Congressional Testimony on the Stimulus

by Russ Roberts on February 16, 2011

in Scientism, Stimulus

(Text of my opening remarks before the Subcommittee on Regulatory Affairs, Stimulus Oversight and Government Spending of the House Committee on Oversight and Government Reform, February 16, 2011.)

Thank you Chairman Jordan, Ranking Member Kucinich, and distinguished members of the Subcommittee.

Over the last two years, the American Recovery and Reinvestment Act of 2009 has injected over half a trillion dollars into the US economy in hopes of spurring recovery and creating jobs.

The results have been deeply disappointing. Job growth has been anemic while our deficit has grown, limiting our future policy options. Fourteen million workers are unemployed. The unemployment rate among African Americans is over 15%. This is an American tragedy.

What went wrong? Why were the predictions so inaccurate?

There have been two explanations. One is that the economy was in worse shape than we realized. The only evidence for this claim is circular—the standard Keynesian models under-predicted unemployment.

I prefer a simpler explanation: the models that justified the stimulus package were flawed. Those models were broadly based on the Keynesian notion that the road to recovery depends on spending. In the Keynesian worldview, all spending stimulates. Somehow, subsidizing university budgets in the Midwest or paying teachers in West Virginia helps unemployed carpenters in Nevada. That may be good politics. It’s lousy economics.

This isn’t the first time the Keynesian worldview was wildly inaccurate in predicting the impact of changes in government spending. Look at the beginning and end of WWII.

Keynesians frequently argue that the military spending on WWII ended the Great Depression.

Certainly unemployment fell to nearly zero because of the war. But did the war create an economic boom? There was a boom for the industries related to the war. But there was little prosperity for the rest of the country. The war was a time of austerity. Government spending didn’t have a multiplier effect on private output. It came at the expense of private output.

What about the end of the war, when government spending plummeted?

Paul Samuelson, a prominent Keynesian, warned in 1943 that when the war ended, the decrease in spending combined with the surge of returning soldiers to the labor force would lead to “the greatest period of unemployment and industrial dislocation which any economy has ever faced.” He was not alone. Many economists predicted disaster.

What happened? Government spending went form 40% of the economy to less than 15%.  And prosperity returned to America. Unemployment stayed under 4% between 1945 and 1948. There was a short and mild recession in 1945—while the war was still going on. But the economy boomed when government spending shrank and price controls were removed.

We are told that the failure of the current stimulus proves it simply wasn’t big enough to get the job done. But it is equally plausible that the opposite is true—that government intervention in the economy prevented the recovery.

The truth is that our knowledge of the complex system called the economy is woefully inadequate and may always remain that way. We ask too much of economics. Even our best attempts to measure the job impact of the stimulus spending make this clear. In November of 2010, the CBO estimated that the stimulus had created between 1.4 and 3.6 million jobs. Not a very precise estimate.

But even this estimate was more of a guess than an estimate. The CBO estimates didn’t use any of the actual employment numbers after the stimulus was passed. Instead the CBO based its “estimates” on pre-stimulus relationships between government spending and employment, relationships that failed to predict the magnitude of our current problems.

The CBO’s results and those of other forecasters using multi-equation models of the economy are not science but pseudo science–what the economist F.A. Hayek called scientism—the use of the tools and language of science in unscientific ways.

So where does that leave us?

Let’s get back to basic truths.

When you’re in a hole, stop digging. Stop running deficits of over 1.5 trillion dollars. Act like grownups and get your fiscal house in order. Stop spending 25% of what we produce. Stop wasting my money and giving it to your friends. Stop passing legislation that makes it hard to figure out what the rules of the game are going to be. Get out of the way. Make government smaller and give us a chance to do what comes naturally—seeking ways to make profit, avoid loss and work together. That is the only sustainable path to prosperity.

Thank you very much.

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