It is by no means universally accepted that governments should engage in deficit spending in recessions to boost the economy.
It is not that long ago that Keynes was widely discredited by most economists. Hell, even Keynes stopped believing in stimulative spending to smooth the business cycle. He came to believe that spending could not be timed quickly enough to work as a counter-cyclical force.
The only reason Keynes was resurrected this time around was because the accepted way to fight the recession - through monetary policy - ran out of bullets. With interest rates at zero, it was felt that there was nowhere left to go. And since politicians get elected on a platform to ‘do something’ about the recession, they glommed on to Keynesian stimulus as their plan, and found enough economists (including some good ones) who agreed that trying it is better than nothing.
But there is plenty of opposition. I can give you a list of Nobel prize-winning economists who are dead set against this. So, saying that some Republicans are ‘stupid’ for not accepting the correctness of stimulative policy is, well… stupid.
Anyway, let’s look at how the grand plan is working out so far. Christina Romer, the economist on Obama’s staff who led the plan for the stimulus, made some hard predictions for what would happen with and without the stimulus. So far, the first data points show her predictions to be utterly wrong. Unemployment is far higher than she said it would be. It’s even higher than her model showed for the non-stimulus case. The Presidential budget’s prediction for GDP growth with the stimulus is so far completely off the mark.
But what about the vaunted multiplier? For the stimulus to make any kind of sense, you absolutely need that multiplier to be 1.4 or 1.5. So far, it looks like it’s going the other way. As of today, very little of the stimulus money has had any effect. But the higher deficits to pay for it HAVE had an effect - a bad one. The bond markets are reacting to the demand for so much debt financing by pushing up yields. This has raised the cost of mortgages already by .25%. Just last week after the last round of treasury auctions long bonds went up another 18 basis points. This is going to hurt the economy NOW, while it’s in recession. And the government’s spending stimulus may start to show up as the economy is starting to recover on its own, which could cause price distortions and even contribute to another bubble.
In the meantime, the debt that’s being racked up by this is going to eat up an additional 10% of EVERY budget until it is paid back - and no one knows how to pay it back. The rich can’t be taxed enough to pay it back. So from here on in, in perpituity, interest on Obama’s first four years is going to cost Americans 10% of every tax dollar. How do you think that will help long-term economic growth?
Another bad effect is inflation. One way the government has been keeping yields down on the treasury notes has been to buy them back by printing more money - monetizing the debt. This is almost certain to translate into inflation once the economy starts to recover, which could in turn lead to a double dip recession.
Finally, the third way in which the stimulus can backfire is that money that would have been invested today, when it’s needed, sits on the sidelines while investors wait for stimulus money. There’s evidence that this is happening in a number of areas. Why start a project now and pay 100%, when you can start it in a year and get the government to kick in for half?
None of these problems were unforseen. The opponents of the stimulus have been predicting this all along. And so far, they’re looking more correct than Obama’s economic team is.
Far from being an economic certainty, Obama’s stimulus plan is really a very risky swing for the fences. Anyone who thinks this was the only reasonable course of action hasn’t been following the debate very well.