This post examines practical reasons for the failure of “stimulus” to stimulate and the “multiplier” to multiply. The deeper truth is that the Keynesian multiplier is a mathematical fiction, as explained here, and government spending is in fact destructive of economic growth, as discussed here and in some of the posts listed at the end.
I spell out the reasons in “A Keynesian Fantasy Land.” There are six of them, including the timing-targeting problem (number 3).
[In an earlier version of this post, I also mentioned Ricardian equivalence, which is an aspect of reason number 2, the disincentivizing aspects of government borrowing and spending. I referred to a post by Steven Landsburg, which I had read hastily and misinterpreted as a discussion of Ricardian equivalence. When Dr. Landsburg graciously pointed out that I had the wrong end of the stick, I deleted the brief discussion of Ricardian equivalence from this post.]
A key component of the timing-targeting problem is the strong possibility that “stimulus” money will be spent on already-employed resources, thus bidding up their prices but doing little or nothing to stimulate real economic activity. Tyler Cowen recaps two papers that document the misdirection of “stimulus” money:
My colleagues Garett Jones and Daniel Rothschild conducted extensive field research (interviewing 85 organizations receiving stimulus funds, in five regions), asking simple questions such as whether the hired project workers already had had jobs. There are lots of relevant details in the paper but here is one punchline:
…hiring people from unemployment was more the exception than the rule in our interviews.
In a related paper by the same authors (read them both), here is more:
Hiring isn’t the same as net job creation. In our survey, just 42.1 percent of the workers hired at ARRA-receiving organizations after January 31, 2009, were unemployed at the time they were hired (Appendix C). More were hired directly from other organizations (47.3 percent of post-ARRA workers), while a handful came from school (6.5%) or from outside the labor force (4.1%)(Figure 2).
One major problem with ARRA was not the crowding out of financial capital but rather the crowding out of labor. In the first paper there is also a discussion of how the stimulus job numbers were generated, how unreliable they are, and how stimulus recipients sometimes had an incentive to claim job creation where none was present. Many of the created jobs involved hiring people back from retirement. You can tell a story about how hiring the already employed opened up other jobs for the unemployed, but it’s just that — a story. I don’t think it is what happened in most cases, rather firms ended up getting by with fewer workers.
There’s also evidence of government funds chasing after the same set of skilled and already busy firms. For at least a third of the surveyed firms receiving stimulus funds, their experience failed to fit important aspects of the Keynesian model.
The Keynesian model is deeply flawed because it is a simplistic model based on simplistic assumptions about the behavior of human beings and human institutions. I say in “A Keynesian Fantasy Land,” models are supposed to mirror reality, not the other way around. The Keynesian model — or the version embraced by Paul Krugman and his fellow leftists — is a version of the reality that they would prefer: a reality in which government runs the economy.
The Causes of Economic Growth
A Short Course in Economics
Addendum to a Short Course in Economics
The Indivisibility of Economic and Social Liberty
The Price of Government
The Fed and Business Cycles
The Price of Government Redux
Ricardian Equivalence Reconsidered
The Real Burden of Government
Toward a Risk-Free Economy
The Rahn Curve at Work
How the Great Depression Ended
Microeconomics and Macroeconomics
The Illusion of Prosperity and Stability
Experts and the Economy
We’re from the Government and We’re Here to Help You
Estimating the Rahn Curve: Or, How Government Inhibits Economic Growth
Our Enemy, the State
Competition Shouldn’t Be a Dirty Word
The Stagnation Thesis
The Evil That Is Done with Good Intentions
Money, Credit, and Economic Fluctuations
A Keynesian Fantasy Land
“Tax Expenditures” Are Not Expenditures
The Keynesian Fallacy and Regime Uncertainty