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So Where Is Obama’s Keynesian Multiplier?

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Last year, Congressional Democrats and White House economic advisers justified their huge $787 billion spending “stimulus” by asserting that a Keynesian multiplier would boost growth and reduce unemployment.  But, like weapons of mass destruction in Iraq, no multiplier has been found.  At 9.5 per cent, U.S. unemployment is higher now than the White House forecast it would be if it had done nothing.  John Maynard Keynes must be rolling in his grave as his economic theories from the 1930s are seemingly being tested and repudiated. 

Spend, spend, spend

Spend, spend, spend

Still, this doesn’t stop the White House team from claiming that the economic equivalent of weapons of mass destruction are actually all around them.  Christina Romer, Chair of the Council of Economic Advisers to President Obama, claimed yesterday that the stimulus has “created or saved” 2.5 million – 3.6 million jobs. 

To come to this conclusion, the White House uses modeling and statistical projections that are reliant on assumptions and input data.  In other words, they are not actual figures.  “By this estimate, the Recovery Act has met the President’s goal of saving or creating 3.5 million jobs — two quarters earlier than anticipated,” she said.  George Orwell’s “newspeak”, in which officials make proclamations that ignore the facts, is alive and well in Washington, DC.

Keynes’ theories from the 1930s have been critiqued over the years and the general consensus today is that increases in government spending, paid for by borrowing or taxation, offset or “crowd out” private investment.  Since governments are less efficient at spending money – they lack the profit motive of private enterprise – this tends to cause a net reduction in productive economic activity.

Unemployment in the late 1920s and early 1930s carried huge social costs.  Keynes tried to understand why economic activity was not increasing when such large numbers of unemployed were willing to work.  He believed that in the absence of private investment, government could stimulate demand by paying these idle workers to undertake productive projects. 

Fast forward to modern times, where Keynes would have immediately realized that the problem that caused the financial crisis in the U.S. in late 2008 was structural.  In the name of providing affordable housing, lenders had been compelled by Congress to provide mortgages to people who otherwise would not have qualified for them – a market distortion – and had packaged these loans and sold them on as mortgage-backed securities to spread the financial risk.  The biggest players in this market, Fannie Mae and Freddie Mac, were implicitly backed by the U.S. government, giving investors confidence that their financial transactions were secure.  The result was falling house prices, loan defaults and failing banks. 

As an expert on structural economic issues, Keynes would have seen the need to correct this obvious problem, in much the same way that he was the catalyst for the establishment of fixed exchange rates after World War Two.  He believed that uncertainty was a key cause of economic problems.   

Keynes would also have pointed out the differences between the unemployment rate of around 6 per cent in 2009, when the so-called stimulus was passed by Congress, and the long-term unemployment rate of 20 per cent and more during the 1920s and 1930s.  This difference is all the more stark given the change in the jobs market over the last eighty years, where the much larger numbers of skilled workers today find it difficult to transfer between sectors of the economy. 

Keynes would also have been dismayed that the bulk of the stimulus money went to non-productive ends, such as providing social benefits, and on yet more market distortions such as investments in “green” energy.  Keynes had little faith in socialists being able to run economic policy intelligently, writing of Britain’s Labour Party that, “too much will always be decided by those who do not know at all what they are talking about”. 

Keynes believed governments could act as intelligent manipulators of economies, increasing and decreasing demand, investment and savings.  His legacy is that a swathe of politicians from Europe to America and beyond have taken to spending money on social programs, which they incorrectly call “investments”.  Experience has shown that this government manipulation model creates its own uncertainties through inflation and market distortions.  The financial crisis of 2008 and the lack of investment in America today are clear examples of the latter. 

Would Keynes have supported the supposedly “Keynesian” economic policies of Barack Obama and this Democratic Congress?  The answer is almost certainly “no”.   Sixty-four years after his death, it is shocking that so many in the political elite have put their own interpretations on his writings and invoke his name simply to justify profligate spending.

4 Comments add one

  1. JoeB says:

    Someone needs to send President Obama a copy of Milton Friedman’s book “Free to Choose.” The theories of Friedman are the antithesis to Keynes’. This video featuring Dr. Friedman documents the rise of the government welfare state and is eerily prescient of where we find ourselves today. http://video.google.com/videoplay?docid=5374242425247995227&q=Milton+Friedman+Free+to+choose+duration%3Along&total=15&start=10&num=10&so=0&type=search&plindex=0#
    One key element of today’s economy that wasn’t present in the 30s is the huge public sector unions. These unions hold huge sway within the Democratic Party and have been a key force in expanding the role of the government. I’m curious how many of the jobs supposedly created or saved were public sector jobs.
    The rise of Tea Party is a manifestation of the frustration that the middle class is feeling from the burden of high taxes that don’t result in an enhancement in their standard of living.

  2. Dancer says:

    The models the Obama Administration use are similar to the “global warming” models – pure conjecture! You’ve convinced me that Keynes is being used to justify very bad fiscal and economic behavior!

  3. Boz says:

    “In the name of providing affordable housing, lenders had been compelled by Congress to provide mortgages to people who otherwise would not have qualified for them – a market distortion – and had packaged these loans and sold them on as mortgage-backed securities to spread the financial risk.” Wasn’t this a Clinton policy initiative? Not the repackaging of course, which was the markets’ move to offload politically inspired potential (and actual) bad debt. It just shows that social engineering with fiscal bullying can produce a situation worse than the starting point. Has the successor Democrat President picked up on this point?

  4. Gavino says:

    Great comments. Perhaps we should start a campaign to get people from all around the world to send copies of Free to Choose to the president for Christmas. Not that he celebrates Christmas, of course… Bill Clinton reduced the level of capital Fannie and Freddie needed relative to loans AND required half of their mortages to be for low and moderate income families. President Bush tried to regulate them in 2005 with the support of Greenspan who warned that they posed a risk to the global financial system. The Dems said no. (See The Great Money Binge by George Melloan for a detailed account). The new financial bill doesn’t address Fannie and Freddie.