Wednesday, January 28, 2009

What is an Animal Spirit when it's at home?

Robert Shiller has an OK article on "animal spirits" and talks about the importance of "trust".
But lost in the economics textbooks, and all but lost in the thousands of pages of the technical economics literature, is this other message of Keynes regarding why the economy fluctuates as much as it does. Animal spirits offer an explanation for why we get into recessions in the first place -- for why the economy fluctuates as it does. It also gives some hints regarding what we need to do now to get out of the current crisis.... A critical aspect of animal spirits is trust, an emotional state that dismisses doubts about others. In talking about animal spirits, Keynes sought to convey the message that swings in confidence are not always logical.
I wish when people spoke about "animal spirits" and "trust" they would explicitly talk about what these things actually are, and how they can be quantified. Warren Mosler clearly lays out what the key quantification is:
A drop in ‘animal spirits’ is also known as an increase in ’savings desires’ which reduces aggregate demand as private borrowing wanes.

Any drop in demand, however, can be readily addressed with some combination of lower Federal taxes or spending increases, and the longer ‘animal spirits’ remained subdued the longer our taxes can be kept down. This is well worth considering before we jump to the conclusion that we want to restore the financial sector and lending in general.
Banking is inherently pro-cyclical. Giving money to banks during a declining economy will not stimulate that economy, although it does transfer assets from people who have them now to banks, or more particularly, bank equity holders and especially debt holders.

Low 'animal spirits' mean that people want to save, not spend or go into debt. Given that the US consumer has been spending an unsustainable 107% of their income over the past few years, this is not surprising. Open any NYTimes dated 2004-2006 and you'll see story after story with serious economists, like Paul Krugman, saying that the US Consumer must stop spending and start saving. Given that incomes have been stagnant, this new demand for saving (an exogenous demand shock, if you prefer) has come from transactions -- spending and investing. It will continue until the household balance sheets have been delevered. The demand for delevering is being complicated by increased unemployment, which makes it both harder to save and also increases the demand for (precautionary) saving as insurance.

But remember -- 30% of household income is taken away by taxation. It would be easier for the Government to help households save by taking away and uncreating less of their money. The point of taxation is not spending -- Government can print money and does not need to tax to spend -- the point is to uncreate money and thus reduce aggregate demand, and prevent inflation. In a deflationary environment, taxes are counter productive. Worse, when Paul Krugman and the NYTimes/Obama team dismiss tax cuts because "people will save the money", they miss the entire dynamic behind 'animal spirits', 'deflation', and our current situation.


Blogger cristian said...

I wouldn't talk about politics and "animal spirit" in the same context because the two concept are opposed. Politics is a human invention that is being used to enslave the human mind and the concept of animal spirit links the human being and to the spiritual state of mind.
Animals Medicine

10:15 AM  

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