Wednesday, June 13, 2012

"Doing just fine"

Last week President Obama said that the private sector is "doing just fine" but that the public sector needed help. He then proposed sending subsidies to the states and cities to create more jobs for teachers, police, and construction workers. Within hours he was trying to walk back that statement, saying that the economy is not doing fine. So what did he really mean?

Taken in context, the President's message was that the private sector is creating jobs but the public sector is shedding them. This causes a weakness in the economy that can only be fixed by adding new public employees. Even after admitting that the private sector has its own troubles, Obama continued to call for more spending on public employees. What does this tell us?

First, Obama is still reading Paul Krugman's columns. Krugman believes that the more a government spends the more prosperous it will be. He has suggested that the world's governments make up a threat (alien attack) as a justification for spending tens of trillions of dollars on a defense that will never be used. This level of spending will usher in a new golden age. Critics complain that it will bring in an age of crushing debt.

Obama is still a believer in the multiplier effect. This holds that for every dollar that the government takes out of the economy and spends, it generates $1.25 in new economic activity and thus pays for itself. The multiplier effect is heavily debated and is nearly impossible to accurately measure. Economists have pegged it somewhere between $0.80 and $1.50 meaning that it might depress economic activity or it might increase it. To make matters more complicated, different spending produces different results. The groups that Obama mentioned are popular but unlikely to cause direct, immediate economic benefit.

The most recent winners of the Nobel Prize for economics took on Keynesian economics and the multiplier effect. Keynes assumed that people would have a Pavlovian response to increased money supply and not care where it came from. The new theory is that people are rational actors. They will not make long term plans based on short-term stimulus spending. This implies that stimulus spending is doomed from the start. 

It is no coincidence that Obama's intended beneficiaries are all heavily unionized supporters. This may be nothing more than an attempt at firing up the base.

Finally, there is no guarantee that Obama's proposal will deliver on its promised results. In the 1990s, Clinton sent money to put more cops on the street. Instead, many police forces used the money for other purchases - things like communications equipment. Obama's stimulus bill was sold as going for "shovel-ready jobs". Later Obama admitted that these do not exist. Money from the first stimulus was distributed according to how well-connected the local congressman was, not to places with high unemployment. It is likely that any new stimulus spending would be politically distributed.

Obama's original assertion on the private sector leaves two possibilities. One is that he really does think that the private sector is doing ok but the public sector need help. The other is that he knows that the economy as a whole is still in trouble but the only solution that he will consider is to increase spending on government employees. Things like tax rationalization that would directly benefit the private sector do not even occur to him.

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