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Saturday, February 7, 2009

Spending is NOT Necessarily Stimulus

In defending this stimulus, President Obama made this remarkable statement.

So then you get the argument, well, this is not a stimulus bill, this is a spending bill. What do you think a stimulus is? (Laughter and applause.) That's the whole point. No, seriously. (Laughter.) That's the point.

So, President Obama believes that government spending is stimulus. If he really does believe this then we are all in trouble. Now, government spending could be stimulative however 1) it depends on where and when it is spent and 2)government spending is NOT the only way to be stimulative.

In fact, the federal government could do something right now that is far more stimulative and it will cost nothing. The federal government could repeal FASB rule of marked to market.

Mark-to-market is an accounting methodology of assigning a value to a position held
in a financial instrument based on the current market price for the instrument or similar instruments. For example, the final value of a futures contract that expires in 9 months will not be known until it expires. If it is marked to market, for accounting purposes it is assigned the value that it would currently fetch in the open market.

This rule forces banks and other financial institutions to put a current market value on all assets including Mortgage Backed Securities. Because banks often use these MBO's as part of their capital requirement, banks are then forced to come up with other assets to meet their capital requirements because these MBO's are deteriorating. Because banks need to scramble just to meet their capital requirements, they don't lend. If marked to market were removed, banks would immediately have more capital to lend. That would be significantly more stimulative than spending $900 billion in money that is borrowed.

Now, government spending can be stimulating. After all, if money is spent to build a road, someone has to build it. Those persons need to be paid. Yet, while that may be stimulating, the government also needs to get that money somehow. Either they can 1) raise taxes, 2) print the money or 3) borrow the money. The first would in and of itself be contractionary. The second and third would be inflationary which would raise interest rates. That will make credit less affordable. That would be contractionary. As such, it is rather unclear if government spending is or is not stimulating.

Tax cuts is another way to stimulate the economy. Allowing the folks to keep more of their money allows them to spend, invest, and save more of their money. Despite what some claim, any of those is ultimately stimulating. Even savings is ultimately stimulating (unless it winds up in someone's mattress) because it winds up in some financial institution and thus greases the wheels of our financial system. The trick with tax cuts is that it needs to be combined with spending cuts. That's because the revenue lost must be accounted for. If not, it must be borrowed or printed. As such, we would have a repeat of raised interest rates of government borrowing.

Monetary policy can also be stimulating. Lowering rates for banks to borrow gives banks access to more capital. That can translate to more lending on the part of banks. While this can be effective, the Feds have cut rates as low as they will go.

So, what we have is several different options. Furthermore, there are plenty of options that can be just as effective and a lot less costly. As such, the President's assertion is nothing more than a trojan horse.


Anonymous said...

Dumb - 'All tax money is your money'. Like you need to say it to know it. Dumb - 'Tax cuts cure all economic ills'. Simple minded Right-Wing freaks.

OK, now for the hard lesson. In a depression business and people do not spend, hence depression. If you give them a tax cut they will save it because they do not spend in a depression. Get it.

OK, really hard lesson. In a depression, the government can spend when people and business do not spend. The government pays a business for a service. People are employed and commerce is generated.

The laissez-faire Hoover model led to the Great Depression. It was a miserable failure.

The FDR New Deal model instantly worked. The Right-Wing propaganda that it did not work is falsified. The years 1928 - march 1933 were Hoover years and nothing compared to the misery of Republican free-market principles.

mike volpe said...

Again, even if it is saved, it still goes into the economy, unless it is simply put into a mattress. It goes into the financial system so that banks can use it in other sources.

Hoover's model was anything but laissez faire and FDR's model was anything but correct. Hoover raised taxes on the wealthiest and Smoot Hawley stunted free trade. That is anything but free market.

As for FDR, we were still at more than 10% unemployment in 1940, eight years later, how did that work?

Harold said...

Banks don't necessarily use the money that is saved more. They keep higher loan loss ratios during recessions because it is more likely more people cannot pay back their loans. So it is incorrect to say the banks will "stimulate". Also, looking at the current state of banks right now, that wont happen.

It takes more than tax cuts to jolt the economy. Get that through your Reagan worshipping head Mike.

mike volpe said...

That of course depends on how big the tax cut is and how much their reserves are. If the tax cuts are big enough people will save and spend more. Banks will save and lend more.

Get this through your Keynesian head. Government spending will create more debt. That will create more inflation and so even if this stimulus stimulates it will only stimulate us into a period of high inflation.

Tax cuts and less spending is by far the better stimulus.

Harold said...

First up, we have no idea the extent to which banks are in trouble right now. So thinking the banks are going to save the economy when they have been one of the main causes of the problems in the first place is naive. Very naive.

The magnitude of the tax cuts you would need under your idea [i.e. massive tax cuts] will necessarily have to expire, otherwise the deficit will increase too much in the future.

Consumers and businesses will know this, so they wont just blindly start spending again, because they will be waiting for their taxes to be raised again in the future. They are future looking. They will save again for a rainy day.

Consumers have been dealt a body-blow. They will not go out and blindly start spending and raising their leverage again. They made that mistake listening to the Republican idiot George Bush to just go shopping once. They wont do it again.

Furthermore, banks cannot lend if consumers and businesses want to save under your proposed tax cut idea. It takes two to tango

mike volpe said...

No massive deficits, Harold. What we need is for government to spend less at the same time we give tax cuts.

Furthermore, tax cuts lead to economic growth which eventually leads to higher tax receipts for the government.

Tax receipts went up 20% under the Bush admin. That's because the tax cuts ultimately caused economic growth.

As for the banks, not all of them are in trouble. If banks are constantly in trouble, no amount of government spending will save the economy.