In today’s Forbes, Bruce Bartlett seems to worry, as I do, that a lot of this so-called “stimulus” won’t really stimulate the economy anytime soon–and if that’s the case, that the choice to deficit finance that spending isn’t such a good idea (emphasis added):
The failure of rebates has shifted the focus to public works and other direct spending measures as a means of stimulating aggregate spending. A study by Obama administration economists Christina Romer and Jared Bernstein predicts that the stimulus plan being debated in Congress will raise the gross domestic product by $1.57 for every $1 spent.
Such a multiplier effect has been heavily criticized by a number of top economists…The gist of their argument is that the government cannot expand the economy through deficit spending because it has to borrow the funds in the first place, thus displacing other economic activities. In the end, the government has simply moved around economic activity without increasing it in the aggregate.
Other reputable economists [Paul Krugman, Brad DeLong, and Mark Thoma] have criticized this position as being no different from the pre-Keynesian view that helped make the Great Depression so long and deep…
I think the critics of an activist fiscal policy are forgetting the essential role of monetary policy as it relates to fiscal policy. As Keynes was very clear about, the whole point of fiscal stimulus is to mobilize monetary policy and inject liquidity into the economy. This is necessary when nominal interest rates get very low, as they are now, because Fed policy becomes impotent. Keynes called this a liquidity trap, and I think there is strong evidence that we are in one right now.
The problem is that fiscal stimulus needs to be injected right now to counter the liquidity trap…if much of the stimulus doesn’t come online until next year, when we are likely to be past the worst of the slowdown, then crowding out will greatly diminish the effectiveness of the stimulus, just as the critics argue…
Thus the argument really boils down to a question of timing. In the short run, the case for stimulus is overwhelming. But in the longer run, we can’t enrich ourselves by borrowing and printing money. That just causes inflation.
The trick is to front-load the stimulus as much as possible while putting in place policies that will tighten both fiscal and monetary policy next year. As terrible as our economic crisis is right now, we don’t want to repeat the errors of the past and set off a new round of stagflation…
Where I’m not exactly (or yet) with Bruce is where he concludes that the case for tax cuts as stimulus may be stronger than most experts seem to think. I think we have to worry just as much about wasting money through ineffective, deficit-financed tax cuts as through ineffective, deficit-financed spending, and I’d hate to see the CBO critique of the slowness of infrastructure spending be misinterpreted as an endorsement of tax cuts as a more effective option. There may be better ways for the government to both spend the money quickly and actually create a decent number of jobs–or at least better assist those forced to deal without jobs–that for both effectiveness (bang-per-buck) and fairness concerns should be put ahead of tax cuts on the list.
As I said in my post yesterday, I think that if the deficit-financed spending we’re talking about is not going to be very stimulative in the short term (i.e., within the 1-2 years when the economy’s in recession)–either because it’s too slow or too poorly targeted or otherwise ineffective in encouraging immediate consumption–then however worthy the spending, the deficit financing of such spending is probably not justified. Costs still have to be weighed against benefits–and not just against the size of the problem we’re trying to treat.
At Wednesday’s (1/21) Senate Budget Committee hearing with Alice Rivlin, Bob Reischauer, and Rudy Penner, the Senators heard testimony from all three witnesses consistent with this message. I’ll post more on that hearing soon.