Sunday, November 23, 2014

DeLong on Hobson’s Choice v. Cochrane’s Bernie Madoff Economics

I want to highlight two interesting discussions relevant to the fiscal policy debate. First up is Brad DeLong:
The original argument was John A. Hobson’s, in his 1902 book Imperialism. The poor have to spend their incomes in order to buy their necessities. The middle class have to spend their incomes to buy their necessities and the conveniences they need in order to ensure themselves that they are not among the poor. The rich can spend their incomes or not. Hence the more unequal distribution of income, the more the potential for slack aggregate demand. With monetary policy constrained by the rules of the game that was the gold standard, Full employment in an unequal society required either unusually optimistic financiers and industrialists or something else.
Brad continues by noting that this something else could be monetary policy unless we fell into a liquidity trap. Peter Coy has a nice discussion on why Keynes’s views on fiscal policy is relevant today but alas he does have to cite something from John Cochrane:
If you believe the Keynesian argument for stimulus, you should think Bernie Madoff is a hero. He took money from people who were saving it, and gave it to people who most assuredly were going to spend it. Each dollar so transferred, in Krugman’s world, generates an additional dollar and a half of national income. The analogy is even closer. Madoff didn’t just take money from his savers, he essentially borrowed it from them, giving them phony accounts with promises of great profits to come. This looks a lot like government debt. If you believe the Keynesian argument for stimulus, you don’t care how the money is spent. All this puffery about “infrastructure,” monitoring, wise investment, jobs “created” and so on is pointless. Keynes thought the government should pay people to dig ditches and fill them up. If you believe in Keynesian stimulus, you don’t even care if the government spending money is stolen. Actually, that would be better. Thieves have notoriously high propensities to consume.
This weird tirade is just part of a very long tirade where Cochrane attacks the writings of Paul Krugman. Cochrane invokes Ricardian Equivalence as part of his case against the use of fiscal stimulus. Alas, he clearly does not understood Ricardian Equivalence or what the recent fiscal policy debate was about. First of all – the government is quite open about its finances so any suggestion that there is a Ponzi Scheme should alert the reader that Cochrane was on a silly rant. But he does admit that attempts to use fiscal stimulus amount to deficit financing. Ricardian Equivalence alerts us to the fact that the present value of all future taxes must match the present value of all future government spending as well as the current level of government debt. If no household is borrowing constrained, then the timing of taxes has no current effect on consumption demand. Brad’s post, however, should be seen as suggesting that some households are borrowing constrained. But it is this line that shows how clueless Cochrane is:
If you believe the Keynesian argument for stimulus, you don’t care how the money is spent.
Actually most Keynesians do care as we would prefer the stimulus in the form of infrastructure investment and not Hobson’ imperialism. This is also where Cochrane’s invocation of Ricardian Equivalence is most silly. Accelerating infrastructure is not a permanent increase in government spending and hence would not raise the present value of future taxes all that much. As such, any reduction in consumption would be very modest relative to the rise in government investment. And with this simple realism, Cochrane’s Bernie Madoff rant loses all relevance.

9 comments:

Peter T said...


"the fact that the present value of all future taxes must match the present value of all future government spending as well as the current level of government debt."

How is this a fact?

Myrtle Blackwood said...

"Accelerating infrastructure is not a permanent increase in government spending and hence would not raise the present value of future taxes all that much..."

An economy is far more than government, consumers, entrepreneurs/investors. I'd like to see the everyday consumer become a dominant investor. Government could support, rather than repress, an anarchic market --> small trade stalls could begin to appear throughout every major shopping complex. Housing could be boosted through government-guaranteed security of tenure land provision for tent and shack cities...

Brian Romanchuk said...

Peter T - The statement about surpluses is the statement which describes "Ricardian Equivalence". Since Ricardian Equivalence does not have to hold, the phrasing here is somehat awkward.

Howver, it should be in stated terms of primary surpluses, which is the fiscal balance less interest payments. Even if Ricardan Equivalence holds, the goverrnment can run perpetual overall deficits; interest costs are just larger than the deficit.

Peter T said...

Forgive the sharp tone, but this is one of the many pieces of word salad masquerading as revelation that dot economics. It's not a "fact", nor is it even a tautology, since the terms have no referents. We do not know what taxes or debt will be in the future, nor do we know that debts will be paid, and therefore we have no way to estimate their present value. And there is no universal "we" that pays or owes. So it's saying "Somebody that does not exist thinks something we don't know equals the sum of several other things we don't know". I am not sure what the term of art is for a statement like this, but it's not "fact", or "hypothesis".

Thornton Hall said...

Right on!

Thornton Hall said...

Define "Neoclassical Economics":
Whatever it takes to ensure that public policy makers do not act on the obvious truth of Hobson's observations, especially the strategy of making things so confused policy makers distrust their own eyes.

Shirl12350 said...

The decision to conduct a field audit can be taken in order to verify whether the taxpayer has correctly fulfilled the obligations for VAT. The obligations of the audit section after the audit decision has been taken are: Preparation of Chicago Tax Attorney program; Audit notice; Scope of audit notice; etc.

Peter T said...

Thornton,, It's not just "neoclassical" economics. It's classical economics too - this does, after all, go back to Ricardo. I have no idea how to get the discipline to start using precise, empirically-grounded referents, so I take no sides in the orthodox/heterodox debate. I do wonder how sandwichman teaches this sort of thing.

Thornton Hall said...

It was a seriously disappointing moment in my intellectual journey when I discovered that most heterodox practioners ignore the empirical world in simply new and different ways.