Home > Keynesian Economics, Obama > Can Stimulus even work?

Can Stimulus even work?

Russ Roberts of George Mason University and Econtalk, one of my favorite economists weighs in on the issue his a post at Cafe Hayek.

It starts off with a thought experiment.

Let’s imagine four different scenarios.

1. Everyone in America wakes up to find they have an extra $1000 in cash in their wallet. (This money is printed by the Fed and elves put it in everyone’s wallet without anyone seeing them).

2. The government doubles the amount unemployed people receive. (The extra payments are created by printing money).

3. The government hires a bunch of workers to dig ditches and fill them back in. (The money to pay the workers and to buy the shovels comes from printing money.)

4. The government builds a bunch of bridges that are really useful. The money to pay for the cement and the workers comes from printing money.)

So what do you think will happen?

To the Keynesian, it’s all stimulus. If you think all that money will be spent immediately, then your probably a Keynesian and probably haven’t been reading the latest news on consumer sentiment. Remember extra government money is only stimulus if it is circulated in the economy. So if people don’t spend the extra cash, there isn’t any stimulating effects, there is no multiplier and all your doing is putting upward pressure on prices.

So ask your self what would you do in those four situations.

1. I’d pay off a bill. This would do nothing to stimulate anything but a bank balance sheet. The money stop at the bank, they aren’t making that many loans and the Fed is paying interest on reserves. This is why Bush’s rebates didn’t work as a stimulus, those darn people just didn’t go blow it like the government told them too.

2. If I was unemployed, then I’d spend it frugally. I wouldn’t be buying a house, so those construction workers that are out of work, won’t be getting any of my cash. I’d be buying at Walmart, where the prices are cheaper and I could stretch my dollar, not at the local farmers market where prices are a lot higher (at least here in Little Rock that’s very true). And guess what, that’s exactly what’s happening, have you seen Walmart’s profits lately?

3. Ha ha, uh no….who ever thinks that digging holes and filling them back in is a good idea, needs to read up on the Dark Ages.

4. Japan tried that, it failed there too. One of the biggest problems with this line of reasoning, is that it relies on a labor market that is perfectly able to shift specialization. I’m a chemist, I don’t build bridges. The amount of money wasted on training is enormous. It comes down to this, is that bridge worth the price tag. It just like buying a car. A car is useful. An Audi is a nice car, but everyone has to ask themselves if the price tag is worth the car. If not, the go buy something else, more affordable. Affordability never enters into the Government equation. They don’t have to earn the money they spend, they take it by force.

I encourage you to read the rest of Russ’ post. It’s very very good. Read the comments too. Viking Vista makes some awesome comments and expands on a lot of what Russ and I have to say on this subject.

Categories: Keynesian Economics, Obama
  1. Seth
    July 15, 2010 at 21:27

    I’m a big fan of Russ too, but I’ve read his post several times and I’m not sure I follow it. I like your #4. Affordability doesn’t enter the government equation. That’s from Milton Friedman’s four ways to spend money. When you spend other peoples’ money on other people (category IV spending), you are naturally rather careless about it. I quoted that classic section from his “Free to Choose” here:


    • July 16, 2010 at 19:50

      Good stuff. Uncle Milty was right all those years ago…to bad liberals just don’t even bother to learn economics anymore.

  2. yttik
    July 16, 2010 at 15:47

    To “stimulate” the economy, I’d stabilize the government uncertainty and make it clear that this administration is going to be business friendly and pro-growth. Than I’d show it by handing out some small business tax credits and incentives. Actually lowering taxes can eventually bring the government more money because when taxes are low, businesses expand and the more they expand, the more taxes they pay.

    But I’ve said it before, as corny as it sounds, the best role government can play in the economy is an emotional/psychological one. They can lift American spirits, they can promote stability and certainty, they can create a climate where people feel safe producing and investing. They don’t really need to “do” anything with the economy, except to get out of the way and cheer the actual producers on.

    • July 16, 2010 at 19:51

      Oh I agree, the government can do a lot by stepping out of the way. But you know how democrats think, they know they are smart enough to fix this right! If they don’t do something, how can they show off how smart they really are?

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