More Stimulus Spending Is Not the Answer

With the US economy once again teetering on the edge of recession, policymakers will inevitably propose another round of stimulus spending. You can bet on it – just as you can bet that any such spending won't help the economy. From the beginning, the Obama administration has misdiagnosed the problem and implemented policies that are indefensible, says Kevin Hassett, director of economic policy studies at the American Enterprise Institute.

Every stimulus effort has not two but three stages.

  • When the stimulus is imposed, there is some positive short-run increase in gross domestic product (GDP).

  • When the stimulus is removed, there is an approximately equal and opposite reduction in GDP.

  • But after that, the stimulus must be paid for with higher taxes or ongoing borrowing – causing a further reduction in GDP.

    Thus the total impact of the Keynesian policy is negative over its life.

    Obama administration officials should have known all this as they set out in 2009.

  • Financial crises inevitably create lengthy periods of slow economic growth, as research by economists Carmen Reinhart and Kenneth Rogoff has shown.

  • The typical duration of the employment downturn after a financial crisis is 4.8 years.

  • Another study by Ms. Reinhart and her husband Vincent Reinhart found that economic growth rates tend to be lower for as much as a decade after financial crises.

    Given this lengthy period of slow growth, it was a mistake for the Obama administration to pursue short-term Keynesian stimulus, says Hassett.

    Source: Kevin Hassett, Stimulus Optimists vs. Economic Reality, Wall Street Journal, August 3, 2011.

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    First published by the National Center for Policy Analysis, United States

    FMF Policy Bulletin/ 16 August 2011
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