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David Brooks and the Power of Magical Thinking at the NYT

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Friday, 11 June 2010 04:32

David Brooks doesn't like the stimulus, as readers of his columns know. Today he engages in a bit of magical thinking in putting out his case for deficit reduction.

His first invention is telling us: "deficit spending in the middle of a debt crisis has different psychological effects than deficit spending at other times." This is very interesting, what "debt crisis" is Brooks referring to? We can point to a debt crisis in Greece, and arguably Portugal and Spain, but it is not clear what that has to do with the argument for stimulus in the United States. There were debt crises in Latin America in the 80s, no one ever raised these in the context of the Reagan era budget deficits.

In the real world we would look to things like the ratio of debt to GDP in the United States (@60 percent) and compare it to the ratios in other countries and to the U.S. at other points in time. There are several countries with debt to GDP ratios of far more than 100 percent who are able to borrow money with no difficulty. For example, Japan has a debt to GDP ratio of more than 110 percent yet it pays less than 1.5 percent interest on its long-term debt. Right after World War II the debt to GDP ratio in the United States was also over 110 percent, yet interest rates were low and the economy had decades of solid growth.

The next thing we would do in the real world is look at the interest rates that the United States is currently paying. At present the interest rate on 10-year Treasury bonds is about 3.2 percent, near a post-World War II low. In short, the debt crisis is magic -- an invention of David Brooks -- not something that exists in the world.

Brooks then decides that the stimulus did not work because the economy is not creating many jobs. Again, in the real world we would be interested in the size of the stimulus in order to determine how much impact we would expect it to have. The stimulus was scored at $787 billion. However, roughly $80 billion was a fix to the alternative minimum tax. This is done every year. Since no one ever expected to pay this tax, making this fix could not provide any stimulus to the economy. Roughly $100 billion was projected to be spent in 2011 or later, leaving $600 billion for 2009 and 2010, or $300 billion a year.

If we want to see the net stimulus from the government sector we also have to factor in the cutbacks from the state and local governments. These came to around $150 billion a year, leaving a net stimulus from the government sector of about $150 billion annually, or a bit more than 1 percent of GDP.

This boost from the government sector must counteract the impact of a falloff in annual construction spending (residential and non-residential) of more than $500 billion a year and a comparably sized reduction in annual consumption. In the real world, we are not surprised that $150 billion in net government stimulus cannot offset a decline of more than $1 trillion in private sector demand, but in the magical thinking of David Brooks this is a big disappointment. He notes that Harvard economist Edward Glaeser found no relationship between job creation and stimulus spending by state.

Actually, what Glaeser found was that there was no relationship between the portion of the stimulus that took the form of specific contracts or grants (about 20 percent of the stimulus) and the change in state unemployment rates. It would have been a remarkable coincidence if such a relationship did exist. The money awarded thus far in this category was $61.4 billion. In some cases this money has been handed out and spent, in other cases it has been banked for projects that may now just be beginning.

In any case, the total size of spending is small relative to the economy. If we assume that the money is mostly spent over a 2-year period, then it is roughly equal to 0.2 percent of GDP. Against this we have enormous variation in the economic impact of state and local budget cuts, the performance of housing markets, the performance of major industries (e.g. autos and oil), and the impact of trade. It is also worth noting that Glaeser examines changes in unemployment rates, which are also affected by demographics and state policies on unemployment insurance and other benefits, rather than job creation, which would be the more direct measure.

In short, any serious analyst would expect the impact of the spending examined by Glaeser to be swamped by other factors. We would predict that there would be no correlation between the spending in the category considered by Glaeser and the change in unemployment rates. In other words, Glaeser was testing nothing, his exercise tells us zero about the effectiveness of stimulus, except in the magical thinking of David Brooks.

Finally, Brooks recounts the stories of countries that grew successfully even as they pared back their budget deficits. Let see, we have Ireland and Denmark. These are both fine countries. But there is a very important difference between Ireland and the United States. Both are relatively small countries with very open economies. Trade is more than 70 percent of GDP in Ireland and more than 60 percent in Denmark. By comparison, it is just over 25 percent in the United States. If the governments in Ireland and Denmark cut back their spending it can be offset by increased net exports, especially if their currencies decline relative to the currencies of their trading partners. Does Brooks think this will happen in the U.S.?

Also, the central banks of these countries could respond to fiscal contraction by lowering interest rates. This is not an option in the U.S. at present with the interest rate already at zero.

In short, this is more magical thinking on Brooks' part. The experience of these countries do not provide relevant examples to the United States.

Of course, there is nothing wrong with magical thinking, except when it is likely to affect real world policy. The deficit hawks in public policy positions are running wild. They are throwing people out of work in the real world. Magical thinking like that displayed in Brooks' column will help their case.

 

 

Comments (19)Add Comment
...
written by zinc, June 11, 2010 8:37
I agree with your macro analysis of the dimensions of the deficit and the need for the government to borrow while the private sector can't or won't.

On a micro scale, the so called deficit hawks refuse to focus on the causes and the most obvious fat to be trimmed. The US consumer market has been targeted by every country in the world, to the point that domestic jobs, personal income, wages, quality of life, and opportunity is dwindling. Every country in the world wants to devalue their currency, tighten their domestic belts, and export their way to prosperity (and the US). For the past 15 years we have tried that scenario, aided by a debt bubble in the US, and only dug a deeper hole.

US military spending is the starting point. Health care cost containment, including nationalization of portions of the monopolistic health care complex are likely required. Allowing the Bush tax cuts to expire is another.

All the things that make David Brooks puke. But are, nonetheless, true.
David Brooks and Power of Positive Thinking
written by sherparick, June 11, 2010 8:50
And of course he sums up his column with first a call to cut "middle class entitlements" and then acknowledges that current recession has exacerbated the current economic inequality between the elites and the masses. He seems to say this is very sad, but the only policy suggestion he has is to make it worse.

I also note that new Prime Minister of Japan is all for deficit cutting and is proposing a "sales tax" increase. Japan is actually a very low tax country by OECD standards,however, it is is capital gains and not very progressive income tax that are low. Most of revenue comses from its VAT/Sales taxes, which of course discourage consumption, not something we really want for global rebalancing. The new PM and Finance minister want to double down on this, despite the fact that when a Japanese Goverment did the same thing 15 years ago, it sent the country back into recession and deflation, exacerbating the very deficit it was aimed at correcting. The orthodox castle is impervious to the empirical results of these natural experiments.

Finally, Brooks analogy is particularly weird as because currently Ireland has a debt to GDP of 14% because of the collapse of its banks and the examples of small countries retrenching in the nineties in a period of overall rapid global expansion may work very differently when all the OECD countries begin retrenching at the same time. This is not going to end well. But the rich guys who think they should be richer talking on CNBC's worldwide exchange were just giddy in anticipation of the dissolution of the welfare state and a return to the crony capitalism of the 1920s.
...
written by izzatzo, June 11, 2010 8:52
"deficit spending in the middle of a debt crisis has different psychological effects than deficit spending at other times."


Uh huh. Take the Iraq "surge" for example, designed to address a "crisis". Same principle, stretch out the resources with more debt financing to avoid even higher costs over the longer run.

So the "psychological effects" during that "crisis" were conveniently consistent with "surge spending", but when it comes to massive unemployment, they're suddenly in direct conflict with "stimulus spending".

In that case, why not open up the enrollment standards for the military to include anyone not employed for "domestic service in defense of national security" and call it a "surge" instead of a "stimulus". It's win win all around. Full employment, eradication of terrorists and no negative psychological effects.
Problems of (Admittin') Success
written by JHM, June 11, 2010 9:06
A full-dress refutation of Master Davey's economics is as if Dr. Einstein had done Citizen Velikovsky the same favor in physics.

The laddie may not even grasp what his team is up to, though I suppose he could not exactly quote "According to a Hamilton Project/Center for American Progress study by David Autor, high-skill sectors saw no net loss of jobs during the recession. Middle-skill sectors like sales saw an 8 percent employment decline. Blue-collar jobs fell by 16 percent" and then frankly shout "Yippee! Success at last!"

Happy days.

...
written by Eric, June 11, 2010 10:26
Nice critque, but I am puzzled by one point concerning Glaeser's study: "We would predict that there would be no correlation between the spending in the category considered by Glaeser and the change in unemployment rates." I supposed that the purpose of additional stimulus was explicitly to change the unemployment rate, so is the recommendation to have a stimulus that excludes the category that Glaeser studied? This category of spending would seem to have high political appeal to core Democratic constituents, such as trade unions.
...
written by AndrewDover, June 11, 2010 10:39
http://voices.washingtonpost.c....html#more

also points out the obvious hypocrisy of the republican party who lowered taxes and increased spending during their time in power.
...
written by Brett, June 11, 2010 10:50
Is what the CBO has said about the stimulus not relevant or true?

http://www.calculatedriskblog.com/2010/05/cbo-stimulus-raised-gdp-17-to-42-in-q1.html

CBO reports the stimulus added or saved anywhere between 1.2 million to 2.8 million jobs that would have been gone otherwise.
Deficit
written by lineup32, June 11, 2010 11:55
If deficit's are such a problem then the best solution is electing a Republican President, the financial media suddenly ends its concern about government deficits and moves on to bigger and better fish to fry.
...
written by diesel, June 11, 2010 12:18
"Magical thinking" is an appropriate term for a column that makes assertions--as though they were widely accepted facts--of what are clearly Brooks' intentions or designs, his schemes. He divines what the public thinks about all manner of issues and prophecizes with the assurance of an oracle consulting the vapors emanating from a crack in the rocks of a tax-exempt Foundation.
...
written by diesel, June 11, 2010 12:18
"Magical thinking" is an appropriate term for a column that makes assertions--as though they were widely accepted facts--of what are clearly Brooks' intentions or designs, his schemes. He divines what the public thinks about all manner of issues and prophecizes with the assurance of an oracle consulting the vapors emanating from a crack in the rocks of a tax-exempt Foundation.
...
written by Oggie, June 11, 2010 1:59
It's simple really. Democrat in the WH = 'debt crisis'. Republican in the WH = 'deficits don't matter'.
...
written by Stephen, June 11, 2010 2:05
Someone.... what's the retort to those who say that though the US debt as a percentage of GDP is only 60% today as opposed to 110% post war, there is an important distinction in that US private debt is much higher?
92% actually
written by AndrewDover, June 11, 2010 3:39
Stephen, the federal public debt is 92% of GDP.

As of Wednesday, the total U.S. public debt was:
$ 13,046,148,615,770.79
http://www.treasurydirect.gov/NP/BPDLogin?application=np

GDP = $14.43 trillion (2009 est.) from
https://www.cia.gov/library/publications/the-world-factbook/geos/us.html

And don't tell me the bonds in the social security trust fund don't count as debt.



...
written by Stephen, June 11, 2010 4:39
Andy,

The CIA factbook and dean baker give a number of about 60%, you give me to two data sets that give a number of 90%. Then you tell me not to use all available information in order to clear up this difference. You're a fog machine.

And you didn't answer my question. But I figured it out I think. Total US wealth is about 44T Therefore someone claiming consumer debt is 13T is rather disingenuous since we can always transfer the debt and wealth numbers via stimulus and taxes.
...
written by AndrewDover, June 11, 2010 8:43
The 60% number is calculated by only including the "debt held by the public", which is 8.5 trillion and excluding "Intra-governmental Holdings" like the social security trust fund.

8.572 trillion debt / 14.4 gdp = 59.5%
13.04 trillion debt / 14.4 gdp = 90.4%



What is the Debt Held by the Public?

The Debt Held by the Public is all federal debt held by individuals, corporations, state or local governments, foreign governments, and other entities outside the United States Government less Federal Financing Bank securities. Types of securities held by the public include, but are not limited to, Treasury Bills, Notes, Bonds, TIPS, United States Savings Bonds, and State and Local Government Series securities.

What are Intragovernmental Holdings?

Intragovernmental Holdings are Government Account Series securities held by Government trust funds, revolving funds, and special funds; and Federal Financing Bank securities. A small amount of marketable securities are held by government accounts.
The best comment about Brooks I ever heard
written by Rob Lewis, June 12, 2010 11:08
was on DailyKos, and pointed out that Brooks is often simply unable to follow his own logic to conclude that, on many subjects, conservatives have their heads up their collective ass.
...
written by Stephen, June 12, 2010 3:40
Thank you Mr. Dover!
...
written by AndrewDover, June 12, 2010 4:29
Unfortunately the U.S. is not too far away from Greece when you do the numbers including the debt in the trust funds as this article does.

http://www.briefing.com/GeneralContent/Investor/Active/ArticlePopup/ArticlePopup.aspx?SiteName=Investor&ArticleId=NS20100514150704AheadOfTheCurve

We don't need to panic, but it would be wise to have a long term plan to start reducing the accumulated debt during the good years.

I agree with Zinc on
"US military spending is the starting point." and "Allowing the Bush tax cuts to expire is another."
...
written by doubleBubble tripleDip, June 12, 2010 5:45

"
$80 billion was a fix to the alternative minimum tax. This is done every year. Since no one ever expected to pay this tax, making this fix could not provide any stimulus
"

The Yanks are coming -- the Yanks are coming! Did that cry keep the World War going?

The bailout money is coming to a theater near you! A sentence designed to keep the consumers spending, keep the stock holders from putting new money into long treasuries, and keep them from selling stock? You hold long enough for me to sell. You can't time the market, you can't sell, but I can time the market.

But the Yanks came late. The bailout went only to the bit-byte-bucket, the null-socket. Yes of course a token amount was returned to the burden bearers of tax and inflation, but only after being filtered through the community of commission chargers, insurers, certifiers, and notaries. Notaries and heaps of government offices.

You get the picture! It was merely the inefficiency dividend which goes always only to the mob, their lobbyists, and the lobby's back-pocket barkers of *government knows best* politicians.

With lower prices on stocks for insiders who easily knew exactly when the government would stop trashing prices, profits were a barrel-fish shoot-out at the OK Corral.

How many more boom-bust cycles government has up-sleeve?

Limitless supply
!

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Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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