. And the tragedy of this unnecessary eight-year interlude is that much of what has been accumulated is gone and gone forever. And no amount of pumping is going to bring back into reality what were ill-advised overextensions of bridges to nowhere and housing developments for which there was no effective demand.
— Paul Samuelson On the Current Crisis

Unless you are an economist or were around for several decades, you may not be familiar with Paul Samuelson. Anyone left-leaning will probably know him more than the general population since he may be the most influential Keynesian economist outside John Keynes. Certainly I am not that familiar with him and, since his dominant influence was in a prior era, I can't say that I have been influenced by him.

Paul Samuelson is a somewhat controversial person to conservatives and is an enemy of the right. He is very left-leaning—far more than Paul Krugman who is hated by many on the right. Samuelson is not perfect and did make some mistakes in his life, including a way-too-optimistic view of the Soviet Union (a lot of liberals completely misread the Soviet Union in the 60's and 70's.)

He was essentially the counter-balance to Milton Friedman's libertarian-oriented economics in America (although Samuelon's peak was likely behind him by the time Friedman became really influential.) Like most people on the left, including me, Paul Samuelson is also not a fan of Ayn Rand.

I came across an excellent two-part interview of Paul Samuelson by Conor Clarke of The Atlantic (part 1 here & part 2 here.) If you are left-leaning, it's a must-read; if you are a centrist or on the right, you may want to check it out as well but it may be painful ;) The entertaining interview covers Samuelson's views on the current crisis, what he thinks went wrong, and whether Keynesianism has defeated monetarism. Samuelson is 94 years old so he provides insight that only someone that was alive during the Great Depression is able to.

(I must congratulate Conor Clarke for doing a good job with this interview.) Click through to view my opinion on some of what Samuelson said. I will be quoting extensively (hope I don't break any laws :) since, this may be one of Samuelson's last interviews :(

Keynesianism Rises from the Ashes

Conoor Clarke: So is it time for the Keynesians to declare victory?

Samuelson: Well I don't care very much for the People Magazine approach to applied economics, but let me put it this way. The 1980s trained macroeconomics -- like Greg Mankiw and Ben Bernanke and so forth -- became a very complacent group, very ill adapted to meet with a completely unpredictable and new situation, such as we've had. I looked up -- and by the way, most of these guys are MIT trained; Princeton to MIT or Harvard to MIT -- Mankiw's bestseller, both the macro book and his introductory textbook, I went through the index to look for liquidity trap. It wasn't there!

One of the reasons Keynesian views are becoming popular is because it is one of the approaches that seem to deal a lot with concepts like liquidity traps. Paul Krugman has been talking about it for a while now. Even Greg Mankiw has come around to admitting that we may be looking at a liquidity trap.

Maybe I'm biased but I think Keynesnianism will become popular over the next decade or longer. I suspect monetarism is dead and this is especially true if we are stuck with near-zero interest rates and low-inflation/mild-deflation. But it'll be a new kind of economics with greater influence from behavioural psychology.

The 1930's

Well, let me give you a bit of boring autobiography. I came to the University of Chicago on the morning of January 2, 1932. I wasn't yet a graduate of high school for another few months. And that was about the low point of the Herbert Hoover/Andrew Mellon phase after October of 1929. That's quite a number of years to have inaction. And I couldn't reconcile what I was being taught at the university of Chicago -- the lectures and the books I was being assigned -- with what I knew to be true out in the streets.

My family was well off but not rich. I spent the four years I was an undergraduate working on the beach. And it wasn't because I was lazy; it was because my freshman class would go to a hundred different employers and wouldn't get a nibble. That was a disequilibrium system. I realized that the ordinary old-fashioned Euclidean geometry didn't apply.

And I applauded when the major members of the Chicago faculty -- maybe even a few years before Keynes's general theory -- came out with a petition to have a deficit-financed spending without taxation in order to create a new increment of spending power. And I was for that. And Franklin Roosevelt, who was not a trained economist, and who experimented and made a lot of mistakes, in his first days, by good luck or good advice got the system moving. It was in a sense an easier problem because the pathology was so terrible.

He would go to Warm Springs Georgia. And that county -- a pretty sizeable one, this is the old south -- there were maybe three to ten people with enough income to file an income tax return. So, when along came the WPA, the PWA, and a little later the Reconstruction Finance Corporation, you could be very sure that those monies spit out by government-- not from airplanes in the air, sending newly printed greenbacks, but essentially the equivalent of that -- would be spent.

I don't know if you know the name, the professor E. Cary Brown wrote kind of the definitive article in the American Economic Review on what had been accomplished by deficit spending that was sustained. And his numerical findings were that there were no miracles -- it was about what you'd expect -- but it worked. And so I developed I guarded admiration for Keynes. And I say guarded because I don't think he understood his system as well as some of the people around him did.

One of the unfortunate things I notice is that a lot of those in the liquidationist camp never experienced the 1930's or never gave thought to the human suffering under liquidationist policies. Jim Rogers and Jim Grant, among others, rarely ever talk about whether the policies they support will ever be supported by more than 1% of the population or whether the system will survive (unlike Weimar Republic which disintegrated into Nazi Germany.) This is probably why Austrian economists will never be elected to power—they ignore the 'political' in 'political economy'. Don't get me wrong: I actually support most of the issues than AustEcons promote when it comes to liberties and trade; but I have little sympathy for their concern over deficts during a depression or their call to let the whole financial system collapse.

If you read what Samuelson says here—his entire college class unable to find work; a big county in the state of Georgia with, roughly, just 10 people with decent income—you can see why fiscal spending was needed and how most of FDR's actions were constructive.

Milton Friedman

Samuelson: ...And when I went quarterly to the Federal Reserve meetings, and he [Milton Friedman] was there, we agreed only twice in the course of the business cycle. .

Conor Clarke: That's asking for a question. What were the two agreements?

Samuelson: When the economy was going up, we both gave the same advice, and when the economy was going down, we gave the same advice. But in between he didn't change his advice at all. He wanted a machine. He wanted a machine that spit out M0 basic currency [aka monetary base] at a rate exactly equal to the real rate of growth of the system. And he thought that would stabilize things.

Well, it was about the worst form of prediction that various people who ran scores on this -- and I remember a very lengthy Boston Federal Reserve study -- thought possible. Walter Wriston, at that time one of the most respected bankers in the country and in the world fired his whole monetarist, Friedmaniac staff overnight, because they were so off the target.

But Milton Friedman had a big influence on the profession -- much greater than, say, the influence of Friedrich Hayek or Von Mises. Friedman really changed the environment.

Interesting to see the contrast between various economic theories. For what it's worth, my opinion as an non-economist is that I think Keynesian supporters make a mistake when things are going up (i.e. good). There is a temptation to spend too much (by the government) and print too much money (by the central bank). So no one is perfect in my eyes.

Alan Greenspan & New-Classical Economics

The craze that really succeeded the Keynesian policy craze was not the monetarist, Friedman view, but the [Robert] Lucas and [Thomas] Sargent new-classical view. And this particular group just said, in effect, that the system will self regulate because the market is all a big rational system.


And this brings us to Alan Greenspan, whom I've known for over 50 years and who I regarded as one of the best young business economists. Townsend-Greenspan was his company. But the trouble is that he had been an Ayn Rander. You can take the boy out of the cult but you can't take the cult out of the boy. He actually had instruction, probably pinned on the wall: 'Nothing from this office should go forth which discredits the capitalist system. Greed is good.'

However, unlike someone like Milton, Greenspan was quite streetwise. But he was overconfident that he could handle anything that arose. I can remember when some of us -- and I remember there were a lot of us in the late 90s -- said you should do something about the stock bubble. And he kind of said, 'look, reasonable men are putting their money into these things -- who are we to second guess them?' Well, reasonable men are not reasonable when you're in the bubbles which have characterized capitalism since the beginning of time.

Conor Clarke: But now Greenspan admits he was wrong.

Because we had, instead of three standard deviations storm, a six standard deviation storm. Well, we did have something unprecedented. I think looking for scapegoats and blame can be left to the economic historian. But, at the bottom, with eight years of no regulation from the second Bush administration, from the day that the new SEC chairman -- Harvey Pitt -- said 'I'm going to run a kinder and gentler SEC,' every financial officer knew they weren't going to be penalized.

Self regulation never worked as far as macroeconomic events -- whether we're talking about post-Napoleonic War business cycles or the big south sea bubble back in Isaac Newton's time, up to today's time. The pendulum just swings back in the other direction.

The problem with self-regulation is the same problem with communism. That is, some will be greedy and start abusing others while enriching themselves. It will work if everyone was virtuous but if the mortgage lenders were willing to accept knowingly fraudulent applications just so that they can make a quick buck, and if the investment bankers were willing to sell those mortgages knowing that they will make a killing and even if their firm goes down, well, they still keep their earnings.

Unfortunately, I think governments are going to end up over-regulating and hurting the economy in the process. But there is no way around this. The public is not going to put up with all the crazy financial shenaginans that have occurred. The US government hasn't done anything drastic yet but if there is another blow-up, say in the CDS market, watch out.

The Current Situation

And this is the main thing to remember. Macroeconomics -- even with all of our computers and with all of our information -- is not an exact science and is incapable of being an exact science. It can be better or it can be worse, but there isn't guaranteed predictability in these matters.


On the other hand, I think the popular view -- if I count noses -- is that by the end of this year even, or by 2010, recovery will have set in. That's a very ambiguous thing. Things could get better -- things could even get better such that the National Bureau committee that officially dates these recessions will say that the recession officially ended in something like December 2010. That could be misleading, because it could be completely consistent with continuing decreases in employability, an adverse balance of payments, and a move of both the consumer section and the investing section towards non-spending -- towards saving and hoarding. I don't think we would enjoy a lost decade, like the two lost decades the Japanese had.

My feeling, and I hate to say this, is that we will likely face a long slump. I call it the 'Long Recession' although many are calling it the 'Great Recession'. It's difficult to be optimistic when you realize how the economy was really weak after the dot-com bust and, if it weren't for the housing bubble, the economy would have been posting very low growth numbers for the entire decade. (Hardest hit will not be America; it will be the developing world.)

On Government Spending

Conor Clarke: I have a couple of questions about the current debate. Do you think large fiscal stimulus should be controversial? And would you like to see more of it? Would you like to see a second or third stimulus, depending on where you start counting?

Samuelson: Well, in the first place, the E. Carey Brown analysis stressed that one shot spending gives you only one-shot response. It's gotta be sustained. The way we got out of the 1929 Great Depression in the US -- and this happened not only in the US but also in Germany and each place in which there was almost a third unemployed --- was heavy deficit spending. It was not clever Federal Reserve policy, because early on the Federal Reserve had shot its bolt when we came near to liquidity trap.

I'll speak from some experiences. My father in law was president of a national bank in Vernon, Wisconsin, population 4,100 as of the last Census. His was the only bank in the first week after Roosevelt's bank holiday that was allowed to reopen. Why? Well, he knew every borrower and he knew better than they did what they could afford and what they couldn't afford. And so he came into the situation with a clean balance sheet.

You think 'Great, because we preserve the monetary supply in the system, right?' Not great. Because the average person did not go out spending and lending freely. He bought treasury bills for as little as half a percent per annum. So the system was frozen without these supplementary expenditures, where the WPA competed with the PWA and with the reconstruction finance corporation. For really depressed situations, unorthodox central banking is needed.

We're almost getting there. In one of Greg Mankiw's articles, he said that maybe when the interest rate gets down to zero and it's threatening to be negative, you should give a subsidy with it. Well, that's what fiscal policy is!

It's amazing to me that many are already complaining about government deficits. If the economy goes into a long slump, deficits won't even matter. People will literally save all their money and put it into government bonds yielding almost nothing. This is what has been happening in Japan for more than a decade and, as Samuelon describes above, this is what happened during the Great Depression.

I am not necessarily saying that we are at the stage of Japan or USA in the 30's but it is a possibility. If you have been reading articles lately, you'll know that American savings have been going up. Furthermore, some numbers seem to indicate that a greater portion of American government bond issues are being purchased by Americans. (In addition, if we enter a long bear market in stocks, then you will see even more savings being funnelled towards government bonds regardless of yield.)

Run On The Dollar?

By the way, I don't want you to think that I think that everything for the next 15 years will be cozy. I think it's almost inevitable that, with a billion people in China wide awake for the first time, and a billion people in India, there's going to be some kind of a terrible run against the dollar. And I doubt it can stay orderly, because all of our own hedge funds will be right in the vanguard of the operation. And it will be hard to imagine that that wouldn't create different kind of meltdown.

I'm not as bearish as Samuelson and think a run on the dollar is unlikely, even in 15 years.

First of all, even if the dollar declines substancially, it can be handled by the marketplace. I mean, the US$ already lost something like 30% from the early 2000's to the late 2000's and we handled it quite well. So another 20% or 30% drop or even 50% can be handled.

Secondly, Samuelson is overlooking the fact that countries like China and India pursue mercantilist policies. A lot of the imbalances is due to those policies. It will be difficult for these countries to dump the dollar without massive repercussions. For instance, if China dumps the dollar, it's possible that more than 50% of its manufacturing sector will implode instantly. So, if someone like China were to dump the dollar, it will be either gradual and/or will be after their local economies have been well developed (say China hits the level of South Korea, which will probably take 50 more years.)

On Bubbles & Rationality

Sameulson: And I'm not sure most of the people that get caught up in the middle of a bubble can be described as irrational. It seems pretty rational to buy a house and flip it in the next few weeks at a profit when that's been happening for along time. It works both ways.

Conor Clarke: The crowd mentality is maybe not rational.

Sameulson: Well, let's put that differently. It's not optimal. It's what it is. You have to cope with people. Now, if all the people had gone to the Wharton School and become very sophisticated that doesn't mean the society in which they lived and operated would be incapable of having a business cycle or bubbles. They're self generating.

Conor Clarke:So are people utility maximizing and rational and can we make sense of interpersonal comparisons of utility in a mathematical way?

Sameulson: No. But you know, people say, 'greed has suddenly increased.' But it isn't that greed's increased. What's increased is the realization that you've got a free field to reach out for what you'd like to do. Everybody would still like to retire with a satisfactory nest egg in real terms. And the tragedy of this unnecessary eight-year interlude is that much of what has been accumulated is gone and gone forever. And no amount of pumping is going to bring back into reality what were ill-advised overextensions of bridges to nowhere and housing developments for which there was no effective demand.

Interesting way of looking at bubbles. Samuelson is suggesting that the individuals partaking in a bubble aren't necessarily irrational—they are just un-optimal.


Certainly, some of the reasons the Chinese have stuck with huge amounts of reserves in very low interest rate US assets has been to keep the export led program that they espouse in existence. They can still succeed there by taking the reserves out of prime zero-interest stuff and putting it in our general stock market and so forth, the way Dubai and some of the other countries are beginning to do. So I think we've got -- in the long term -- a lull in our favor, but it's a lull in our favor that, rationally, is probably not going to persist.

Instead of a run on the dollar, what Samuelson suggests above (i.e. China possibly starting to buy American stocks instead of Treasuries) is probably what will happen. This process will be slow and I don't think it will be equivalent to a 'run on the dollar'. I interpret a run as occuring really quickly whereas the described process can take a long time.

Last Word of Advice to Economists

I'll let Samuelson finish off this long post by giving the last word on what economists should be doing (By the way, it's a point that I think is applicable to investors as well. If you have time to kill, you should read history)...

Conor Clarke: Very last thing. What would you say to someone starting graduate study in economics? Where do you think the big developments in modern macro are going to be, or in the micro foundations of modern macro? Where does it go from here and how does the current crisis change it?

Samuelson: Well, I'd say, and this is probably a change from what I would have said when I was younger: Have a very healthy respect for the study of economic history, because that's the raw material out of which any of your conjectures or testings will come. And I think the recent period has illustrated that. The governor of the Bank of England seems to have forgotten or not known that there was no bank insurance in England, so when Northern Rock got a run, he was surprised. Well, he shouldn't have been.

But history doesn't tell its own story. You've got to bring to it all the statistical testings that are possible. And we have a lot more information now than we used to.


7 Response to The Atlantic's Paul Samuelson Interview

June 25, 2009 at 11:03 AM

Good post.  I feel like reading his book now.  I have an okay grasp of the basics, but would like to get into more detail of the flaws in the rational market and austrian theorists.

June 25, 2009 at 9:00 PM

I'm not familiar with economists, other than some who are into macroeconomics and hence overlap with investing at times. I don't really know if Samuelson ever wrote a book critiquing pure free-market theorists, such as Austrian Economists, Monetarists, classical economists, and so forth. The book he talks about in the intervew seems to be a textbook and I'm not sure if he would be critquing other views. Part of the problem with economics is the fact that the different schools seem detached from each other. Anyway, if you read the book, let me know it is. I won't be reading it because it won't help investing and I already have a ton of other books to read, but I'm curious.

I'm not an economist but speaking as an outside observer, the problem with Austrian Economics, at least to a liberal like me, is that it does not consider the political aspect of life. As far as I'm concerned, Austrian Economics pretty much died with the Great Depression. The liquidationist theories were a disaster and once we went off the gold standard, that was it. Austrian Economics seems popular because there are a few outspoken investors, such as Peter Shiff or Jim Rogers, who seem to support it, but I don't think even 5% of the population in America supports it. Monetarism, which shares similarities (except it doesn't rely on hard currencies), is probably where the competition is.

June 25, 2009 at 9:09 PM

One more thing...

This is a great interview because I get a feel for the thinking and character of various individuals. For a long time, I never understood how Ben Bernanke couldn't see the housing bubble. People like me, who got blown up with our investments (Ambac for example), underestimated the degree of the bubble but I thought it was a bubble. Many, including me, were pretty certain there was a bubble. I didn't have a blog at that time but that was my feeling. It seemed bizarre to me how Bernanke couldn't see it.

Maybe others already knew it but I only realized why Bernanke couldn't see it after reading this Samuelson interview. Bernanke clearly believed in the market--even an irrational one. Blindly following the market led to his mistake.

This is probably why he also is somewhat bullish right now (green shoots speech; recent FOMC meeting saying things are recovering (whereas Buffett doesn't see much improvement)). Bernanke is interpreting the situation based on the market. The fact that the stock market is up 30%+ and credit spreads have narrowed is taken as if the economy is recovering. Yet, if you did not look at asset prices, you would have a hard time coming to that conclusion based on the economy.

I think it is becoming obvious to everyone that blindly following the market, especially asset markets, is a disaster in the making...

John Y
June 25, 2009 at 11:10 PM

Great post! As you said, it sheds light on a few interesting characters.

By the way, do you know any good book on unbiased <span>economic history?

June 26, 2009 at 3:21 AM


concerning Bernanke and the bubble, there is also an element of career risk, in the sense that he might call the bubble, have it burst, and then find he owns it. I can imagine plenty of unhappy houseowners/banks blaming him for their losses, rather than their own imprudence. Ditto for Greenspan.

For people like us, with no real responsibilities, it is always tempting to ignore the political fallout. I just wonder to that extent they believe the green shoots/no bubble mantra, and to what extent they feel it is their duty to do so. Of course, one could argue as well that central banks are independent for a reason, not to be subject to political considerations, but not all central bankers are like Volcker, and then he came after a decade of inflation, when the situation was quite bad.

June 26, 2009 at 10:15 AM

There is no such thing as unbiased economics :)  I'm not as familiar with economic books so can't say what is a good history. Perhaps the best thing to do is to read multiple books from different viewpoints and form your own opinion. One can't go wrong with the classics by Adam Smith or some of David Ricardo's essays (for instance, Samuelson once said that the most non-trivial and correct theory is all of social sciences may be Ricardo's theory of comparative advantage.)

So, sorry, don't know of any good economic books to recommend...

June 26, 2009 at 10:23 AM

You are right about career risk. That's one reason I respect people in these positions.

There is also an element of leadership at play. Leaders are generally required to say something positive and improve morale.

But the thing is, if something blows up, they are going to get blamed anyway. In fact, what if they are making it worse and hence end up with an even worse scenario?

I can see Greenspan doing what he did. Almost all the market participants, except some disgruntled ones from certain corners, loved Greenspan and agreed with everything he did. The economic profession also held him in high regard, again, except for some. But Bernanke has a clean slate and there was no pressure to speak of.

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