The Baseline Scenario

Larry Kudlow and Economics in the Trump Administration

By James Kwak

Noah Smith (along with a fair section of the Internet) has some concerns about Larry Kudlow as chair of the Council of Economic Advisers: he’s overconfident, too much of a partisan, and fixated on nonexistent problems (e.g., inflation). I’m not so worried that he’s on Team Republican; after all, Donald Trump gets to pick the advisers he wants, and they shouldn’t be rejected solely because they take political sides. But I am worried about what Kudlow’s appointment means for the relationship between economics and policy.

The world is a complicated place. Anyone who studies society in depth should learn to have respect for that fact. At any given moment, we have only a hazy understanding of what combinations of transitory phenomena and underlying structural factors produce what outcomes. (For Exhibit A, see the election that took place on November 8.) This tweet at the beginning of Game 7 of the Cubs-Indians World Series, channeling the great French historian Fernand Braudel, is one of my all-time favorites:

Contemporary research economists have become incredibly sensitive to the difficulties of explanation. The papers that get the most attention—like Chetty et al. on intergenerational mobility, or Autor-Dorn-Hanson on the impact of Chinese imports on labor markets—are no longer purely theoretical. Instead, they analyze large datasets, often compiled with tremendous amounts of effort, to try to tease out the relationships between different variables. Any empirical paper in a good journal will discuss which way the causal arrows points and include multiple robustness checks to try to ensure that the results are not the product of outlier observations or an idiosyncratic specification. Good economists know that the answer to most questions is: It depends.

This is one of the important contributions that economics can make to public policy: the understanding that the world is complicated, and the dedication to uncovering rather than masking that complexity. In a presidential administration, you would expect this perspective to come from the Council of Economic Advisers. The treasury secretary is a public spokesperson, a diplomat, and the manager of a huge organization; the director of the National Economic Council is a policymaking coordinator; and the director of OMB is a budget planner.

I don’t particularly care that Larry Kudlow doesn’t have a Ph.D. in economics. Paul Volcker didn’t have one either (as far as I can tell), and few Democrats would have seriously objected to him as chair of the CEA. What concerns me is that he has been working as an economist for decades—that is, he makes money by thinking and talking about economic issues—yet his conception of the discipline seems limited to the simple, theoretical relationships of Economics 101.

Most of Kudlow’s thinking about economic issues appears to boil down to three ideas. The first is that tax cuts increase economic growth—a mantra that conservatives have repeated for decades, yet is not supported by reviews of existing research. The second is that expanding the money supply will necessarily generate high inflation, on which basis Kudlow predicted a “major inflationary plunge” just as the Great Recession was beginning. The third is that an expensive currency—what politicians call a “strong dollar,” but Kudlow calls “King Dollar” (with the capitals)—is good for the economy.

The first two ideas are things you would expect to hear from a first-semester college freshman (like Jeb Hensarling in his Texas A&M days). They make sense on a two-dimensional diagram, but they are at best distant approximations of how the world works. The third—King Dollar—is just weird. The value of a currency is the outcome of various factors, such as interest rates, and it doesn’t make sense to think of that outcome in isolation from the things you would need to do to produce that outcome.

Studying economics is a process of indoctrination and then de-indoctrination. First you learn that competitive markets produce optimal outcomes; then you learn that this is only true in rare circumstances, that real markets are imperfect in a myriad of ways, and that in any case perfect market outcomes are not necessarily optimal in any meaningful sense. Larry Kudlow, whether naively or disingenuously, still seems to be stuck on Economics 101. That’s the essence of what I call economism, the subject of my new book: a worldview that assumes that society operates according to a small set of fundamental principles, and that public policy can be shaped on that assumption.

With Kudlow as chair of the CEA, Donald Trump is giving up even the pretense of trying to understand economic reality, instead doubling down on a handful of abstract slogans that have little to do with our current challenges. That’s hardly surprising, given that Trump is basically just an extreme caricature of contemporary conservatism, but that doesn’t make it any less concerning.