"Consumers should not be regarded as Pavlov’s dogs, automatically responding to stimuli offered by politicians"

Here's an interesting post on the FT:

"The fiscal cure may make the patient worse

By Leszek Balcerowicz and Andrzej Rzonca

Published: December 10 2008 19:56 | Last updated: December 10 2008 19:56

As the financial crisis attacks the economy, there is growing pressure on governments around the world to introduce fiscal stimulus programmes. This follows big interventions in the financial sector, massive easing of monetary policy, especially in the US, and substantial loosening of fiscal policy. The fact that there are time lags between these interventions and their effects seems to have been ignored."

I don't think anyone's ignoring them mates.

"The assumption appears to be that fiscal stimulus will automatically revive private spending. But this belief contrasts with data that show there is considerable uncertainty about the size and nature of the stimulus required to cause spending to increase."

I don't make such a Mechanistic assumption at all. It's a gamble.

"Some say that financial crisis in the developed economies creates favourable conditions for a strong Keynesian stimulus. This would, the theory goes, boost the confidence of consumers and increase their readiness to spend the extra money. The larger the stimulus, the stronger its impact on consumer confidence and the greater the multiplier effect. How this effect would be produced is not explained. Instead we are given mechanical metaphors, such as “jump-starting” the economy."

I too am worried about the size of the stimulus. The focus on a number bothers me as too mechanistic. We should be focusing on what we should spend the money on that makes sense on its own terms. I call it "Cowen's Creed".

It's not fair to say that there are no explanations of how it might work, but they're controversial. That's why I fall back on Cowen's Creed.

"Consumers should not be regarded as Pavlov’s dogs, automatically responding to stimuli offered by politicians. Consumers are guided by expectations. They take a longer term view in making their spending and saving decisions. This limits the stimulating effect of most temporary tax cuts relative to permanent ones. Consumers also have concerns about the fiscal sustainability of their governments in assessing their long-term disposable income. Research suggests that when the ratio of public debt to gross domestic product is already high, the multiplier effect of fiscal stimulus is low. In extreme cases, fiscal expansion may even be contractionary. This fact should reduce the number of countries that undertake fiscal stimulus, especially if one considers their unfunded liabilities and the fiscal consequences of the public interventions undertaken so far."

This I completely agree with. Incentives of any kind are not automatic as to their results. Also, the WSJ/NBC Poll showed that people are far more aware of our current fiscal situation than many believe. The stimulus is a risk.

"Not only is there a danger that the high initial level of public debt relative to GDP will limit the impact of any fiscal stimulus. In addition, the sheer size of a stimulus package, which would lead to a deterioration of a country’s fiscal position, may have a negative effect on consumer confidence. "

This seems possible.

"Consider Sweden’s banking crisis in the early 1990s. Discretionary fiscal stimulus was immense, but counter-productive. With public debt growing fast, households and entrepreneurs became pessimistic about the future of the country. This pulled private spending down. Besides, risk premiums rose to the same level as in Italy, which had a tradition of excessively loose fiscal policy. This is a warning that cheap financing of radically increased budget deficits should not be taken for granted. The current crisis has taught consumers in many countries that there are limits to their debt. Do we want to learn this lesson in relation to the public debt as well?"

There are differences in the two types of debt, but, going forward, it would be nice if people got behind the idea of drastically lowering the debt.

"A large fiscal stimulus may also turn out to have a negative impact on financial intermediation. Financial turbulence generates the risk of a credit crunch. How to mitigate this danger is a major worry of many governments. One of the reasons banks are reluctant to lend is they have insufficient capital. According to the International Monetary Fund’s recent “Global Financial Stability Report,” banks need globally almost $700bn (€540bn, £474bn) of additional capital. A simultaneous large borrowing by governments to finance their fiscal stimulus could make it more difficult for banks to gain access to global capital markets and possibly limit any increases in their capital and lending. The ability of the emerging economies to finance their growth will also be affected. Large fiscal stimulus by developed economies could deepen a credit crunch in the less developed one."

These are possible problems.

"One thing is sure: a large fiscal stimulus would increase public indebtedness and impose a burden on future growth. Big increases in public investments are likely to be wasteful, as it is not possible to have a long backlog of well-prepared projects. In addition, political pressures might dominate considerations. A large increase in spending may also raise the possibility of corruption. A fiscal stimulus that temporarily lowers indirect taxes at the cost of future increases in marginal income taxes (for example, in the UK) does not improve incentives to work, invest and innovate."

All of these are possible problems.

"The effects of large fiscal stimulus in most countries are likely to be disappointing, while the longer time impact would be negative. The financial crisis is blamed on, among other things, deficient risk management. The proposals for a large fiscal stimulus suffer from the same weakness."

No one's omniscient. Look, the stimulus, printing money, propping up mortgages, bailing people out, are all risky and possible failures. But deflation and a downward spiral of confidence in markets and governments is also a terrible risk.

I think that this is a good post in that it reminds us to be very prudent in the amount of money we spend on a stimulus and what we spend it on. This is not a cavalier decision. Obviously some people see the stimulus as the road to a greater role for government in the future. I do not.

This is an Existential Choice. Kantian Moral Theory gives the impression that there is always a clear and principled way to make a decision. Existentialism understands that sometimes there are only bad choices, and no clear and principled way to make a decision. We're currently engaging in a series of decisions that defy easy answers. Risk is inherent in every decision we are going to make.