Princeton University, Office of Communications, Brian Wilson

Crystal clear. Experts praise Paul Krugman's economic theories for their simplicity.

Economics Nobel Honors Study of What Gets Made Where

Staff Writer

Most often, a Nobel Prize propels a scientist, if only briefly, from relative obscurity to worldwide fame. Not so for Paul Krugman. The Princeton University professor and this year's winner of the economics Nobel is already well-known as a bestselling author and columnist for the New York Times. But Krugman's early work as an economist--specifically, his analyses of international trade and economic geography--won him the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.

Krugman's peers in economics say he richly deserves the prize for his barebones yet profound analyses. "The papers he writes are so simple and crystal clear that in hindsight, you might say, 'I could have thought of that,' " says Samuel Kortum, an economist at the University of Chicago in Illinois. "But nobody did think of that" until Krugman did.

Krugman earns the $1.4 million prize for two key contributions. In 1979, he reshaped the study of international trade. Prior to that, economists had generally argued that countries trade with one another in response to differences between them. For example, a country that produces cars might trade with one that produces cotton to the mutual benefit of both. The only problem with that notion was the fact that a country that produces cars is at least as likely to end up shipping them to a country that's already shipping other cars back.

Krugman explained how that seemingly illogical "intra-industry trade" arises by taking into account "economies of scale": the fact that the cost of producing an object may decrease as the number of copies made increases. Krugman first argued that, because consumers put a premium on variety, as an economy grows the number of products and companies proliferates; a bigger economy means more car companies to choose from. But when two countries trade, each effectively enlarges its economy, leading to a further proliferation of goods and even more car companies. However, to exploit economies of scale, each company will be based in one country or the other. That leads to Sweden sending doughtier Volvos to Germany even as Germany sends sportier BMWs to Sweden, Kortum explains. Neither country can give up on trade and produce as many varieties of cars for itself. "Sweden on its own wouldn't be able to support [two car companies] if it didn't trade," he says. "It would be too inefficient, and the fixed cost would kill you."

In 1991, Krugman applied similar thinking to distribution of economic resources and the growth of cities when workers are free to move about. He showed that, because more economically developed areas will provide a wider variety of goods, they will also attract more people, further fueling economic growth and speeding the process of agglomeration of people and things. Previously, economists had seen towns and cities simply as sources of labor and material resources to produce things. "Krugman's insight was that the towns themselves are sources for the demand for products," says John Vernon Henderson, an economist at Brown University. Researchers still work with Krugman's specific mathematical model of a single metropolitan center, or "core," surrounded by a less-populous countryside, or "periphery," Henderson says, especially in Europe, where the model bears a resemblance to the structure of many countries.

Krugman has also shown his talent for writing in his popular books and his column, in which he has been a sharp critic of President George W. Bush and Alan Greenspan, the chair of the Federal Reserve from 1987 to 2006. Krugman has faulted Greenspan for sowing the seeds of the current global economic crisis. But Henry Overman, an economist at the London School of Economics, says he's sure that Krugman won for this economic insight and not his political commentary--even though his prize is "not going to be very popular with Bush lovers."

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