The View From 1776

A thoughtful reader, who generally disagrees with me, posted the following as part of his comment responding to The Bigger the Government, the Harder the Economic Fall:

I must confess that I find your “mysticism” explanation of how business cycles occur somewhat baffling, but knowing your anti-Keynesian viewpoint, I should not be surprised that you view any governmental pump priming with suspicion.

According to the butterfly effect, any seemingly insignificant action will have a cascading effect and invariably lead to a chain of events elsewhere.  How much more telling would the expenditure (whether you approve or not) of billions of dollars be to the economy than the flutter of the wing of a moth?

My response:

I can’t presume to speak for the reader’s views, but liberal-progressives on balance advocate the Keynesian macro-economic approach, a variety of chaos-theory, butterfly effect, which appears to me to be simplistic. 

Keynes wrote that any government expenditure will stimulate the economy.  The example most often cited by opponents was Keynes’s contention that it would work satisfactorily to pay men to dig holes, then to refill them the next day, and re-dig them on the third day, refill them, etc., ad infinitum.

That is the approach embodied in the Democrat/Socialist stimulus bill, the vast part of which goes, not directly to employing workers on new jobs, but into funding for existing activities.  Much of it funds state government revenue shortfalls.  In western New York where I live, for example, the state has undertaken few, if any, new projects.  The Federal stimulus funds have been used for road and bridge repair work that was scheduled before passage of the stimulus bill.  Some new road crew hiring has resulted, but mostly the effect is only to change the source of funding.

Liberal-progressives subscribe to such spending as an economic stimulus, but, at the same time, sneer at tax cuts as “trickle down” economics.  Apparently “trickle down” is acceptable economics when it’s collectivized spending for anything from an all-but-empty John Murtha airport to promotion of abortion and voter registration fraud by ACORN.

The implicit paradigm is that consumption is a single “thing” that can be arbitrarily augmented, fine-tuned, or curtailed by government spending programs and by the Federal Reserve’s Open Market Committee with its hands on the fiat money spigot.  Liberal-progressive Keynesian devotees, in effect, subscribe to a Pavlovian concept of conditioned response: government regulations and welfare-state programs can be relied upon to train an abstraction called “the public” to respond to whatever bells the elite decide to ring.

In contrast, my view is largely in conformity with the Austrian school of economics, exemplified by Friedrich von Hayek.  Compared to Keynesian economic-class abstractionism, Austrian economics is individualistic to a polar opposite degree.  Austrian economists focus on how a huge panoply of very different individuals most likely will react to changing economic conditions, each individual making his own calculation regarding his self interests, based on a continually changing kaleidoscope of prices in the free marketplace. 

Businessmen and individuals do not all respond in the same way to government spending.  Business men, in particular, look a bit farther down the road than the next few months of promised new Federal spending.  They must assess future years’ cost impacts of higher taxes, new regulations, and Federal pressure to worship Al Gore’s gospel of global warming.

Short-term government stimulus spending has different impacts on employers in retail businesses who sell directly to final consumers, compared to intermediate goods producers, wholesalers, and transportation companies, as well as to capital goods producers, who make the equipment need by intermediate goods producers to turn out consumer products.

Each of those sectors has a different time horizon for hiring new workers and for augmenting production capacity.  At one extreme are oil refineries and steel mills that can be brought on stream only after many years of planning and haggling with environmental authorities.  At the opposite extreme is the mom and pop retailer who, as certain products are sold out, has only to call a wholesaler for next-day delivery.

The capital goods producer like Ford or Exxon must invest billions of dollars to build new manufacturing, refining, or mining and extraction facilities.  Those invested dollars must be recaptured via profits, generally over a 20-year period.  A short-term government stimulus program will have no measurable effect upon them.  What will have a big effect is the prospect of higher taxes and higher inflation created by Federal spending and Federal Reserve money creation.  Over the longer periods needed to amortize large new production plant costs, taxes and inflation can turn a present-day profitable investment into a long-term loser.

The result is that large manufacturers often are compelled to invest in new production overseas, where taxes and labor costs are lower.

To some extent, a government stimulus program in the short run will move existing goods off retailers’ shelves, but that doesn’t require hiring new workers.  Most businessmen that I have known would not hire new workers or re-hire laid-off workers in response to stimulus spending that they know will end in the relatively near future.  If demand for their products temporarily blips upward, they will simply add hours to work weeks of existing employees and find new and more efficient ways to increase production with the same number of employees.  This last, according to recent Federal Reserve business surveys, is precisely what is occurring and why productivity per man hour has risen measurably in recent months.  Higher productivity per worker increases business profits, even as sales volumes continue to disappoint, but does nothing to stop worker layoffs or to create new jobs.

Until individual and business savings return to levels sufficient to support long-term investment and consumer expenditures without credit card debt, businesses and consumers are likely to hold down spending, no matter what the Federal government spends on pork-barrel stimulus projects.  For the near term at least, business and individuals have learned their lesson about limitless spending with borrowed money, even though the Federal government has not.

We haven’t hit bottom yet.  Workers are still being laid off.  Businesses and consumers are still paying off debt. 

This is a far cry from Paul Krugman’s and President Obama’s promises about the magical effect of the largest pork-barrel stimulus bill in world history.