Robert Barro and Charles Redlick argue there is little evidence that government “stimulus” does much to stimulate the economy. They conclude:
The available empirical evidence does not support the idea that spending multipliers typically exceed one, and thus spending stimulus programs will likely raise GDP by less than the increase in government spending. Defense-spending multipliers exceeding one likely apply only at very high unemployment rates, and nondefense multipliers are probably smaller. However, there is empirical support for the proposition that tax rate reductions will increase real GDP.
Arkady says:
A counter view:
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October 1, 2009, 5:05 ambyomtov says:
available empirical evidence does not support the idea that spending multipliers typically exceed one
But “typically” is not what matters. What matters is what happens in a recession, especially after the Fed has lowered rates as far as it can.
Note too:
Our research also shows that greater weakness in the economy raises the estimated multiplier:
So they do say the stimulus helps more in a downturn. By their estimate, it’s still not enough, but there are lots of multiplier estimates running around.
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October 1, 2009, 6:02 amcubanbob says:
So two economist have concluded what every one else knows: fire is hot and ice is cold.
Does it really take a rocket scientist to understand that people keeping more of their own money (tax rate cuts) and spending and investing their own money is more stimulating to an economy than income redistribution along with the overhead needed to do the redistribution? The left always trots out WW2 as an example of government spending getting the country out of the depression. Actually taking 16 million people out of the labor force (at the height of the war in 44 there were 16mm in service out of a population of 150mm) is what ending the depression. A labor shortage is what ended the depression. Not government spending in of its own.
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October 1, 2009, 6:21 amBN says:
The fact that the authors don’t mention this is a glaring omission IMO.
Also, I have yet to hear anyone who proposes a tax cut mention that such a tax cut needs to be accompanied by a spending cut. Otherwise you are cutting taxes at the same time you are increasing deficit spending. So, basically you get the benefit of a tax cut along with the benefit of increased gov’t spending.
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October 1, 2009, 6:31 amSeaDrive says:
cubanbob: Does it really take a rocket scientist to see that the recession is caused by (indeed, even defined by) people not spending and investing money the money they have?
That point aside, your advice to Obama seems to be that he should create 16,000,000 new Federal jobs, no actual productive work required. (You can send some to Afghanistan, I suppose.) IMHO, that’s not viable politically.
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October 1, 2009, 6:37 amShelbyC says:
Arkady, are you sure that’s empherical evidence? And even if there is some stimulus, the correct question is whether or not the stimulus is greater that the problems caused by the addtional debt, which is almost unknowable.
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October 1, 2009, 6:38 amStimulus Spending Doesn’t Work – Tax Cuts Do says:
[...] Joyner | Thursday, October 1, 2009 Via Jonathan Adler, I see that world-renowned economist Robert Barro and his student, Charles Redlick, takes to WSJ to [...]
Arkady says:
I take that last bit to mean the question you pose is almost unanswerable. That doesn’t make it a bad question, indeed it’s good question, but a very difficult one. I offered that from the Times only as a counter to the flat claim that ‘there is little evidence that government “stimulus” does much to stimulate the economy.’ As for the “empirical” evidence, presumably the Commerce Department was relying on data it had gathered. As for Baro and Reddick’s thesis, I think we should reserve judgment until other economists have weighed in on the evidence presented in the paper. Come to think of it, noneconomists, too — I’d like to see Richard Posner’s reaction.
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October 1, 2009, 7:11 amHans Bader says:
The Congressional Budget Office said that Obama’s stimulus package will shrink the economy “in the long run,” in reports issued both before and after its passage by Congress. And the stimulus will indeed shrink the economy in the long run.
In the short run, it predicted a small increase in the economy, but that didn’t happen. Unemployment is higher now that it was projected to be if the stimulus had never been passed. The CBO didn’t take into account harmful things about the stimulus like its destruction of jobs in America’s export sector (due to the trade war with Mexico and Canadian municipalities that resulted from the stimulus’s vague “Buy American” provisions, which triggered retaliation by Mexico against at least 40 different American products amounting to billions in annual sales, and which triggered informal retaliation by Canadian towns. Despite destroying jobs in America’s export sector, the stimulus didn’t even do anything substantial to cut imports, since the buy-American provisions were so vague).
The stimulus package also gutted the 1996 welfare reform law, aggravating welfare dependency and reducing employment over the long haul, as the Heritage Foundation and Mickey Kaus have noted.
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October 1, 2009, 7:39 amDotar Sojat says:
The primary stimulus is to the creation of more government jobs at all levels, which leads to more workers on the dole, who create nothing of value, but who will vote for the party of government which created their jobs, and who will join AFSCME, which will contriburte money to the party of government, et voila.
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October 1, 2009, 7:49 amcubanbob says:
“SeaDrive says:
cubanbob: Does it really take a rocket scientist to see that the recession is caused by (indeed, even defined by) people not spending and investing money the money they have?
That point aside, your advice to Obama seems to be that he should create 16,000,000 new Federal jobs, no actual productive work required. (You can send some to Afghanistan, I suppose.) IMHO, that’s not viable politically.
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October 1, 2009, 6:37 am”
Actually my advice to Obama is to junk his proposed program of income redistribution and tax hikes and instead cut spending and reduce the federal payroll. It is increasingly apparent that in addition to his proposals not being economically sound they are also not politically viable.
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October 1, 2009, 7:51 amjosh says:
A year ago, I was wondering how the economic mess we were in was ultimately going to blamed entirely on Obama. Now I see.
Hooray for revisionism!
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October 1, 2009, 7:53 amGabriel McCall says:
Encouraging savings causes the accumulation of capital and the long-term growth of the economy.
Encouraging immediate consumption causes a drawdown of capital and the long-term contraction of the economy.
“Stimulus” is just a fancy name for eating your seed corn.
On a related note, Obama’s projected unemployment curve wasn’t projected terribly well:
http://michaelscomments.files.wordpress.com/2009/06/stimulus-vs-unemployment-june-proj-dots.gif
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October 1, 2009, 7:54 amzuch says:
Cum hoc ergo propter hoc.
“I’m just guessing here.”
Cheers,
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October 1, 2009, 7:56 amzuch says:
cubanbob:
No. It takes a RW ideologue for whom the conclusion is predetermined, and then the data massaged (or made up) to support that conclusion (for those that even bother to support their assertions)
Cheers,
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October 1, 2009, 8:00 amegd says:
So you think that the stimulus package, proposed by a Democrat president, passed by a Democrat controlled Congress, and signed into law by the same Democrat president, is somehow the fault of the (Republican) Bush administration?
Obama was not the cause of the economic mess, but he is the cause of perpetuating the mess. Even according to his own data, the stimulus plan was a failure.
And by failure, either: 1) the administration failed to adequately determine the extent of the problem; or 2) the stimulus is having a negative effect on job creation. According to either situation, this administration is failing to adequately address the issue.
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October 1, 2009, 8:09 amMark Field says:
For Brad DeLong’s comments on this argument, see here.
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October 1, 2009, 8:15 amSG says:
I can’t find it, but I thought I remember seeing a chart of economic recovery vs stimulus spending for the different G-7 nations, all as %-ages of GDP. There was a striking negative correlation between stimulus spending and recovery, i.e., the more stimulus spending, the weaker the recovery.
That seemed to me a good, if not perfect, natural experiment and while it’s certainly not proof that stimulus spending was bad (correlation is not causation), it would seem to disprove the idea that stimulus spending was good.
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October 1, 2009, 8:31 amMartinned says:
Sorry to disappoint you, but whatever valid points may be made based on this post, pointing to government overhead in administering the stimulus isn’t one of them, since that is not a factor taken into account in the analysis.
(Quite apart from the fact that “overhead” is also money spent on salaries of people, i.e. civil servants, meaning that it flows into the economy in much the same way as the rest of the stimulus.)
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October 1, 2009, 8:39 amMartinned says:
I think I speak for economists everywhere when I say that we claim Posner sr. as one of our own. I’m not sure about jr., but sr. is one of us.
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October 1, 2009, 8:42 amMartinned says:
Huh? Do you know what “dole” means? (Clue)
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October 1, 2009, 8:44 amMartinned says:
That conclusion does not follow from the premises. In fact, whether “stimulus is just a fancy name for eating your seed corn” is exactly what these researchers were trying to calculate. Translated into economist-speak, the question is whether the spending-to-national income multiplier exceeds one or not.
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October 1, 2009, 8:48 amShelbyC says:
Why do you have to be an ideologue to believe that people create wealth in order to consume wealth, and if you allow them to consume the wealth they create, they’ll create more.
I don’t get it all all. Lefties understand freedom when it comes to sex. How is requiring people to create wealth for someone else if they create it for themselves any different than requiring someone to have sex with someone who is unfortunate in the sex department every time they have sex with someone they want to have sex with?
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October 1, 2009, 8:51 amMartinned says:
That doesn’t quite work: there’s a strong beggar-thy-neighbour problem here, or, if you will, a prisoner’s dilemma. Even if spending on stimulus actually does stimulate the economy, an export-oriented economy can do even better by not stimulating at all, but getting its neighbours to do it instead. Arguably, that’s what the Germans have been doing, for example. To the extent that the US stimulus works, it will also have a positive effect on the economies of all US trading partners, stimulating their economies free of charge.
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October 1, 2009, 8:53 amMartinned says:
For those of you with university computer access, the original paper is here. I wouldn’t mind taking a look, but I really have to get back to my 19th century Belgian railways.
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October 1, 2009, 8:56 amShelbyC says:
If they’re not spending and investing it now, doesn’t that mean they believe that it would be more effective to spend and invest it later? How does the govt taking it and spending it when it’s less effective help?
Part of the problem with the stimulus/bailout is that, when you have the invisible hand moving resources away from where they’re being wasted (car companies, banks) to where they can be used more productively, how effective can it possibly be to have the government slap the invisible hand, move the money back to where it was being wasted, and say, “OK, don’t waste the money this time”?
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October 1, 2009, 9:16 amzuch says:
ShelbyC:
Why do you have to be an ideologue to believe that people create wealth in order to consume wealth, and if you allow them to consume the wealth they create, they’ll create more.
When it is stated as an axiom, it tends to sound like ideology. Particularly here on a libertarian-leaning blog where fiction-writer Ayn Rand is seen as the second coming of Jesus Christ.
Tell you what: When I address such a claim (on a blog post where such is the topic), you are free to critique it.
Cheers,
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October 1, 2009, 9:27 amzuch says:
ShelbyC:
No. Fallacy of bifurcation, amongst others. The claim that recessions are defined by this (or caused by this) is itself suspect; the fact is that in a recession, there generally is less money to be spent and invested. It’s not a matter of what to do with it; it simply doesn’t exist.
Cheers,
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October 1, 2009, 9:36 amegd says:
Are you familiar with what a Wiktionary (or a Wiki) actually is? (Clue)
The key elements of a “Wiki” are that the site is available to anyone to edit, and that the information is not provided by professionals.
An alternative to “wiktionary” is “Dictionary.com”, a service provided by staff who have an interest in providing proper information. In addition, the service is not anonymous and subject to multiple revisions, as with a wiki.
Another option would be Mirriam Webster, another dictionary service which is not subject to the whims of anonymous editors.
That said, it is likely that Dotar Sojat knew exactly what he meant when he said Government workers are “on the dole.” His position appears to be that government workers don’t provide anything of value and “government job” is another word for “charity.”
If you have to explain sarcasm to someone, it tends to lose their punch. So my apologies to Dotar.
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October 1, 2009, 9:37 amMartinned says:
This works from the assumption that there is a fixed amount of money. There isn’t.
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October 1, 2009, 9:39 amMartinned says:
I’m sorry. I often have difficulty telling the difference between sarcasm and something that is just plain dumb. (Not to mention that dole is more British English than American English, so the idea that I might have to explain the concept wasn’t that far fetched.) And yes, I do understand the concept of wiki, which is why I only refer to wikipedia c.s. when they’re right.
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October 1, 2009, 9:41 amShelbyC says:
Martinned:
Zuch:
Correct, but the claim I was addressing was justifying people not spending as defense for a stimulus. Is anyone claiming that a stimulus directly increases the money supply?
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October 1, 2009, 9:46 amFederal Dog says:
Do it for the children.
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October 1, 2009, 9:47 amGabriel McCall says:
fiction-writer Ayn Rand is seen as the second coming of Jesus Christ.
I’m amused by the irony implicit in the dismissive “fiction-writer” epithet, given that Jesus Christ was well known for teaching via parables.
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October 1, 2009, 9:59 amThe Unbeliever says:
Did anyone actually bother to read the quoted text? They are not arguing that government stimulus never improves the economy:
It’s a value argument. They’re saying that stimulus, with few exceptions, carries a dead weight loss when cycled back into the economy, and therefore we should be trying more efficient ways of improving the economy.
You could make an argument that government spending is actually the most efficient way to do this, based on unique anomalies in the financial system; exceptionally high private savings rates, a previous period of monetary deflation, recession as a result of natural disaster or some other value-eliminating destructive event (like war), etc.
But saying that the economy got better after stimulus went in simply isn’t enough. If you want to counter the article’s data, you have to show the economy improved more than the amount of input stimulus.
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October 1, 2009, 10:00 amDotar Sojat says:
That’s exactly what I meant, and that’s exactly what these make-work jobs are.
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October 1, 2009, 10:16 amPLR says:
What a pile.
Credit to Mark Thoma:
Choose carefully.
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October 1, 2009, 10:26 amA. Zarkov says:
Discussions about the effectiveness of fiscal stimulus inevitably lead to FDR and the Great Depression. For a good discussion download the podcast of an interview with John Nye here. If you don’t have time to listen then browse the written highlights on the same page. Bear in mind that Nye is a political economist and not a macro economist. He set out to review the facts and myths about the Depression and I think he does a good job.
Nye debugs a number of common myths about the Depression. Example: Herbert Hoover did nothing to fight the Depression. Wrong. At least according to Nye who said
On FDR Nye says
Nye flatly contradicts tax-and-spend economists like Bradford DeLong who insist a fiscal stimulus is exactly what an economy needs when unemployment is high and interest rates are low. When one reads DeLong one gets the impression [from him] that his ideas are mainstream, but Nye tells us the opposite. DeLong thinks FDR didn’t spend enough and today we need an even bigger deficit. In other words, when the medicine doesn’t seem to work, give the patient and even bigger dose. Reminds me of Linus Pauling and his Vitamin C treatment for cancer. No matter how many times it failed, Pauling kept saying the patients didn’t get a big enough doseage.
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October 1, 2009, 10:29 amAllan Walstad says:
Oh, but the stimulus does stimulate. It stimulates over-consumption at the expense of viable capital formation, and it stimulates or maintains malinvestments at the expense of viable capital projects. It also blows the next bubble whose bursting will just make things that much worse. The folks over at Mises.org will explain it for y’all; whether you want to believe it is your business of course. Gabriel McCall gets it.
By the way, I thought there was an obvious problem with the idea that improvements in the economy could have been caused by the stimulus package–namely, that very little of the money has actually been spent yet(presumably because it’s timed to help the Dems in the mid-term elections).
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October 1, 2009, 10:29 amAultimer says:
Not without a control it doesn’t. It’s quite possible (logically, at least) that the weakness would have been proportionally worse where the spending was higher, and that the spending had entirely the intended results. Not that I believe it...
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October 1, 2009, 10:31 amA. Zarkov says:
If someone loses his job, and doesn’t know when he will work again, it makes sense for him to curtail his spending. If someone fears he might lose his job, it also makes sense for him to reduce spending. Similarly it makes little sense for a company to expand its operations in the face of declining sales. This loss of what Keynes called “animal spirits” leads to unemployment as the economy contracts. Everyone is doing what makes sense from a personal perspective, yet the aggregate effect is a disaster. Therefore the government must act as a kind of “spender of last resort.” Why should it make any difference if the federal government spends money instead of GE? Both kinds of spending should boost employment and GDP.
What’s wrong with this argument? Well perhaps nothing– it actually sounds pretty compelling until you ask, where does the money the government spends come from? It can come from taxes, or borrowing or money printing. Now things get complicated. Each of these revenue sources will produce side effects at different future times. These side effects could cause another depression. Then again how does the government stop the extra spending without unemployment shooting up again? If the extra spending was wise and self-liquidating, then the private sector will take up the slack. But suppose the extra government spending creates extra consumption and not investment. This is what has happened with Obama’s stimulus package. It doesn’t promote investment– it gives money to his favorite constituents. Moreover he would just as soon expand government spending permanently effectively nationalizing the economy. I personally believe this is his true agenda. Of course other will differ.
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October 1, 2009, 11:02 amMartinned says:
That’s why the benchmark is a multiplier of one. It is (almost) impossible to imagine a negative multiplier, but the key question is whether the stimulus adds more to the Total Value Added or National Income than it costs.
Why would that be bad? The point is to put money back into the economy, to get the producers producing again. Whether those producers produce investment goods or consumption goods isn’t that important.
In case you particularly care about investment for some reason, remember this: if producers of consumption goods make more money as a result of the stimulus, they are going to invest some of that money. It all trickles down: Some of the stimulus money is spent on people’s salaries, some of that money is spent on consumption goods, some of that money is spent on salaries of shop assistants, some of that money is spent on rent, etc. etc. etc. The point of estimating a multiplier is to estimate the entire cumulative effect of the stimulus, as it affects every part of the economy.
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October 1, 2009, 11:15 amDavid Welker says:
Mark Thoma has a set of links that are relevant to this brief article in the WSJ.
Check them out here.
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October 1, 2009, 11:30 amPerseus says:
More specifically:
Thus the estimated multiplier reaches 1.0 when the unemployment rate gets to about 12%.
Sure, there may be other estimates around, but then the argument will be over whose estimate is best, which means endless arguments over economic theory and econometric methods...
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October 1, 2009, 11:34 amHans Bader says:
The Obama Administration claimed that the $800 billion stimulus package would deliver a short-run “jolt” that would quickly lift the economy, but unemployment rose rapidly after its passage, and the package has actually destroyed thousands of jobs in America’s export sector.
Countries that refused to adopt big stimulus packages have fared better than those that imitated Obama. And the biggest-spending countries have suffered worst in the recession.
Obama claimed his stimulus package was needed to prevent the economy from falling into an “irreversible decline,” but the Congressional Budget Office repeatedly admitted that the stimulus package will shrink the economy “in the long run.” The stimulus package subsidized lots of government waste and corruption.
Obama’s welfare-filled stimulus package largely repealed welfare reform. That will result in lower employment and a smaller economy over the long run.
Earlier this year, Obama fired an inspector general, Gerald Walpin, who uncovered waste and fraud in the AmeriCorps program, including by a prominent Obama supporter, affecting his access to stimulus money.
The stimulus package imposes on state governments wasteful racial set-asides and union-backed prevailing-wage requirements. The prevailing-wage requirements will cost $17 billion. Racial set-asides are very costly.
Economies are like children: they naturally grow, unless they are subjected to especially severe abuse and neglect by the government. So the U.S. economy will turn around by November 2010, despite Obama’s economic mismanagement and wasteful spending.
But long-run economic growth is likely to be much slower thanks to his harmful economic policies, which will massively increase the national debt even while raising taxes
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October 1, 2009, 11:36 amShelbyC says:
From where?
Why would they be more likely to invest it than the folks you took it from in the first place?
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October 1, 2009, 11:43 amMartinned says:
a) Because it’s not the same person.
b) Because they now have increased consumption to give them a reason to invest.
c) And again: Why do you care about investment over other elements of national product/TVA?
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October 1, 2009, 11:51 amA. Zarkov says:
Martinned:
You seem to be saying that any spending is good spending. If the government prints money and hires 8 million people to dig holes in the ground and another 8 million to fill up the holes then the secondary effects will at least offset the costs– future inflation? If that’s the case then why is Zimbabwe (Rhodesia) such a basket case? Your conclusion from the multiplier defies all common sense, and shows the conclusions one can get with linear equilibrium models of the US economy. The real economy is non-linear with feedbacks and rarely in equilibrium. The think the multiplier is a red herring.
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October 1, 2009, 11:54 amShelbyC says:
a) so?
b) sounds like the theory that Henry Ford made money by paying his car workers more so they can buy his cars.
c) I don’t but the same arguments apply to non-investment spending.
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October 1, 2009, 12:01 pmMartinned says:
Let me say it one more time: Virtually all government spending has a multiplier greater than zero; it adds something to the GDP/TVA. The relevant question is whether the contribution is greater than the cost, i.e. whether the multiplier is greater than one.
This argument applies equally if one prefers non-linear models. The multiplier is simply the dY/dG partial derivative. You can make the model as complicated as you like, but as long as it can be expressed mathematically, a multiplier can be estimated. And however you estimate it, the question is whether it exceeds one, not zero.
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October 1, 2009, 12:02 pmMartinned says:
Investment creates disposable income for those involved in producing the investment goods. Some of that disposable income is consumed, some of it is saved. Saved money is lent or invested, either way, it ends up paying for more investment. It doesn’t matter where you start in the cycle, at least not very much. (The exact form that a fiscal impuls in the economy should take is one of the questions studies like the one in the OP attempt to answer.)
Say the government spends money on combat planes, since apparently defence spending has a higher multiplier. That money goes to the employees of Boeing, to its suppliers, to its bankers, back to the government (corporate income tax) and to its shareholders. With the exception of the government, all these people consume some of the money, invest some of it, save some, etc. etc. etc.
BTW, Henry Ford’s employees probably did buy more cars as a result of receiving a higher wage. And if they didn’t, maybe the local store owners did. It would definitely be possible to estimate a multiplier there, only it would probably come out very low, if not statistically insignificant. The numbers might come out something like: For every $ 1 million more spent on wages, Ford sells one additional car, worth $ 1000 in profit. The multiplier is therefore 0,001, which is greater than zero but less than one, meaning that — duh — this is a bad idea.
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October 1, 2009, 12:13 pmDavid Schwartz says:
I think this completely fails to appreciate why the economy collapsed. The economy collapsed because a whole bunch of wealth suddenly ceased to exist.
If I had a $650,000 home, and a $500,000 mortgage, that’s a ton of value. I can buy a plasma TV, and I can take vacations. My mortgage can be securitized and traded like cash and used to buy things.
Suddenly, the $650,000 home becomes a $350,000 home and the mortgage becomes worthless. Now I can’t afford a plasma TV and can’t retire.
The problem is that there are plasma TV factories building plasma TVs that nobody is going to buy. Their employees have jobs doing something useless.
The fix is to stop making plasma TVs. The fix is to stop making the goods that only made sense to make in an artificially-inflated economy.
Just pumping more money into the economy, into different goods than the goods currently being consumed, just creates a double whammy. There’s still nobody buying those plasma TVs, so those companies still collapse. But those displaced move into economic sectors that don’t make sense in the long term, which was the problem in the first place.
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October 1, 2009, 12:26 pmMartinned says:
@David Schwartz: That is a very valid point, previously made by The Unbeliever. The study discussed in the OP, however, discusses estimates based on the last 60+ years. How those results are to be applied to the current crisis is a separate discussion, depending mostly on the extent to which the current crisis is unique.
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October 1, 2009, 12:36 pmShelbyC says:
@Martinned, I don’t understand. You seem to be arguing that the multiplier will be > 0, but I don’t think anybody disagrees with you about that. And I’m missing the part of your arguement that shows that we can expect a multiplier > 1.
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October 1, 2009, 1:19 pmraoul says:
Keynesian economics have always proven to be scientifically correct and disputing this assertion hinges on RW ideology. I am sure many here who criticize the success of the stimulus package probably are also supply-siders, an economy theory that was formulated to accommodate political views; amazingly the concepts in this discussion are simple to grasp– forced spending increases economic activity.
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October 1, 2009, 1:26 pmShelbyC says:
Yup. Kinda like pointing a gun at two people and making them pass a $100 bill back and forth. Fat lot of good it does ya.
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October 1, 2009, 1:34 pmMartinned says:
That not an “argument” issue, it’s an empirical one. I haven’t reviewed the study of the OP (yet), and while I am an economist, I am not a macro-economist, and I have done no work in the area myself. All I’ve been trying to do is explain what it is these guys actually did, and why that matters.
One of the reasons why this matters is that a multiplier greater than 1 is certainly within the realm of possibility. In fact, it is an underlying assumption of the entire stimulus plan. I have not expressed any opinion on whether or not we can “expect” a multiplier > 1.
In fact, I also haven’t expressed an opinion on whether this stimulus is a good idea. Whatever the multiplier, I agree with an earlier commenter who remarked that such fiscal stimuli usually work too slowly to do any good. During a normal recession, a stimulus usually kicks in just about when the business cycle is at the top of its next boom, thus contributing nicely to the overheating of the economy at that point. It follows that, again, the question is whether this recession is sufficiently different from past recessions, and I am far from convinced that it is.
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October 1, 2009, 2:16 pmA. Zarkov says:
How do you know (partial) dY/dG is constant, and not a function of time and other variables? As I said this whole argument rests on an equilibrium model. But more fundamentally there is a problem with the macro economic approach to the economy. Modern quantitative economics has been made to look like physics. This comes from Samuelson, who was influenced by Edwin Wilson who was a protegé of Willard Gibbs. Samuelson explicitly acknowledged the influence of Gibbs thermodynamics on his work– see here. Now ask yourself, “can we really capture the workings of an economy in a few macro state variables? Is all government spending simply reducible to a variable G? Do you really think having the government build a pyramid produces the same ultimate effect on an economy as building a harbor? I don’t think the abstractions used in macro economics are all that useful. How many economists say the housing bubble collapse? How many predicted the downturn in the economy? Almost none. This alone should tell you something is rotten in Denmark.
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October 1, 2009, 2:27 pmMartinned says:
Actually, that one has a multiplier of exactly one: it neither hurts nor harms the economy.
If $100 dollars gets taken at gun point from one person and given to another, the impact on the economy depends, analysed using Keynesian economics, depends on their relative marginal consumption quote. Quoting wiki because I’m too lazy to type it all out myself:
In case the equation doesn’t survive: Y = C(Y-T) + I(r) + G. This is your basic linear Keynesian real economy equation. (The other one, LM, describes the supply and demand for money.) As you can see, the Y appears twice, once on the left and once on the right. The question analysed in the OP is what happens to Y if you increase G by one dollar. As I tried to explain before, the trickle goes in a number of steps. (Theoretically, a Zeno-style infinite number of steps.)
G goes up by one dollar.
Y goes up by one dollar.
C goes up by c dollars, where c is the marginal consumption quote.
Y goes up by c dollars.
C goes up by c^2 dollars.
So far this is all great, and the total output seems to increase by much more than one dollar. Unfortunately, the increased spending has to be paid somehow. Deficit spending implies a shift to the right of the IS-curve, meaning a higher interest rate and lower investment. A tax increase implies a higher T in the equation above, which creates the same trickle as before, only in the opposite direction.
Whichever way the increase in government spending is paid for, the way that it is spent partially or wholly undoes the effect of the increase in spending itself. As a result, the net effect of a fiscal impulse cannot be predicted from the model alone, it requires empirical study, which is exactly what Barro & Redlick have done.
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October 1, 2009, 2:29 pmShelbyC says:
Martinned:
Sorry, I guess I misunderstood you.
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October 1, 2009, 2:37 pmMartinned says:
There are a number of questions and remarks here. I’ll try to reply to them in order.
- You don’t. You’re welcome to propose and estimate another equation. If we call the multiplier X, you can make it depend on whatever other variables statistics will let you.
- Equilibrium models are the best we’ve got. Whether that is better than nothing at all is a question for another day.
- These models can be made much richer. Instead of working with just one variable G, and one for consumption and investment, you can define many sub-variables, as long as they’re observable. Outside the world of Keynes, the big guy on this type of thing is Nobel prize winner Wassili Leontief, who ran analyses on hugely detailed datasets describing the economy with very little ex ante modelling. Unfortunately, his input/output approach has the key flaw that it requires all the parameters in the matrix to be constant. (Although some economists have been trying to fix that in recent decades.)
- I’d be the last person to advocate an economics-only approach to government policy, even government economic policy. For example, I’d suggest spending stimulus money — if any — on things that are independently useful, such as the Hoover Dam. Even if the economic analysis is wrong, you’d still have a cool dam. Economic science will never be as precise as physics, and it is wrong to even try. (In my dissertation, I only use math as a convenient shorthand to state certain propositions. I’d never claim the math “proves” anything.)
The results of the study under discussion here can never be applied to the current recession in a mechanical manner. To the extent that the current problems are unprecedented, the analogy is completely invalid. Nevertheless, as long as they are well done, such statistical studies are a valuable way of learning from the past. (Apply with care!)
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October 1, 2009, 2:44 pmA. Zarkov says:
I think we are in full agreement here. Your argument is correct within the basic framework of Keynesian economics. As for non-equilibrum modeling, see the work of Steve Keen. His blog is here.My basic disagreement is with current policy has to do with debt. Excessive debt has caused the problem, and I don’t see how more debt it going to fix it, except for the very short run. To know what the short run and the long run are, we need dynamic modeling and that’s what keen is giving us. Moreover as Keen points out, current macro modeling does not explain the observed behavior of M0 (base money) and M1 and M2. It looks like M1 and M2 are driving M0.
Finally for the record, my objections to Keynesian modeling does not any way mean I accept “supply side economics,” or any of the snake oil the Republicans are pushing. Unfortunately the Democrats are pushing another variety of snake oil, one which might turn out to be even more toxic.
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October 1, 2009, 3:07 pmShelbyC says:
Unfortunately this is part of the problem. It’s advantageous to have a lower national debt when we’re born than when we die.
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October 1, 2009, 3:23 pmArkady says:
Megan says something interesting:
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October 1, 2009, 3:45 pmGabriel McCall says:
All the Austrians.
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October 1, 2009, 3:53 pmMartinned says:
That’s a good moral principle: Always be suspicious when seemingly flawless reasoning leads you to a result that you already really liked when you started.
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October 1, 2009, 4:52 pmMartinned says:
I’ve just started reading Minsky’s Stabilizing an Unstable Economy, so can I get back to you? (That book is not about housing bubbles, per se, but I’m told it is extremely pertinent to the current recession.)
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October 1, 2009, 4:56 pmDavid Welker says:
According to a post by Paul Krugman here, Robert Barro appears to make the elementary error of failing to take into account the fact that during WWII, the government purposely limited private spending through rationing, the requirement for special permits for construction, etc. Therefore the assertion that defense spending during WWII is a good measure of stimulus effects in normal times when the government isn’t rationing and isn’t purposely hindering spending is incorrect.
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October 1, 2009, 4:56 pmA. Zarkov says:
You might want to look at Steve Keen’s PhD thesis here. The first two chapters provide an introduction to the subject.
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October 1, 2009, 6:51 pmRicardo says:
The problem was debt taken on by individuals and institutions with liquidity constraints. If you take on short-term debt (e.g. selling commercial paper or taking on a typical subprime mortgage where you are forced to refinance after two or three years) and use the proceeds for investment that may only generate cash flows or capital appreciation over a long period of time you carry liquidity risk. The liquidity crunch hit everyone in this situation very hard because they were forced to sell off assets in a depressed market to satisfy their creditors.
Government does not have this problem at the moment. Short-term interest rates are near zero and after Lehman failed and everyone else was scrambling to raise short-term capital, T-bills actually carried negative yields. People would actually pay $101 for a security that will only pay them $100 in the future.
There is a falsifiable hypothesis here. If in two or three years, inflation and yields on government debt reach the 10%-20% range and if the government faces one or more failed auctions for its bonds, you are right. If this doesn’t happen, you are wrong. The points is that right now we are nowhere near this situation and the least bad option seems to be deficit spending while also planning to let the Bush tax cuts expire once growth and unemployment return to normal.
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October 1, 2009, 6:51 pmzuch says:
Gabriel McCall:
I’m amused by the irony implicit in the dismissive “fiction-writer” epithet, given that Jesus Christ was well known for teaching via parables.
Some might maintain that this is just another example of a work of fiction. ;-)
Cheers,
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October 1, 2009, 10:46 pmShelbyC says:
I can change the hypo so that they are exchanging the rubber ball for the $100. Point is, as AZ points out, not all spending creates wealth. I’ve got half a mind to yank G out of the model alltogether.
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October 2, 2009, 6:30 amSeaDrive says:
I’m not qualified to evaluate the paper or its conclusions, except that as a mathematician who has worked with economic time series, I’m skeptical of any study patching together data over more than a few years.
However, I’d like to suggest that to focus on the spending multiplier as your “measure of effectiveness” is overly reductive, and suggests (via the math models) that investments must pay returns in the first, and, possibly, second years. The $50,000 paid to a 1st grade teacher may well have a multiplier less than one, but that doesn’t mean that we shouldn’t have schools. Stimulus programs naturally tend to go to projects within the ordinary realm of government, which often pay returns over very long periods, and which may pay returns in non-monetary forms.
I’d also like to suggest that it may make sense for government to invest heavily during recessionary times simply because they can get better prices for roads, buildings, etc. At least one private institution that I belong to is rushing to get bids out on a building project while the economy is slack.
On a completely different note, I think that recession is probably the only phenomenon that can cause state and large city governments to trim their bureaucracies, but I fear they cut the indians more than the chiefs.
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October 2, 2009, 7:25 amMartinned says:
It creates income, though. Whether it creates wealth depends on what you mean by wealth. If you mean capital, then the answer is that only part of government spending results (indirectly) in an increase in the capital stock, maybe. But that is beside the point. By assumption, the only thing that ultimately generates utility for the people is consumption. Capital goods are only interesting to the extent that they produce more for less, etc. Similarly, the choice of how much of one’s disposable income to consume (dC/d(Y-T)) is about consumption now or consumption in the future.
All government spending goes into someone’s pocket, and from there it will either be consumed or saved, etc. etc. The question is whether the increase in spending does more harm than good. That’s an empirical question, depending in part on how the spending increase is paid for.
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October 2, 2009, 8:50 amMartinned says:
That’s very true. A truly sophisticated model would account for that as an investment in human capital, but I highly doubt that these authors did that.
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October 2, 2009, 8:52 amShelbyC says:
This is, of course, what seperates stimulus from spending. It’s one thing to suggest that the govt should spend more money because we want more services, it’s another to suggest that the govt should spend money to stimulate the economy. And paper is measuring the effectiveness of the latter, not the former.
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October 2, 2009, 9:44 amShelbyC says:
I mean artifacts or services that folks wish to consume. That could mean capital, to the extent (as you suggest) that capital increases the production of such artifacts.
And it comes out of someone’s pocket. Whether the spending produces wealth determines whether we’re paying the person to produce, say, food for babies, or whether we’re paying them to dig holes and fill them in. At least private spending involves someone saying, I’d rather have X artifact than Y currency.
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October 2, 2009, 9:56 amMartinned says:
@ShelbyC: I don’t think we disagree (except that you seem to prefer dogma over empirical study), but I’m also not entirely sure that you understand what these authors did and what their results mean.
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October 2, 2009, 10:22 amMartinned says:
And government spending involves taking money from someone who would consume x% of it, and putting it in the pocket of someone who would consume y% of it, leading to an increase (decrease) in consumption of about (y-x)%-points, as well as to a change in savings, in investment, etc. etc.
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October 2, 2009, 10:27 amShelbyC says:
Well, I haven’t been trying to disagree with you, per se. And maybe I don’t understand, my understanding is that they are claiming that govt spending decreases aggragate demand. And one of the things I’m trying to say is that I’m not sure how useful including govt spending is.
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October 2, 2009, 11:17 am