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Raghuram Rajan’s false choice

By Ezra Klein,

Tyler Cowen is much taken with Raghuram Rajan’s essay arguing that “the West can’t borrow and spend its way to recovery.” I’m not as impressed. Here’s the core idea:

The industrial countries have a choice. They can act as if all is well except that their consumers are in a funk and so what John Maynard Keynes called “animal spirits” must be revived through stimulus measures. Or they can treat the crisis as a wake-up call and move to fix all that has been papered over in the last few decades and thus put themselves in a better position to take advantage of coming opportunities.

I call this “false choice policymaking.” We can focus on the long-term or we can focus on the short-term. Rajan never explains why we have to choose one or the other. What if he had written this paragraph instead?

The industrial countries have a clear path forward. What John Maynard Keynes called “animal spirits” must be revived through stimulus measures. And the crisis must be used as a wake-up call to fix all that has been papered over in the last few decades and thus put themselves in a better position to take advantage of coming opportunities.

Is there anything wrong with that paragraph? Is there a logical flaw in it? A technical mistake? Is there some reason to believe that we can’t have both a larger payroll tax cut now and more emphasis on Race to the Top reforms? Or that rebuilding our infrastructure means we can’t reform our tax code?

Of course not. Rajan has built a straw man here. No one supports stimulus but opposes long-term measures to enhance our competitiveness. The real position he’s arguing with is that “the West should borrow and spend its way to recovery while making the long-term reforms necessary for growth.”

Obviously people differ on what those long-term reforms should be. Republicans believe we should convert Medicare to a premium-support system. The Obama administration believes we should expand and extend the Race to the Top model to other policy areas. But once you can get agreement on what will help in the long-term, no one disagrees with the fact that we should do it.

The way to make Rajan’s argument work is to add a separate clause: To say that yes, it would be nice to do everything, but the political system has a limited amount of bandwidth, and the president has a limited amount of political capital, and so we need to choose what will and won’t get done, and we should prize long-term reforms over short-term reforms.

But there’s little evidence for that model of American politics. Whether you like the bills or hate them, the major long-term reforms of the past few years were the health-care law and the Dodd-Frank financial reforms, and both were passed alongside stimulus measures. Since them, continued economic pain has led to a more angrily polarized political system, and now neither long- nor short-term reforms are passing.

Indeed, I think it will actually prove easier to pass certain long-term reforms if they’re yoked to short-term stimulus. A big deficit reduction package will be easier to pass if it includes significant stimulus. After all, conservatives find higher taxes much more offensive than they find further investment in infrastructure. But it’s not clear that liberals want higher taxes more than they want a grand plan to rebuild America’s infrastructure. So in that case, more short-term stimulus might make it easier to reach a deal on long-term deficit reduction.

At base, there are two major economic arguments in American politics today. Should we do more stimulus or not? And which long-term reforms make sense, and which don’t? But long-term vs. short-term is not an actual argument. It’s a framing device people use because it always sounds better to be on the side of long-term solutions than short-term ones.

Karl Smith has more, as does Matthew Yglesias.

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