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"An appeaser is one who feeds a crocodile, hoping it will eat him last."
Sir Winston Churchill

1.21.2008

If Economic Stimulus Packages Work, Why Not Implement Them All the Time?

Because they don't work, that's why:

With recession concerns mounting, politicians and pundits have started proposing programs to “stimulate” the economy. All of these plans involve some combination of additional short-term government spending and one-time transfer payments to people who would be expected to spend the additional money. But there is one small problem with these proposals: They are based on economic superstition.

Recessions are periods of falling gross domestic product. They are presumed to be caused by falling demand, and it is assumed that the stimulus measures being proposed will increase demand. In fact, they will do no such thing. Similar programs were tried in the U.S. in the 1930s, Japan in the 1990s, and again in the U.S. in 2001. They all failed. The belief that government spending and deficits stimulate demand is a superstition.

Superstitions have power because they form an unquestioned part of the way we look at the world. They’re drilled into our heads from early on and are influential because they seem so obviously true. The superstition at hand is cultivated in Economics 101, where students are taught that: demand = consumer spending + business investment + government spending + net exports.

From this equation, it seems obvious that if the government spends more, demand will rise. It is equally obvious that if the government transfers money from people who are inclined to save it to people who are eager to spend it, consumer spending will rise and demand will rise with it.

The problem, and it is a subtle one, is that the above equation describes what demand is numerically equal to, not what demand actually is.

At the concrete level, demand is someone saying, “You want $20 for that widget? I’ll take it.” When the transaction is completed, government statisticians add $20 to their running total for demand. Accordingly, what demand actually is is the transfer of money in transactions. As soon as a dollar is used to complete one transaction, it is available for another. The seller in one transaction becomes the buyer in another, part of an endless chain.

Government stimulus programs involve taking in money by selling bonds and then sending that money back out, either in the form of direct government spending or as transfer payments to individuals. All such programs can ever do is take money circulating in the economy and send it on a detour through Washington, D.C. There is no way that this can increase demand.


Read Amity Shlaes' "The Forgotten Man" if you want to know how boneheaded and harmful such thinking is.

The bottom line: There ain't no such thing as a free lunch.

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