EFFin’ Unsound

- posted by demo kid

As promised, my comments about Manweller’s idiotic op-ed. Given its flaws, I seriously don’t know why it was published… but it was published in the Washington Times. Guess it is another sign of the decline of print media!

First things first… I am an unrepentantly Keynesian in my economics. Looking narrowly at macroeconomic performance, the principles of monetarism seem seductive. The idea that economies function according to simple formulae and principles is great, and if you’re in the business of making lots of money, you certainly have an interest in any philosophy that lowers your taxes.

The real world doesn’t function like that for most people. Folks that are getting laid off can’t take comfort in the idea that the economy is trying to move towards equilibrium and efficiency. One cannot assume that people make the wisest decisions, or that everyone is cut out to be an entrepreneur. We cannot simply assume that the unemployed should be able to fend for themselves without some support. Most importantly, assuming that the market always makes the correct decisions is absolutely wrong.

I don’t advocate that the government get involved in the production of consumer goods, and there are plenty of areas where the government might actually privatize or cut programs. I think that we should also cut taxes in down periods, and lower spending when the economy is doing well. Still, taking the position that the free market should be revered as an infallible entity is absolutely wrong. The free market is a tool, and can be harnessed to achieve many things, but handing off our sovereignty and our need to address societal issues to an intangible concept is garbage.

Finally, I think that your run-of-the-mill conservative is disingenuous with their arguments. A slavish devotion to tax cuts is not responsible, and conservatives’ fiscal policy suggestions don’t tend include any kind of nuance that would suggest that they can think about anything else. Any reduction in taxes is seen as a good unto itself, no matter what the financial impacts or the context. I’d relish a real conversation with a conservative that could entertain any other notion at all, but conservatives are not creative with their approaches to fiscal policy in the slightest.

Anyway, on to Manweller’s article…

As the United States struggles through a recession, political leaders are hoping a “stimulus package” will save us. There is nothing wrong with the government trying to stabilize or even energize the economy. It is the reason we craft fiscal and monetary polices. The problem with most stimulus packages is that they usually don’t work.

“Most stimulus packages” as designed by the Bush Administration? Maybe. But whether or not stimulus packages “work” is hotly contested in economics. If you are a devotee of Hayek, if you’re a student of the Chicago School, you’re going to deny up and down that anything but monetary policy and deregulation will work. Unfortunately, economics does not necessarily lend itself well to experimentation, and even the efficacy of the New Deal has been endlessly debated. Assuming that the answers lie with a single school of thought is foolish.

But if he’s looking to the Japanese for that example of a stimulus package that “didn’t work”, that was a completely different situation with a different focus. Likewise, Italy’s parmigiano cheese bailout is not the same. Not all stimulus packages are equal.

Unfortunately for elected officials, the Federal Reserve was created as an insulated and therefore independent agency. The president and Congress can pressure the Fed, but they can’t make the Fed do anything. In addition, even if the Fed does take action, elected officials can’t take any credit for the subsequent results. Politicians like to show the American people they are “doing something” and they can’t do that in the realm of monetary policy. As a result, fiscal stimulus packages tend to win out over monetary ones.

Insulating the Fed is a good strategy, and looking at the hyperinflation of the pre-euro Italian lira due to seigniorage is a great example of why printing money is not a great power to give directly to elected officials. On the other hand, the power of the Fed are extremely limited. Buying and selling securities on the open market and setting loan discount rates are important stabilizing aspects of monetary policy, yes, but managing the economy successfully with these tools is akin to trying to pilot a 747 with an Atari joystick.

Much of what the rest of the government does can be considered a “stimulus” of key markets already. The impacts of government investment should not be taken lightly. Investments in education, small business loans, involvement in the mortgage-backed securities markets, tax credits, subsidies, and so forth all work to alter the markets to achieve a desired result. Managed correctly, these interventions can have certain positive impacts. The rise of major technology and high-tech manufacturing centers in Washington and California, for example, had just about as much (if not more) to do with Cold War-era investments in military research and development than simple free market forces.

Most stimulus packages rely on public works projects. It is common to hear presidents and congresses promising an economic package that will build new roads, bridges and infrastructure. It sounds good, except it doesn’t work. For starters, infrastructure projects are temporary. Once the bridge, road, or tunnel is completed, the stimulus is gone. Then what? We are still the same country with the same problems and the same economic environment. The only way to keep the stimulus rolling is to build another bridge, road or tunnel. Eventually, we find ourselves paying people to move piles of dirt back and forth. Such projects spread paper dollars around, but do nothing to improve the standard of living or add to a nation’s wealth.

This passage is the primary reason why Manweller is an idiot.

First, it is a documented fact that our infrastructure is in decay. The American Society of Civil Engineers publish a scorecard of our infrastructure needs, and indicates that over five years, $2.2 trillion of investment is needed. Equating necessary repair with “moving piles of dirt back and forth” is completely inaccurate. In fact, this is the *prime* opportunity to encourage infrastructure development, since government funds will not be “crowding out” private demand for construction.

Likewise, to assume that the “stimulus is gone” once the projects are completed is foolish. Our economy is strongly dependent on infrastructure, whether road, rail and port facilities. Economic activity has been “stimulated” by the National Interstate and Defense Highways Act of 1956 far more than the initial outlay of government funds to actually construct the system. Think of how large tractor-trailers full of consumer goods be able to get to all corners of the country without the highway system, or how we would commute out to the suburbs without these massive freeways that were coordinated and built as a result of federal intervention.

Finally, a “stimulus” is *meant* to be temporary. We aren’t debating policies exclusively for long-term growth here! We’re talking about shorter-term programs that can help to address the economic decline, policies that can and should have longer-term positive impacts for the nation.

Our prosperity is a function of production, not the number of dollar bills. America is a wealthy nation because we produce a lot of stuff, not because we have a lot of dollars. For example, the nation of Ethiopia could pay all of its citizens millions of Birrs to dig tunnels throughout the country. Afterwards, each citizen would have a lot of paper money, but Ethiopia would still be a very poor country (with lots of tunnels).

Continuing the idiocy. Sure, if Ethiopians were being paid to just “dig tunnels” randomly, it would be pointless. If they all build schools to educate the children in their communities, however, or they dig trenches to irrigate fields, the economic impacts would be much different. There would be a long-term economic impact associated with improving the social or physical capital of the country, and one that they can and should be willing to invest in for the longer-term. These interventions would, according to Manweller’s definition, allow us to make “more stuff”.

Not all programs are the same as the WPA, where people at times really were paid to “push dirt around”.

Public works projects also create inflation. When the government builds stuff, they don’t build consumer products. They build roads, bridges, tanks and dams. How many of you have purchased any of these things in your life? Public works projects inject billions of dollars into the economy but do not inject a single consumer good. As a result, we end up with more money in the economy but not more goods to buy. When you have the same amount of goods but more dollars, you end up with higher inflation.

This is a very hard argument to make when deflation is an issue in the country!

Sure, we *don’t* consume tanks or roads or bridges individually. Bravo for Manweller pointing out the main difference between public and private goods. Still, we do use them (directly or indirectly) and we need to fund them as a society. As I pointed out above, now is actually the *best* time to make them. This is the time when these expenditures will not crowd out private economic activity, and when these expenditures can have a positive impact on the national economy. Unless Manweller suggests that we should no longer be building and maintaining roads, bridges, tanks and the like, he should be encouraging this form of investment now as economically and fiscally responsible.

Stimulus checks or tax rebates are a popular form of economic stimulus, and they are equally ineffective. Stimulus checks alter short-term behavior, sometimes. Most people in hard times will simply save the rebate. Others will spend it on a consumer product. To pull a nation out of a recession, however, one needs to alter long-term behavior. Good economic stimulus promotes long-term investment in capital, the building of new plants, investment in new technology, and hiring new workers. None of that is accomplished with a rebate check. Entrepreneurs don’t launch a new endeavor because every citizen has a $600 check. Investment should be based on the long-term horizon, not a one-month bump in consumer spending.

Exactly right. Bush’s stimulus package was very effective at paying off credit card companies and stimulating the Chinese economy through disposable consumer goods. Unfortunately, Bush was keen on putting a band-aid on the problem so that the next president would have to deal with the full fallout.

That doesn’t mean all stimulus packages must fail. Governments can promote economic recovery if they craft policies that incentivize long-term investment in both jobs and consumer goods and services. The key is capital creation.

Again, there is this fundamental lack of awareness on the part of Manweller of the need for both public and private infrastructure and capital. Policies to incentivize long-term investment are great, but investment decisions are based on more than just reduced capital gains taxes: education of the labor pool, quality of the infrastructure, targeted programs for workers, and so forth are also important factors in these decisions.

When you dig a hole in the ground and call it a tunnel, the only labor needed after the job is done is for occasional maintenance. When you build a new car factory, you need thousands of workers to keep that factory running. The tunnel is a short-term project that creates temporary jobs and long-term inflation. A new factory creates new products, long-term jobs and reduces inflation. But governments don’t build car factories. What government can do is make it easier for entrepreneurs to do so.

Governments don’t build car factories, but they provide the roads to get the workers there, the schools that educate workers’ children and future employees of the plant, the unemployment payments for laid-off workers, the oversight to ensure that health and safety regulations are being followed, and so forth. There is a fundamental difference between understanding that both public and private capital is important to the economy, and assuming that the government should start producing consumer goods.

The best policies governments can adopt to encourage capital creation are long-term structural changes to our economy. These include permanent decreases in marginal income tax rates, corporate tax rates and the capital gains tax rate. By creating a hospitable, stable and predictable economic environment, entrepreneurs know what the long-term business climate will be and invest accordingly.

This is absolutely, positively the *worst* idea, and shows that Manweller either doesn’t understand business cycles, or is keen to use this crisis to push a partisan agenda.

The situation that we find ourselves in is not simply because we aren’t growing, but it’s because economic activity is not evenly distributed over time. If we look at the mean and not the extremes, we’re really not doing that badly. If we were all thinking and budgeting responsibly, we would be able to save in good times and make up the difference in bad times. Unfortunately, we never learn our economic lessons, and our rosy scenarios were waaay off.

As such, we’re not trying to reorganize the entire economy, but address the troughs in the cycle and the deficiencies in our current infrastructure. The worst strategy would be to rely on a separate bubble as a means to boost the economy and deal with our problems. We do need to stick it out and wait until an upswing, but unlike hard-core monetarists, the solution for regular folks is much more than just cutting interest rates and assuming that people will invest money that they may not have.

Tax cuts are also a solution that can only be used a limited number of times. You can’t reduce taxes to zero, so if these are “long-term changes”, these will be maintained throughout the next cycle. Would we propose using this for the next cycle? And the next? Cycles and their negative impacts won’t stop just because we cut capital gains taxes.

Rebate checks are feel-good elixirs, and public works projects just mask the symptoms. If we want a sustained economic recovery like we saw in the 1980s and 1990s, we will need to be patient, avoid economic gimmicks, and understand that wealth comes from production, not more dollars.

We *do* need to be patient. Unfortunately for the good professor, the “sustained economy recovery” in the 1980s and 1990s was boosted by government defense spending and market bubbles. Pointing out these periods as examples of success are ignorant of their contexts, and oblivious to the need that we need to come up with new models for sustainable economies. Building up our infrastructure for responsible growth in the next economic cycle is a far better approach than simply to cut taxes alone, and hope and pray that the market picks up the slack.

Mathew Manweller is associate professor of political science at Central Washington University and an adjunct scholar for Washington Policy Center, a non-partisan independent policy research organization in Seattle and Olympia.

Nonpartisan? Really?

This entry was posted on Saturday, February 7th, 2009 at 12:44 pm and is filed under Demo Kid. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.