During his Sunday appearance (click for interview) on This Week With Christiane Amanpour, Paul Krugman spoke the words that make us very uncomfortable.
Responding to French finance minister Christine Lagarde’s fiscal austerity and Alan Greenspan’s caution about further stimulus, Krugman spoke confidently the bond market has no problem with larger deficits,
Greenspan: I know everyone says let’s wait for a couple years, keep the stimulus going, and then we’ll solve the problem. I think that’s a very risky strategy. I don’t deny, if I knew you could do that, that it is obvious the best strategy. I’m not sure the markets are going to allow them to do that.
Krugman: …And when she said people are worried about the deficit, the people who have a real stake in worrying about the deficit, are investors, bond investors, interest rates are at near record lows….
We have written how the Treasury bond market fails to reflect fundamental value, does not price credit and inflation risk, is driven by technicals, and dominated by non-market oriented large players, i.e., central banks. For Krugman to conclude a 2.40 percent 10-year Treasury rate reflects a lack of worry about deficits is almost equivalent to Wen Jiabao declaring his country’s currency is determined by market forces.
Paul Krugman is a brilliant economist, but we think he should be looking at more market oriented markets to gauge deficit anxiety. Gold, commodities, and currencies would be good start.