Did He or Didn’t He Stimulate the Economy?

I find it surprising that so many analysts and news reporters seem to think the Obama Administration’s stimulus programs are working. A recent article in the Wall Street Journal is unfortunately typical of the lack of nuance and understanding of the complexity of the current economy, the series of stimulus-type packages passed by both Bush and Obama, and the role these efforts play in the economy:

Economists say the money out the door — combined with the expectation of additional funds flowing soon — is fueling growth above where it would have been without any government action.

Many forecasters say stimulus spending is adding two to three percentage points to economic growth in the second and third quarters, when measured at an annual rate. The impact in the second quarter, calculated by analyzing how the extra funds flowing into the economy boost consumption, investment and spending, helped slow the rate of decline and will lay the groundwork for positive growth in the third quarter — something that seemed almost implausible just a few months ago. Some economists say the 1% contraction in the second quarter would have been far worse, possibly as much as 3.2%, if not for the stimulus.

For the third quarter, economists at Goldman Sachs & Co. predict the U.S. economy will grow by 3.3%. “Without that extra stimulus, we would be somewhere around zero,” said Jan Hatzius, chief U.S. economist for Goldman.

Really? I honestly hope the economist at Goldman Sachs was taken out of context.

The same article in the Journal notes that just $60 billion of the $288 billion in tax cuts has gone “out the door” and $84 billion of the $499 billion in promised spending has been paid. Apparently, according to this reporting, many economists rely for their analysis on White House press releases or take on face value the idea that President Obama and Congress simply have to say they are going to do something to turn the economy around without doing anything.

What these articles almost always fail to take into account is that the government has intervened continously for more than a year. Remember the tax rebates from summer 2008? How about the more than $1 trillion in monetary liquidity injected into the system since fall 2008?

Each of these efforts has very different implications for the economy. The rebates gave consumer spending a bit of a goose (or temporarily slowed the free fall), but couldn’t stop the (very much needed) re-alignment of risk and capital in the housing mortgage market or reining in the more unscrupulous practices of the financial services industry. The Federal Reserve Board’s injection of liquidity in the economy was likely the most crucial element over the past year in stabilizing markets because it kept the wheels from spinning off the financial services industry (including banks). Notably, little could be done to avoid intervention here because the FED has a legal monopoly on the money supply and is responsible for managing liquidity in the economy.

The actual spending side of the stimulus hasn’t even hit the economy yet. So, economists should spend a little more time figuring out which stimulus package’s they think are having the most impact. It’s clearly not government spending. (I would also like them to ponder the implications of having government control a larger share of the economy’s resources for future productivity and economic growth.)

Indeed, I doubt the fiscal policy intiatives are having much of an impact at all. For an excellent analysis of why, take a look at Brian Riedl’s article in the National Review, “Why The Stimulus Failed.” In a nutshell, Mr. Riedl writes:

The simple reason government spending fails to end recessions is that Congress does not have a vault of money waiting to be distributed. Every dollar Congress “injects” into the economy must first be taxed or borrowed out of the economy. No new income, and therefore no new demand, is created. They are merely redistributed from one group of people to another. Congress cannot create new purchasing power out of thin air.

This is intuitively clear in the case of funding new spending with new taxes. Yet funding new spending with new borrowing is also pure redistribution, since the investors who lend Washington the money will have that much less to invest in the economy. The fact that borrowed funds (unlike taxes) must later be repaid by the government makes them no less of a zero-sum transfer today.

Even during recessions — when total production falls, leaving people with less income to spend — Congress cannot create new demand and income. Any government spending that increases production at factories and puts unemployed individuals to work will be financed by removing funds (and thus idling resources) elsewhere in the economy. This is true whether the unemployment rate is 5 percent or 50 percent.

Reason Foundation has extensive commentary and research on the so-called stimulus and it can be found here.