Why the Stimulus Package Could/Won't/Might Not Work & Why It's Still Better Than Doing Nothing (Econoblogger Round-Up with Commentary by the Ignorant Layperson)

by Damozel | The Atlantic's soi disant econoblogger and Procrustean reasoner libertarian Megan McArdle thinks the stimulus package won't work.  Of McArdle's piece, Nobel laureate Krugman says:

[I]t’s not just wrong, it’s 180 degrees wrong: a temporary increase in government spending should have a larger impact on demand than a permanent increase, not a smaller impact. (via Memeorandum)

McArdle said:

 The basic idea is that people are forward looking, and they try to smooth their consumption over time.  So if you give them a "temporary tax cut", they save most of it, knowing that eventually they will have to give the money back. But of course, this should also be true of "temporary government spending"--if people think the money won't be there next year, they'll salt as much of the money away as possible.  This is a topic very underexplored in the various estimates of the stimulus multiplier... (emphasis added)

Real economist Brad DeLong's response (Department of...Huh?)

No it isn't. This is a topic that economists have been exploring for fifty-five years. It is a topic that has been very thoroughly explored in all of the estimates of multipliers.

Tyler Cowen demurs:

[T]here is hardly an overwhelming brief in favor of the stimulative powers of the temporary spending increase.  The best case for the temporary boost is I think the public choice argument that it is better to get it over with more quickly, so as to limit corruption of the government. (Marginal Revolution)

McArdle responds:

All I meant was that I would like to see more economists talking about how consumer savings affects their current estimates of the multiplier for Obama's stimulus plan.  It seems to me that the rather extraordinary credit binge American consumers have been on for the last seven years has got to affect the knock-on effects of direct government spending--the marginal propensity to consume seems to be dropping rapidly as people focus more on their future income stream.  Perhaps my intuition is wrong, but if so, I long to have better heads than mine explain why.

[M]y post...did not address the relative virtues of permanent and temporary spending increases or tax cuts.  I was simply interested in how much of the spending people will save to cover the future taxes needed to pay for it.

Here's Krugman discussing the point McArdle says she wasn't trying to address:

Here’s the logic (which follows directly from Milton Friedman’s permanent income hypothesis, by the way): suppose that the government introduces a new program that will cause it to spend $100 billion a year every year from now on. To pay for this, it will have to raise taxes by $100 billion a year, permanently — and if consumers take this into account, they might well cut their spending enough to offset the increase in government purchases.

But suppose the government introduces a one-time, $100 billion program to repair bridges over the next year. The government will have to issue debt to pay for this, and will have to service that debt, requiring higher taxes — say, $5 billion a year. That’s a much smaller impact on consumers’ future after-tax income than the permanent program. So much less of the spending rise will be offset by a fall in consumer demand. (I’m not considering the effect of the spending in raising income, which would probably cause consumer demand to rise rather than fall.)

So economic theory — Milton Friedman’s theory! — says that spending is a more effective form of stimulus than tax cuts.

Progrowtheliberal says --- for the benefit of economists who will know what this means:

Paul Krugman was gracious enough to say our discussion of Ricardian Equivalence exposed a higher-level fallacy with respect to some recent fiscal policy skeptics. Paul also extends the argument in a way that I suspect even Milton Friedman would approve...

This is also a very nice statement of the Barro-Ricardo equivalence proposition, which of course, is an extension of Friedman’s permanent income hypothesis. (Econospeak)

Jim Henley , self-styled "stimulus skeptic," says (paragraph breaks added):

There’s an awful lot of right/conservative/soft-libertarian economics I consider well and truly refuted by events.

That said, I haven’t seen progressive thinkers grappling with the global nature of the current downturn, which seems to be falling on the social democracies and neoliberal regimes and post-mercantile states alike. What does it mean that pretty much all national economies are in a tailspin, regardless of model? Are the safety-net features of the social democracies successfully blunting the impact on their citizens? In ways that can be sustained through another year, say, of recession? Is the protectionism of post-mercantile states in East Asia protecting their industries more than the less protectionist regimes of the neoliberal countries?

Again: real rather than rhetorical questions....

More or less all of the above boils down to, a) Do we have any idea what we’re doing? and b) Are we sure we’re not just blowing a new bubble as fast as we can? Are we sure, in our heart of hearts, that’s not what we want to do? (Unqualified Offerings)

Speaking as an ignorant layperson, I am not sure of anything.  I suspect that a better stimulus package is possible than the one making its way through Congress and --- as someone who benefits little from them --- I'm a tax cut skeptic. 

But I don't know what else you do in a crisis than something different from what you were doing before.  Of course, we could have neither tax cuts nor a stimulus:  just do nothing at all, libertarian style, and wait for the system to right itself.  Anything rather than use our considerable collective power to try for a temporary fix to the mess Bush left us.

I hate to admit seeing any merit in McArdle's "intuition" because I despise her libertarian philosophy of self-servingness, but I think that to make any program work, the government will have to overcome the genetically programmed tendency of human beings -- like ants -- to hoard their provisions against the long cold winter to come. 

I have my own intuition --- not based on any economic theory --- that we're seeing a sea change in the public's way of thinking about spending and consumption.  I think no matter what anyone does, people like this ignorant layperson are reassessing not only what they spend but why they spend, and that their ideas about what they really need are not going to be driven by the same factors that were driving them before the crash....And one of the things I think will happen is that people are going to find they need fewer and better choices of things to consume.  (I said it was an intuition, didn't I?)

Speaking as an ignorant layperson, I see a fundamental change in the whole system in our future, but maybe it's possible to show down the effects so it can happen more organically and less catastrophically. 

Which is why whatever the capital G Government --- the representatives of the collective will, in other words --- does, there'sno excuse for not trying to do something to protect those people who are paying the price for a couple of generations of rising consumption madness.  Trying to do something and failing isn't good, and might even be a disaster, but doing nothing but the same thing that hasn't worked in the past?  That would be morally reprehensible. 

Whether the stimulus is the best way to go about solving the problem I -- the ignorant layperson -- naturally don't know.  But at least when you try something new, you learn something new.  And if problems arise, perhaps it will be possible to adjust the system as we go.

At any rate, when old methods -- tax cuts and more tax cuts, including tax cuts for individuals who don't need them -- demonstrably no longer work, it's time to kick them to the curb and do something different. 

It's impossible to assess a new approach in advance of the facts and to assume that a particular economist knows --- as opposed to "knows" --- what happens next is about as rational as assuming that the Episcopalians have a better insight into the mind of God than the Baptists.

Choose your remedy, or your poison:  stimulus package, tax cuts, do nothing, or something in between that nobody's thought of.  

As an ignorant layperson, I'm putting my faith in Krugman's recommendations because he's been demonstrably right about most things for a long time. 

Sadly, those who designed the stimulus package are --- i.e., our Democratic representatives in capital-G Government everywhere --- too timid to listen to the progressive economists.  In other words, they are too timid say "To hell with bipartisanship" and to put together a package that isn't filled with concessions to it.  In other words, they'd rather fail than take responsibility for a potential failure. 

Blogger discussion at Memeorandum.

RECENT BUCK NAKED POLITICS POSTINGS

Richest Got Richer and Faced Lower Tax Rates

Meanwhile Obama & Dodd Scold the Bastards Who Helped Themselves to Massive Taxpayer-Funded Bonuses ("Shame!")

Krugman Asks Why Obama is Not Following Through on Health Care & Progressive Stirling Newberry has an Answer Dems Aren't Going to Like

Intimations of Failure for a Timid Stimulus Package (with Generous Tax Cuts for Those Who Still Have Income); Meanwhile, the Richest Continue to Enjoy the Lowest Effective Tax Rate Ever

House Passes Stimulus Bill, No Republicans Voted for It, and Why That's No Surprise

Citigroup Caves to Pressure Over Luxury Jet but Should Cut Executive Pay to Save Company and Jobs

Obama Begins Chipping Away at Bush Administration's Environmental Policies