Opinion Forum

The December Spending Spree

December 29th, 2009

At the beginning of the month, the White House held a jobs summit in order to discuss the record levels of unemployment. The Chamber of Commerce and the National Federation of Independent Business were not invited (who needs business organizations at a jobs conference?). Paul Krugman was.

Why is this important? Two reasons. The first is that Paul Krugman seems to be to the current financial crisis what John Maynard Keynes was to the Great Depression. The second is because he wrote this:

…one thing that can get an economy out of a liquidity trap is expected inflation, which discourages people from hoarding money. Once you take the possibility of a liquidity trap seriously… it’s impossible to escape the conclusion that expected inflation can be a good thing, because it helps you get out of the trap. — Paul Krugman, The Return of Depression Economics

In the book, the “liquidity trap” Krugman is speaking of refers to a problem where people are not spending and borrowing even in a situation where the central banks are practically begging them to do so by cutting interest rates to near-zero. The particular situation he is speaking of is Japan in the 1990s, though the definition could obviously apply to the United States’ current situation just as well. His solution, as evidenced by the quote above, is to institute a “use it or lose it” policy; that is, to force people to loan, borrow, and spend under the threat that if they don’t get rid of their money today, they won’t have any money to get rid of tomorrow.

What Krugman is essentially telling the Japanese (and his fellow Americans) is that since they aren’t spending enough money on their own, the government has no choice but to steal their money by printing more dollars (thus lowering the value of the dollars in the hands of the individual citizens) and spend that money for them in the name of stimulating the economy. This theory not only reeks of arrogance (he’s basically assuming that the government knows better than you where your money should go), but tends to turn out badly when tried, as the Weimar Republic and Zimbabwe would be happy to attest. However, that does not seem to have stopped the US government from spending the last month doing everything within its power to emulate these countries’ shining examples. The evidence for this assertion can be found below.

On Dec. 13^th, the Senate passed a $1.1 trillion dollar spending bill, vastly increasing the budgets of various government programs including health, education, law enforcement, and veterans’ programs.
The Senate passed its version of the health care bill on Dec. 24^th. Although the fight is not over yet, as the House and Senate bills must be reconciled and re-passed through the House and Senate, it is indicative of the general lunatic trend currently making its way through our Legislature.
Despite the fact that taxpayers have already been forced to hand over $111 billion to Fannie and Freddie, the Treasury has pledged practically unlimited support to the two mortgage giants by lifting the previous $400 billion cap on government assistance. Since Fannie and Freddie already underwrite $5.4 trillion of all home mortgages, I suppose the government felt it had no choice but to go on supporting it; it’s obviously “too big to fail”. This also means that we can probably also expect the percentage of home loans held or backed by the federal government, currently at 86%, to rise even more.
Dems want to use unspent and repaid TARP funds to create a lending program for small businesses, work on infrastructure, and come to the aid of strapped-for-cash state governments. In order to understand why this is a problem, pretend that you have taken out a $20,000 loan to renovate your house, but the renovations actually ended up costing only $15,000. Because you have “saved” this money by not spending it on your home renovation, you decide to reward yourself with a $5,000 vacation. However, this doesn’t change the fact that you are still $20,000 in debt. Additionally, because the last two methods of using TARP funds are actually forbidden by the provisions of the TARP bill, the Dems would have to get new rules passed to allow them to spend the money in those ways, a move that those dratted Republicans with their cries of “socialist mop” will undoubtedly oppose.
While he was on vacation (does the man never stop?) Obama signed into law a bill that raised the nation’s debt ceiling by an additional $290 billion to $12.394 trillion. Suffice to say that Moody’s will not be pleased.

Fortunately, the Federal Reserve is aware of the problem… or at least, it wants the public to think that it is. It has recently proposed two new ways to combat inflation. One is by selling interest-bearing term deposits to banks, which basically means giving an incentive to banks to put more money in their reserve accounts by treating that deposit as a loan and rewarding the banks with interest. The other way is by instituting reverse repurchase agreements, where the Federal Reserve sells securities to the banks with an agreement to buy them back later. And it is true that both methods would temporarily reduce the money supply by taking dollars out of circulation. However, the fact that neither method actually takes money out of circulation permanently, that indeed the term deposits method ultimately increases the money supply when the interest on those “loans” starts to circulate, seems to be lost on both the Federal Reserve and a great many of the financial pundits. The fact that the term deposit method is basically a risk-free way of making money is also rather suspicious. I thought Wall Street fat cats were supposed to be excoriated for hoarding funds instead of lending them out to the little people where they belonged, not rewarded.

In short, welcome to the wonderful world of Paul Krugman, where up is down, debt is wealth, reckless spending is stimulus, and theft via inflation is good for you. Or in the words of NYU economist William Easterly (though admittedly he was talking about quite a different subject):

The contradiction… calls to mind Japanese government propaganda during WWII, which to the very end of the war celebrated every battle as a triumph. The long-suffering Japanese people could track the war’s progress only by noting that the glorious victories of the emperor’s forces were moving them ever closer back to Japan. — William Easterly, The White Man’s Burden

There have been some paper gains in the stock market and a lot of blathering by the politicians about how we are over the worst. There has also been a lot of blather about how these spending bills and initiatives will be just great for helping our economy recover. And the government may even be able to make it look good for a while by making people happy via public spending and having the Federal Reserve play some of its tricks to take money temporarily out of circulation. But until unemployment falls and interest rates pick up without sending the nation into a spiraling crash, I wouldn’t consider us to be out of the woods.

Articles written by Brianna Aubin
Tags: deficit, Federal Reserve, inflation, Krugman, money supply, spending, TARP
Categories: Economics, News, Politics | Comments (2) | Home

2 Responses to “The December Spending Spree”

Brian Bagent | December 29th, 2009 at 1:45 pm

Unbridled arrogance and hubris. Rule #1 of economics: people will ALWAYS act, ultimately, in their own self-interest. Some may pay lip-service to the notion of self-sacrifice, but at the end of the day, few will actually skewer themselves on their own sword “for the common good.”

The greatest failing of Krugman, et al, is the failure to understand this basic concept of human nature. As you pointed out some time back, the more trustworthy method of delivering goods and services is from the person who has something to gain by delivery, and something to lose by a failure to deliver. Massive altruism is unreliable, even government-sanctioned altruism. Just ask Californians.

But, if one were to wish for an altruistic tendency in society, the most reliable way to achieve it is as the United States have done: leave people free to accumulate wealth, and they will dispose of some of it in charitable ways. If anyone doubts this, our record of donation of time, talent, and treasure is unmatched by all the rest of the countries on earth put together.

Tom | December 31st, 2009 at 10:16 pm

I read Krugman fairly regularly, and I always end up shaking my head, wondering what reality he lives in.

If you look at the current performance of the Administration and Congress and the level of public dissatisfaction, it looks like the Democrats might suffer a bloodbath in the 2010 election. The party holding the White House usually loses seats in the House and Senate in mid-term elections. It wouldn’t be out of the ordinary if the Democrats lose a net of 20 or 30 House seats in 2010; in the Senate, the number lost could be 3 to 5.

If there aren’t some major improvements in the next 10 months, we might see the Democrats lose 30 or more House seats, coming very close to the 40 needed to lose their majority. The Senate Democrats may lose a net of 5 seats or so, but still not enough to threaten their majority. However, given the way things are now, those numbers could be quite a bit bigger.

The real question might be if the fractured, leaderless Republicans can take advantage of the situation. In any case, the coming election will be interesting.