Those of us who liked the 1990s vintage Paul Krugman have been able to hold on to a few stands of hope. At least he still supports free trade. At least he only applies the old Keynesian model to the zero bound case, and still argues that monetary offset applies when rates are positive.

But as Ryan Avent recently pointed out, his support for free trade seems to be slipping. And his support for new Keynesianism when not at the zero bound was hard to reconcile with his claims that the eurozone double dip recession was caused by fiscal austerity. After all, the ECB raised rates from 1% to 1.25% in April 2011, and then to 1.5% in July 2011, pushing the eurozone into a double dip recession (according to standard new Keynesian analysis.) They weren’t at the zero bound.

Mark Sadowski pointed me to a recent Krugman post that helps resolve the puzzle, albeit in a far from satisfying manner:

Is ECB policy constrained by the zero lower bound? You could argue that it isn’t, since it could cut a bit further than it has but hasn’t. I’d argue, however, that if nominal interest rates were much higher — say, 4 percent — but the overall euro macro situation were what it is, with inflation clearly below target and unemployment very high, the ECB wouldn’t (and certainly shouldn’t) hesitate at all about cutting rates substantially. It’s only the fact that zero is already so close that makes cutting rates seem like a big deal, an admission that things are looking dangerous (which they are).

Most of the rest of the post is excellent, but this defense of old Keynesian economics when not at the zero bound just won’t work. I suppose you could make the argument today, as the policy rate is only 0.25% (although I still wouldn’t buy it.) But it certainly wouldn’t apply to 2011, when the rates were higher and much more importantly the ECB was raising rates in an attempt to slow inflation (they succeeded, just as the 1929 Fed succeeded in popping the stock market “bubble.”)

So Krugman’s analysis of the ECB continues to be illogical, unless one assumes he’s abandoned new Keynesianism, and has become one of those old Keynesians who think fiscal policy always drives AD, and monetary policy doesn’t matter. And if he has, then he should clearly say so. Instead he seems to stealthily edge a few degrees more toward old Keynesianism each year.

Did the ECB’s tight money policy of 2011 cause the double-dip recession, or didn’t it? New Keynesian economics suggests it did, old Keynesianism suggests it didn’t.

PS. Let me anticipate one possible criticism. The interest rate increase of 2011 was rather small. However the size of a change in interest rates tells us almost nothing about the impact of the policy. A 50 basis point rise in the target rate might depress the Wicksellian equilibrium rate by 5 or 10 times that much.