Why the Stimulus Shouldn't Stimulate You

By Steven E. Landsburg
Sunday, January 27, 2008

As a general rule, economic policies command bipartisan support only when they're incoherent. Take, for example, the fiscal stimulus package now bulldozing its way through the legislative process. It's poorly conceived, it's unlikely to work, and it's sure to do a lot of collateral damage.

The idea, we're told, is to stave off an all-out recession by stimulating both investment (through tax cuts for businesses) and consumption (through tax rebates to individuals). But hold it right there.

Investment and consumption are natural rivals.

Investment means converting resources into machines and factories; consumption means converting those same resources into TV sets and motorboats. In anything but the very short run, more of one means less of the other.

Ah, say the package's more honest proponents, that's exactly what we care about -- the very short run. And in the very short run, we can have more of everything if only we put more people to work.

Fine, but what makes you think that this package will put anyone to work? The idea behind the stimulus deal is to give people tax cuts so they'll feel richer and spend more. But government can't make people richer on average; all it can do is shuffle wealth around. To pay Peter, you must tax Paul (or at least promise to tax Paul in the future, when your debts come due). Peter spends more, but Paul spends less.

Now maybe you can time things so Peter goes on a spending spree today but Paul doesn't tighten his belt until next month. (Then again, maybe you can't: Paul's no fool, and he's likely to start cutting back as soon as he sees higher taxes on the horizon.) But even if you manage to pull this trick off, sooner or later you must tax Paul. So today's fiscal stimulus comes at the expense of tomorrow's fiscal drag.

Moreover, even if you do somehow manage to increase spending, that doesn't mean you'll put Americans to work. More likely, you'll put Asians to work producing goods for the U.S. market. President Bush seems to have become confused on this key point because he misunderstands supply-side economics. He has vaguely remembered that tax cuts put people to work, but he's forgotten that only marginal tax cuts put people to work. Non-marginal tax cuts -- such as the ones in the stimulus package -- have exactly the opposite effect, when they have any effect at all.

The reason: When people feel richer, they're less eager to work. An unemployed laborer with a tax rebate in his pocket might well feel less urgency about getting retrained or finding a new job. (Not every unemployed laborer will react this way, but you can be sure that some will.) If Americans demand more but produce less, the difference has to come from abroad.

Here, then, is the great irony: To stimulate spending, tax cuts have to make people feel richer -- but the richer people feel, the slower they'll be to rejoin the workforce. The more effective the tax cuts, the longer they threaten to prolong the expected recession.

That's why the stimulus package is unlikely to work.

Now let's talk about why we shouldn't want it to.

First, a little history. In real terms -- that is, after adjusting for inflation -- the average American worker today earns roughly nine times as much as his 1840 counterpart. That's because today's worker is roughly nine times as productive. (You might have thought it had something to do with labor unions, but even at their most powerful, no union could ever extract blood from a stone or extract wages that exceeded the value of production.) Today's workers are more productive because they're working with better equipment -- computerized looms instead of handlooms, for example.

That equipment was built from raw materials that were available because someone chose not to consume them.

So if 19th-century Americans had been encouraged to consume more, you'd be earning less today. And if you and I are encouraged to consume more, our grandchildren will earn less in the future.

If you care about your grandchildren, you should be encouraging everyone else not to consume, but to save.

But much of the stimulus package is designed to achieve exactly the opposite: It encourages consumption, not saving. Not that there's anything wrong with consumption; it's what makes life worth living. But my consumption benefits me, while my saving benefits you.

I've already got plenty of incentive to consume. What you should be worrying about is my incentive to save. To say it again: The more I consume, the poorer your grandchildren will be; the resources I use won't be available to build machines that make your grandchildren more productive. It's all well and good to worry about the people who are struggling today, but let's also remember the people who will be struggling in the future. The worst thing we can do for them is to encourage consumption.

And while we're thinking about our grandchildren, let's also think about our contemporaries. Over the course of a typical decade, millions of people lose their jobs one at a time. In a severe recession, millions lose their jobs all at once. But it's no more painful to be unemployed for five weeks in the middle of a recession than it is to be unemployed for five weeks at the height of a boom. In fact, it's arguably less painful: Isn't it better to be unemployed at a time when unemployment carries less stigma and when you've got unemployed friends to hang around with? (Ask those striking Hollywood writers.) So it's hard to argue that we should do more for displaced workers during a recession than we do at any other time -- especially when people who lost their jobs a few years ago, and others who will lose them a few years hence, are footing a good chunk of the bill.

And to what end? Ultimately, the only solution to unemployment is for displaced workers to get retrained and find their way back into the workforce. The new stimulus package only delays that process by propping up dying industries for a while and postponing the day of reckoning. Ultimately, there will be just as much hardship because the stimulus package can't last forever. Why spend all this money trying -- and probably failing -- to delay the inevitable?


Steven E. Landsburg, a professor of economics at the University of Rochester, is the author of "More Sex Is Safer Sex: The Unconventional Wisdom of Economics."

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