Thursday, July 22, 2010

Keynesian Economists Leave Me Baffled

Alan Blinder has done it again. In his latest WSJ editorial (Obama's Fiscal Priorities Are Right, July 19, 2010) he attempts to argue that Keynesian policy is correct and only fools deny it. He says:

"On one side, you find the deficit hawks, Democrats and Republicans, who have steadfastly opposed any "second stimulus"—partly on the grounds that the federal budget deficit is already too large, and partly on the grounds that the first stimulus failed. I argued on this page last month that the latter is not remotely close to true, but never mind."

And he was absolutely wrong last month. The stimulus has done nothing. Businesses are not spending and not borrowing and definitely not hiring. The only jobs created by the stimulus are Census takers (who not are done) and government bureaucrats. Blinder goes on to argue for extending unemployment insurance even though study after study has demonstrated that such extensions lead to unemployment. Think about it – if you tax something you get less of it and if you subsidize something you get more of it. Subsidizing unemployment gives us more unemployment.

"The hawks have even dug in their heels against extending unemployment insurance benefits at a time when the unemployment rate is 9.5%, or helping states and localities avoid laying off teachers in September. That's pretty anti-Keynesian thinking."

The fact that it is anti-Keynesian thinking makes it correct. Keynes was wrong. Why can’t Blinder realize that when people spend their own money resources are used where they have the highest value; when government spends the people’s money, resources are used inefficiently. It is probably time to lay off teachers and close public schools as they are now constituted. It is a great time to move toward a system of vouchers and private and charter type schools.

Blinder goes on to say: I" argued on this page in May that the right mix of fiscal policies would combine more stimulus in the short run with more budgetary restraint for the long run. And I believe most economists, whether of the left or the right, agree with this prescription, reserving their disagreements for details such as whether to use spending or taxes, and what specific types of each."

I do not think most economists agree with his argument. I think many would argue that what you do in the long run affects the short run. People realize that increased “stimulus” means increased taxes in the future. So people decide not to spend now knowing that they have to pay more taxes in the future. This idea is called the Ricardo effect. So with a government spending multiplier of .4, as compared to a private spending multiplier of 2.0, taking money from people (now or in the anticipated future) retards the economy rather than stimulates it.

Then Blinder introduces the classic Keynesian thesis that: " …….not all dollars are created equal. To take a very relevant example, consider three different ways to add a dollar to the budget deficit: increase unemployment benefits by $1, give a $1 tax cut to someone earning $50,000 a year, or give a $1 tax cut to someone earning $5 million a year."

While the immediate impacts on the budget are identical, the near-term spending impacts are not. The unemployed worker struggling to make ends meet will likely spend the entire dollar right away. The $50,000 earner probably will spend the lion's share of it, saving just a bit—that's what most Americans do. But the $5,000,000 earner probably will save most of the new-found dollar.
So according to Blinder and Keynesians savings is bad. It does not create jobs. But how are jobs created? Investors must offer funds to entrepreneurs to create businesses, to create jobs. Taking money from the entrepreneurs and investors to give to the unemployed worker reduces jobs and hinders recovery.
I used to think, and even wrote in my textbooks, that economists don’t really disagree. It is just over some normative policy issues that economists disagree about and these are relatively few. But after reading Blinder and Krugman and the Obama Administration economists, I know that there is serious disagreement among economists.

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