In a Huffington Post column today, Jeffrey Sachs picks up where he left off in a co-authored column with Joe Scarborough that appeared in the Post last week. There are two main threads to Sachs' argument. The first is that we would have been much better off with an ambitious public investment agenda than the actual stimulus package that was passed by Congress. The second is that we would have been better doing nothing than getting a stimulus of the sort we got, or even worse, getting a larger stimulus of the same variety.
It is difficult to believe that Sachs thinks he is really quarreling with Krugman on the first point. Krugman has been a vocal advocate of exactly the sort of public investment that Sachs is advocating. (There may be an issue as to how such a stimulus should have been paid for. Sachs is advocating tax increases on the wealthy and a financial transactions tax, as has Krugman. It is not clear whether he thinks these tax increases should have been put in place in 2009 when the economy was collapsing.)
The real point of disagreement is the best route if you don't get a big public investment stimulus. Sachs' position seems to be that the sort of tax cuts and modest spending increases that were part of the Obama stimulus were worse than nothing. He argues that the tax cuts were largely used to pay down debt as was the case of much of the spending, which took the form of transfers like food stamps and unemployment insurance. The net effect then is to raise the debt without providing much boost to the economy.
Sachs' claim does stand at odds with much research on the topic. The standard Keynesian models, used by the Congressional Budget Office and others, showed the stimulus creating in the range of 2-3 million jobs. This view also has been borne out by empirical work on the effect of the stimulus.
The CBO projections compared with actual growth, which Sachs includes as a table in his piece, don't seem to bear out his story of a failed stimulus. The actual falloff in GDP in 2009 was somewhat more rapid than had been forecast by CBO. This was clearly due to a more severe downturn than CBO had been expecting, as can be seen by looking at the CBO projections at start of the 2009. The stimulus first began to have any effect at all in the 4th month of the year.
Source: Jeffrey Sachs.
As can be seen, growth in 2010 was actually somewhat better than CBO had predicted. This was the peak year of the stimulus. The stimulus faded off sharply in 2011 and 2012. What the chart suggests is that CBO was grossly over optimistic in its confidence that the economy would recover without stimulus. It seems more than a bit strange to blame the stimulus for the lack of growth two years after virtually all the spending and tax cuts had ended.
As far as Sachs' concern that people would save rather than spend their tax breaks and unemployment insurance checks, this does not seem to be supported by the data. The savings rate over the 2010-2012 period averaged less than 5.0 percent. This compares to an average saving rates before the wealth effect of the stock and housing bubbles began to depress it of more than 8.0 percent. That suggests that consumers were not on average paying down debt to any great extent.
Again the problem of the debt or the effort to enlist Keynes as ally seem perverse in the extreme. Taking a segment from my comment on the Post piece:
The last admonition seems especially inappropriate since the United Kingdom's public debt was well over 100 percent of GDP when Keynes was advocating deficit spending in the 1920s and 1930s. As far as the burden of debt, it is worth noting that interest on the debt is near a post war low measured as a share of GDP. This is because the financial markets do not share the concerns of Scarborough and Sachs and are willing to lend large amounts of money to the United States at very low interest rates. This means that we are seeing very little burden from the debt.
Furthermore, even if we follow the deficit path projected by CBO, interest payments measured as a share of GDP will just be back to their Bush I era levels in a decade. That is not a trivial drain on the Treasury, but it is small compared to the loss of $1 trillion in output we are seeing each year, along with the lives devastated by the prospect of years of unemployment.
Also, if S&S are concerned about the measure of debt, then we can easily make them happy by simply buying back debt at a discount when higher interest rates cause bond prices to fall. Any bond calculator will show that the price of the long-term bonds issued today at record low interest rates will plummet when interest rates rise, as is generally projected. (Certainly as predicted by S&S.)
If we buy these bonds back at 50 to 80 cents on the dollar in three or four years, we can shave hundreds of billions, possibly trillions off of our debt. This would be a pointless exercise since it would leave our interest payments unchanged, but it should appease the gods of people who worship debt to GDP ratios (a group that apparently includes S&S).
If we want to limit the amount of interest that is paid out to our children (interest payments are redistributional within a generation, not between generations) then we can have the Fed continue to hold much of the debt. Currently half of what we pay out in interest is refunded by the Fed each year. Congress could instruct the Fed to continue to hold its bonds and tighten up monetary policy through raising reserve requirements. Jeffrey Sachs knows this. (Foreign debt is an issue, but that is the result of the trade deficit, which is in turn the result of an over-valued dollar. If the value of the dollar does not change, cutting the deficit will not affect the nation's indebtedness to foreigners, except insofar as it lower imports by reducing GDP.)
It is just difficult to see the case for the horror story of the debt that Sachs wants to portray. The markets clearly do not see the problem or they would not be lending the government huge amounts of debt at very low interest rates. Furthermore, we know many examples of other countries, or the U.S. at other times, that have been able to have much larger debt to GDP ratios without any notable problem borrowing money.
There is one other point where Sachs is clearly wrong:
"The CBO also suggests that much of the slowdown in GDP growth after 2002 is the result of a slowdown in the growth of potential GDP. According to CBO, potential GDP growth was 3.1 percent per year during 1991-2001, but slowed to just 2.2 percent per year during 2002-2012.
What are some of the structural problems? These include large-scale offshoring of jobs, large-scale automation of jobs, decline in demand for low-skilled workers, skill mismatches, broken infrastructure, and rising global energy and food prices. These require various kinds of targeted public investment spending, not simply aggregate demand."
The main reason for the projected slowdown in potential GDP is the slowing of labor force growth. This is partly the result of the retirement of the baby boom cohort and in part the end of the period in which women were entering the labor force in large numbers. Neither development poses a crisis in any obvious way or suggests a structural flaw in the economy.
The story about the decline in demand for low-skilled workers and skill mismatches is not supported by the data. By educational attainment, the group that has seen the smallest decline in their employment to population ratio is workers without high school degrees. These are not the folks we would ordinarily consider to be highly skilled.
More generally, if the economy was suffering from problems of skills mismatch then we should be able to identify large sectors of the economy with a high ratio of job openings to unemployed workers, where wages are rising rapidly and where the length of the average workweek is increasing. While this may be the case in some very narrow sectors or in small regions of the country (by population size), like North Dakota, it is not the case for sectors that could conceivably employ any substantial portion of the unemployed. In short, the skills-mismatch story is still a theory in desperate need of supporting evidence.
To sum up, Sachs seems to have a strong Keynesian public investment position, which is largely in line with Krugman and many other Keynesian economists would like to see. Given that this is not a political possibility for the foreseeable future, Sachs appears to have thrown in with the austerity crowd, seeing some virtue in squeezing the economy by cutting budget deficits.
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