Unstated assumptions about government stimulus

Here's a link to a Yahoo video of former Wall Street analyst Henry Blodget declaring that "The Economic Argument is Over -- and Paul Krugman Won" in which Mr. Blodget asserts that government stimulus is the way to help economies grow, and that anyone who argues to the contrary has now been silenced by a recently-discovered spreadsheet error.

The spreadsheet error to which he refers is found in a 2010 study arguing that government deficits stifle growth after reaching 90% of GDP (the paper, authored by Carmen Reinhart and Kenneth Rogoff, was entitled "Growth in a Time of Debt").  The paper was widely cited by the so-called "austerians," or those who argue for government "austerity."  

The term "austerity" usually means a set of policies which force a government to spend less and -- often -- to tax more at the same time.  

Since the error in the 2010 paper went public last week, supporters of  government stimulus have been rejoicing and declaring victory, just as Henry Blodget does in the above-linked video.  He has been on record as a supporter of government stimulus packages for some time -- here is a video of him praising Paul Krugman's calls for stimulus from 2009.

Of course, just because "austerity" defenders have been embarrassed by a spreadsheet error does not mean that government stimulus is beneficial for an economy.  We believe that government "stimulus" represents a misallocation of capital, in that the government first takes money through the threat of force (taxation) and then spends it where government officials decide is the "best" place for that capital.  Instead, we believe that the decisions of the original owners of that capital, freely allocating their own capital for themselves, will always be better than the decisions of government officials allocating money that they have taxed from someone else.

Here is a previous post in which we linked to a video full of evidence that stimulus is actually harmful, not helpful.  Many authors have been surfacing lately who have been crediting the entire economic recovery, slow as it has been, to government stimulus.  But if stimulus is actually more detrimental than beneficial, then the recovery has been in spite of government stimulus, not because of it!

The whole problem with the Reinhart and Rogoff approach, in our view, is that those who use it as an argument are tacitly accepting the idea that stimulus is beneficial.  The "austerians" have basically been saying, "Yes, stimulus might be helpful, but you can't have too much of it, or the government will rack up enough debt to counteract the helpful aspects of stimulus."  The Reinhart and Rogoff study put that "harmful point of debt" at 90% of GDP, but below that at least some of them seem to think that stimulus is A-OK.

Now that the mathematics behind the 90% number has been shown to contain "spreadsheet errors," many government stimulus fans are dancing a jig, and saying that this proves that stimulus is great, and that there's no upper limit to how much of a good thing an economy can handle.  But the spreadsheet error doesn't prove a thing about whether or not government stimulus is actually good, at all.  We believe it is harmful, and quibbling over whether it stops becoming helpful at 90% or some other number is nonsense if it is actually never helpful in the first place! 

For plentiful historical evidence that stimulus is not helpful but harmful, please go back and re-visit the Dan Mitchell videos which we have linked in posts going back as far as 2009, such as this one and this one.

Furthermore, we have written about the problems with the "austerity" mantra in previous posts, including this one and this one.

Finally, Brett Arends at the Wall Street Journal has written a good article analyzing the current brouhaha over the Reinhart-Rogoff article, entitled "Why everyone is wrong about austerity."  In it, he makes some excellent points, including the point that backwards-looking studies such as that of Reinhart and Rogoff are inherently flawed from the outset. 

Analysts that appear on the financial media often hold unstated assumptions which inform the analysis that they present for their viewers.  Often, one of these unstated assumptions is the idea that government stimulus is positive for an economy.  Even those "austerians" who seem to be on the other side of the argument sometimes hold this view.  We believe it is a mistaken assumption, and we believe investors should be very aware of the evidence which call that assumption into question.