Thursday, February 12, 2009

Create vs save, create vs create 

The stimulus bill heads to passage. "In a statement, the president thanked Congress for agreeing to a measure that he said would save or create 3.6 million jobs." Courtesy Menzie Chinn,
...the legislation would increase employment by 0.8 million to 2.3 million by the fourth quarter of 2009, by 1.2 million to 3.6 million by the fourth quarter of 2010, by 0.6 million to 1.9 million by the fourth quarter of 2011, and by declining numbers in later years. The effect on employment is never estimated to be negative, despite lower GDP in later years, because CBO expects that the U.S. labor market will be at nearly full employment in the long run. The reduction in GDP is therefore estimated to be reflected in lower wages rather than lower employment, as workers will be less productive because the capital stock is smaller.
I found that paragraph interesting. Chinn has the table that shows it. The letter quoted above explains as well how they come to this conclusion.
In contrast to its positive near-term macroeconomic effects, the legislation would reduce output slightly in the long run, CBO estimates, as would other similar proposals. The principal channel for this effect is that the legislation would result in an increase in government debt. To the extent that people hold their wealth as government bonds rather than in a form that can be used to finance private investment, the increased debt would tend to reduce the stock of productive private capital.
This, of course, is crowding out, and while there might be some public investment that works to better the capital stock, CBO says the opposite might be true.
For example, increased spending for basic research and education might affect output only after a number of years, but once those investments began to boost GDP, they might pay off over more years than would the average investment in physical capital (in economic terms, they have a low rate of depreciation). Therefore, in any one year, their contribution to output might be less than that of the average private investment, even if their overall contribution to productivity over their lifetime was just as high. Moreover, although some carefully chosen government investments might be as productive as private investment, other government projects would probably fall well short of that benchmark, particularly in an environment in which rapid spending is a significant goal. The response of state and local governments that received federal stimulus grants would also affect their long-run impact; those governments might apply some of that money to investments they would have carried out anyway, thus lowering the long-run economic return on those grants. In order to encompass a wide range of potential effects, CBO used two assumptions in developing its estimates: first, that all of the relevant investments together would, on average, add as much to output as would a comparable amount of private investment, and second, that they would, on average, not add to output at all.
So to "create or save 3.6 million jobs" means to believe that every dollar this government spends will create the same amount of work that those dollars would have created if they were invested by the private sector. How likely do you find that assumption?

The reduction of output CBO believes would happen if government investment did not add to output at all appears to be 0.2% of potential GDP, or about $30 billion per year in current dollars. But that's $30 billion per year forever. To put it another way, if the long-run trend growth rate of per capita GDP in the U.S. economy was 2% per year -- roughly so for the last fifty years -- we would double living standards every 36 years. If we cut that rate to 1.8%, it now takes 40 years to double living standards in America. That's the cost to your grandchildren, a 10% decrease in the long-run growth rate of the U.S. economy. For what? Cars that make the Smartcar look roomy?

This isn't just about "creating or saving jobs" now. It's about creating jobs or creating capital. Congress and President Obama appear to be hostile towards the latter.

UPDATE: A Ray Fair forecast, via Greg Mankiw:
An interesting feature of the results is that in 2011 and 2012 real GDP growth rates are larger in the baseline case than in the stimulus case. As the stimulus measures wear down, the growth of the economy is negatively affected. There are also in the stimulus case in 2011 and 2012 negative stock effects (durable stock, housing stock, and capital stock), negative effects from the higher price level, and negative effects from higher interest rates, which are the result of the more expansionary economy in 2009 and 2010.
The debt runs to over $9.5 trillion in that model. Taxes, anyone?

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