Wishful thinking as economic analysis?

Prof. Delong:

The American economy appears to be nearing the end of contraction. That’s good news, particularly when one considers that only about 10% of the funds authorised in this year’s stimulus bill has been spent; the plan is only beginning to ramp up and outlays will peak in 2010. We should expect that injection to provide the economy with a nice boost at a critical time.

On the other hand, state budget policies are sharply contractionary at this point. Despite allocations of federal aid to states, services are being cut, state employees are being laid off, and taxes are being raised in order to balance the budgets of local governments constitutionally unable to run deficits. It’s not at all clear that the federal stimulus will entirely compensate for state-level fiscal tightening, which means that American fiscal policy could, on net, be contractionary.

Easy money is doing its part, of course, but the bottom line is that the fiscal boost many are expecting may not actually materialise. This will end up causing a lot of human suffering, and it may make for a long and shallow recovery—or worse, a tipping back into contraction.

Nobody thinks that it’s time to go back in the water yet. And we do need a bigger stimulus.

I can’t find the economics here. The economy is “nearing the end of contraction”, people are suffering now and fiscal policy is contractionary now. So… we need stimulus (from the current package and a new bigger one) next year and beyond?

I know what’s going on here. Delong, an uber-smart guy, has done analysis showing how this makes sense. The problem, like “beat the market” investment strategies, is if he tells people his analysis, that’ll make it unworkable.

Professor, honestly, I won’t tell anyone if you let me in on the secret!

6 thoughts on “Wishful thinking as economic analysis?”

  1. I’ll deal u n on the secret…

    It’s stupid to cut government spending in a recession. Indianapolis just cut funding for inner city schools — which has already been cut in recent years to make the way for the Colts’ stadium… Cities and states are doing this all over America. That’s dumb to do anyway, but doubly-dumb to do in the middle of an economic contraction… And although those cuts are in the budget which starts next year, school districts may well be shifting money around by this fall; and if you are employed at a school district which you know now is gonna get budget cuts next year, how do you respond as a consumer? You save more now b/c u r worried u may be laid off next year…

    the other thing ur not getting is that unemployment generally continues to rise even after GDP stops contracting… We’ll still likely be above 9% unemployment for all/most of next year, and possibly much higher.

    These are the secrets u apparently weren’t heretofore privy to.

  2. That’s no secret… if you weren’t so busy with your prelims you may come to appreciate the actual critique of fiscal policy implied in this post. I would have thought it would take less time to read the post than type up 300 words of ill-directed snark, though.

  3. California is paying IOUs right now. A transfer today of funds from the Feds to the state of California would result in those IOUs being paid immediately. The roads in california are terrible — has anyone driven to Tahoe recently? I got a friggin’ flat last time I went up, probably thanks to California’s Mexico-like infrastructure. Why oh why is repaving roads such a bad idea in a recession? (Or at all?) And IPS schools in Indianapolis are frigging terrible. Why is it a good idea to cut their budgets? (Much less in a recession?)

    What’s the substance of your critique of fiscal policy? Sounds like you are confident of a dramatic recovery just around the corner, so that spending in 6 month will be unnecessary b/c unemployment will be at 4%. Didn’t you also think the timing issue was paramount back in February?

  4. “A transfer today of funds from the Feds to the state of California would result in those IOUs being paid immediately.”

    Exactly. Why isn’t this the policy we have then?

    Besides the Public Choice criticism, fiscal policy is impractical because of logistics. One issue is speed/timing, but there are many other logistical problems getting the resources to where they’re best used. The market is better at this logistical problem than the government. Much better. Not great, but better. This is why money policy works better than fiscal policy. You might say the normal channels for money policy are blocked… the fed is pushing on strings, etc. Fine. Route around those blockages. Drop money from helicopters if you must.

  5. OK, we’re coming closer together it sounds like…

    I’d only back a 2nd stimulus on the grounds that it is composed of 1) an immediate bailout of states and cities (and I’m totally fine if all it does is change next year’s budgets and cause california to pay its IOUs now, reverse the tax hikes which are already in effect on the grounds that unemployment is likely to still be “high” for all of next year)… and 2) immediate “stimulus checks” directly to households — i don’t actually buy that the stimulus checks did “nothing” last year — they aren’t as good as spending, but the Bush stimulus checks went out in a matter of weeks, and mine got blown in a single weekend in San Fran, so they could easily be timely…

    And, for the life of me, I can’t understand why the first round of tax cuts didn’t already go out w/ tax refunds this spring…

    And, politically, it should be billed as fiscal relief for states/tax cuts rather than stimulus II…

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