The Deficit is Not a Real Problem; and, a Note of Support for Keynesian Stimulus

In his column today, David Brooks sees an equivalence of hubris between Democrats and Republicans in how they approach economic policy. There’s the "Keynesian Democrats" who thought that "gigantic deficit spending" would create jobs and end the recession; and there’s Republicans who think tax cuts are the best and only way to spur economic growth and job creation.

These…groups…have one thing in common: They all believe they have identified the magic lever. They believe they can control their economic fate.

I don’t get the strenuous attempt at equivalence here between the Democratic approach and the Republican approach, particularly in light of Brooks’ big column last week slamming the Republican Party as no longer being a "normal party," but one that "has been infected by a faction that is more of a psychological protest than a practical, governing alternative." That’s a pretty apt description. So are Democratic attempts at Keynesian stimulus really just as fancifully "magical" as Republican tax cut theology? 

The spending [Democrats] began must have done some good to cushion the recession, but either through a failure of theory or a failure of implementation, their lever was not as powerful as they promised. Federal spending rose from 19.38 to 24.91 percent of gross domestic product, but the economy refused to rebound and the world is awash in oceans of debt.

Well let’s see the good that spending "must have done":


Now these are just private sector job gains, which as we saw with the dismal jobs report this week, are mostly wiped out by job losses in the public sector, leading basically to a net stagnation in the unemployment rate in 2011. This stagnation is a terrible thing, but it’s a bit odd to imply, as Brooks does, that the culprit is too much "Democratic Keynesian" spending, rather than far too little. You can see in the trend above that the front-loaded stimulus spending quickly led to a reversal of the jobs-shedding nightmare, and after a year we began to add jobs, albeit much too slowly. Now that the stimulus has wound down we are seeing increasing bad news on the employment front.

Brooks’ comparison of Democrats who want to deficit-spend like crazy and Republicans who want to cut taxes like crazy is specious and misleading. Thirty-seven percent of the $787 billion stimulus consisted of tax cuts. And in 2010 the Obama administration cut the payroll tax and extended the Bush income tax cuts for two years. That’s a whole lot of tax cutting.

And contra Brooks, the administration’s efforts to lift the crisis seemed specifically premised on the idea that there was no one "magic lever." Apart from all the tax cuts, another 18% of the stimulus went to state and local governments to keep them solvent after their revenue streams collapsed. Is there something wrong with the theory that states going bankrupt is a bad thing?

The majority of the rest of the money went to a variety of transportation and utility infrastructure projects, as well as an increase in scientific research funding and unemployment benefits. I am sure there were problems of implementation and some sub-optimal choices on projects to fund, but maybe rather than a failure of a whole robust economic theory, it was just a failure by the administration to realize how bad things really were, and so the resultant policy response was insufficient. This was indeed an error, but hardly one caused by Democrats thinking they had a secret single magic lever to control the entire economy. I’m not sure what Brooks is talking about here.

Here is a simple graph from Matt Yglesias that makes a pretty powerful case for Keynesian stimulus. It shows personal consumption spending since 2001, with periods of recession shaded gray:

As you can see, private spending has recovered from the low of late 2008, but we are still way below the previous trend line (in red), and we don’t seem to be closing the gap at all. Keynesianism says that during periods of slack private demand government steps in to help fill that gap and bring things back up to trend. That wide gap you see is really ruinous. If people aren’t spending money then businesses won’t expand, factories won’t run at full capacity, goods won’t be transported, services and equipment won’t be utilized, and hiring will remain anemic to non-existent. Policymakers need to have some idea as to how to close that gap. Our stimulative and tax-cut efforts thus far have reversed the consumption and employment freefall. That’s good. However, we need to be doing a lot more.

But instead we’re left with the enduring, infuriating mystery of why official Washington seems to think that this consumption gap is no longer a problem. And instead of dealing with the very real and visceral crisis of low demand and persistent unemployment, everyone has decided it’s a fine time to pivot to the fake crisis of the long-term deficit, which only exists on paper in some theoretical alternative out-year scenario. It’s nuts. If David Brooks can wrangle up a magic lever to end this collective psychosis that’d be great.

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One Response to The Deficit is Not a Real Problem; and, a Note of Support for Keynesian Stimulus

  1. Economist says:

    I think you make a really good point about private sector versus public sector job growth. It would be interesting to see the data on the relative makeup of those two. A simple case could be made that if private sector jobs are growing and public sector jobs are shrinking it’s hard to see how spending cuts (which will largely put people like teachers and other public sector workers on the unemployment roles) make sense. It’s hard to believe that the increase in private sector jobs will more that outgrow the further reduction in public sector jobs. I recall a rule of thumb that each job prevented from being lost is worth much more than a new job created in terms of economic growth.

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