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Warren Buffet is Wrong...On Economic Policy

Samuel Staley
March 2, 2010, 8:05am

Warren Buffet showed his Keynesian economic policy colors on CNBC's morning show "Squawk Box" on Monday, March 1 (see Warren Buffet Watch). This in and of itselft is not worthy of criticism. Rather, my concern is with the naive Keynesian approach to the macroeconomy that believes long-term economic growth is driven by demand. The macroeconomy is made up of supply and demand, and supply isn't the second cousin to demand.

Buffet's Keynesian view is not surprising from a successful businessman; it's simply an incomplete understanding of how the macroeconomy works that also reflects the business setor's narrow view of economic processes. As a businessman, and more specifically an investor, Buffet sees how his businesses react to consumers and their purchases in the market place. He monitors the performance of his businesses based on the bottom line, which is driven by demand for their products (and services) and how well his managers run their operations (keep costs low). This perspective lends itself to a demand-driven understanding of the economy, but neglects the critical role of entrepreneurship and the supply side in driving long-term growth.

Buffet's interview responses were peppered with references to Keynesian economics and Keynesian approaches to economic policy, but here is what I believe is the "money" response to a viewer question about tax incentives for business (emphasis added):

BUFFETT: Yeah. It's very tough. I don't think job incentives do that much. What creates jobs is demand, and, you know, it does go back to Keynes and the economists on that. And, you know, we--if we have 10,000 fewer people or close to it working on a railroad now than we had a couple of years ago, it's because, you know, the box cars aren't moving. If we have 6500 people fewer in our--in our carpet business, it's because the orders for carpet aren't coming in. And so it isn't like you go out and hire a bunch of people and then that creates orders. Orders create jobs, jobs don't create orders.

This, of course, is the philosophy that undergirds the Obama Administration's economic policy: bolster demand, and the economy will come.

Unfortunately, that hasn't happened, because the Keynesian framework is fundamentally flawed.

The economy will begin to grow only when supply and demand are brought back in sync (a point Buffet implicitly acknowledges later in the interview when he discusses housing). But, without a regrounding of the supply side of the economy, demand management will do nothing toward creating a sustainable recovery.

Indeed, demand management--boosting demand through fiscal policy such as consumer tax cuts or government spending--is at best is a stop-gap measure because these policies do little more than maintain spending. They don't re-align investment and the supply side.

Thus, sustainable long-term growth will only occur when the supply side is re-aligned with consumer needs and wants. Government can do little, if anything, to address this. In fact, the Obama Administration's policies are likely widening the gap by 1) reinforcing old trends by maintaining previous spending patterns by bolstering home loans and funding "shovel ready" government spending, and 2) directing resources into less productive and economically harmful sectors such as the overblown and poorly conceived "green" jobs initiatives or taking ownership in failing U.S. corporations.

The best policy would be to 1) acknowledge fiscal policy is at best income maintenance and 2) get out of the way of letting the private sector re-adjust lending, asset portfolios, and investment to more accurately reflect market trends and needs (rather than government priorities), and 3) focus on creating a stable and predictable monetary and financial services regulatory environment.

Samuel Staley is Research Fellow

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