The rush to stimulus

Recently:

• economic indicators worsening
  
• unemployment at the highest level in 16 years
  

John Cochrane, a professor at the University of Chicago Booth School of Business, says that among academics over the last 30 years, the idea of fiscal stimulus has been discredited and in graduate courses, it is "taught only for its fallacies."

New York University economist Thomas Sargent agrees: "The calculations that I have seen supporting the stimulus package are back-of-the-envelope ones that ignore what we have learned in the last 60 years of macroeconomic research."

The cost of the plan is also scary. Supporters of fiscal stimulus are correct in saying that if it shortens the recession, it would more than pay for itself. Unfortunately, no one knows for sure if it would.

The stimulus rush

January 13, 2009

In recent weeks, just about every economic indicator has gone from bad to worse—the latest being unemployment, which is now at the highest level in 16 years. Most forecasters think the recession that began more than a year ago will last at least through spring. So it's no surprise that President-elect Barack Obama and his economic team have offered a $775 billion fiscal stimulus package to jolt the economy back to health. But just because the incoming administration and the public are eager for a remedy doesn't mean this one will work.

From the public debate on the need for fiscal stimulus, you would think the only open question is what form it should take. In fact, among economists, there is a good deal of uncertainty and doubt over whether fiscal policy holds much promise.

John Cochrane, a professor at the University of Chicago Booth School of Business, says that among academics over the last 30 years, the idea of fiscal stimulus has been discredited and in graduate courses, it is "taught only for its fallacies."

New York University economist Thomas Sargent agrees: "The calculations that I have seen supporting the stimulus package are back-of-the-envelope ones that ignore what we have learned in the last 60 years of macroeconomic research."

Nobel Laureate Gary Becker says any benefits will be modest at best.

For the government to finance infrastructure spending or tax cuts, it has to borrow money. The money is thus unavailable for private investment or consumption. Right now, companies and individuals are having trouble getting credit, which is a big reason for the downturn. But if the government borrows more, they will have an even harder time finding lenders. So the effort could be self-defeating.

The cost of the plan is also scary. Supporters of fiscal stimulus are correct in saying that if it shortens the recession, it would more than pay for itself. Unfortunately, no one knows for sure if it would. Given a choice between a severe contraction and a one-time boost in the budget deficit, the latter would obviously be preferable—not to mention better for the long-run fiscal outlook. The danger, though, is that we may inflict on future taxpayers the better part of a trillion dollars in new debt without actually hastening recovery.

So the burden is on the incoming administration to show 1) that fiscal stimulus has a good chance of paying off and 2) that the spending will be done wisely. It's not easy to spend such large sums quickly, and trying to do so carries the risk of wasteful outlays that don't improve the long-run strength of the economy—and may undermine it. If there are sound, cost-effective projects waiting to be started, it makes sense to start them sooner rather than later. Costly boondoggles, however, are a bad deal any time.

Right now, a lot of advocates are in a big hurry to dispense with the questions about fiscal stimulus and get on with it. But rushing to your destination won't help unless you know you're on the right road.

Copyright © 2009, Chicago Tribune