Econ 101: Raising Keynes

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National Democrats have started trying to make political hay out John Boehner’s recent silliness.

Democrats are attacking House Minority Leader John Boehner for his comments to a Pittsburgh paper about how America is in “revolt” similar to 1776 and Wall Street reform is like “killing an ant” with a nuclear weapon.

Boehner also touched on the third rail of politics, claiming that Social Security should raise the retirement age to 70.

The Democratic Congressional Campaign Committee issued a statement blasting Boehner, as did the Democratic National Committee and Senate Majority Leader Harry Reid (D-Nev.). Operatives are blasting his statements to the Pittsburgh Tribune Review all over the blogosphere.

Whatever.  The type of people who are going to react strongly to anything said by Suntan John are generally already firmly in one camp or the other when it comes to political ideology.  More important, the idea that we are in a “revolt” similar to 1776 is one of the more laughably ridiculous things I’ve read in the last month, and any discussion about raising the retirement age that is being “blast[ed]…all over the blogosphere” are unlikely to reach the demographic who would respond most unfavorably to the idea.

Yet, as the article points out, Dems are all over these statements as “proof” that the GOP is out of touch with … something.

The irony here — and the part that really makes me feel like I am on some Quixotic quest — is that Dems, for whatever reason, are NOT seizing on a common GOP statement made by nearly every day by one Republican candidate or another that actually does demonstrate a fundamental lack of economic understanding.

Rep. John Boozman (R-Ark.) said “we need a national dialogue about how we make Social Security solvent” – but he wouldn’t touch Boehner’s words, saying he hadn’t read them and wasn’t familiar with the context.“When you look at the fact that we’re blessed that we’re living so much longer with fewer workers, because of those kind of things, I believe it’s going to take the president, both houses of Congress, the American people buying whatever we do,” Boozman said Tuesday.

Boozman, like much of his party, doesn’t plan to vote for the Democratic-led financial regulatory overhaul bill, and seemed to indicate that he agreed with Boehner that it was heavy handed.

“I think at a time when the economy is suffering so greatly, why do you pass bill after bill that seems to create even more uncertainty in the economy,” Boozman said. “Why do you pass bills that are job killers?”

He hedged on Boehner’s 1776 likening, saying he was unfamiliar with the context of the interview, but agreed with the outrage.

“People throughout the country are scared,” Boozman said. “It’s jobs, jobs, jobs, they’re concerned about their jobs, they’re concerned about spending, about Greece, about the situation in Europe, they can see what the increased in social spending will do people are very, very upset.”

GAH! THE STUPID!! IT BURNS!!!

/mild freakout

Seriously, though, imagine if, nearly every single day, someone from a self-identifying group said publicly that the only way to improve America’s educational rank compared to the rest of the world was to shut down all post-secondary institutions?1 No one with any sense would take that seriously, would they?

Well, while it may not be as self-evident as the “close the schools” example above, cutting government spending in the current economic climate would have similarly deleterious effects. Yet Democrats say nothing. It’s almost as if no one has the courage to explain why it would be bad. Thankfully, I am not running for office, and I share no such concerns.

Consumer spending comprises 2/3 of all spending in the US. When jobs are lost and wages are cut, such as is happening right now, this spending slows, if not stops entirely. When this spending stops, demand for products falls as well (of course), meaning that companies have less income. This fall in company income triggers further need for wage decreases and/or job cutting, exacerbating the whole problem.

With almost no money coming from the private sector, if the government also stops spending at this time, then there is no money flow, period. Money flow is like oil for an engine, and as soon as the oil runs dry, the engine ceases to function. For this reason, the government should practice countercyclical fiscal policy — deficit spending when the economy is in recession or when unemployment remains high and economic recovery is slow, and increasing taxes or cutting government spending when the economy is strong as a means to save for the next rainy day and to stanch inflation.

Keynesian theorists advocate government involvement as a means to solve economic problems in the short term rather than waiting for the Republican’s panacea of choice, the “free market,” to solve problems in the long run. After all, noted Keynes, “in the long run, we are all dead.”

As I said earlier, this approach is not self-evident for most people, as it is somewhat counterintuitive. The Republicans, either knowingly or by fortuitous accident, are exploiting the public’s knowledge gap and are literally benefiting politically by suggesting a “solution” that would make the problem worse.

While explaining this idea in a 30-second commercial might not be feasible, I see no reason why Democrats couldn’t mention in speeches or via press releases. You’re not explaining the CERN Large Hadron Collider here; you’re simply explaining why government spending now is good for the economy. As an added bonus, it lets you segue into pointing to the stimulus package, which Republicans are trying to use against, as examples where government spending helped.

The anti-Washington sentiment both in Arkansas and nationwide is making life hard enough for Democrats. Let’s not let Republicans make it that much harder through misinformation.

UPDATE: The New York Times has a similar story today, and it draws some more direct conclusions re: the dangers of cutting spending.

The policy mistakes of the 1930s stemmed mostly from ignorance. John Maynard Keynes was still a practicing economist in those days, and his central insight about depressions — that governments need to spend when the private sector isn’t — was not widely understood. In the 1932 presidential campaign, Franklin D. Roosevelt vowed to outdo Herbert Hoover by balancing the budget. Much of Europe was also tightening at the time.

If anything, the initial stages of our own recent crisis were more severe than the Great Depression. Global trade, industrial production and stocks all dropped more in 2008-9 than in 1929-30, as a study by Barry Eichengreen and Kevin H. O’Rourke found.

In 2008, though, policy makers in most countries knew to act aggressively. The Federal Reserve and other central banks flooded the world with cheap money. The United States, China, Japan and, to a lesser extent, Europe, increased spending and cut taxes.

It worked. By early last year, within six months of the collapse of Lehman Brothers, economies were starting to recover.

The recovery has continued this year, and it has the potential to create a virtuous cycle. Higher profits and incomes can lead to more spending — and yet higher profits and incomes. Government stimulus, in that case, would no longer be necessary.

An internal memo from White House economists to other senior aides last week noted that policy makers “necessarily tend to focus on the impediments to recovery.” But, the memo argued, the economy’s strengths, like exports and manufacturing, “more than make up for continued areas of weakness, like housing and commercial real estate.”

That optimistic take, however, is more debatable today than it would have been a month or two ago.

As is often the case after a financial crisis, this recovery is turning out to be a choppy one. Companies kept increasing pay and hours last month, for example, but did little new hiring. On Tuesday, the Conference Board reported that consumer confidence fell sharply this month.

And just as households and businesses are becoming skittish, governments are getting ready to let stimulus programs expire, the equivalent of cutting spending and raising taxes. The Senate has so far refused to pass a bill that would extend unemployment insurance or send aid to ailing state governments. Goldman Sachs economists this week described the Senate’s inaction as “an increasingly important risk to growth.”

The parallels to 1937 are not reassuring. From 1933 to 1937, the United States economy expanded more than 40 percent, even surpassing its 1929 high. But the recovery was still not durable enough to survive Roosevelt’s spending cuts and new Social Security tax. In 1938, the economy shrank 3.4 percent, and unemployment spiked.

Given this history, why would policy makers want to put on another fiscal hair shirt today?

1 If it were a Republican recommending this “solution,” I imagine that there would be something about “…other than those affiliated with Christian churches” in there.