Last week I got into a comment discussion on a post over at Rocket Finance. His post had to do with the current economic stimulus package and whether or not it was wise to spend our way out of the current crisis.
Do Personal Finance Rules Apply to the Government?
This is a diversion from a purely personal finance topic, but it is a timely topic and one that I think is interesting. I think a lot of personal finance bloggers have mentioned that the government needs to take a lesson in personal finance and do things like spend less than they earn. However, I wanted to create a post to discuss how this is not ALWAYS the case. In some cases, especially when gross investment and consumption are down, the government must spend strategically. This does not mean I agree with how much they spend when the economy is doing well (should be deficit during bust, surplus during boom)… but at a time like now I think we should stick to solid economic principles that economists of each political bias can agree on… to a degree.
Anyways, onwards to the point of the post!
A few key excerpts from each of our points…
Rocket:
“Government spending will not solve our economic problems. Read Five Myths about the Great Depression by Andrew Wilson. Our country has tried to spend its way out of trouble before. “
“Government spending did not work to end the Depression. Government spending did not work to solve Japan’s crisis in the 1990’s and government spending will not work here. Only the growth of the private sector can solve our financial problems.”
“Here are a few more numbers: the average household in this country will get an average of $400 more dollars in their yearly salary, but they will also acquire $7500 to $10000 more in national debt. The Reinvestment package spends an average of $250,000 for every job it creates. If government spending is the answer, why not spend another 2 or 3 trillion dollars? Why not give every American $1M in cold, hard cash? It does not make sense and this type of spending is going to make things worse in the long run by devaluing our currency.”
My Life ROI:
“It would not be until the early 1940s, with the beginning of World War II, that a strong dose of Keynesian medicine was administered to the American economy. By 1942, total government spending as a share of the economy rose to 52 percent, and peaked at nearly 70 percent in 1944, when unemployment fell to 1 percent.” Source [PDF]
“GDP = C + I + G + (X − M).
When consumption and investment go down, as they have, how do we either keep GDP the same or even increase it? The math is simple… we either have to massively increase exports and decrease imports (not likely) or increase G… government spending.”
“-Tax multiplier = (Delta in taxes * -MPC) / (1 – MPC)
-Government spending multiplier = (Delta in government spending) / (1 – MPC)
-mpc = marginal propensity to consume-If you set MPC to .7 and decrease taxes by $30,000,000 … output goes up to $70,000,000
-If you set MPC to .7 and take that same $30,000,000 and put it into government spending… output goes up to $100,000,000″ (The MPC has been set at .7 to account for easy math)
US Spending and Revenue In Re to GDP
Tax Multipliers, Government Multipliers, and the AEA, Oh My!
I think the usage of the tax multiplier and the government spending multiplier is a pretty useful analysis. I learned this in all of the economics classes I took in University, and I continue to read up on economics because I find it interesting. Apparently, the American Economic Association agrees and is trying to figure out the best balance of tax cuts and government spending but is very certain that their long assumed practice of making policy with the assumption that American consumers are rational needs to come to an end.
Even long time conservatives are in agreement:
No one illustrated the conversion to fiscal stimulus more vividly than Martin Feldstein, a Harvard economist and a well-known conservative who served for a time as a top economic adviser to President Reagan. In a paper, Mr. Feldstein noted that the usual method of reviving the economy — lower interest rates — was failing to work because of “a dysfunctional credit market.”
That left fiscal stimulus to offset what he described as a decline of $400 billion a year in consumer spending. “While good tax policy can contribute to ending the recession, the heavy lifting will have to be done by increased government spending,” Mr. Feldstein said.
I think when it comes down to it… me and Rocket can agree that this bill is not what it should be. However, conservatives and liberals (oh how I hate those terms) need to come to an agreement that all government spending is not created equally. Even if it seems Congress treats it that way we should also educate ourselves so that we know how the math works behind our economy. Tax cuts do not just lift an economy out of a recession. Increasing government spending drastically does not just lift an economy out of a recession.
Revenue and Spending by President
(*The above graphic has no connotation on my part… I just think it is interesting to see. I bet a lot of people never realized these numbers are where they are! Try and match up the “boom” times and “bust” times. Were there surpluses in the booms and deficits in the busts? Politics has a bad effect on economics :)!)
Lazy Politics & Economics
I, for one, think that it is lazy political principles and lazy economics to just say “government spending is inefficient.” This does not always have to be the case. We can argue that if government spending is being spent on unemployment benefits then it is most likely inefficient. However, if the spending is spent on re-education, re-training, re-tooling, and infrastructure it can surely be worth it. $100 million into unemployment benefits is not the same as $100 million into bridge repair, agreed?
As for you readers, what is your take on the stimulus bill? What would you like to see improved? I know I would like to see more infrastructure improvements (China has devoted $500 billion+ to just that!). What do you think of using fiscal policy to reverse the direction in which we are headed?
Give some comment love! I hope you enjoyed this weeks posts, I look forward to any comments you may have, and stay tuned for my comic in a few hours!
I'm MLR. After graduating from college debt free, I decided to write a blog encouraging people to adapt responsible and sensible personal finance rules.
March 9th, 2009 at 6:55 am |
great domain name for blog like this)))
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March 10th, 2009 at 1:39 am |
now in my rss reader
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May 13th, 2009 at 4:38 pm |
It would not be until the early 1940s, with the beginning of World War II, that a strong dose of Keynesian medicine was administered to the American economy. By 1942, total government spending as a share of the economy rose to 52 percent, and peaked at nearly 70 percent in 1944, when unemployment fell to 1 percent.”
Don’t you have to at least mention that WWII was a major factor in this? It wasn’t just government spending on roads and schools. It was a war.
rocketc’s last blog post..Ronald Reagan on National Healthcare
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May 13th, 2009 at 7:23 pm |
Rocket –
These arguments are silly because we are merely arguing that one side of the same coin is better.
The simple truth is this: Any politicians who have voted to run a deficit during good economic times are idiots. When the economy is good government spending needs to go down. Any politician who has voted to cut spending now is an even bigger idiot. When consumption and investment are down, it is the most important time to increase government spending.
Whether or not you agree how they are spending the money, you must first come to realize that the money should be spent. You seem to not understand that basic tenet of economics. GDP = C + I + G + (X-I).
If you can answer me how we can stabilize or increase GDP when C and I are down, then we can move forward in this conversation. If you come off with some political rhetoric, then this conversation is a lost cause.
MLR
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May 13th, 2009 at 10:34 pm |
By the way, if you remove WWII from your statement about Roosevelt’s policies, you will see that government spending did very little to decrease unemployment, among other things.
“If you can answer me how we can stabilize or increase GDP when C and I are down, then we can move forward in this conversation. If you come off with some political rhetoric, then this conversation is a lost cause.”
Because government does not really produce a product and it can only pay people money that it has either taken from current tax payers or borrowed from future tax payers.There are some easy ways to increase consumption and investment without increasing government spending:
Cut capital gains taxes = increase in investment
Cut corporate taxes = increase in employment
Cut social security taxes = increase in savings
Cut gasoline tax = increase in gasoline purchases
Cut property tax = increase in property investment
Cut sales tax = increase in sales
Cut income tax = increase in spending and savings and employment
Your formula is about to get a huge test over the next few years. If you are correct, we should now be entering one of the greatest boom economies that our nation has ever seen. Our government is printing and spending money like never before. President Obama is proposing to quadruple the record sized deficit that President Bush carried in 2008.
If your formula is right – let the good times roll!
rocketc’s last blog post..Ronald Reagan on National Healthcare
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May 13th, 2009 at 10:40 pm |
By the way, your presidential graph is interesting, but some parts might be misleading.
First, Congress controls the purse strings – Reagan dealt with a high spending Dem congress. Clinton had a low spending GOP congress.
Why didn’t you include more presidents?
Clinton inherited a recession from Bush 41, yet you are showing a low amount of spending during his presidency. Doesn’t that throw off your formula? How did we get out of that recession without an increase in Government spending?
Interesting that you left Kennedy off – he was a Dem who believed that government should cut taxes to grow the economy.
You are also showing a high rate of government spending for Johnson, Nixon and Ford – shouldn’t that mean that the 70’s and early 80’s were great economies?
rocketc’s last blog post..Ronald Reagan on National Healthcare
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May 13th, 2009 at 10:41 pm |
By the way, your presidential graph is interesting, but some parts might be misleading.
First, Congress controls the purse strings – Reagan dealt with a high spending Dem congress. Clinton had a low spending GOP congress.
Why didn’t you include more presidents?
Clinton inherited a recession from Bush 41, yet you are showing a low amount of spending during his presidency. Doesn’t that throw off your formula? How did we get out of that recession without an increase in Government spending?
Interesting that you left Kennedy off – he was a Dem who believed that government should cut taxes to grow the economy.
You are also showing a high rate of government spending for Johnson, Nixon and Ford – shouldn’t that mean that the 70’s and early 80’s were great economies?
The graph should be tied to who controlled Congress.
The graph does not include allowances for war spending.
rocketc’s last blog post..Ronald Reagan on National Healthcare
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May 13th, 2009 at 10:54 pm |
Cutting taxes does not have the same effect that increasing spending does, unfortunately.
This goes back to the original post:
-Tax multiplier = (Delta in taxes * -MPC) / (1 – MPC)
-Government spending multiplier = (Delta in government spending) / (1 – MPC)
-mpc = marginal propensity to consume
-If you set MPC to .7 and decrease taxes by $30,000,000 … output goes up to $70,000,000
-If you set MPC to .7 and take that same $30,000,000 and put it into government spending… output goes up to $100,000,000″ (The MPC has been set at .7 to account for easy math)
And just because he is increasing government spending doesn’t mean it will be a boom economy.
I said “Whether or not you agree how they are spending the money, you must first come to realize that the money should be spent.” Once you realize that the math fully supports the fact, then we can move on to more constructive discussions along the lines of: What should the money be spent on?
IMO, it needs to be invested in public goods that have a return on investment. The highways and bridges are in disrepair. Third-world nations are surpassing our technology infrastructure. These are all BIG problems that we need to focus on. And are those not two things that made our economy take leaps ahead of other countries? Public goods have a huge impact on private industry.
Too often people who are in favor or government spending are improperly labeled as wanting people to get on the government teet. That is not the case, at all. But then again, those same people usually don’t blink twice at corporate welfare. So, what can you do?
The funny thing is, unlike some people I have talked to, I actually change my opinion based on the circumstances. If you had asked me in 1995 if I was in favor of high government spending I would of said heck no!
Rocket — What do you think would be BENEFICIAL government spending? Please note: No one here is arguing that the government spending money should be handed out. Obama is doing that with some of the money, and that is unfortunate, but that does not change the argument that government spending (when done properly) is beneficial for an economy that is in a recession or depression.
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August 12th, 2009 at 1:50 pm |
Great site and nice article really like what its talking about, I will be linking back to your site from mine.
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November 5th, 2009 at 5:42 am |
It would not be until the early 1940s, with the beginning of World War II, that a strong dose of Keynesian medicine was administered to the American economy. By 1942, total government spending as a share of the economy rose to 52 percent, and peaked at nearly 70 percent in 1944, when unemployment fell to 1 percent.”
Don’t you have to at least mention that WWII was a major factor in this? It wasn’t just government spending on roads and schools. It was a war.
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February 12th, 2010 at 5:42 pm |
Yet another bailout. This article is spot on, so when will it end. So is the current leadership from the collective world governments is “Hey if we all print money together than none of us can get into trouble!”
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