Why Those Keynesian Stimuli Are Not Working

For a stimulus to be economically helpful it needs to be “timely, targeted, and temporary.” This stronger version of the Lawrence Summers quote is an important economic policy issue to ponder. So let’s start out the discussion with a look at how the Swiss manage federal stimulus. The Swiss made it through the last recession relatively unscathed. Despite the benefits of being the reserve currency status, the United States economy did a lot worse than the Swiss economy. The Swiss secret to a resilient economy appears to be something written into their constitution called the debt brake rule.

Effectively, the rule aims to maintain a structural budget balance every year. The rule allows deficits to be run in a recession, but requires surpluses in better economic times so that over the cycle the budget is in balance.

Putting the Brakes on U.S. Debt | Committee for a Responsible Federal Budget


This sure looks like a working example of the proverbial “Keynesian stimulus”. In the United States our policy makers have embraced  “Keynesian stimulus”  plans since the Great Depression but we have much different results. Here is a post from Mercatus that demonstrates that temporary increased federal spending always seems to lead to higher permanent federal spending.

The chart shows how expenditures as a share of GDP spiked during World War II but were reduced rapidly and significantly. However, spending never returned to the pre-war level and has followed a general upward trend ever since.

Today federal, state, and local expenditures as a share of GDP are back at the highs reached during World War II. This time, however, we are unlikely to see a swift decrease. Wartime expenditures on items like weaponry and salaries for conscripted soldiers were relatively easy to wind down. The bulk of current and future government spending is on entitlement programs like Social Security and Medicare. This variety of spending is nearly impossible to reduce in the near term.

The tendency for spending to ratchet up during a crisis is important because it suggests why fiscal stimulus is unlikely to be economically helpful. In an oft-repeated quote, economist and stimulus advocate Lawrence Summers has argued that stimulus ought to be “timely, targeted, and temporary.” Otherwise, it is unlikely to be economically helpful. The fact that spending rarely returns to pre-crisis levels suggests that governments may find it impossible to implement stimulus in the way Keynesians such as Summers would like to see.

Federal, State, and Local Expenditures as a Share of GDP at WWII Levels | Mercatus

Finally here is an analysis why the United States stimulus efforts are not working.

ONE REASON WHY THOSE KEYNESIAN STIMULI AREN’T WORKING: They’re Not Keynesian. “Whalen isn’t simply dumping on Keynesianism, he’s bent on pointing out that even its latter-day adherents are straying far from their master’s theory. And in this, he’s surely correct. As Allen Meltzer has argued, Keynes was against the very sort of large structural deficits that characterize contemporary federal budgets and policy, believing instead that deficits should be ”˜temporary and self-liquidating.’ And Keynes believed that any sort of counter-cyclical spending by government should be directed toward increasing private investment, not simply spending current and future tax dollars on public works projects. Or, to put it another way: If the federal government had a strong track record of responsible spending, it would mean one thing if it went into hock for a short period of time to goose the economy (again, whether this would work is open to question). It means something totally different when a government that spent all of the 21st century piling on debt and new, long-term entitlement programs responds to an economic downturn first by creating yet another gargantuan entitlement (Obamacare) and taking on even more debt in the here-and-now.”


ONE REASON WHY THOSE KEYNESIAN STIMULI AREN’T WORKING: They’re Not Keynesian. “Whalen isn’t simply…