The 'Logic' of Deficit Spending
We already remarked on Monday on Tim Geithner's recent speech to the Economic Club of New York (scroll down to the addendum), on which occasion he promised that while 'long term fiscal consolidation' was certainly a priority, unfortunately, the weak short term economic conditions demanded more deficit spending in the here and now.
This kind of argument, as Ludwig von Mises once remarked, really means „we'll keep spending our head off“. This is especially so in an election year, as it is widely held that additional deficit spending by the government will improve economic conditions given the ongoing reluctance of private sector agents to invest or consume. Such improvements then will 'buy' the consent of voters.
To this point, especially the arguments concerning deficit spending and its effect on unemployment, we show a few more quotes by Mises below that are hitting the nail squarely on the head. Presumably Geithner is not familiar with them and the thinking behind them.
“Government spending cannot create additional jobs. If the government provides the funds required by taxing the citizens or by borrowing from the public, it abolishes on the one hand as many jobs as it creates on the other.” (1)
“It is obviously futile to attempt to eliminate unemployment by embarking upon a program of public works that would otherwise not have been undertaken. The necessary resources for such projects must be withdrawn by taxes or loans from the application they would otherwise have found. Unemployment in one industry can, in this way, be mitigated only to the extent that it is increased in another.” (2)
“What the government spends more, the public spends less. Public works are not accomplished by the miraculous power of a magic wand. They are paid for by funds taken away from the citizens.” (3)
“A policy of deficit spending saps the very foundation of all interpersonal relations and contracts. It frustrates all kinds of savings, social security benefits and pensions.” (4)
“If the practice persists of covering government deficits with the issue of notes, then the day will come without fail, sooner or later, when the monetary systems of those nations pursuing this course will break down completely. The purchasing power of the monetary unit will decline more and more, until finally it disappears completely.” (5)
Sources: (1) “Planned Chaos” (2) “Liberalism” (3) “Human Action” (4) “Planning for Freedom” (5) “On the Manipulation of Money and Credit”
Evidently Ludwig von Mises' opinion on the wonders of deficit spending, public works, etc. was diametrically opposed to that of most politicians and also that that of today's economic mainstream. Contrary to the modern-day apostles of deficit spending and money printing, Mises was in the habit of employing deductive logical reasoning as the basis for his economic arguments. If you look at the quotes above (which have been taken from various publications), what stands out is the awareness that capital is scarce. This fact of economic scarcity – the very fact that impels humans to act, impels them to economize in order to better their lives – is strangely absent in the lines of argument forwarded by Geithner and his ilk. You would think that government somehow exists outside of the market economy's ambit – that it can avail itself of a hidden and sheer inexhaustible stash of resources which it can deploy at will.
This is however not the case. Every cent in wealth the government spends – that it de facto redistributes – must first be produced by someone in the private sector. Wealth does not conjure itself into existence unbidden.
The logical fallacy in the pro deficit spending and pro money printing camps (these camps tend to partly overlap, but the emphasis varies among different mainstream branches of economic thought) should be quite obvious from the outset: if it is true that these activities can contribute to wealth creation, then why should they only be deployed during economic downturns? Why would such allegedly beneficial activities cease to be beneficial in the event of an upturn in economic activity?
One can ask the modern-day supporters of democratic socialism the same question: if a 'little bit' of socialism is good, why not go all the way? Would not a whole lot of socialism be even better? This is of course what they actually believe, deep down in their hearts. When pressed, they will answer you: 'socialism is the best economic system there is. It just hasn't been implemented properly thus far'. The implication being that if only better men – such as themselves - were in the position to implement it, it would surely work.
As you can see, there is quite a bit of magical thinking involved here. It is held that the scarcity of economic resources can be safely ignored, that an economic system that can not calculate can actually be 'made to work', and so forth.
The errors of today's mainstream economists can be mainly traced back to the habit of aggregation. Today one can no longer write an economic paper that doesn't contain mathematical gibberish, usually a whole lot of it. Now, leaving aside that any economic argument that one can express mathematically one must be able to express verbally as well – which makes the mathematical approach wholly unnecessary – most of the mathematical and econometric modeling requires a broad-brush approach, involving assumptions of a state of economic equilibrium (which does not exist in reality) and numerous aggregations. Production is e.g. represented by a 'production function', which presupposes that one is talking about a homogenous lump termed 'production'.
A number of simple tautological formulas exist that show how various economic aggregates are related to each other. It is on account of these tautologies that deficit spending by the government is held to be necessary when spending by the private sector retreats. However, none of these formulas look under the hood, so to speak. These aggregations can not reflect the heterogeneous nature of the things they attempt to describe. Capital is not a self-replicating lump 'K'. It is a complex latticework of heterogeneous goods, that entrepreneurs are constantly combining, transferring, liquidating and recombining in order to put them to their best use in satisfying the demands of consumers. Any interference by government in these processes necessarily lowers their efficiency, by either restricting what can be done or falsifying the data, this is to say, prices. This can not possibly make things better, even if the aggregated economic data show what are deemed to be short term positive effects.
One can illustrate the futility of this by looking at an extreme example: suppose a new WPA ('we piddle around' or 'Works Progress Administration') were instituted with the express purpose of bringing unemployment to zero by whatever means necessary. One way of doing that would be to replicate one of the jobs the actual WPA under FDR's administration made available: hire people to watch out for birds in the vicinity of federal buildings in order to chase them away. It would certainly be possible to hire millions of people for this purpose. They'd surround all public buildings, the birds would be chased away and unemployment statistics would show a vast improvement. And yet, it would be immediately clear to everyone that the exercise would be a sham. Not a single iota of new wealth could possibly be created by it. The costs of the program would have to be paid for by all those engaged in the production of wealth – and this would mean that fewer resources would be available to them to spend and invest as they see fit. The end result would be a weakening, not a strengthening of the economy, even though the short term economic data would likely record an improvement.
Ludwig von Mises: no friend of deficit spending and money printing.
(Photo via Wikimedia Commons)
Crisis? What Crisis?
After having explained that US deficit spending can not possibly decline in the short term as there are so many things 'we' must do, Tim Geithner has now taken aim at the European fiscal austerity drive.
As our regular readers know, we are very critical about the manner in which the eurogroup is going about fiscal consolidation. Specifically, it appears that most of the austerity burden is to be borne by the private sector in the form of higher taxes, while the cutting of government spending is very low on the list of priorities. It is an attempt to improve the fiscal situation without being forced to actually shrink government. This is not a big surprise: the EU as it is constituted today is essentially a socialist project. Its entire philosophy is one of bureaucratism and socialism. The economy is thought to be in need of enlightened 'planning' from the bureaucrats in Brussels and elsewhere in Europe. Entrepreneurial profits are looked upon askance, as something to be condemned. This is especially held to be so in the case of 'excessive' profits, an opinion most forcefully forwarded recently by the socialist contender for the French presidency, Francois Hollande.
