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Can the Stimulus Stall Unemployment?

Stimulus Spending

Is it possible that stimulus spending may depress job growth?

Why hasn’t the federal stimulus spending program managed to slow or stop the rising tide of unemployment?

Veronique de Rugy of The American, a publication of the conservative think tank American Enterprise Institute, presents an argument  that stimulus spending may actually depress job growth.

Putting aside the question of whether the stimulus is too small or being spent too slowly, what too many stimulus advocates overlook is that to spend money, the government needs to either borrow, tax, or print it (or combine these). Money taxed or borrowed from the private sector is money that firms cannot spend on goods or employees. The government’s slice of the pie gets bigger by making the rest of the pie smaller. This may explain in part why the stimulus has not translated into declining unemployment.

Studies on the topic indicate that “when the government grows by $1, the private sector shrinks by 20 cents” to generate a “crowding-out effect.”

de Rugy cites an op-ed in the Wall Street Journal by Robert J. Barro, a Harvard economics professor, and Charles Redlick, a recent Harvard graduate, that relies on historical data to argue that stimulus spending has greater effect as unemployment rises.

While government spending during a period of average unemployment crowds out private investment, an increase in unemployment makes government intervention slightly more efficient. They write, “Our research also shows that greater weakness in the economy raises the estimated multiplier: It increases by around 0.1 for each two percentage points by which the unemployment rate exceeds its long-run median of 5.6%. Thus the estimated multiplier reaches 1.0 when the unemployment rate gets to about 12%.” In other words, it takes a lot of job losses for government spending to stop shrinking the private sector.

Other theories on why unemployment has risen despite the stimulus are offered by Stefan Deeran on BNET’s Intercom blog:

1. Some economists, including Paul Krugman, have argued that the problem with the President Obama’s plan is that the spending is not big enough. Hence, they think that a second stimulus is needed.

2. Other economists are arguing that the money is not being spent fast enough. Indeed, at this rate, the economy is likely to have recovered before most of the stimulus money has been spent.

To date the Obama administration has spent $107 billion in stimulus funds, with an additional $144 billion allocated and $330 billion approved by Congress, according to ProPublica’s Stimulus Progress Bar.

But “it’s an academic question as to how many more jobs would have been lost had there been no government action,” said Deeran.

(Image by ziek, via Flickr, CC3.0)

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