Thursday, July 16, 2009

Are second stimulus haters logically inconsistent?

It bothers me that some economists and commentators are calling "new stimulus haters" inconsistent in their reasoning. In particular, they say that if you supported the first fiscal stimulus, logic does not afford you the right to oppose a second dose of stimulus.

To see why it bothers me, note that they make a good logical point. We have compelling evidence that the problem is a bigger than we initially expected (depending on how you look at the data). If you thought the first stimulus was "just right," bad news has to make you think it is too small; the first stimulus is not nearly enough. In other words, if you favored a first dose of fiscal stimulus, bad economic news makes a case for shoving more stimulus down the pike.

To take an analogy, suppose your wife calls you into the room to kill a spider. As you forecasted an ordinary spider, you grab a fly swatter and walk briskly down the hall to where the spider is. But then, if your wife yells "It's the size of a frisbee!" you'd be pretty silly to not also grab the baseball bat, even if you were running down the hall with the fly swatter. So it is with the second stimulus.... At least, this is how second stimulus supporters see it.

But, it bothers me that the analogy ends there with fiscal stimulus. What if by the time you grabbed the baseball bat, the spider will have already eaten your wife? From that perspective, it looks silly to go grab the baseball bat. You should probably cut your losses, tell your wife that you love her, and get the heck out of there. That's because it doesn't matter if you get the bat. You're not going to be able to accomplish anything anyway.

This is precisely the problem with a second stimulus. For stimulus to work the way it is intended, we need to spend the money now, but the first stimulus did one of two things:

(1) It exhausted nearly all of our low hanging fruit. With the first stimulus, even when trying to spend the money quickly, a huge chunk of it won't be spent until next year (or the year after). And, if we spent the first stimulus well, we picked the best-bang-for-your-buck projects. For a second stimulus, are we going to be spending money in 2012? If so, how's that going to do us any good?

OR

(2) The first stimulus showed us the political reality of fiscal stimulus. Fiscal policy is hijacked into pet project spending that will take place way too late for a stimulating effect. If this is true, why do we think a second stimulus will get the political economy right?

Now, ask yourself if the newcomers to the "stimulus hater" movement are being logically inconsistent.

If you believe (1), the marginal dollar spent in the second stimulus will be less effective in heading off our new problems because it can't be spent as effectively or as quickly. If we have already picked the low-hanging stimulus fruit, a second stimulus will cost more money and accomplish less.

Undoubtedly, the problem is bigger than we first expected, but the pattern of spending in the first stimulus demonstrates that a second stimulus isn't like grabbing a baseball bat from the other room; it's like running to the store to buy a baseball bat.

Thinking on the margin: the additional benefit of a second stimulus is bigger than we first thought, but so is the additional cost of the right kind of stimulus spending -- at least if you thought there were loads of opportunities for low-hanging stimulus fruit.

If you believe (2), it makes sense that you are now less optimistic about the political economy. If you feel like the first stimulus was wasted on pork, who can blame you for being disillusioned with a second stimulus? Talk of a second stimulus smells like bacon.

Moreover, the first stimulus taught us things about fiscal policy (or at least reminded us of these things we should have known): Fiscal stimulus takes a long time, and it gets political. As a corollary, a second stimulus will take longer and cost more.

Given what we learned from the first stimulus, support for a second stimulus rests on less compelling logic.

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