Saturday, November 01, 2008

Keynes gives us no clue

Megan doesn't understand why David Brooks' NYTimes column makes no sense. Brooks calls for infrastructure spending as "stimulus" and Megan thinks this is reasonable:
For starters, Brooks's statement about stimulus doesn't strike me as particularly controversial. The point of stimulus is to use the government to artificially expand aggregate demand by borrowing at fairly low interest rates and spending the money. The problem is, if you send out checks, most of the checks seem to get saved, which creates a closed, useless cycle.
Keynes, the father of the idea of economic "stimulus" tells us nothing about the mechanism for that stimulus
C+I+G = Y
GDP simply equals consumption plus investment plus government spending, but the mechanism by which increased government spending leads to increases in GDP is buried in the type of aggregation that Keynes is fine with, but drives Austrians up the wall. It also provides little guidance of policy makers -- if you want to stimulate, how best to do it?

Megan is too dismissive of mailing checks to consumers. Most of the checks might get saved if they are $1000, but $50,000 would soon find it's way into the economy, and do so in less distortionary (and therefore inflationary) mechanism than simply increasing G.

Keynesians, and "real goods" economists, argue that an increase in money supply is not inflationary so long as it funds projects that are at least equal in worth to that monetary expansion. Money supply can increase by X% so long as the economy also increases by X% and produce no inflation. This is, unfortunately, not the right way to think about it, but it is the dominant paradigm so let's run with it.

Giving money to consumers -- lots of money -- will be spent (at least in part) on stuff that consumers actually want. Increasing G will go to the usual suspects involved whenever G gets larger. Increasing the stock of useless expenditures (Bridges to Nowhere, or the concrete meadow that is modern Japan) grows the economy by less than the increase in money supply, and will so ultimately result in more inflation. At the same time, maintaining this useless stock will be a drag on the economy, reducing growth. And this is how Keynesians take us to the land of stagflation. Next: how Monetarists do not give us a clue either.


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