In an essay in Commentary James Pethokoukis seems to endorse New Keynesian economic models
“New Keynesian” models, like one used by the European Central Bank, sought to incorporate [permanent income effects] and predicted that the Obama stimulus would have just a fraction of the impact estimated by Romer and other White House economists. Instead of creating 3 million jobs, perhaps the actual total was 600,000, or about $1 million a job (assuming approximately 80 percent of the stimulus has been distributed.) That would mean the job growth that has occurred has been mostly a result of the natural recovery of the economy.
Such estimates sure seem to better reflect the miserable reality of the past two and a half years than what the White House is selling. The anti-stimulus models also imply that for the Recovery Act to have had the impact Obama sought, it would have needed to be six times larger, or roughly $5 trillion in borrowed money.
So I haven’t cracked open the ECB model and maybe it has one-to-one Ricardian Equivalence with no liquidity constraints at all. That means that households would have simply saved all of the temporary tax cuts and spent none of them.
In an economy in the midst of a credit crisis that seems unlikely, but I want to focus on another one of James’s points: we would have need “$5 Trillion in borrowed money.”
He says it like it’s a bad thing but my response is: so what?
Either way you slice it we have a good deal. If we had enacted $5 Trillion in tax cuts and every bit of it was saved then the total liability that US households face would not have changed.
They would owe more in future taxes but they would be able to pay down their mortgages and other debts. And, that is a net plus because the rate at which the government borrows is much lower than subprime mortgage rates and indeed currently negative in real terms.
Having the government basically arbitrage the public-private spread is a net win for US households.
On top of that I think it likely that some households who didn’t have crushing debt burdens would have taken advantage of the flood of foreclosed homes, cut rates on hotel rooms and dealer mark downs on new cars to get some really great deals.
That would have been good for those well positioned households and good for the US economy which was facing a flood of foreclosed homes, empty hotel rooms and autos piling up on dealer lots.
It would have been good for those less well positioned households because they could have paid down their debt.
The price would be higher future taxes later but with the government paying such low interest rates the real costs of those future taxes would have been smaller than the taxes that were cut.
Moreover, the United States could have potentially avoided the devastating effects of a long term balance sheet recession.
Now astute readers will note that higher tax rates in the future produce disproportionately higher excess burdens. My simple quip – courtesy of Jim Tobin - is that it takes a heap of Harberger Triangles to fill an Okun’s gap.
The larger point is that if the taxes were repaid over time, from a larger base and under low and potentially negative interest rates the country could come out ahead in pure dollar terms, not even counting the reduction in suffering that would have occurred from a lighter and shorter recession.

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Sunday ~ September 18th, 2011 at 4:24 am
Rick Russell
Economic analysis after midnight? Go to sleep, my friend.
Oh, right. The baby. Analyze all night, my friend!
Sunday ~ September 18th, 2011 at 11:06 am
Curt Doolittle
That’s why Galbraith, before he died, me, and a few others recommended paying down mortgages directly with the trillions of available cheap debt.
The “demand story” that you keep referencing in your postings regarding the differences in the size of the boom and recession, is quite simple: that appreciation of home values affects such a vast number of households, that they all spend, even though the actual homebuilding sector is relatively small. Homeowners didn’t feel irrationally wealthy because of prices or credit — but because they believed that they had more income or savings to spend. That’s why the boom and bust has been asymmetrical. Now, after the bust, they think they are poorer than they expected to be. And it affected their retirement plans and calculations. So yes, the shrinkage of the economy has been vast. More so than any suggested stimulus so far will accomplish. And paying down mortgages would have the side benefit that it would not have expanded any of the negative sectors of the state and it’s extra-market allies. Which your recommended stimulus methods DO. Which is why the public won’t tolerate them. The public would have had a frenzy repricing if we had paid down mortgages. Pay down mortgages and refinance them at today’s prices.
Of course, I recommended all this when it started. Because, as Austrians we use analysis of individual actions. We recognize that patterns of sustainable specialization and trade – recalculation – must eventually reflect some global reality, while at the same time we also realize that digging holes is actually pretty wasteful of all the potential human capital that would be created by people actually working on internationally competitive sectors, while also aware that digging holes is wasteful of possible returns on investment. (THe pyramids were a great investment.) And because, I do recognize, as do the NK’s, that it is hard to get people ‘swarm’ irrationally, but when they do swarm irrationally to certain things (becoming property owners) the externalities that are caused are ‘good’. Whereas the externalities caused by expansion of the state are ‘bads’.
And we were right to recommend this ‘stimulus’. Absolutely right. For the reasons you’re stating now – in retrospect.
It’s not that we cant still do it. People would become emotionally excited and therefore ACTION ORIENTED at the opportunity. It would create the impression of wealth far beyond any institutional stimulus – and it would not expand government – something that the people do not want to pay for.
If we combined direct mortgage pay-downs (maybe 2 Trillion?) with some form of credit towards home ownership for anyone who has lost a home, (using stricter lending requirements), with investments in energy production (nuclear plants), a new power grid, and roads, we would alter the economy rapidly in just months.
The people would prefer to live in hardship rather than expand the state that they do not trust. The question remains whether you
There are only two people who make rational arguments on the ‘left’. They’re you and Krugman. We all know he’s a political shill. I’m in the camp that says you’re a moral man, and just missing the point of it all. But if you don’t understand the disastrous externalities created by our statism (re: Nial Ferguson, Rothbard, Mises, and Hayek), then it may not matter if you are a moral man or not. The time frame of data that you mine so carefully (and so well) is too short to incorporate the consequences of long term expansion of the state. Only history will show you that. And the history of political economy is pretty clear on these matters.
On my side of the fence, we’ve given up on Krugman. Myself, I’m looking for the people who unify the two points of view – who use macro without the disastrous externalities of expanding the state. You might be that man. On the other hand, I might just have false hopes. It might be impossible to find someone who can put out a daily column in a major newspaper uniting both sides and creating a political movement that gets us out of permanent political decline.
Someone emailed me yesterday to lighten up on you. I would. But the stakes are too high. I have hope that you’re “neo” so to speak.
You are articulate enough. You’re skeptical enough. You’re fast enough. You’re humble enough. You understand the data. And you rely upon moral sentiments. A decent editor and you’re there.
Or rather, you’re there if you understand that the state bureaucracy creates ‘bads’.
Curt
Sunday ~ September 18th, 2011 at 11:14 am
Rick Russell
“If we combined direct mortgage pay-downs (maybe 2 Trillion?) with some form of credit towards home ownership for anyone who has lost a home, (using stricter lending requirements)”…
So, you’ll pardon me if this sounds a little… bitter.
What of those of us who paid our mortgages? Who selected homes, less grandiose perhaps than the McMansions of our neighbors, so we could live sustainably? I paid off my mortgage in 2005, five years ahead of schedule.
Would I be given a special tax break so I wouldn’t have to contribute toward paying down trillions in the mortgage debt of other people — a debt that I already paid for myself?
Monday ~ September 19th, 2011 at 9:42 am
Corey Mutter
If it gets the economy growing again, thereby providing more opportunity for everybody (including you), that should blunt the pain a bit.