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Unstimulating the stimulus package: The economics behind Obama's new balanced budget rules.

Posted on: 25-Feb-2009

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He promised change. But is this the right change? One of the things that President Herbert Hoover did to worsen the Great Depression was to attempt to balance the budget as the economy slumped.  So Obama has quickly transitioned from emulating two great presidents, Lincoln and Roosevelt, to copying one of the worst, Hoover.

The problem that Hoover encountered was a rising deficit, because as the economy slumped, so did tax revenues. As unemployment approached 50% in the large cities where most of the income was generated, tax revenues had to shrink. But by attempting to balance the budget, Congress put more downward pressure on the economy as they cut spending.

The whole point of the stimulus is for the government to spend more.  Think of it this way, economic activity is mostly:

Consumers Consuming + Industry Investing + Government Spending

or C + I + G. Everybody knows that C and I are down and are not likely to go up unless G rises due to Government spending.

So let’s say Government wants to balance the budget and it raises spending by a $1T in one area and cuts it by $1T in another. Then the net stimulus must be equal to ZERO.   It’s not quite that simple.

Suppose it raises infrastructure spending by a $1T and cuts military spending by $1T. While the net stimulus must be equal to ZERO, there are longer term economic benefits. Spending on infrastructure --  such as airports, bridges, or roads -- makes the economy more efficient, lowering business costs. So it is fundamentally less inflationary than military spending, as the latter is like printing money. If you make a bomb, the money goes into the economy, but the bomb is put in a warehouse with the hopes that it will never be used.

Now let’s make this more current. Say they cut $1T out of military spending by ending the war in Iraq and bringing our soldiers home. But all those soldiers will come home to few job opportunities, because the economy is down. Unemployment will rise, which is exactly what happened after Vietnam and WWI. Now suppose they spend that $1T one trillion on pork, such as community centers or park benches.  That’s similar to military spending in that they do not make the economy more efficient on a first order basis. So you really haven’t done anything to simulate the economy.

 So you see, balancing the budget at this time, will negate the economic benefits of the stimulus plan.

There are ways to balance the budget and stimulate the economy, but these are not in the plan . . .  More tomorrow

 

Coincidence? Herbert Hoover was the first President to put a phone in the oval office. Barack Obama is the first to put a computer in the oval office.

 

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About weQuest:
weQuest's are written by G Dan Hutcheson, his career spans more than thirty years, in which he became a well-known as a visionary for helping companies make businesses out of technology. This includes hundreds of successful programs involving product development, positioning, and launch in Semiconductor, Technology, Medicine, Energy, Business, High Tech, Enviorntment, Electronics, healthcare and Business devisions.

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