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HappySqurriel on 23 May 2010
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Akvod said:
HappySqurriel said:
Akvod said:

But you never answered my question in that thread. Why did FDR extend the "Great Depression"? He caused a second recession, but that was because he took contractionary policies after listening to Classicalist economists.

Just to expand upon Kasz’s point ...

Stimulus spending temporary by definition, and regardless of how it is funded it will eventually come to an end and produce a long-term drag on your economy. If you’re responsible, and you save up money in good times to be spent during bad times, you will expend your reserves and be forced to have higher taxation (than would otherwise be necessary) to replenish your reserves; if you’re irresponsible, and you go into heavy deficit spending, your will eventually reach the limit that people are willing to lend you and you will be forced to have dramatically higher taxes to pay down your debt; and if you’re a fool and you print cash to pay for your spending you will eventually cause hyperinflation and the collapse of your economy. 

Regardless of the reason, or when it happens, the removal of stimulus spending will always result in a significant decline in economic activity; although some declines will be dramatically worse than others. You can call this decline a "Second Recession/Depression" or a continuation of the original downturn, but the fact is that it is the inevitable outcome of stimulus spending.

Personally, it is my belief that the longer the stimulus spending is in place the more damaging the fallout from its removal will be; and in the extreme case, when its removal has been forced upon a country, it can be devastating. The reason for this is simple, the longer a country is engaged in stimulus spending the more they will have to cut spending and raise taxes in the future, and the higher interest rates will be.

But perhaps expansionary policies can speed up the process of regaining consumer confidence and increase consumer spending, thereby allowing government to gradually cut back on its own government spending? Perhaps if you are going to go about hastening recovery, you shouldn't do it half assed and decide to suddenly, rather than gradually, cut back on it?

And while running a defeceit does create a burden on business investment due to the increasing of national debt and crowding out, I do not believe Keynesianism approves of running defeceits during economic expansions... in fact, because they would advocate contrationary policies during expansions, they would advocate high taxes, and lower government spendings.

Consumer confidence on an individual level comes from having secure employment that provides enough income to adequately cover necessary expenses with enough money left over to purchase unnecessary items. While a person’s income is temporary restored by being employed by a stimulus project, their job isn’t secure because when the funding disappears they will be unemployed again; and the individual who is indirectly associated to the stimulus project knows that when the project goes away their income will return to the pre-stimulus levels. When you look at the economy on a whole, the awareness of the temporary nature of stimulus spending ensures that consumer confidence never returns to pre-recession levels.

 

Now, a responsible Keynesian may advocate saving money in good times to spend it during bad times but this is still results in stimulus spending being (very) temporary and will result in lower economic output during the good times. Eventually, the government will run out of saved money and they will have to stop the stimulus spending and return to surplus budgets in order to rebuild their reserves. An important question that needs to be answered in this case is where does a massive economy like the United States (or worse yet, the combined economy of the western world) invest their money in the "Good Times" that would retain value in the "Bad Times"?

Basically, the problem is that when the government is purchasing investments those investments will be overvalued due to the influence of the government in the market, and when the government is selling those investments to recover money those investments will become undervalued; and when this behaviour is being followed by all major economies the distortion of the value of the investment will be far more dramatic. If you’re buying an investment at $1000 per unit in good times to sell it for $100 per unit in bad times how much higher do your taxes have to be to cover a stimulus of 10% of GDP for 2 years every 20 years?