Sunday, September 4, 2011

The Economy - the question of what to do

This morning I went to the Star & Tribune to find out how the Gopher football team did against USC.  Reading sports columnist Joe Souhan I naturally got political opinion: “Congress might want to take a few notes about quickly making good decisions.”  Behold the idiotic notion that it is only politics that keeps good things from happening right away.

The nub of course is “good decisions.”  What eludes Souhan is that what constitutes a good decision my not be obvious or shared by everyone; case in point, stimulus spending to drag an economy out of a recession.  If you are roughly my age, you’ve been fully drilled in this view, but as noted elsewhere on this blog, Keynesianism is premised on too much saving while our current predicament is too much debt. 

Then there is the question of whether Keynes’ solution really was the miracle cure of the last depression.  Arthur Herman’s piece in The Weekly Standard makes you wonder.  Herman takes a look at World War II—“the ultimate stimulus”—and points out how the economic data doesn’t quite support the deficit spending myth.  Economist Robert Barro states that “the data show that output expanded during World War Two by less than the increase in military purchases.”  If you read the piece you’re struck not by how government spending lifted the economy out of depression but rather how the story follows Bastiat’s broken windows fallacy, that you can grow an economy by breaking things because people will be employing in fixing them.

What is particularly illuminating is the post war boom and the reduction in government spending that went with it.  By Keynesian logic this should have led to contraction not expansion.
This postwar boom has always posed a problem for Keynesians like Krugman. As government spending plummeted with the coming of peace— military spending alone collapsed from 37.5 percent of GDP in 1945 to just 5.5 percent in 1947—many predicted that, without this prop and with the new burden of millions of returning veterans looking for work, the economy would sink once more into the abyss. Paul Samuelson, later the dean of American Keynesian economists, wrote that unless the government did something drastic, “there would be ushered in the greatest period of unemployment and industrial dislocation which any economy has ever faced.”
Instead, after a brief hiccup in 1946, the economy rebounded, growing from $231 billion GDP in 1947—roughly what it was in 1945—to $258 billion in 1948, and from there to $285 billion in 1950. Unemployment, despite the dire predictions, increased only to 3.9 percent between 1945 and 1947, in spite of the fact that some 10 million new workers came into the civilian labor market
Herman argues that what caused the boom was business investment, the very same thing that went in decline as America prepared for and went into war.  “Instead, the biggest trigger to growth turns out to have been a sharp rise in private capital investment, which the New Deal had slowed—one reason the Great Depression lingered as long as it did, Higgs argues—and the war had all but halted. That investment jumped from $10.6 billion in 1945 to $46 billion in 1948, as plants expanded and retooled for the production of civilian goods. Even though the overall personal savings rate fell, the private investment rate soared from 5 percent to almost 18 percent, with the biggest leap coming in 1946—a leap that would be reflected in GNP numbers only two years later. Meanwhile, business savings almost doubled in the same period, from $15.1 billion to $28 billion—providing a sure way to finance expansion and hiring.”

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