Money money money makes the world go 'round

Matt Yglesias and Kathy G. link to an old Krugman article that they claim tells you "everything you need to know about macroeconomics."

They're wrong - the article isn't very good. Krugman is trying to explain monetary economics - i.e., why the Fed's control of the money supply affects the economy. When the Fed "cuts interest rates," what it's really doing is printing money; this is supposed to temporarily increase GDP (to counteract a recession). Why does this work?

Krugman does a terrible job of explaining why. In his example, people are actually worried that the amount of money in the economy might temporarily run out, so when there's not enough money around they refuse to buy or sell things. Hence, the Fed "greases the wheels" by providing more money, so people can spend it and not worry that the system will get clogged up.

If that sounds dumb to you, you're not alone. Krugman isn't really explaining how things really work.

Here's basically what most monetary economists actually believe:
Suppose a store sets the price of a fridge at $200. The store is committing to give you a fridge in exchange for two hundred little slips of green paper. Now suppose the Fed prints a lot more little slips of green paper, so that there's twice as many dollars out there as there used to be. Now the store wants to double the price of a fridge to $400, since a dollar is worth only half as much as before. But suppose there's some reason why the store can't or won't change its price very often. Then the fridge still has a price of $200 - which is much cheaper now that there's a ton of dollars floating around! So everyone rushes out and buys the fridges before the price can rise - economic activity temporarily increases. If the Fed sells bonds, and then destroys the money it gets for the bonds, then the opposite happens - a recession (but a reduction in inflation). You must have "sticky prices" (or something similar) for monetary expansions/contractions to work.

Right or wrong, that's the basic idea of monetary economics. Not whatever Krugman was saying.