As I write this commentary, the Dow Jones Industrial Average is down. But this isn’t really about the stock market; it’s about three recent news items.

First, a special session that prevented our nation’s leaders from their August recess added another $26 billion to government spending. Second, the Federal Reserve formally announced its decision to downgrade its forecasts of coming U.S. economic growth and agreed to a small amount of further monetary stimulus (called QE or quantitative easing), and implied that more might be needed. Third, Laurence Kotlikoff, Boston University professor of Economics and a former member of the President’s Council of Economic Advisors, said the U.S. is financially bankrupt and clearly argued against further fiscal stimulus spending.

The first two items are evidence that the dominant policy opinion is seemingly humane: more stimulus. Public Enemy #1 is slow growth that is too weak to boost employment. It appears we are in a vicious cycle—low employment means low spending which means low employment. Monetary or fiscal stimulus aims to increase spending. But is this really humane? On the surface it appears so. Putting school teachers back to work not only improves education, but it puts more money in the economy.

But what if most people see the stimulus for what it really is: a drastic and panicky attempt to revive an economy with multiple fundamental problems—none of which is too little government spending or money growth. What if school teachers and everyone else see these actions as a sure sign that things will get worse before they get better?

My guess is that most of the stimulus recipients will save their newfound incomes, pay off their horrible credit card debts or abandon house payments. This does not sound so humane to me. It insures that the downspin will continue!

We know this because most experts agree that the lack of spending right now is a result of negative expectations and uncertainty. These last ditch fire hoses do nothing but inflame uncertainty. Shame on you Fed. Shame on you Congress! Humane indeed!

My Keynesian friend says there is plenty of evidence of past stimulus policies working. And I would agree that there have been times and places when some stimulus was necessary and did work. A couple of years ago, for example, some stimulus was useful. But even then I argued that too much stimulus would send the message that the “sky is falling.”

Piling up even more stimulus today sends the wrong message. And it is scaring the crap out of everyone. Furthermore, if Kotlikoff is right, it sends a Grecian message as well. If more people believe that solving the U.S. financial gap will take Herculean increases in taxes and reductions in spending, they will translate this into even more pessimism. Are we giving a teacher a job today only to take it back tomorrow?

Clearly, I don’t know the answer. But rather than play the populist game of more stimulus, we should spend more time on a plan to attack the real structural problems (i.e. the things that caused the recession like decades of too little saving and too much spending). And we don’t have to actually implement the policies today; we could agree on a set of real changes and a schedule that makes sense. This would give people confidence in the future. Why wait until after the fall elections?

It is frustrating that the solution is right in front of our faces, yet we dodge it only to flail around with policies that worsen the situation. And the right policies will demonstrate we are smart enough to recognize the true source of our economic problems and tough enough to enact the right strategies. This will install the confidence and optimism necessary to encourage firms to boost production and hire more workers.

This article appeared in Impact Analysis, September-October 2010.

Larry Davidson
About The Author Larry Davidson [Full Bio]
Larry Davidson, Professor Emeritus of Business Economics and Public Policy at the Indiana University Kelley School of Business, is a writer and speaker. He recently taught MBA and EMBA students at Sungkyunkwan University in Seoul, South Korea. His articles appear in The Consummate Corner on The Manzella Report's home page.

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