I recently read a blog of Professor Paul Krugman entitled Bubbles and Economic Potential. At first, I read appreciatively, but then I read the article again. In the article, Professor Krugman quoted James Bullard:
"A better interpretation of the behavior of U.S. real GDP over the last five years may be that the economy was disrupted by a permanent, one-time shock to wealth. In particular, the perceived value of U.S. real estate fell substantially with the 30 percent decline in housing prices after 2006. This shaved trillions of dollars off of the wealth of the nation. Since housing prices are not expected to rebound to the previous peak anytime soon, that wealth is simply gone for now. This has lowered consumption and output, and lower levels of production have caused a significant disruption in U.S. labor markets."
Then I read Professor Krugman's interpretation. He seemed to indicate that Mr. Bullard was representing the "shock to wealth" as the cause of a decrease in potential output, equating a decline in asset prices to a decline in capital stock. I read and reread the passage, trying to see that point of view. I was frustrated. It seemed like Professor Krugman may have been misinterpreting Mr. Bullard's point of view. Then I read Inflation Targeting in the USA, I was relieved and horrified to find that Professor Krugman had gotten it right and Mr. Bullard was representing a "shock to wealth" as a loss to the capital stock or some rough equivalent thereof. I had assumed that Mr. Bullard was making a Keynesian argument, whether he was aware or not.
So much for progress in economic thinking.