Policy

The Keynesian Tradeoff: Boost the Economy Now and You'll Slow Growth Later

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Even if you buy the broad Keynesian arguments for deficit-funded stimulus, there are inevitably tradeoffs to boosting the economy in the short-run through added government spending. Choices that keep the economy up now will hurt it later. The Congressional Budget Office explains how it sees the choice:

Lawmakers face difficult tradeoffs in deciding how quickly to implement policies to reduce budget deficits. For example, CBO projects that the significant tax increases and spending cuts that are due to occur in January will probably cause the economy to fall back into a recession next year, but they will make the economy stronger later in the decade and beyond. In contrast, continuing current policies would lead to faster economic growth in the near term but a weaker economy in later years. Potential policy changes would have different effects on federal borrowing, people's incentives to work and save, and government investment, all of which would affect the nation's output and income during the next few years and over the longer term.

I don't think you have to be a diehard Keynesian to agree that a rapid contraction of spending cuts and large tax hikes would cause some short-term upheaval in the economy. The important implication from this is that the real damage done by large deficits is in the long-term economic drag they cause. Which suggests that best course of action is not to go ahead with the unplanned expiration of a bunch of tax and spending measures at the end of the year (the fiscal cliff), but to quickly set a sure and steady path to deficit reduction and then actually stick to it. Obviously Congress isn't very good at this. But sooner or later it's going to have to figure out how to do it.