For those who don't know, Brad Delong is a professor of economics at UC Berkeley. I think of him as the Grima Wormtongue to Krugman's Saruman, and a shining example of how many (most?) economists are just glorified statisticians who never really learned how to think like an economist, which is what economics is all about if you ask me. Delong is one of the more well-known econo-bloggers and he is also famous for deleting comments that argue with his position, in the well-known tradition of non-thinkers everywhere.
Anyway, real economist from U Chicago had this to say:
"Most fiscal stimulus arguments are based on fallacies, because they ignore three basic facts.
First, if money is not going to be printed, it has to come from somewhere. If the government borrows a dollar from you, that is a dollar that you do not spend, or that you do not lend to a company to spend on new investment. Every dollar of increased government spending must correspond to one less dollar of private spending. Jobs created by stimulus spending are offset by jobs lost from the decline in private spending. We can build roads instead of factories, but fiscal stimulus can’t help us to build more of both1 . This form of “crowding out” is just accounting, and doesn't rest on any perceptions or behavioral assumptions.
Second, investment is “spending” every bit as much as is consumption. Keynesian fiscal stimulus advocates want money spent on consumption, not saved. They evaluate past stimulus programs by whether people who got stimulus money spent it on consumption goods rather than save it. But the economy overall does not care if you buy a car, or if you lend money to a company that buys a forklift.
Third, people must ignore the fact that the government will raise future taxes to pay back the debt. If you know your taxes will go up in the future, the right thing to do with a stimulus check is to buy government bonds so you can pay those higher taxes. Now the net effect of fiscal stimulus is exactly zero, except to raise future tax distortions. The classic arguments for fiscal stimulus presume that the government can systematically fool people.
The central question is whether fiscal stimulus can do anything to raise the level of output. The question is not whether the “multiplier” exceeds one – whether deficit spending raises output by more than the value of that spending. The baseline question is whether the multiplier exceeds zero.2
A cure should have something to do with the diagnosis. The classic argument for fiscal stimulus presumes that the central cause of our current economic problems is this: We, the people and our government, are not doing nearly enough borrowing and spending on consumer goods. The government must step in force us all to borrow and spend more. This diagnosis is tragically comic once said aloud."
Delong took exception with this, and had the nerve to pretend to be a learned expert correcting a newbie error, and feigned exasperation at having to correct this same type of error all of the time:
"Time to Bang My Head Against the Wall Some More (Pre-Elementary Monetary Economics Department)
Oh boy. John Cochrane does not know something that David Hume did--that the velocity of monetary circulation is an economic variable rather than a technological constant."
The velocity of money has nothing to do with this, and no where does Cochrane say that it is constant. What's more, his reasoning does not rely on the velocity of money staying constant. The velocity of money, for those who don't know, is how fast the money supply changes hands. If you counted up the entire money supply and it was a million bucks, and GDP was a billion bucks in a year, you know that the money supply must have been swapped a thousand times, roughly speaking. That would make the velocity of money one thousand.
Delong posts a story to illustrate how the changing velocity of a fixed amount of dough leads to more than that fixed amount's worth of wealth being produced. This is elementary and doesn't bolster the fiscal stimulus theory one iota. He begins by saying "let us take this slowly." Okay, we will.
"Suppose that we have four agents: Alice, Beverly, Carol, and Deborah.
Suppose that Beverly has $500 in cash that she owes Carol, due in two months. Suppose that Alice and Carol are both unemployed and idle.
In one scenario in two months Beverly goes to Carol and pays her the $500. End of story."
You'll notice that the government isn't an agent in his story, yet we're supposed to imagine that the voluntary, wealth-producing transactions of this little story support fiscal stimulus. Also note that Beverly borrowed the money and has to pay it back. Which means Carol produced something worth $500 in the first place, and so did (or will) Beverly (in order to pay it back, assuming she didn't just borrow the money to look at it). Delong's story begins after this first wealth creation and begins, as do most pseudo-Keynesian rationales, with the money already in existence somehow.
"In a second scenario Beverly says to Alice: "I have a house. Why don't you build a deck--I will pay you $500 after the work is done. Here is the contract." Alice takes the contract and goes to Carol. She shows the contract to Carol and says: "See. I will be good for the debt. Cook me meals so I will have the strength to build the deck--here's another contract in which I promise to pay you $500 within 90 days if you cook for me." Carol agrees.
Two months pass. Carol cooks and feeds Alice. Alice goes and builds the deck."
So far money has only been spent by people who earned the money, buying things they want at prices they are willing to pay. This is the basis of the market and of economic growth and increased prosperity. Carol wasn't coerced into cooking for Alice, and Alice didn't offer her a thousand dollars of somebody else's money, but the money she could earn with her productivity. So far, resources are being used where they are most demanded, not where a government planner decides they should be used.
"Alice then asks Beverly for payment. Beverly says: "Wait a minute." She goes to Carol and says: "Here is the the $500 cash I owe you." Beverly pays the money to Carol. Beverly then says: "But now could I borrow the cash back by offering you a long-term mortgage at an attractive interest rate secured with an interest in my newly more-valuable house?" Carol says: "Sure." Beverly files an amended deed showing Carol's mortgage lien with the town office. Carol gives Beverly back the $500. Beverly then goes to Alice and pays her the $500. Alice then goes to Carol and pays her the $500."
Stories are one thing, but unfortunately hack economists often assume that people will behave like they do in their stories and models, rather than observing what people actually do.
"The net result? (a) Alice who would otherwise have been idle has been employed--has traded her labor for meals. (b) Carol who would otherwise have been idle has been employed--has traded her labor for a secured lien on Beverly's house. (c) Beverly has taken out a mortgage on her house and in exchange has gotten a deck built. (d) Carol has the $500 cash that Beverly owed her in the first place.
Alice has more income and consumption expenditure than if she hadn't taken Beverly's job offer. Carol has more income and saving than if she hadn't cooked for Alice and then invested her earnings with Beverly. Beverly has an extra capital asset (the deck) and an extra financial liability (the mortgage) than if she had never offered to hire Alice.
A deck has gotten built. Meals have been cooked and eaten. Two women have been employed. And all this has happened without printing any extra money."
Notice the assumption "who otherwise would have been idle." In the absence of a government minimum wage, actual unemployment is typically extremely low. Barring that, it is a self-imposed minimum wage ("I'm not working for less than fifty-thousand a year!") which leads to the remaining unemployment (I'm obviously not counting people who are in job-to-job transitions or have extenuating circumstances). A lot of the unemployment right now is a result of the minimum wage. Labor that is in demand is priced out of the market, which raises unemployment which lowers aggregate demand even further. Nearly all economists recognize this, though many of the left-wing economists will continue to advocate a minimum wage for purely emotional reasons (again, glorified statisticians and political wonks). And no, money didn't need to be printed because these are not market transactions and at no point was anybody trading something for nothing.
When I buy a car with my money, it is trade. I get my car, and the car-seller gets all of the things he can buy with the money he gets from me. When the government gives me money to buy a car, it's giving me somebody else's money, not my own. They get nothing, the car-seller gets the things they can buy with the money, and me, a de facto external party to the transaction (owing to it being somebody else's money altogether), gets the external benefit of the car. This is not trade, this is coercion. This is not the basis of the market or of economic growth, this is taking water from the deep end of a pool and dumping it in the shallow end, then saying you've made the shallow end deeper (I stole that analogy).
If the trade isn't voluntary and I'm not using my own money (or if I'm given a government-granted discount), then the forces of supply and demand can't work their mojo, they can't guide resources to where they are most valued and away from where they are less valued. A government subsidy to buy cars leads to more cars being produced, but this is not because more cars are demanded at the prices they sell for, rather it is because government planners demand that more cars be bought and sold. This subsidy takes resources away from other enterprises that produce what is in actual demand (given the price). It takes workers, investment money, human capital, equipment, time, energy, space, etc., away from things that consumers want and puts it into things that government planners want.
But it's by providing what consumers want that prosperity happens, and that economies grow. You may be thinking "but people do want cars!" Well yes they do, but if the full cost of these cars is not passed onto the consumer but by the tax-payer, then more cars will be bought than really ought to be, taking resources away from other areas and leading to an unsustainable car bubble. Kind of like when the government tried to stimulate home-buying throughout the 90s and aughts. How'd that work out?
"John Cochrane would say that this is impossible. John Cochrane would say:
[I]f money is not going to be printed, it has to come from somewhere. If Beverly borrows a dollar from Carol, that is a dollar that Carol does not spend, or does not lend to Deborah to spend on new investment. Every dollar of increased Beverly spending must correspond to one less dollar of Carol or Deborah spending. Alice's job created by Beverly spending is offset by a job lost from the decline in Carol or Deborah spending. We can build decks instead of fountains, but Beverly stimulus can’t help us to build more of both. This is just accounting, and does not need a complex argument about “crowding out”...John Cochrane is wrong."
No, Delong, YOU are wrong, spectacularly wrong. It is hacks like you that ensure I will never join the ranks of the professional economists. You are taking an example involving market transactions and shoe-horning a point about GOVERNMENT spending into it. You are making a horrible straw man argument and anybody who agrees with you is a chimpanzee. No, I don't make arguments by insulting people. I make arguments and insult people. :-D
Let's take this apart:
"If Beverly borrows a dollar from Carol, that is a dollar that Carol does not spend, or does not lend to Deborah to spend on new investment."
People only loan government because is is a safe investment, and that's only because the government has the power to tax. It is not because the government produces anything that it is able to pay interest, it is merely because it has the coercive force to take peoples' money. Note to those of you who jump to conclusions: this is not to say that the government doesn't produce anything of value, rather this is to point out that the government can pay back interest on a loan regardless of whether it is productive or not, companies can't.
If Beverly borrows a dollar from Carol, then it's because Beverly offers a good ROI, not because she is a government who can guarantee a small-but-better-than-inflation return. And if she can offer a good ROI, it's because she produces something. Whereas, if the government borrows money, it is literally taking money away from productive investments and putting it into the black hole that is called the Federal deficit.
"Every dollar of increased Beverly spending must correspond to one less dollar of Carol or Deborah spending. Alice's job created by Beverly spending is offset by a job lost from the decline in Carol or Deborah spending."
No, because Beverly doesn't have to borrow money, Beverly can freakin' EARN money by being productive. Governments don't do that. They simply tax it, or borrow it once and pay it back later with future taxes. You are trying to make the point that Cochrane's point about government spending is absurd because if you switch "private citizen" with "government" then it doesn't make sense. But using your logic, I can show that it's good for the economy if I steal money and spend it on stuff I want. Instead of saying "government taxes," I just say "money I stole by other people who actually produced."
Instead of supporting the stimulus hypothesis, you've merely shown how you cannot treat private individuals and governments as if their actions have the same effect on the economy.
"We can build decks instead of fountains, but Beverly stimulus can’t help us to build more of both. This is just accounting, and does not need a complex argument about “crowding out”..."
Again, you just show the absurdity of your little story about Beverly, Alice, Carol, and Deborah by showing how absurd it is to equate governments and private individuals--and hence their actions and effect on the economy.
"John Cochrane is wrong.
You sometimes see this mistake in freshmen students in Economics 1, students who do not fully understand either the circular flow of economic activity or what a credit economy is. They think--like Cochrane--that the flow of spending must be constant unless somebody "prints money" because, you see, you need "money" in order to buy things."
I wonder if you really believe what you're saying, or if you know what a load of crap it is and you're hoping nobody will notice your rhetorical sleight of hand. Straw man arguments is all you have here. Cochrane never said what you are putting in his mouth, and more to the point you are once again assuming that private inviduals (who get their money by being productive) and governments (who get their money through taxes) can be treated as equal in your first story, and then you mock that very concept when you mock Cochrane. You either don't realize your double standard or you hope nobody notices.
"Cochrane's mistake--an elementary, freshman mistake--is because he has not thought enough about how a credit economy works to recognize that the velocity of circulation can be an economic variable and is not necessarily a technological constant. And as the velocity of circulation varies, the amount of the flow of spending varies as well: it is now longer the case that if Beverly borrows a dollar from Carol that is a dollar that Carol does not spend.
Milton Friedman knew this. Irving Fisher knew this. Simon Newcomb knew this. David Hume knew this. John Cochrane does not know this: does not know that the velocity of circulation is an economic variable rather than a technological constant.
I do want to pound my head against the wall.
I do not know what else to do..."
Again you insult him, again you go out of your way to call him ignorant and a noob, and again you completely fail to support the fiscal stimulus. All you have are examples of how market transactions lead to wealth production even with a fixed money supply. Big deal. Let's look at what started all of this, Cochrane's paper.
"First, if money is not going to be printed, it has to come from somewhere. If the government borrows a dollar from you, that is a dollar that you do not spend, or that you do not lend to a company to spend on new investment. Every dollar of increased government spending must correspond to one less dollar of private spending. Jobs created by stimulus spending are offset by jobs lost from the decline in private spending. We can build roads instead of factories, but fiscal stimulus can’t help us to build more of both1 . This form of “crowding out” is just accounting, and doesn't rest on any perceptions or behavioral assumptions. "
If the government wants to spend so much as a penny, it must first have the penny. It either confiscates it with taxes, borrows it, or prints a new penny. It has no other way of getting that penny. So far this is true. Delong makes the mistake (?) of thinking that this sentence is about the options private citizens have rather than governments.
Next he says that any dollar of increased government spending must correspond to one less dollar of private spending. This is true, because governments don't earn their money, they take it. If I have a dollar, it's because I produced a dollar's worth of wealth for somebody else. If I spend that dollar, I'm not taking a dollar away from anybody else. However, the government can only have a dollar, ultimately, by taking it, not by earning it through production. So Cochrane is right. The rest of the paragraph follows from that.
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