Grievous, That’s What

Kevin Drum, in response to a Tyler Cowen post explaining that we have very little evidence that fiscal stimulus actually works, suggests we try it anyway:

But do we need examples? I’d argue that we’re basically in terra incognita today. In the postwar era, we’ve virtually never seen an industrialized country, let alone the whole world, stuck in a liquidity trap before. The only example that comes to mind is Japan in the 90s, and their experience with fiscal stimulus was pretty mixed. Depending on your preconceptions, you could take the Japanese experience either as proof that massive stimulus doesn’t work or as evidence that not enough was done. And either way, it’s only one example, so it would hardly be proof enough for skeptics anyway.

That leaves us with theory, which suggests that government spending when monetary policy has lost traction helps to stimulate the economy. But even if doesn’t, my question to Tyler is this: what harm does it do to try? Assuming that stimulus spending is implemented even modestly well, it will, at a minimum, help out a bunch of people with continued employment and produce a bunch of infrastructure improvements that will enhance our future welfare. The downside is more debt, and I’m open to the argument that this is a bad thing to the extent that this debt is funded from overseas and produces further deterioration in our current account balance. But is that the argument against spending? Or is it something else?

“what harm does it do to try?”

Believe it or not, folks, that’s actually a serious question. So let’s take one moment to ask what harm would occur. We’re left with a few simple questions.

  1. Where is the money going to come from?
  2. What are the negative effects of the provisioning of this money?
  3. What better things could the money be doing?

The answer to #1 can be threefold. First, that it is raised by spending offsets elsewhere. No, stop laughing! Second, it can be raised through taxation. Third, it can come from borrowing. Fourth, it can be printed out of thin air.

So based on the answer to #1, you can comprehend an answer to #2. If it is raised through taxation, that results in money being siphoned away from the productive economy at a time when it desperately needs liquidity. Especially due to the fact that most taxes are either on income or profits, and taxing the hell out of the portions of business who are actually earning during the downturn is not helpful. If it is raised through borrowing, you run into the same problem. You’re taking money away from productive enterprises who may have some risk in their needed borrowing by offering huge amounts of “safe” investments to the people with money. Essentially, you exacerbate the “liquidity trap” as the government soaks up the little liquidity that exists. Arguably, the printing press is the best of bad options, especially in a deflationary debt spiral, because it may stop the bleeding. But as I mentioned a mere two months ago, I don’t think they’ll know when to shut off the pump.

Based on all the negative answers to #2, you get a sense of the problems with #3. The real productive part of society is the private sector. Siphoning money away from that portion of the economy through taxation or borrowing hampers the ability of the private sector to operate. Trying to create make-work projects using printed money has the appearance of being much better, but it is only a matter of appearances — the economic activity is not “real” and every dollar spent makes everyone poorer through an inflation tax.

Drum’s argument is similar to one often used regarding FDR: “His small-scale socialism is what kept people fed and clothed enough to keep them from overthrowing the whole system.” It’s a nice claim, because it cannot be disproved, but the inherent claim is much simpler — “Doing nothing would be far worse than doing something.”

Drum suggests that even though we do not have any evidence that a massive fiscal stimulus program would work, it’s better than nothing*. He wants to put the burden of proof on us to show that massive fiscal stimulus is worse than doing nothing. But I think that the party who wants to either tax, borrow, or print anywhere between hundreds of billions to a few trillions of dollars for stimulus should carry the burden of proof. The default position is not to spend this money, and an absence of evidence of the utility of doing so is only further reason that we should do nothing.

* PS – To suggest that not engaging in stimulus is doing “nothing” is disingenuous. All it is suggesting is that we let the natural economy, which we entrust to do most of the productive work of our entire society, to operate unimpeded. While our government may not “do something”, you can be sure that the people of the USA will be doing everything they can to move the economy forward, as they do every day.

  • Quincy

    So far, the evidence on the effectiveness of the stimulus money in the plan proposed by Obama is dismal: 3 million government jobs for the price of 24 million private sector jobs.

    Also, I strongly believe that the use of the printing press should be viewed as nothing more than another form of taxation, since the effect of printing more money is to steal value from the population for the government. True, a certain amount of it might have the beneficial effect of softening the contraction in credit, but this is nothing more than a happy coincidence. Running the printing press to make more dollars for the government is taxation, pure and simple.

    The problem with any big government stimulus plan, of course, is that is puts the money in the hands of the entity least likely to stimulate economic productivity. The answer for stimulus is lowering taxes, or even eliminating them for a short time. This puts the money in the hands of the people to spend or save as they see fit.

  • Brad Warbiany

    Well, Quincy, you know full well that the 3 million government jobs are seen, while the 24 million private jobs are unseen, right?

    I’m in agreement with you on all points… I think the best option would be a payroll tax holiday… The right can sell it as a tax cut, the left can sell it as helping the low-income (since it’s a regressive tax), and both can sell it as a jobs measure…

    But since it reduces government revenue, and they don’t get the god complex of throwing money around to their pet projects, it won’t happen.

  • jon

    The problem is borrowing. All the almost-free lending money has dried up, been used up, and with interest rates where they are and inflation (and devaluation of currency) where it’s going, lenders are going to be scarce. What’s needed is for the government to have a balanced budget (a fully-loaded three-foot bong of a pipedream) rather than to eat up all the dwindling stream of loans. Either taxes have to be increased, spending has to decrease, we have to rely on government for loans, or we’ll have to learn to love some combination of all three.

    The deficit monster ate our recovery plan, so we decided to feed the beast more stuff. And this–the amassing of the debt, the spending of the debt, and the oh shit! moment of now–has been a bipartisan effort with great public support, although no one–inside or outside the Beltway– wants to take any credit for the current situation. We’ve screwed our children, our grandchildren, and ourselves. Great work, America!

    We need a tax cut like a junkie needs to quit his job. What we need is to fucking get responsible: pay for what we can afford, stop using next month’s rent to pay for stuff we can’t afford anyway, and to get on the right track financially.

    When we actually have our bills paid, then we can start cutting taxes again. The tax cut now, tax cut forever people are like people who retire from jobs while still owing more on their homes than they can afford on their pensions: stupid. And they’re just as dumb as those who want free money from the government, though those people at least have a revenue source in mind when they propose their ruinous nonsense.

  • tarran

    jon, you are on the right track, but barking up the wrong tree:

    1) The recession is occuring because the economy is producing stuff that people don’t want.

    2) The recession will end when the economy starts producing stuff that people do want.

    3) This requires people to invest in the capital goods required to produce the stuff people want.

    4) Investment requires people to have savings to invest.

    5) Savings can only occur if income is increased or spending is decreased.

    6) Taxes are one of the top three expenses for most people – reducing taxes will allo wpople to generate savings more quickly.

    Now, you’re mistake as evinced by your use of “we” to refer to government spending is to confuse the government with he people.
    The government is a predatory organization, like the mafia, that takes money by force, provides a few desired services, and wastes the rest on frivolous things that the members of the gang think are good.

    The government acquires its wealth through three means:
    1) User fees – in which it behaves like any other business.

    2) Taxation – which erodes the capital stock of the economy as it reduces savings available for investment

    3) Debasement of the currency – aka inflation where new money is created eroding purchasing power. A debased currency makes economic calculation difficult, and is an obstacle to saving.

    The U.S. government needs to reduce both taxes and inflation for the economy to recover. This can only be accomplished via the elimination of much spending.

    To use a nautical analogy, when a ship is taking on water on one side, sometimes it is a good idea to counterflood – flood compartments on the other side – in order to keep the ship from rolling over. However, unless one starts taking water out of the ship, all counterflooding will do is to ensure that the ship sinks with an upright orientation. All of the stimulus schemes amount to attempts to get the ship to stop listing, while not addressing the flooding that is taking place.

  • jon

    tarran, you’re assuming people actually will spend money they don’t currently have on products that will be for sale. I think any extra money Americans get/keep will be used to pay off onerous debt (which isn’t bad in and of itself) rather than in buying new things. We’re already up to our eyeballs in debt, we have more stuff than we need, and would rather not spend money under those circumstances. We’ve gone well past the point where tax breaks will make everyone look forward to more stuff. The law of diminishing returns has kicked in, and its kicked like a freaking mule.

    No one in power is mentioning any real program cuts, only a nibble here and there at “earmarks” which is like saying we can skip one dessert each week but still go to the all-you-can-eat buffet every meal and lose weight without additional exercise. So the sane thing is to stop cutting taxes. It would be better if that was also accompanied by some actual spending cuts, but that’s crazy talk after all these years of Republicrat Credit Card Socialism.

  • jon

    I think that us actually paying all the taxes for all the government we get is the one sure way to get to any program cuts. Living on debt has allowed our leaders and us to avoid hard decisions for too long.

  • Quincy

    jon –

    Our leaders live on debt and currency debasement *because* it insulates them from reality. Saying you want to get rid of it is one thing, since we all do, but coming up with a plan to do so is another.

  • tarran

    an, you’re assuming people actually will spend money they don’t currently have on products that will be for sale. I think any extra money Americans get/keep will be used to pay off onerous debt (which isn’t bad in and of itself) rather than in buying new things.

    Actually, I am not. Paying off debt is an act of foregoing present consumption for future consumption – in essence it is a prerequisite for creating savings. It is a critical step in reorganizing the economy to produce what people want to consume.

    I don’t think any government measure other than reducing both borrowing and taxation will lead to a recovery. The best they can hope for is what Mises described as a “crack up boom” which occures when the central bank inflates the heck out of the currency until it becomes worthless.

    Your mistake is that you are thinking that the problem is insufficient demand for goods and services. That is not the problem (in fact it would be a good thing since it would imply people were satisfied and content with what they had – living in an earthly paradise as it were). Rather, the problem is that the economy is producing stuff that people don’t want as much as other stuff that is not being produced! This mismatch is the product of the Federal Reserve running the virtual printing presses profligately in a way that fooled people into thinking that there were more savings available for investment than were actually present.

    In other words, demand is not a scalar (a single number) but a matrix. Once people figure out what numbers are in various slots, the economy will adjust to satisfy the demands. The scalar is not to little, rather people don’t know what numbers are in the various slots.

  • jon

    There’s plenty of demand for stuff, but there’s also this debt thing where Visa, mortgages, and other bills demands money. Right now, the bills are winning over the demand for stuff. And I don’t see that changing much in this time of economic uncertainty (which is my polite way of saying: things are scary no matter what the macroeconomic big-picture long-term thinkers say.)

    As for government, yeah it’s too big. But I think that lowering taxes isn’t the right approach when most Americans aren’t paying any (Federal) taxes and are in fact getting welfare of one sort or another under various names. Meanwhile, the government is borrowing like drunken college students, making our currency less valuable, and gobbling up the available loans on the world market, making less money available for you and me.

    This economy is making plenty we want, but little we can sustainably afford. Tax cuts will not change that. Only paying off debt will do that. And we’re (in general) in a big effing debthole, so this pain will last a good while.

    Government spending will make this worse. Tax cuts will make this worse. Only austerity can get us where we need to go, and only private citizens will accomplish that.

    What this economy demands–what every economy demands–is that we start to live within our means, and the people are ahead of the economists and the governments in this reality. No shift in products is going to save us, since we’re not going to buy our way out of this mess. This contraction is just our economy’s way of saying the party is over and now it’s time to sweep and mop and try not to make as big a mess at the next party.