Sunday, June 27, 2010

Stimulus believers put economic machine ahead of people

Published in The Tennessean, Sunday, June 27, 2010

Stimulus believers put economic machine ahead of people

by Richard J Grant

An unfortunate effect from the teaching of mainstream (Keynesian) macroeconomics over the past 50 years has been to give the impression that the economy is some kind of machine that requires a government in the driver’s seat. This view has led to trouble precisely because the economy is not a machine.

Our conventional measure of economic activity is what we call the Gross Domestic Product, or GDP. It gives us a rough idea of the dollar value of transactions that have taken place. When GDP falls for about half a year, we call it a “recession.”

In the early stages of our most recent recession it was very common to hear people repeat the observation that “consumption makes up 70 percent of our economy.” This superficial observation would be harmless, but it led many to believe that we could make our economy “grow” again by encouraging people to consume more. That is, spend more, save less.

From the perspective of an individual, this is especially bad advice during a recession. When the times (and future income) become more uncertain, it is better to have more cash on hand. Each individual is better situated to determine his own cash and spending needs than is some policymaker peering at aggregated data.

Policymakers want to rev up the machine. But the machine doesn't exist. Individuals exist, and they want to adjust their plans to fit the realities around them. They tend to cut back on their least-important expenditures. Keynesian policymakers hate this. They dread the “paradox of saving,” which (they believe) brings slower growth.

This superficial perspective can lead even honest, non-statist people to believe that if individuals won't spend more, then the government must do it for them. That is the logic that led us from “stimulus checks” three years ago, to the subsequent series of “stimulus packages” and other incentives to spend.

“Stimulus” used to be a useful word until we put it in front of “package.” Now it has come to be associated with the redistribution of capital from higher-valued to lower-valued uses.

Some of that money might have been spent by individuals on things that they really wanted. Some of it might have been held as cash to carry a family through a time of hardship. Some of it might have been invested in a new business, or in a retirement fund.
Instead, we see signs along the highway bragging about how some of that money was spent for us.

Government “stimulus” spending is a net loser – and more is worse. But there are still economists who believe that the government must spend more. Nobel laureate, Paul Krugman began a recent article with the admonition, “Spend now, while the economy remains depressed; save later, once it has recovered. How hard is this to understand?”

Professor Krugman seems quite upset that some of us disagree with him. Not satisfied with urging stimulus upon politicians here in the U.S., he has taken on Germany. But the Germans have had enough of such advice. Although our own president has clearly bought into a Krugman-like policy, a recent news report began, “Chancellor Angela Merkel roundly rebuffed U.S. President Barack Obama’s call for Germans to aid the global recovery by spending more and relying less on exports.”

Krugman's theory conflates limits on government spending with “imposing suffering.” He refers to “deficit hawks” as “hypocrites.” But for all his concern with the people's plight, his attention is really directed toward the welfare of the machine. He recognizes that “we need to fix our long-run budget problems,” but adds, “not by refusing to help our economy in its hour of need.”

Unfortunately, this is not just a matter of semantics. Stimulus theory really does put the machine ahead of real people. That is why it fails. By rewarding failure and punishing prudence, the “stimulus” has left our economic machine sucking its own exhaust.


Richard J. Grant is a professor of finance and economics atLipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail:rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010