The Conscience of a Liberal

• Introduction
• Remarks
• Questions and Answers

JOANNE MYERS: Good morning. I'm Joanne Myers, and on behalf of the Carnegie Council, I would like to welcome you to what is certain to be a very provocative morning.

Paul Krugman is our speaker, and his book, The Conscience of a Liberal, is bound to make you think very differently about our political and economic future.

Ever since Paul Krugman was awarded the John Bates Clark Medal from the American Economic Association, which is given biannually to an outstanding economist under the age of 40, he has come to be known as one of the more "adrenalizing" economists of his generation. However, it wasn't really until the fall of 2002, when the marketing of the Iraq War began in earnest, that he started broadening his criticism beyond the sphere of economics to include that of the war and the politics that accompanied it.

Mr. Krugman has been adamant in making his perspective of the Bush administration and the contemporary right well-known, so much so that many liberals identify him as perhaps the most consistent, courageous, and unapologetic liberal partisan in American journalism today. In column after column, he has made it manifestly clear where he stands on the state of our economy and politics.

But it was only with the publication of this recent book, The Conscience of a Liberal, that he has more boldly laid out his solution for reclaiming America from the right-wing conservatives. Just as Barry Goldwater's The Conscience of a Conservative galvanized right-wingers in 1964 to seek a radically different relationship between government and the individual, our speaker this morning challenges America's progressives to reclaim the values that made our country great and calls for a new age of reform and social programs that will take the country back from the elite ideologues and return it to the people.

Mr. Krugman looks back to the time of President Roosevelt and the New Deal with reverence. He sees this period as one that narrowed the income gap and lifted the working class out of poverty, with the result that most Americans led relatively comparable economic lives. Our speaker traces United States history, looking at American life during that time. He begins with the New Deal reforms that tamed the harsh inequalities of the Gilded Age. He then moves on to the expansion of the middle classes after World War II and to the unraveling of FDR's legacy with the rise of what Mr. Krugman calls the "movement conservatism" that aimed to undo the welfare state.

He finally brings us up to the present, where today we are witnessing the reemergence of immense economic inequality and political polarization. If, as Mr. Krugman argues, politics rather than economics created our present-day inequality, then perhaps politics may be the answer to the future, especially since the public now seems ready for something that will defeat the toxic levels of partisanship and eradicate egregious economic disparity.

I know there will be many in our audience who will wholeheartedly agree with Mr. Krugman's polemics and others who will throw up their arms and staunchly disagree. Still, I would like to invite you to listen carefully, as knowledge can come from intellectual disagreement, as well as serving to reinforce your own beliefs.

That being said, please join me in welcoming a person who gives new life to the New Deal idea that society should help its less fortunate members and who advocates for a new, fair New Deal, the world's most widely read economist and one of our most influential political commentators, Paul Krugman.

PAUL KRUGMAN: Good morning.

I have this book, The Conscience of a Liberal, which was published just about six months ago. Given the physical realities of publishing, they had to pry the manuscript out of my clenched hands about 11 months ago so some parts of it look a little different than they did when I wrote it, and I will talk about those towards the end of the initial talk. But let me tell you a bit about the argument of the book, basically a bullet-point description of the argument.

It really starts with an observation that the history of the United States, the political economy of the United States, for the past 80 years at least, is overwhelmingly about the relationship between the political polarization and economic inequality. You might say, well, look, there are lots of other things; politics isn't one-dimensional.

But it turns out that it is, actually. I drew a lot on the work of political scientists, especially Nolan McCarty, Keith Poole, and Howard Rosenthal, who have looked at congressional voting. What's astonishing in their work is, you can use voting on bills to array congress people along a left-right spectrum, which is basically an economic spectrum, and that does an incredibly good job of predicting their votes, not just on things that are obviously economic, but on things that are not. It's amazing that there is almost perfect predictability of the votes in the current Congress on the Vietnam War and on Iraq War-related—actually, politics was very different in the Vietnam era. These days you would think that it should be possible to be an Iraq War hawk and economic liberal or an Iraq War opponent and an economic conservative, but it basically just doesn't happen. Politics really is very much one-dimensional, even on seemingly unrelated issues.

There used to be a second dimension to U.S. politics, which was race. That dimension has largely collapsed, which is actually part of the story here.

The story that comes out of many different sources is that there is a great sort of arc in the U.S. political economy over the past 80 years. There is an arc in equality. If you go back to the 1920s, we were an extremely unequal society. Historians like to say that the Gilded Age ended sometime in the early 20th century, because there was some change in the political mood, with Teddy Roosevelt and Grover Norquist.

Do people know who Grover Norquist is? He's the guy who said he wanted to shrink the government "down to the size where we can drown it in the bathtub." That's the famous quote. But the one I like is the one where he was asked what he wants. He said he wants to bring America back to the way it was before Teddy Roosevelt and the socialists came in.

So there was a change in the political mood circa 1900. But in terms of economic inequality, as best we can tell, America in 1929 was not very nearly as unequal as America in 1899. The Gilded Age really lasted right up until the 1920s. Then we became, for a generation after World War II, a truly middle-class society—not, obviously, without inequality, but with much, much less inequality. I'm a baby boomer. The world I grew up in was one in which America was a relatively equal society. Now we are once again in a highly unequal society, in a second Gilded Age.

That's not an exaggeration; that's not a metaphor. Given the available data, we are back fully to the levels of inequality of the 1920s. We are really back to the same disparities in income that we had before the New Deal.

The other big arc is one in politics. If you go back to the 1920s, America was a deeply polarized political system—very harsh divisions between the parties, very little agreement. Bipartisanship really just didn't happen. We became, for several decades after World War II, a political system in which there was a lot of overlap between the parties, in which there were Republicans like Jacob Javits, conservative Democrats, and there was a genuine center in the political sphere and an ability to get along and to forge compromises. Then we became again deeply polarized. So now the leftmost Republican in Congress is to the right of the rightmost Democrat.

Clearly, those two arcs move more or less in parallel. As my political science colleagues say, there is a dance of politics and political polarization and economic polarization.

What I found in doing the work for The Conscience of a Liberal is, if there is that dance, politics takes the lead. If you look at it more closely, you discover that the political changes tended to precede and cause, in large part, the economic changes. If you want to say how we became that middle-class society that I grew up in, it wasn't that we gradually evolved into a more equal society because of changes in technology and global markets and all that. It happened abruptly. Between about 1937 and 1945, America abruptly became a society with much narrower differences in wages, much less income to the top.

Claudia Goldin, economic historian at Harvard, calls it "the Great Compression." It's a period when income differences are just compressed dramatically. Obviously and clearly, it's political. A lot of it took place during World War II, when wages and prices and other things were controlled. In fact, the Roosevelt administration designed those controls in such a way that they had the effect of raising incomes much more at the bottom than at the top.

But it persisted for another 30 years. Standard economics would say that when you took off the wartime controls it would go away. It didn't happen. That's partly because the New Deal shifted the balance of power. Pro-union legislation, minimum wages, Social Security, unemployment insurance all vastly increased the bargaining power of workers. It's also because, it turns out, income distribution is less "invisible hand" and more things like social norms than most economists like to admit. There is a very strong element of what people believe is appropriate. So we created that middle-class society.

Then we became grossly unequal again, and the political changes again predated the income changes. Movement conservatism—it's not actually what I called it; it's what the movement conservatives call it. Yes, Virginia, there is a vast right-wing conspiracy. It's more or less in the open. It's an interlocking set of institutions. If you Google "movement conservatism," the first page of entries ends up being mostly me, at this point, but after that, you start finding the movement conservatives themselves talking about, where does movement conservatism go now?

There is a self-conscious movement. It's built around think tanks (Heritage, American Enterprise Institute), media organizations (Fox News and all of that), and it took over the Republican Party. Today's Republican Party is very different from the Republican Party of the 1960s. It is held together, in large part, by money and jobs.

One thing I like to say is that in my other identity as an economist, I know a lot of liberal professional economists and conservative professional economists and a fair number of professional conservative economists, but no professional liberal economists. The jobs aren't there for you to make a living by espousing liberal positions on economic issues—or very few of them. There are a lot where you can be basically hired to push the party line.

This movement conservatism emerges during the 1960s and really gains traction during the 1970s, taking over the Republican Party by the time that Ronald Reagan was elected; and, in power, has done a number of things that all contribute to this rise in inequality, not just taxes, although it is remarkable—with a great increase in inequality, you might expect that tax policy would lean the other way, that you might have higher taxes on people with high incomes. Instead, of course, we have gone—back when Dwight Eisenhower and the socialists controlled Washington, the top marginal tax rate was 91 percent. It's now 35, and so on down the line.

Also union policy: People tend to say that the great decline in unionization in America was the result of global forces. As always, there is some truth to that. But most of the decline in unionization did not have to happen. Put it this way: There is no essential reason why a company with a million employees that does not face international competition shouldn't be unionized. Yet Wal-Mart is not. The reason it's not is that Wal-Mart grew to be America's largest corporation during an era when the power of the federal government was essentially arrayed against unionization rather than for it. So that's the reason why we have so much weaker a union movement.

If you actually just track the biggest decline in unionization, it took place during the Reagan years. It took place very much because employers, emboldened by a government that was on their side, took the offensive against unions and managed to shrink them down.

You can go through other aspects of that. There is clearly a strongly political component. If you look at rising inequality in the United States, it is echoed, but faintly, in Britain—but basically all of that increase took place during the Thatcher years—and not echoed at all in the rest of Europe. Again, the international evidence suggests very strongly the political aspect of the rising inequality.

Now, the political question—we say that this happened, and you might want to say, why would this movement be able to win elections? It's one thing to say that it has organization, that it can recruit a lot of people. But if this stuff is, as I argue, basically bad for most people in the country, if rising inequality benefits a small minority and hurts a much larger group, why is it that it is able to win elections?

It's kind of commonplace to say that it does so by changing the subject, by getting people to focus on something else. One way to say this is that what happens is that movement conservatives win elections by focusing on other stuff and then use that victory to focus primarily on an economic agenda. Actually, the 2004 election was a perfect illustration of that, essentially. Bush won by running as the nation's defender against gay married terrorists, and the first thing he did—almost the next day after the election—was to say, "And now we're going to privatize Social Security." That was a dramatic illustration.

But more specifically, what are the issues that have worked in this way? There is a great book by Tom Frank, What's the Matter with Kansas? A terrific rant about the use of moral-values issues and so on to win elections. It's a great book, something that everybody who is at all interested in these things needs to read.

It's also probably mostly wrong. I have a colleague at Princeton who has a new book coming out, by the way, I think The New Gilded Age. Although it does have a fair number of equations and graphs in it, it's from the politics department at Princeton, Larry Bartels. Larry Bartels has a paper which influenced me a lot called "What's the Matter with What's the Matter with Kansas?" (And Frank has a reply, which, regrettably, he did not title "What's the Matter with 'What's the Matter with What's the Matter with Kansas?'") But Larry produced a lot of evidence to show that the traction of these moral-values issues is a lot less than people think. There is just not a lot of evidence that many voters were moved to vote against their economic interests by moral-values issues.

Certainly, national security was decisive in the 2002 and 2004 elections. But that turns out to be really exceptional. It's hard to find any other examples when that was crucial.

What is overwhelmingly apparent in understanding what happened to U.S. politics is race. It just is overwhelming in the voting data and it's overwhelming when you start to look at the narrative.

I guess one way to say this is, if you try to understand the shift of American politics to the right, five words explain almost everything, those five words being, "Southern whites started voting Republican." Larry Bartels has a number, which you can pick at, but it turns out to be basically representative. We have all of these things about how white men have turned against the Democrats because they are weak on national security. In 1952, in the presidential election, 40 percent of non-southern white males voted Democratic. In 2004, 39 percent of non-southern white males voted Democratic. Basically, nothing happened, except for the switch of southern whites.

What that's about is just the breakup of the New Deal coalition over civil rights. Lyndon Johnson, when he signed the Voting Rights Act, said to Bill Moyers, "We've given the South to the Republicans for the rest of my life and yours." And that turns out to have been exactly right.

To what extent has deliberate exploitation of racial divisions been a feature of movement conservative politics? It's overwhelming. You may have noticed that there was kind of a flame war over Ronald Reagan in The New York Times some months back. It's crazy to assert that he wasn't somebody who used code words to exploit race. It's not just starting the 1980 campaign with a speech in Philadelphia, Mississippi, where the civil-rights workers were murdered. It goes all the way back to the speech he gave in 1964 that started his national political career, a speech he gave on behalf of Barry Goldwater, which was full of some extraordinary—I don't know the word to use—coldness: "We are told that 17 million people in America go to bed hungry every night. Yeah, that's probably because they're all on a diet." That kind of thing is in the speech.

But it's full of going-on about welfare cheats. The famous story about the welfare queen driving her Cadillac actually had precursors in the earlier speeches by Reagan. He never said what color the welfare queen was, but he didn't have to.

I ended The Conscience of a Liberal on an extremely upbeat note, because I believed that we really are in a position to have a great change, that we are ready. The title is a play on Barry Goldwater. Although I obviously don't agree with what Goldwater had to say, I do admire the fact that he was able to encapsulate a moment when American politics was about to make a great turn. I was arguing that we were ready for that kind of turn again. Much of the work on the book was done before the 2006 midterms. I wasn't sure what was going to happen then, but I thought it was coming.

Why would I say that this great turn was happening?

One, if you do look at public opinion, there has been a gradually growing backlash against inequality. It's not usually phrased in quite that way, but if you look, there is a lot of evidence that people have become increasingly disillusioned with a society in which most people see very little in the way of income gains and a few people do extremely well.

The other was the declining significance of race in American politics. It's by no means gone, but there are a couple of things that make it less—basically, the southern strategy losing some of its effectiveness. One is the changing ethnic mix of the United States. We are becoming, to put it kind of crudely, a less white country—more, mostly, Latino, but also, to some extent, Asian voters—which means that you can't quite win elections the same way. That works against movement conservatism.

The other is that we have become a less racist country. It's actually quite stunning to look back at polling from the late 1970s, early 1980s, Reagan's initial triumph, and discover the extent to which people—actually, in some ways, I think most significant are the hot-button emotional things that are not directly political, like, "Do you approve of interracial marriages?" In the early 1980s, a plurality of the public still did not approve of interracial marriages. Now 77 percent think they are fine. We have changed in important ways.

For me, the symbolic moment of the 2006 campaign was the Virginia Senate election. S.R. Sidharth, the Webb aide who was filming George Allen, to apply, I'm told, to Columbia Journalism School, had to write an essay and say, "Why I should be admitted." The story at least is that the essay was just three words: "I am macaca."

The fact that George Allen went into a racist rant is not something new in American politics. Actually, that's as American as apple pie. We have had that throughout our history. What's new is the voter backlash against it in Virginia, which shows that the politics have changed.

What I would argue is that the New Deal was partly a huge backlash against conservative governance in America, but what made it stick was the ability to deliver, the ability to deliver programs that people really came to regard as an enormous improvement in their lives. The place to do that this time around is health care.

I can go on at length about health care, and the possibility of getting even a somewhat cobbled-together universal health-care plan is something that, I believe, is tremendously important as a way of changing the country's direction.

What has changed since the book came out? In one way, the prospects for a real change in the country's direction have grown larger because of the economic situation. Obviously, the New Deal was made possible by the Great Depression. I don't think we are about to have another Great Depression—though I'm less confident of that than I would have been a year or two ago—but it is extraordinarily bad economic times, an extraordinarily bad economic record for the Bush administration. It's bad in a way that kind of makes the point about what's wrong with that style of government: Financial institutions run wild; enormous paychecks to people who walk away with $100 million from their imploded company; a clear failure to regulate when it would have been in everybody's interests; and so on down the line. You couldn't have asked for a clearer demonstration of the point about why more government on behalf of the public interest is needed. It's really quite dramatic.

The public reaction—I just got a glance at this morning's CBS-Times poll. Eighty-one percent believe that we are headed in the wrong direction. It's an extraordinary thing.

So that certainly makes the political prospects for change better.

On the other hand, the difficulty of getting reforms has been illustrated by some of what has gone on since the Democrats took Congress. It's not that huge an issue, but it's tremendously symbolic. The hedge-fund tax issue is kind of daunting. There you have a loophole in the tax law which allows hedge-fund managers to pay lower tax rates than their secretaries. It's about $6 billion a year, probably. It should be obvious that a Democratic Congress would move to close that loophole.

Chuck Schumer is squeaky-clean, honest, but also worried about campaign finance. As I understand what he has had to say on this, it's from St. Augustine: "Oh, Lord, make me chaste and continent, but not yet." That is demonstrating the power of money to influence even a Democratic Congress.

The presidential election: Think about my argument and let's abstract for a moment. I'm arguing that the public is really ripe for a populist economic program, that race is of diminished significance in politics, which makes it less easy for the right to play that card against the progressives. If you were going to design a presidential campaign from the Democratic side so as to minimize the chances of actually winning, what would you do?

• • First of all, race is of diminished significance, but not gone. So you would go ahead and run an African-American candidate.

• • The economic issues are really playing in a populist direction. So you would run a candidate who talks a lot about unity and has kind words to say for Republican governance in the past.

• • Health care is really essential. So you would have a candidate who is actually kind of soft on universal health care and actually runs Harry-and-Louise-type ads against his Democratic opponents.

Against that, you have to say, look, this is a guy who has enormous political talent and is an incredibly eloquent speaker.

But I do worry a lot. I think that the likely nomination of Barack Obama puts the Democrats in a far weaker position than I had imagined. I was thinking about a generic Democrat running for office, and I think a generic Democrat would easily win this election. Unfortunately, you have to pick an actual person, and the actual person, I think, has serious weaknesses.

We can argue about that. I guess we will really find out in November. But I have kind of a bad feeling about the way this thing has gone, which is not about Obama being a bad guy or anything, but it is just a concern that this is tempting fate, in a sense. The Democrats have, in a way, gone in precisely the direction that minimizes the great advantages they have.

So this is going to be really, really interesting. The public is crying out for change. I have never seen the public mood as favorable towards the kinds of reforms I would like to see—not in my adult lifetime. So this is a real chance to make a change in direction. But whether it actually happens, I'm a little more depressed than I was. I was ebullient when I wrote the book. My exuberance has declined some. Still, there are real big hopes for change.

Thanks.

QUESTION: I would like to ask you a question about the arguments on tax policy and energy. What I have never understood is why economists such as yourself do not use the enormous increase in energy costs as what I believe is the correct argument against the Republicans' shibboleth against raising taxes. You have had what I think is currently running at $1.5 billion a day of taxes on energy that are not only not going to the federal government, they are going outside the country, by and large. So they are the worst kind of taxes you could have. Yet the economy was absolutely sailing along until it hit the credit crunch that has nothing to do with taxes.

Why are not people like yourself using this fact to eviscerate the Republican argument that raising taxes kills the economy?

PAUL KRUGMAN: That's a good question. Sure, the energy increase is like a tax increase. Maybe I have had too much experience of logically airtight arguments that don't seem to actually get any traction whatsoever to believe in them.

There is this thing. Part of the conservative belief is that the economy is incredibly resilient and is able to handle anything, except a tax increase. You can have terrible shocks, oil prices, famine, rising health-care costs. The market can solve that. But raise taxes, even just a little bit, and it will be catastrophic. Why they don't think the same resilience extends to that—sure.

What can I say? I think the problem is the resilience of false beliefs, the resilience of supply-side economics. You would have thought that the Clinton era, when you raised taxes, had an incredible economic boom, a gigantic surge in revenue, would have put the complete end to the notion that raising taxes reduces revenues and cutting taxes increases them. But it has just been shrugged off.

My favorite quote on all these things is Upton Sinclair: "It's very difficult to get a man to understand something when his salary depends on his not understanding it."

QUESTION: I'd appreciate it if you would say something about George Soros, who has been talking about credit default swaps. He says they are $45 trillion and no one knows what's there. That sounds incredibly frightening.

One other comment. I do think you are unfair to Barack Obama. I think if you look at the rest of the world, where there is so much hatred for us, there is incredible enthusiasm for him.

PAUL KRUGMAN: Let me just say a word about Obama. I don't think "the rest of the world will love him" is a reason to choose a president. For one thing, those things can fade very fast. What matters is what happens in concrete policy. I think any American president who gets us out of Iraq will immediately lead to an enormous improvement in how the world feels about us. On the other hand, the loss of U.S. prestige from the failure of the Iraq War is something that no U.S. president can reverse. So I don't think that makes that much difference.

Obama is a good progressive guy, who, unfortunately, does not seem to make a priority on some of the issues that I think are really important. On health care, which I believe is absolutely essential, he sort of gratuitously put in a weaker plan than what I think is necessary. Basically, he has a chair with three legs, when it needs four. He chose to campaign to attack both John Edwards and Hillary Clinton, and now just Hillary Clinton, from the right on that issue. That has been disillusioning.

As you know, I can't do endorsements at The New York Times. So, in principle, you don't even know which party I would like to see win the election. But if it's Obama-McCain, which it probably will be—90 percent will be—then I'm clearly going to be a lot more critical of McCain than Obama.

But I do think that this has been kind of an unfortunate turn in direction. What can I say?

On the financial, this has been shocking. I knew we had problems. I saw the housing bubble. I saw that that was going to burst and it was going to be nasty. It has taken a while to get a sense of the scope of things. I have written about this a bit in the Times, but just to repeat: What happened, it turns out—this actually also goes back to the New Deal and the undoing of it. What made the Great Depression great? It wasn't the stock market crash of 1929. That's much exaggerated in importance. What it really was, was the banking crises of 1930-31, the series of bank runs, the closures.

We responded to those by creating a set of guarantees and regulations that protected the banking system—deposit insurance, credit lines from the Federal Reserve, and at the same time, regulations, so that banks didn't abuse that privilege, regulations for capital requirements, reserve requirements, limits on the types of risks they could take, which protected us pretty well for 50 more years.

What happened after that was a gradual evolution of institutions and arrangements that bypassed that whole financial security framework, so that instead of having a bank in which people put deposits, to which they have ready access and the bank uses those to make loans, now we have something where institutions, in particular, will park their money in auction rate securities, where they think they have access to it whenever they need it, which are then used to finance investments, or they park it in asset-backed commercial paper. There are all these complicated arrangements, which are fulfilling the functions of banking, but they are not called banks. They are not regulated and they don't have a safety net.

It's a shadow banking system. I don't know who came up with the phrase, but it's actually used by a lot of people now. It's a shadow banking system that we have created, which is, in effect, a 21st-century version of the unregulated banking system we had in 1930.

What we have been experiencing now is something that looks like the 21st-century equivalent of a bank run. Our image is that a bank is this marble building and that a bank run is people standing in line and milling around outside it. That doesn't happen. Now a bank is a complicated institution with a lot of credit defaults and default swaps and so on that is, at least legally, based in London, and the bank run takes the place of people all trying to get their money out.

But what happened to Bear Stearns was basically a 21st-century bank run. This is really scary. We don't have a regular mechanism to deal with this, and it's producing a lot of closing-down of credit, which is very dangerous to the economy.

The one advantage we have—actually, Ben Bernanke said this in his testimony, I guess, two days ago. Somebody asked him, "What protection do we have against having another Great Depression?"

He basically said, "Well, the fact that we know that the Great Depression happened and we are aware of the danger."

By the way, you should know that before his demotion, Ben Bernanke was the chairman of the Princeton Economics Department and actually hired me. I was delighted to see that he actually quoted Herbert Hoover's treasury secretary, who said, "Liquidate the farmers. Liquidate the workers. Purge the rottenness from the system." We know that that's not the right thing to do.

But this is all ad hoc. It's very scary. It's very much on the edge. They have pulled out all the stops in the last few weeks to try to stabilize this. The results have been mixed. The Federal Reserve has now committed about half its balance sheet to this stuff, so it doesn't have that much more it can do. We hope this is under control. But it's the biggest, scariest thing I have ever seen.

Before I was writing for the Times, international financial crises were one of my specialties. I was kind of an ambulance chaser. I used to go a lot to Argentina and Indonesia and all that. This one is actually much more comfortable, because I can actually commute to the financial crisis on New Jersey Transit.

QUESTION: I found your talk fascinating, Paul. What I missed—and you may have talked about this at the start of your talk, which I missed—did you say anything about the impact on the upcoming election of the Iraq War?

PAUL KRUGMAN: I didn't say a word about it. That's an interesting question. It ought to be. If you are asking what the greatest political crime of this administration is, it's certainly the war. Other things—I can tell you that the administration's anti-regulation bias helped bring about the financial crisis. I can tell you about other things. But if you want something that is really just a grotesque violation of the public's trust, taking the country to war on false pretenses is about as bad as you get.

Until a few days ago, my slightly uncomfortable sense was that Iraq had receded enough from the public view to not be decisive in the election. We can all talk about how essentially phony the claims of success are. Basically, we haven't defeated the insurgents; we have hired them. That's basically what has happened. But the casualty figures are lower. It's mostly been off the front pages.

Now, recent developments may mean that that illusion is somewhat dispelled.

I still think that it does look as if this election is going to be principally about economics. That may or may not be the way it ought to be, but I think it's the way it's going to be.

QUESTION: On trade policy, we seem to be stalemated. Could you comment on what you see ahead, regardless of who may win the presidential election, and the significance, not just for us, but for the rest of the world?

PAUL KRUGMAN: Okay. That's a whole other thing. I owe the final draft of my paper for Brookings next week on trade and wages.

How deep do I want to go here? We had a working model for making trade policy in this country. We had special interests in particular sectors, and then we could cobble together coalitions to hold down those special interests. We have gotten to a situation where we have virtually free trade. The remaining trade barriers are negligible.

The trouble is that there's a fundamental problem with trade now, which is that it is almost certainly true that trade is exacerbating income inequality. It's not huge. It's not by any means the primary factor, but it's certainly a piece of it. We are importing labor-intensive products, and it is having a depressing effect on wages. Probably, I would argue, a clear majority of the workforce is actually worse off as a result of trade—- not all trade. Obviously, going to zero trade is not the issue. But the growing imports of manufactured goods and, increasingly, services from Third World countries are probably a negative for a majority of Americans.

So why not be a protectionist? The answer, from my point of view, is because of the international consequences. The really important thing about global markets is not what it does to the U.S. economy, but what it does to the economy of Bangladesh or the Philippines. It's these very poor countries that desperately need to be able to have access to markets.

Politically, though, how do you use that line to win Ohio?

If there is a Democratic president and Congress, will they actually go protectionist? Will they actually rip up NAFTA? I don't think so. I think the international political consequences would be just too great. But will they sign major new trade agreements? Probably not.

The formula that Democrats in Congress have come up with is, "We're not against agreements, but we want labor and environmental standards," which is fine, except, realistically, it's not going to make much difference. Either the labor standards are so weak that they do nothing or they are so strong that they are effectively protectionist. So I think it's more of a way of providing political cover than anything else.

I don't think there's a real solution. What I expect is basically a standstill on trade policy, not an actual major protectionist backlash. I suspect a lot of people on the Democratic side would just like the whole thing to go away. So would I. I think you basically want to just keep it back as best you can. You can't actually go—ripping up NAFTA would be catastrophic in a lot of ways. Yet I cannot in good conscience say that NAFTA has been great for American workers. It hasn't. So you just sort of want to not go there, if at all possible.

QUESTION: You are the bright spot in my life—

PAUL KRUGMAN: By the way, I should tell you that one of my great experiences was when I was having dinner in New York and someone came over and said, "I just want you to know I think you're great. Your column is wonderful. You're my favorite columnist. The World Is Flat is your best book yet." [Laughter]

QUESTIONER: It's not the worst kind of company you could keep.

I have made an interesting observation, although not scientific, among Democratic voters, both supporters of Obama and Senator Clinton. That is, "If the other one gets the nomination, we're voting for McCain."

I can't understand that. My question is, is this a broader thing than just the people that I know? If it is correct, how do we head that off at the pass?

PAUL KRUGMAN: If you believe the polls right now, it's actually quite broad. There are a substantial number of voters on each side. Most of the people I talk to think that in the end most of those voters will come home, so that it's not as bad as it looks.

But it's a real issue. The way this campaign has played out, not so much in terms of what really happened as in terms of the way it has been played, has enraged a lot of people. If you read political blogs, it's astonishing. People who ought to be entirely on the same side—Randi Rhodes, Air America, just got suspended because she launched into some rant about Hillary Clinton and Geraldine Ferraro, using unprintable language—not on air, but, as always, it immediately showed up on YouTube.

You hear this a lot from Obama supporters. They are just furious—"Why won't she get out?" There is this incredible willingness to ascribe the most sinister motives to anything the Clintons do.

I'm one of those people who believes that the whole thing about the Clintons playing the race card is entirely invented. It never happened. It's just taking stuff out of context and making it appear that they—and that's an incredibly vile thing to do, to make someone who is not actually being a racist out to be playing that.

There is a lot of resentment out of the way the whole thing has played.

I would hope that the nominee—probably Obama, obviously; it takes a very narrow pathway for it to be otherwise—will do something to reach out to those people. The triumphalism—"Oh, look, we slapped down"—is going to be disastrous, because it could turn off—well, I could go on.

One remark I have heard from Clinton supporters is, "I'm going to vote for McCain because I can't stand the idea of four years during which anything critical I say is interpreted as being racist." There has really been a tremendous amount of bad blood generated in this nomination fight, which I hope will all fade away by November.

QUESTION: I am an unabashed admirer of yours, Mr. Krugman. I am not going to ask a question. I'm just going to take advantage of my being here in your presence to express my admiration for you. I think you are the only columnist that at least I'm aware of that hasn't criticized any of the candidates based upon personality or reaction to like and dislike of the personality. But you have analyzed their proposals and the solutions that they offer, and have not supported a candidate, but supported the proposals and the solutions.

PAUL KRUGMAN: Can I say a word about that?

QUESTIONER: Am I wrong?

PAUL KRUGMAN: No. This is right. I don't believe I have ever done that—I have certainly never talked about somebody's laugh or their facial expressions.

By the way, all of these journalists who specialize in the character assessment—aside from that not being, I think, really what you ought to do, the historical record is that they are terrible at it. I didn't write this in 2000, but it was obvious to me that Bush, aside from having policy positions I abhorred, was actually an ugly, mean-spirited frat boy. Why that wasn't totally obvious to everybody else I don't understand.
You do much, much better by focusing on the policy positions.

QUESTIONER: I want to thank you for that and for your voice, and I hope we'll hear your voice for a long time to come.

PAUL KRUGMAN: We'll see. I hope the newspaper survives.

QUESTION: In your recitation of the ups and downs of the income gap and compression, you made no reference to the impact of the G.I. Bill. I personally think the G.I. Bill was the major factor in creating the postwar compression of the income gaps and equality. I wonder if there is any concept that could possibly replicate what occurred as a result of the G.I. Bill.

PAUL KRUGMAN: Oh, boy. The G.I. Bill certainly increased the number of people with a college degree and did a lot to enhance that supply. I'm not sure, by the numbers, how big an impact that is. I would have to go ask Larry Katz, who does this stuff, what he says.

Put it this way: The U.S. does under-support education. I'm not one of those people who believes that education is the answer to all problems. But the U.S. does, in interesting and significant ways, under-support education.

I have actually done a fair bit of comparing of the United States to France. An interesting comparison. The picture that is often portrayed here is that the French economy is terrible, that it's horrible, deeply depressed and all that—of course, Rudy Giuliani saying if Hillary Clinton gets in, we'll have British health care, Canadian health care, French health care—French health care actually being terrific, better than ours.

Anyway, their problems are primarily that financial incentives cause too many people to retire early. They can't afford it. Most of the rest, actually, is much less than people think.

What's really noticeable is how much better they treat young people. Two statistics.

One is school lunches. This is the very early stage. In the United States, we spend about $2.00 for school lunch, which means, of course, you have to feed the kids whatever surplus the Agriculture Department has available. It's very unhealthy. The French spend about $8.00. So there is an enormous difference in the quality of school lunches.

But the other thing that struck me was, in college, it turns out that the United States has a much higher rate of employment among young people. Many more people under the age of 25 are employed. About half of that is because many Americans in college have to work while they are in college. In France, they have sufficient financial support from the government that they don't.

We have a system that actually makes it quite difficult for kids from lower- to middle-income families to get through college, or at least to fully focus on their studies. We are falling behind the Europeans on college education. We think of ourselves as having lots more college-educated people, but that is going away.

So it can't be a dramatic thing like the G.I. Bill. Barring a full-scale war or a major depression, you are not going to get that kind of dramatic thing. But we could certainly do a lot to make education more accessible.

QUESTION: I just want to draw you out more on your prescriptions for dealing with this economic downturn. First of all, is it your view that regulation by the federal government of the banking and financial sectors is somehow the key to coming out of this? Or is that kind of closing the door of the barn after the crisis has happened?

In particular, given your remarks two minutes ago about probably not being able to do too much about NAFTA or these other trade agreements, because of our international obligations, what other suggestions do you have, if the next administration is Democratic in both the presidency and the Congress, for what steps they might take that could help significantly revive the American economy?

PAUL KRUGMAN: Regulation is not going to get us out of the current crisis. It's what you do to prevent a recurrence. Basically, we are going to have to figure out which parts of this greatly expanded financial system are, in fact, going to be things that we have to rescue in a crisis. Quid pro quo: If you are going to do that, then they have to also be regulated, with capital requirements and so on. But that doesn't get us out right now.

What gets us out right now is rescue operations where endangered institutions are propped up, where claims are propped up, aid to homeowners, because that's where a lot of the losses are coming from. And if it has to get much bigger than it is right now, then it's going to have to change qualitatively, as well as quantitatively. If you end up having to throw a trillion dollars into the markets, then there becomes a real necessity to not just be handing the money out, but taking control.

People are trying to figure out how this plays out. There is a lot of talk about what they are calling the Nordic model. Sweden and Norway both had financial crises in the early 1990s that were sort of comparable, in some ways, although they did involve banks rather than these non-bank things. But, still, there are some parallels. In both those cases, substantial parts of the banking system ended up being temporarily nationalized, about a quarter of the system in Sweden, about a half in Norway, and then eventually recapitalized and resold.

But if you were going to ask, "If the current round of stuff doesn't do it, what would be next?" the answer would be, probably—think about what happened with Bear Stearns. Effectively, the Fed orchestrated the takeover of Bear Stearns by JPMorgan Chase, with the stockholders not completely cleaned out, but losing the bulk of what they had. That was thrown together. That was cobbled together at the last minute, basically, a chewing-gum-and-bailing-wire solution.

But if you are going to have to do multiple things like that, then take out the middle man. Instead of having JPMorgan Chase take it over, have the federal government take it over.

That may not be necessary. Everybody is crossing their fingers and all of their toes and hoping that this thing will gradually stabilize. But that's where it might ultimately have to go.

Let's hope that if we get to the point where that really becomes necessary, it's not until next year, because I just don't think the current crew is up to it.

JOANNE MYERS: Thank you very much for an excellent morning.