New Paper Finds Stimulus Spending Funds Government Employment, But Not Private Sector Growth

It's common enough to find discussions of economic stimulus that revolve around the assumption that government spending produces a positive multiplier: Spend one dollar, boost the larger economy by two. But at the very least, the aggregate evidence that government spending consistently produces positive economic growth is murky. When University of California economist Valerie Ramey reviewed the literature on stimulus spending for the Journal of Economic Literature last year, she found that the literature suggested that temporary, deficit-financed government purchases result in multipliers somewhere between 0.8 and 1.5, but that "reasonable people can argue" that the data indicate multipliers as high as 2 but as low as 0.5.

This sort of variation doesn't tell us whether the multiplier is positive or negative. Instead, it tells us that the evidence isn't clear, that economists don't agree, and that sweeping conclusions about the positive effects of stimulus spending don't hold up.

Now Ramey has found additional evidence that the lower range is more likely to be the correct one. In a new paper for the National Bureau of Economic Research, Ramey asks two questions. First, does increased government spending result in an economic stimulus that increases private sector spending? Second, does more government spending increase employment?

Ramey, who's been criticized in the past for her choice of samples and variables, addresses those concerns here by running the numbers using multiple statistical techniques and historical samples. But no matter how she arranges the data, she finds the same result: "An increase in government spending never leads to a signi?cant rise in private spending. In fact, in most cases it leads to a signi?cant fall." The upshot? According to Ramey, the evidence suggests that the multiplier for government spending is probably below the even-money mark. It's a bad investment.

There are some benefits, however—just not for the private sector. Ramey finds evidence that government spending can increase employment—mostly by hiring people to work for the government. "Increases in government spending raise government employment," she writes, "but not private employment." This is contrary to President Obama's 2009 promise that "more than 90 percent of jobs created under this recovery act will be in the private sector." Stimulus spending: Good for the government, not so great for the rest of us. 

(Thanks to Cato's Tad DeHaven for the pointer.)