OK I’m going to crowdsource this one, because I’m guessing in the comments there will be two camps who will eventually reach the truth (at least in my mind). In a previous post I alluded to Brad DeLong bringing up a 2009 Fama essay on the impotence of stimulus spending. Upon seeing DeLong’s post, Krugman reminded everyone that it was precisely this essay from Fama (and a similar one from John Cochrane) that had made Krugman announce we were once again in a Dark Age of Macro.
Here we can summarize the offending passages from Fama, in the eyes of our intrepid Keynesian bloggers:
There is an identity in macroeconomics. It says that in any given year private investment must equal the sum of private savings, corporate savings (retained earnings), and government savings (the government surplus, which is more likely negative, that is, a deficit),
PI = PS + CS + GS
Even when there are lots of idle workers, government bailouts and stimulus plans are not likely to add to employment. The reason is that bailouts and stimulus plans must be financed. The additional government debt means that existing current resources just move from one use to another, from private investment to government investment or from investment to consumption, with no effect on total current resources in the system or on total employment.
So I think most libertarian Austrians will recognize such an argument; I’m sure I made it myself on the radio when the stimulus package was big news. I definitely remember using the line–which I don’t think is in Fama’s piece, but it’s in Cochrane’s–that “If the government spends $1 billion on infrastructure, that money has to come from somewhere.”
So, DeLong and Krugman hate this. Specifically, Krugman argues that it fallaciously relies on an accounting identity to derive causality, which you actually need an economic theory to do. As a general rule, Krugman is right: I used the same approach to critique the MMT camp, as well as Krugman himself (on international trade, believe it or not).
Back to Fama: I’m tempted to resurrect his position by saying, “OK sure, you need one more element than just the accounting tautology. You need to assume that saving must precede investment, which strictly speaking you wouldn’t know just from the identities. But give me a break, of course saving must precede investment. Thinking otherwise is precisely why the MMT guys and the Keynesians get into trouble.”
OK so now my question: Is that really the way to handle this, and can I sleep comfortably at night? I wonder, is this still actually a fallacy, which would be apparent if we switched contexts? For example, suppose someone named Gene Famished were to argue, “We’re stuck in a deep recession and we will never get out of it. Sure, investors might spend money opening a new store and hiring 1,000 people, but every dollar they spend on the store just means there’s one less dollar spent elsewhere. It won’t create jobs on net, just move jobs around.”
See what I’m saying? I think “our side” is fine, and just needs to be a little less sloppy in our arguments, but I’m obviously biased.