The Circular Logic of Stimulus Spending

There's a circular logic to calls for more and bigger economic stimulus: Every time stimulus fails to kick the economy back into gear, the keepers of the Keynesian consensus inevitably say that the problem is that the last round of spending was too small. And so the calls begin for more.

Starting in the 1990s, Japan followed those recommendations for ever more stimulus. But as Harvard economist Robert Barro points out in The Wall Street Journal, the country never saw the results it hoped for:

For the U.S., my view is that the large fiscal deficits had a moderately positive effect on GDP growth in 2009, but this effect faded quickly and most likely became negative for 2011 and 2012. Yet many Keynesian economists look at the weak U.S. recovery and conclude that the problem was that the government lacked sufficient commitment to fiscal expansion; it should have been even larger and pursued over an extended period.

This viewpoint is dangerously unstable. Every time heightened fiscal deficits fail to produce desirable outcomes, the policy advice is to choose still larger deficits. If, as I believe to be true, fiscal deficits have only a short-run expansionary impact on growth and then become negative, the results from following this policy advice are persistently low economic growth and an exploding ratio of public debt to GDP.

The last conclusion is not just academic, because it fits with the behavior of Japan over the past two decades. Once a comparatively low public-debt nation, Japan apparently bought the Keynesian message many years ago. The consequence for today is a ratio of government debt to GDP around 210%—the largest in the world.

This vast fiscal expansion didn't avoid two decades of sluggish GDP growth, which averaged less than 1% per year from 1991 to 2011. No doubt, a committed Keynesian would say that Japanese growth would have been even lower without the extraordinary fiscal stimulus—but a little evidence would be nice.

Read Reason's summer 2009 story on Japan's post-bubble policies here. 

Comments

[sarcasmic]

1anth

[Mad Scientist]

We can't be out of money. We still have checks left!

[R C Dean]

the large fiscal deficits had a moderately positive effect on GDP growth in 2009, but this effect faded quickly and most likely became negative for 2011 and 2012.

Its definitional. A deficit represents government spending that is not funded by taxes, so every dollar of deficit spending shows up as an increase in GDP.

When the deficit goes way up (as it did in 2009), GDP will necessarily increase over what it would have been by the same amount.

When deficits plateau (as they have since 2009, more or less), the deficits don't contribute to GDP "growth" any more because, well, they aren't growing.

[Joe M]

Seriously, why do we even allow this conversation to continue in terms of GDP?

Also, Krugabe tells me Japan is doing great, and/or we're nothing like Japan, depending on what point he is failing to make.

[AZ]

Can someone better-versed in economics than I am explain how GDP growth that is less than the level of deficit spending as a % of GDP is anything except proof that the multiplier is less than 1?

[NAL]

Haven't we essentially been repeating the 2009 stimulus in the 2010 and 2011? There hasn't been a budget since then and I believe it was simply added to the baseline for the continuing resolutions. Am I wrong?

[R C Dean]

You are correct, sir.

[sarcasmic]

The Keynesian model only works when you ignore that whatever the government adds to the economy must first be taken away, through taxes or the sale of bonds.
You must ignore that the government injects less into the economy than it takes away, because bureaucrats take a cut for doing nothing productive.
You must ignore the opportunity cost of money being invested in bonds (future taxes) instead of something like a factory that would create wealth.
You must ignore the distinction between money and wealth.
You must ignore the fact that the economy is not a zero sum game.

So much ignorance. No wonder politicians love it!

[T o n y]

Your moral preoccupations do not bear on economic realities.

[sarcasmic]

The ignorance is especially strong in this one.

[NotSure]

The economic reality is that government accounting tricks don't help the economy. Likewise having politicians with no morals is hardly going to help matters, since you clearly have stated you have no morals, you will not understand that point though.

[sarcasmic]

People with power are not restrained. That is the nature of power.
For power to be restrained there must be self restraint, which is where morals come in.

[T o n y]

Or checks on that power, such as in a strong functioning government. Only in malfunctioning societies is there any unrestrained power. You can't explain how power is checked in libertopia; clearly just hoping people will be moral doesn't cut it.

[sarcasmic]

Or checks on that power, such as in a strong functioning government.

Hahaha! You don't even see the contradiction!

You can't explain how power is checked in libertopia

Actually I have. Many have. But you don't remember because you don't learn anything.

[Brandon]

The government's power can only be checked by giving the government unlimited power, huh Tony?

[Mad Scientist]

Tony, I debated with joe. I knew joe. joe was no friend of mine. Tony, you're no joe.

[Killazontherun]

Here, Keynes enthusiastically tells Hitler what he wants to hear:

The theory of aggregated production, which is the
point of the following book, nevertheless can be
much easier adapted to the conditions of a
totalitarian state [eines totalen Staates] than
the theory of production and distribution of a
given production put forth under conditions of
free competition and a large degree of
laissez-faire. This is one of the reasons that
justifies the fact that I call my theory a
general theory. Since it is based on fewer
hypotheses than the orthodox theory, it can
accommodate itself all the easier to a wider
field of varying conditions. Although I have,
after all, worked it out with a view to the
conditions prevailing in the Anglo-Saxon
countries where a large degree of laissez-faire
still prevails, nevertheless it remains
applicable to situations in which state
management is more pronounced.

Preface to the 1936 German translation of "The General Theory."

[Killazontherun]

So, yes, indeed, let's ignore the morality of economic policy.

[MOFO.]

The Keynesian model only works when you ignore that whatever the government adds to the economy must first be LALALALALLALALLALALLALALLALALLALALLALALALLALAL
So much ignorance. No wonder politicians love it!

[sarcasmic]

"The first lesson of economics is scarcity: There is never enough of anything to satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics."
-Thomas Sowell

[JW]

but a little evidence would be nice.

That's a feature, not a bug.

[sarcasmic]

True. Keynesian "economics" is a tool for politics.
It is an excuse for politicians to extract money from the economy and give it to their cronies.
The fact that it doesn't work is a bonus, because it gives them an excuse to do more!

Perpetual economic stagnation while the political class gets rich!

[Dr. Frankenstein]

What was that comment about standard government funding trope?

The program is succeeding despite being underfunded so we need more funding because the threat is more dire.

[Dr. Frankenstein]

This also applies to WWI generals. We've almost succeeded in breaking the enemies lines we just need a few more troops.

[o3]

something wrong w turning japanese...i really think not.

[CockGobbla]

You say "broken window," and I say "World War."

In the Keynesian model, they're both the same.

[DesigNate]

Isn't deficit spending only supposed to happen during the down times according to Keynesian theory? So they could make the argument that it didn't work because Bush and Co were busy deficit spending during the "good times".

Deficit spending seems retarded to me either way, but the way he meant it to be done is marginally less so.

[T o n y]

Correct which is why economists like Krugman were deficit hawks during the Bush years. He specifically notes that stimulus spending is needed because of the extraordinary circumstances.

What's absolutely clear is that growth does not happen as a result of the usual libertarian/Republican prescriptions. We've been tax cut to the bone and it hasn't done anything but make more debt.

[sarcasmic]

Libertarian prescriptions have been applied to the economy?

On what planet?

[CockGobbla]

Bush lowered some tax rates.

As for the restraining/reversing government spending and regulatory powers, we're almost to Bush's fourth term, and we're still patiently waiting.

[sarcasmic]

Oh yeah! And deregulation! Adding 80K new pages a year is deregulation!

[NotSure]

So despite the fact that spending has increased consistently it "tax cuts to the bone". The numbers clearly show that 100% tax rates will not even make a tiny dent to the debt, but its that not the spending, because spending cannot create debt.

[Red Rocks Rockin]

We've been tax cut to the bone and it hasn't done anything but make more debt.

Well, then we should cut spending, then, huh?

[T o n y]

No, we should reject your false claims of how growth is caused and try the alternative, which has already been proven to be correct several times over the last century.

[Savant Idiot]

Keynesian theory as applied to medicine would look something like this:

Condition: Patient has been poisoned
Remedy: Administer increasing doses of same poison

[CockGobbla]

1) Make the patient sicker.
2) Increase health care costs.
3) ????
4) PROFIT!

[aix42]

S-M-R-T!

[Drama]

Solve the problem caused by spending too much money, by spending even more money. Seems...logical

[sarcasmic]

That is correct.
The problem of deficits is solved by borrowing more money, and the problem of inflation is solved by printing more money.

You now have enough understanding of economics to run for political office!

[Invisible Finger]

Government's only solution: Up the dosage!

But not for physical pain lest the DEA come after you.