The Keynesian Fallacy Explained Simply
The NCPA publishes short synopses in a "Daily Policy Digest" like this latest one from author Richard McKenzie's disembowelment of Keynes.
The basic Keynesian stimulus argument goes something like this: If the federal government engages in deficit spending during a recession, the added government expenditures (unaccompanied by tax increases) will boost "aggregate demand." Greater federal spending on a road, for instance, will create jobs for construction workers, who can then spend their additional income on, say, bread. Bakers now will have more to spend on, say, cars and so on, says Richard B. McKenzie, a professor in the Merage School of Business at the University of California, Irvine.
National income stimulated by the initial government road project can grow by some multiple of the expenditure, Keynes' theory says. A stimulus package (and budget deficit) of $1 trillion would morph into a minimum of $1.5 trillion in additional national income -- maybe even into $4 trillion or $10 trillion.
But if it sounds too good to be true, it is, says McKenzie.
* If such income growth were possible, the country would be awash in prosperity, given that the federal government increased the national debt by $1.88 trillion in fiscal 2009 and could run deficits of $1.6 trillion and $1.3 trillion in fiscal 2010 and 2011, respectively.
* Between 2012 and 2015 it will add at least another $3 trillion to the national debt.
As economist Milton Friedman observed, when the government engages in deficit spending, it must borrow the extra funds from someone who could have spent them on private-sector projects. Thus, an increase in government spending could be totally offset by a decrease in private spending, as lendable funds are diverted from private to government uses. The net effect can be no net increase in aggregate demand -- and no multiplier effect. Indeed, with the inevitable waste in government stimulus projects, the multiplier effect could as easily be negative as positive, says McKenzie.
Source: Richard B. McKenzie, "John Maynard Keynes, R.I.P.," Freeman, October 2010.
Or to phrase it in Wizard of OZ language, "Pay no attention to the theft victim behind the curtain."
As economist Milton Friedman observed, when the government engages in deficit spending, it must borrow the extra funds from someone who could have spent them on private-sector projects. Thus, an increase in government spending could be totally offset by a decrease in private spending, as lendable funds are diverted from private to government uses
ReplyDeleteFriedman was wrong.
If the private sector were engaging in sufficient investment to return an economy to equilibrium then the recessions would have ended rapidly.
All you have to do is look at Ireland to see how fallacious is the view that austerity leads to growth:
http://socialdemocracy21stcentury.blogspot.com/2010/09/irelands-sham-recovery-gnp-versus-gdp.html
Also, the "treasury view" (that deficit spending crowds out private investment) is doubly inapplicable to a fiat money economy, because the central bank can increase the supply of loanable funds anyway by open market operations.
Yes, the standard protocol is to blame the private sector for not playing along. That's why your command economy wet dream doesn't work. You try to replace the invisible hand with a robotic one because you don't think the invisible one plays fair enough. However we don't even know the rules which apply to the artificial one. So we'll sit on our cash, or even better, we'll buy gold for awhile. Keep on dreaming, "Lord".
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