Sep 012010
Below is a response I received to my article on American Thinker: http://www.americanthinker.com/2010/08/keynes_as_useful_idiot.html (also posted on this site on August 31.
The commentator sent the remarks directly, so I assume he desires anonymity. He is sincere, but has some erroneous economic thinking included in his commentary.
I post his comments to encourage reader responses on his thoughts.
The subject of economics is often misunderstood (even by many professional economists). It sometimes helps to have a kind of “college bull session” on some topics. That is what I hope might start. The world is filled with diverse people and diverse backgrounds. We can learn from each other’s experiences and opinions.
If enough participation occurs on this topic, I will start a Forum whereby this community can pose topics and questions they want discussed. It has always been my intent to make this site a two-way communication, and I hope there is enough interest to consider that now.
Send your comments/questions regarding the commentary below. Also comment on your interest in a forum and what topics you would like to learn more about.
All readers are welcome to participate. I will also.
The point of this exercise is not to embarrass anyone, nor “show off” your knowledge. It is to start a respectful dialogue amongst the readers of this blog, assess the general level of economic knowledge of the readership and identify other areas/topics you might like to explore.
I look forward to your input.
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I read the whole thing. I believe that you misrepresent Keynesian economics. You misrepresent the results of “the stimulus.” You misrepresent the rationale for allowing the Bush tax cuts to sunset.Let’s go through this, step by step.Although a registered Democrat, I’m basically an economic conservative. In the true sense of the word. I’ve never had any credit card debt. I did take out second mortgages on my house, but this was to pay for two private college educations for my two kids. My wife and I have always lived frugally and within our means. We’ve sacrificed income for the sake of being able to spend our years doing work we continue to love and for having the freedom to miss nothing in the lives of our children.I believe that government should be run the same way. Pay as you go.What the you fail to understand (or, cynically, choose not to explain) is that a Keynesian stimulus occurs when the government borrows money to increase the total amount of capital circulating in the economy. Let’s say, for illustration, that the total amount of money in circulation within the USA is 1,000,000 dollars. But then a recession hits. It hits because people and businesses become fearful and stop spending money. There is now only 900,000 dollars in circulation, rather than 1,000,000 dollars. When people and businesses stop spending money, there is less demand for goods and services. People lose jobs. Economic growth stalls.What to do?What Ronald Reagan did, when he inherited a recession from Jimmie Carter was to cut taxes. The idea behind cutting taxes was to increase the personal and business supply of money, to encourage spending, to reverse the economic stall. So far, so good, but there’s a problem. The government now doesn’t have enough money to pay for national defense and health and human services and education. So the government has to borrow money. Any time the government increases borrowing for the purpose of putting more money into circulation in the economy, it is a Keynesian stimulus.Reagan’s Keynesian stimulus worked, only there was a huge increase in the budget deficit/national debt; so what did Reagan (wisely) do, once the recession was over? He raised taxes. Then GHW Bush came into office, and he raised taxes, also. Then Clinton came in, and he raised taxes, also. Step by step. And, lo and behold, the budget deficit was reversed; the national debt actually started going down.There will alway be a boom and bust component to the business cycle. Always. Always has been. Always will be. So, after nearly two decades of growth, there was a slight recession at the beginning of GW Bush’s first term in office. What did Bush do? Wait it out? No, he, like Reagan, gave the economy a Keynesian stimulus. He did this by massively cutting taxes (to levels well below Reagan’s) and, to make up for the resulting fiscal deficit, borrowed massive amounts of money. This was not necessarily a bad thing, because the truth is that Keynesian stimuli work. You borrow money and put more money into circulation, and recessions end sooner than they would have, on their own.But here’s the problem. Unlike Reagan, GWH Bush, and Clinton, all of whom raised taxes, gradually, to reduce the deficit and reign in the money supply as the recession ended, Bush continued his tax cuts for 10 years. This produced massive deficits. Alan Greenspan saw this happening, and saw that the only way to reduce deficits was to grow the economy to an extent that tax revenues would be increased; so he cut Federal Reserve interest rates so low that all interests rates dropped to ridiculously low levels. T Bill rates dropped from 6.5% to 1%, by the end of Bush’s first term. This did two things: firstly, it put massive amounts of cash into the hands of wealthy Americans, who did not invest this money in generating new businesses, but who, instead, looked for passive ways to make money. The stock market was overvalued. So was the housing market. But more money could be had by borrowing it at the historically low rates (“leverage” — borrowing money to invest at a higher return than the interest payment on the borrowed money). So one problem was too much American money, with no where to go. The second problem was those 1% T Bill rates. What about the huge amount of dollars (EuroDollars and PetroDollars and AsiaDollars) held overseas? They don’t want a lousy 1% interest rate. So now you’ve got a huge slush fund of money around the world with no place to go. Enter collateralized debt obligations — collateralized by worthless real estate. And now you are on the cusp of The Great Depression, V. 2.0.But the key point that I want to make, before going on, is that a Keynesian stimulus is a Keynesian stimulus is a Keynesian stimulus. A true tax cut is accompanied by a spending cut of equal magnitude. That’s a tax cut. You don’t have to borrow any money to pay for it. A tax cut paid for by borrowing money is not a tax cut. It is a Keynesian stimulus.Getting back to September, 2008. We are on the cusp of The Great Depression, V. 2.0. What to do? Just sit tight and ride it out?Keynes to the rescue. The banks have no money, because they find themselves with massive losses from worthless collateralized debt obligations (CDOs). Solution: give the banks liquidity (money to lend) by borrowing money from around the globe to buy up the bad CDOs. But this is still not enough, because the economy had been humming because of record levels of consumer debt and now there was no more consumer lending available. Also, businesses and people both got scared and stopped buying things. So, again, what do you do?The GOP proposed a $500 billion Keynesian stimulus, based largely on tax cuts. The Obama administration spent $230 billion more than this, divided between aid to state and local governments (preserving the jobs of police, fire, teachers, etc., and keeping highways repaired, sewage and trash collection services running, keeping felons in prison, etc.), tax cuts (I think, nearly $250 billion), unemployment benefits (putting food on families, in GW BushSpeak, and keeping unemployed families spending to mitigate a domino effect), and the smallest component on things like infrastructure and energy R&D.Now, was Keynes a failure, this time around? Hardly !We averted The Great Depression, V. 2.0. Absent the bank bailout and the “stimulus,” we’d still be in highly negative growth (well on our way to TGD v 2.0) and unemployment would be running 16.5%. With only the bank bailout but without the “stimulus,” unemployment would be running 11.5%. Because of the stimulus, we are out of the recession and we have 3,000,000 more people currently employed than there would been without it.Why do people call it a “failure?” Well, this is entirely political. Economic forecasts are based on existing data. Back in 2008, Obama’s top economic advisor (Romer) ran the numbers and calculated that the stimulus would keep unemployment at 8% or less. But, as you may know, economic data lags. There is an initial estimate, but, months later, the “real” figures come in. Thus, first quarter 2010 GDP growth was initially pegged at 2.5%, but has since been downward adjusted to 1.9%. That’s what happened in 2008 — only to a much greater extent. Romers “numbers” were based on early 2008 data, which actually turned out to be much worse than originally determined. Here’s the kicker: even BEFORE the Obama “stimulus” was begun, unemployment has ALREADY risen to above 8% !!It’s an utterly shameless “gotcha,” is all it is.Anyway, there is no such thing as a modern American politician who is not a Keynesian. Maybe Ron Paul. I could actually vote for that guy. A true liberterian. Keep the government out of everything, including foreign wars and women’s bodies. But I digress.Why is it a good idea to let the Bush tax cuts sunset for the segment of the population which earns over $250,000 per year? For the same reason Reagan raised taxes, gradually, once the worst was over, recession-wise. You know who advocates raising taxes on the rich? Warren Buffett. Bill Gates. And many others of their ilk. A progressive tax isn’t socialistic. It was advocated by Adam Smith, for goodness sake. Rich people benefit from the services government provides to a much greater extent than do middle class people. They should pay more, because they get more. I could take any occupation and prove to you that, the higher on the food chain, the more benefit is received from government. Plus, the cash availability problem is not that the rich people don’t have enough or that businesses don’t have enough. Businesses are sitting on enormous amounts of capital. They just aren’t spending it on hiring people and I don’t think they will. A lot of the jobs lost by baby boomers just aren’t coming back. This is a topic for another time. And, to put things into perspective, the so-called socialist tax increases of Obama would simply restore tax rates to where they were under Reagan!Anyway, I think that the American Thinker article is just an editorial intended to fool people into believing a whole lot of things which are just not true, at worst, and over-simplified, at best.
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The commentary was evidence that this site has enough interested readers (and writers) that a Forum for ongoing community discussions might be worthwhile. I will initiate one soon. Thanks for your participation.
First, it is said, probably correctly, that a 20% tax is the Goldilocks number likely to raise the greatest revenue. Is this a good thing? After we congratulate ourselves in winning long fights in lowering taxes and increasing revenue, with bonus points for leaving the left embarrassed and furious, the due bill after all includes more money available for bigger government. Who wins? The left wins, heads and tails. We are flipping the wrong coin. The figure has to be less than 20% or we continue to play a losing game to win.
The left loves taxes not because it raises more revenue, although the socialist mind cannot conceive that it does not. It loves taxes because it loves power, and taxes constantly remind not only the rulers but all their subjects what that means. It is their money. They print it, they determine what it is worth, and what portion should be left to us. The inconveniences it inflicts on even the rulers cannot deter men from the love of power over other men.
When my representatives in Congress voted for the stimulus bill, I sent to them a simple question. “I assume that you have strong academic and research support for your reason to vote yes on such a controversial issue. So, could you kindly send to me a citation for such support so that I could study it. I have been researching Keynesian economics for about 30 years hand have failed to find a single, peer reviewed article it in the history of the world that suggests a stimulus works.” Funny, I have not heard back from them! Keynesian economics reminds me of Bastiat’s ‘broken window’ on steroids.
It is the common wisdom that Keynesian stimulus restores the economy. My take has been any such stimulus applied to an “ordinary” recession comes about after the economy has recovered and so ends up as “free spending” for the politicians. In the “extraordinary” recessions/depressions, the stimulus just does not work. It did not work for FDR. It has not worked in Japan. And, now we see we have spent trillions in the US for a very tiny improvement in unemployment and economic growth. Based on our recent experience, the Keynesian multiplier for this stimulus must be around .005. Obviously, I don’t buy the “jobs saved” or “it would have been worse” rhetoric.
Politicians look upon Keynesian economics as a free lunch and we know what Heinlein and Friedman said about free lunches.
A tangential comment is that the Liberal tent contains almost innumerable groups, each of which is obsessed with their particular narrow agenda. The only way all these groups have been kept happy is to increase their funding some each year. However, assuming some reduction of governmental spending occurs instead, these groups will immediately be at each other’s throats, to ensure their funding isn’t reduced. The result would be chaos in the Liberal tent.
So, reducing governmental spending would be by far the preferable way to bring the deficit under control, because of the accompanying negative effect on Liberal togetherness.
Wil,
You have made a very good point regarding the composition of the political bloc that votes liberal. There is little in common amongst the groups other than a desire for assistance. I believe that is the key to why Democrats always seem to want to increase spending.
On the other hand, the Republicans are also composed of interest groups although not nearly as motley as the Dems. Because they also must pander, perhaps to a lesser degree, it is hard to get them interested in spending cuts either.
That is why I do not believe this problem can be resolved via normal political channels. I suspect we need an economic collapse to signal that there is no more new money and there is not enough old money to pay for the promises already made. Of course that would be a very dangerous situation.
Monty
I think this is wonderful: perhaps real conversation can continue
I am a daily reader of monty s
But have no time presently: so just saying : GOOD IDEA
I like the short assessment of the second last
Commentator(no 6?)
But all gave made contributions !
I just want to say that own readers ideas posted here could be interesting : can
I start immediately by pointing out: most economic forums don’t include the discussion ( and factoring in of) war
War :presently and soon coming …..all are elements part of a budget and dpolicy consideration in global business
For instance: fear of war spikes oil price
Also: fear of good or bad leadership (in war and in uncertain times) spike and/or tumble stocks. And whole sectors in business
Cargo is substantially affected by future (next 6 or 12 months) outlook of movement or blocking of movement of cargo: insurance and all risk assesments effect global trading
Presently with uncertainty IF iran is going to war ALL OUT or just next o israel/syria
So its astonishing how war since anti Bush hysteria is not discussed (in polite conversation) which then leaves out many
Important facts that effect banking/debt and
Movement of goods :which affects budgets of countries and businesses sharply
I would like to discuss the oil spike coming up in soon (I know traders who are already factoring this in for end of year)
So:how doeas this then work if a government like present clueless admin has no idea how to assist its citizens to create wealth for country and for companies /self?
Anonymous Commentator has lost sight of the shell; the more shell’s on the table the more difficult keeping up with the shell holding the magic bean becomes. One can shuck and jive the numbers sixteen ways from Sunday as AC has attempted to do, however he/she has overlooked the root problem. The ONE thing that neither the market nor individuals can deal with is uncertainty. The Obama team (term used loosely) has generated more uncertainty than a stimulus of any size can mask. Get rid of the uncertainty and see what happens.
Ooooooh. (Golf clap) Well stated.
The argument’s emphasis on taxes and spending completely misses the point. A culture’s prosperity is primarily determined by the contributions of the culture’s achievers. The usual way for a culture to increase prosperity is by reducing disincentives, which usually means: (1) reduce taxes; (2) reduce regulation; (3) increase governmental policy predictability; (4) maintain sound national, state, and local finances; (5) a cultural admiration for private sector achievement (no tolerance of Envy); (6) a functional and affordable justice system; (7) a functional banking system; (8) a simple and easily understood body of law; and (9) inviolability of private property rights. At the present time all of these variables are moving in the direction of greater disincentives to increased prosperity.
OK, some good comments. Let’s get a few more. This is not a test. It is more like a survey. Pitch in and provide your view.
I would like to hear more on this post, but don’t forget the other two topics:
1. What topics would you like me to focus on in the future?
2. How do you feel about adding a Forum to the site where you can ask questions/discuss topics of your choice.? The community would provide their experience and answers.
Monty
As a novice student of economics, I tend to see economic arguments through a, shall I say, clean slate of a scope so to speak. Therefore, I feel I could side with the Anonymous Commentator’s position if I wanted to. However, while reading it, I still felt that there was a flaw with their reasoning that would make it wrong for me to blindly follow its logic.
The flaw I believe, and I could be wrong, but isn’t the whole point of a recession/depression, is to essentially be the multi-langual infinitismaly comprehensible event, that can be understood by everybody, that essentially means, “Hey, human race, everything that you have been doing since the beginning of time has been flawed, and therefore you should not only revamp how you do things, but do it now,”?
As such, if recessions mean that changes must be made, how could doing what the U.S. has always done be the answer? I feel that some could even argue that the tax cuts and tax increases of the administrations from ’82 onwards were the wrong thing to do, however, as is mentioned by Rick, it’s pretty damn hard to argue an action was wrong when good things happen after it is done.
In the end, everything caused the recession, right? and bailouts were not the answer. And to answer Boddychaw, even though they didn’t ask me, what should be done now is something that is more “painful” than what should’ve been done two years go, and that is essentially erase what has been done and then go from there.
How do we do that? Well, first we stop printing money now. Then we cut as much spending as we can. Then we pay off as much debt as we can. Then when everyone feels like the worst is over, we repeal as many laws as possible, and let capitalism work its magic.
And just to clarify, by ceasing our printing of money, we will start to erase the epic devaluing of the dollar that has been ocurring. By cutting government spending, people don’t rely on the government’s tit for sustenance, and will use innovative means to create wealth. By paying off debt, that monkey will be off our backs. And by repealing laws, than we can have a marijuana industry that would generate a shit ton of revenue.
And to clarify even further, we can afford to have the most expensive currency in the world because we don’t export anything. Government spending tends to breed laziness and uncompetitiveness. Nothing is truly “FREE” if there is a debt that needs to be paid, even if they have the ability to fight their way out of the obligation, which would just be some unnecessary nonsense. And finally, at the time laws are made, they may seem like the right thing to do, but some times when progress is made in society, the laws become obsolete. Prohibition being the case in point, or however the saying goes.
In all, I hope this makes sense, and I don’t know if this post will add to the discussion, but essentially I think the commentator might have had a point that someone could agree with, but the meaning of a recession is that the standard thinking is wrong, which would then mean that Keynes is wrong.
I believe your anonymous commentator is historically challenged. First, Keynes’ General Theory anticipated government would run a surplus during good times. Unfortunately, our politicians look upon Keynesian stimulus as a free lunch and believe in running deficits in good times and bad. Keynes never advocated a continuing increase in the national debt. But, that is what we get under the political system.
When Reagan agreed to increased taxes, it was under an agreement with the Democratic Legislature to also cut spending. However, the Democrats lied and spending was never cut. Bush I increased taxes after his “read my lips” speech and the ensuing slowdown cost him a second term. Clinton basically lucked out. The dot com bubble happened on his watch and created increased capital gains and other tax revenue which managed to avoid any repercussions from his tax increase.
Bush II first tried temporary tax cuts and as Friedman has predicted, they were useless. Bush then proposed, and had passed, permanent tax cuts. Your commentator seems not to have noticed that, over time, the tax revenue increased so that Bush was anticipating a reduction of the deficit to about $100 billion in 2008 even including Iraq and Afghanistan.
Now, the commentator makes up some new definition that claims a true tax cut is accompanied by an equivalent amount of spending reduction. A tax cut is made up of less taxes; nothing more and nothing less. TARP was not a Keynesian stimulus. TARP was designed to prevent the banks from failing and negatively affecting the money supply. I don’t know where your commentator got the idea it was some kind of Keynesian stimulus. That was reserved for the “sot so much” stimulus program that pretty much failed to stimulate. Reasons for that are the amount that was actually political payback rather than stimulus and the length of time it takes to get spending through the bureaucracy. Anyone who actually believed “shovel ready” has had no experience with government.
I just get tired of responding to the rest of the rant. But, the rant has no relationship to economics in general or Keynesian Economics in particular. The writer has been historically and economically misled.
Mr. Caird,
So what are your ideas? We now know what you don’t like. What do you recommend?
Your anonymous commentator obviously believes in big government because he only mentioned spending cuts once and only flippantly then. I agree with Bastiat in that the relationship between money and real goods and services are not the same. In order to truly avoid a true Depression there MUST be less government intervention amid cuts in services. I am not suggesting that we let people starve, but there is so much wasteful spending in entitlement programs that I am convinced the country could see some positive steps forward if we only attacked that bear among others. Contrary to the comments from your poster, a Kenysian stimulus doesn’t work as well as everyone believes. The Depression of 1929 last for so long as a direct result of FDR’s Kenysian policies.
An excellent example of the difference between theory and history. Many bits of data are arranged in a historical argument, but there is no theory to unify them all. It’s such a mess it’s very painful to puzzle through. Maybe that’s why the comments are slow in coming.
Perhaps a couple of questions will help clarify the issues.
First, How do recessions happen? In the narrative above, they just seem to happen. As uncontrollable and unpredictable as the weather.
Second, How does an expenditure of wealth by the government lead to economic growth? Or to state it another way, how can government action stop recessions from happening, or shorten their duration and magnitude, if at all? Did we really avert the Greater Depression?
Third, What creates economic growth in the first place? Is the engine of prosperity really governed by money printing? Is it possible for the Federal Reserve to produce economic growth through an expansion of credit?
What creates prosperity is the creation of real goods and services, which are ultimately used by real, discrete people to remove unease from their lives. If more real goods and services are produced a society can be said to be more prosperous. If fewer real goods and services are produced, a society can be said to be less prosperous.
I think the reason your anonymous commentator comes off as frothing, incoherent fact-citer is that he confuses the relationship between money and real goods and services. They are not the same.
But there certainly is a lot going on in there.
I agree that it’s hard to know where to start with these comments. The commenter starts off with the idea that the budget deficit was improved by raising taxes by Reagan, Clinton and Bush. The implication seems to be that raising taxes is always going to reduce the deficit. Here is a simple way to dismiss that idea.
There are are 2 tax rates that bring in zero revenue, 1) a 0.0% rate and 2) and 100% rate. Obviously, the government gets no income with a 0% rate, but they also get no income at a 100% rate. Why would anyone bother to do anything if the government will take everything?
Therefore, there is some optimal tax rate between 0% and 100% that brings in the most revenue. Many suggest that it is around 20%. Raising taxes beyond this point is counter productive. The US is already beyond this, so the only solution is to cut government spending. Unfortunately, politicians eschew this solution.
I like this comment, and I concur.
Well, it’s a mathematical identity — Yearly Taxes – Yearly Expenditures = Deficit or Surplus. So my first question is why wouldn’t lowering expenditures be just as good, if not better?
What he’s lacking is an understanding of how value is created in an economy. He assumes that government expenditure can create value. I doubt that this is the case for any number of reasons. Here are a few:
1) You spend your own money carefully, but someone else’s money wastefully. (and all government has is somebody else’s money)
2) As Hayek so ably pointed out, even if a government agent desperately wanted to make the most efficient, helpful and value-creating decision, it would be impossible because the key information of the market is revealed by the interactions of prices. Each actor (who knows better than anyone else what will lead to his or her satisfactions) chooses their best set of trade offs from the scarce resources available to them.
3) It’s pretty clear that government agents, elected, appointed and otherwise have their own best interests at heart. Their set of incentives (say, re-election) in no way line up with the efficient set of incentives. “Yeah I want to bail out my friends at the banks because they give me campaign donations. And who cares what the long-run consequences are going to be, I’m only here for 2, 4, or 8 more years anyway.”
4) Value is created through exchange. If two parties voluntarily engage in a transaction, both parties are better off. Or why would they bother? The more powerful a government becomes, the more it is able to prohibit exchanges. Why, exactly, can I not buy my own tetanus shot when I step on a nail? Even worse is the secondary (and totally avoidable) costs of prohibitions. E.g. people shooting each other over drugs because that commodity has built-in government price supports.
5) The material well-being of a society is entirely dependent upon the available stock of productive resources or capital. The more capital per person, the more productive each person can be. Individuals are likely to save part of what they produce so that they produce more in the future. Government, has no such incentive. What is taken in taxes is largely used as voter or special interest bribes. At best, taxation means that individuals form less capital than they might have, at worst, it results in net capital destruction.