Brawling Over Stimulus Is the Last Thing America Needs

BoxersFeuds in academia are so vicious, the old saw goes, because the stakes are so small. But the current brawl playing out among academic camps advocating for either more or less government spending as the global economy teeters in the balance raises the ante to levels seldom seen before.

Some partisans, like Princeton University economist Paul Krugman, argue that governments need to increase their stimulus spending to shore up demand. Others, like Harvard University historian Niall Ferguson, counter that additional deficit spending would spell disaster by spooking creditors already skittish about government finances.

The American public, though, seems to see the tussle over stimulus spending for what it really is: a sign that the Establishment has run out of ideas about how to turn around a limping economy. More than offering anything constructive, the stimulus debate seems to be sucking all the energy away from efforts to develop an effective policy response.

No Help From the Ivory Towers

A mere 6% of Americans surveyed believe that the $787 billion stimulus program Congress passed with such at the start of 2009 has created any jobs, a recent poll found. But that isn't stopping a fiery debate between mainly academics knocking down straw-man arguments -- a battle raging in the ivory towers that are supposed to inform much of the country's policymaking.

Those who advocate more stimulus spending, like Krugman, argue that the stimulus was never big enough to begin with. Conveniently sidestepped, though, is the thorny question of how to deploy sums that large in "shovel ready" projects that can meaningfully boost demand.

Indeed, even Krugman identified a lack of such projects as a reason to steer parts of the original stimulus spending into items like tax cuts, which he argued were less beneficial. And only half of the funds earmarked have been put to work so far, according to most estimates.

What Do Rock-Bottom Treasury Rates Signal?

But rather than address those details, Krugman seems to find it more convenient to accuse stimulus opponents of naïve hallucinations. He argues that a fear of "invisible bond market vigilantes" -- his term for those hypothetical investors who might punish the U.S. government for its spendthrift ways by dumping its debt -- is an irrational worry preventing everyone from getting on board with more stimulus spending.

The rock-bottom borrowing costs the U.S. is enjoying amid plentiful demand for U.S. Treasuries has Krugman convinced that any opposition to more stimulus spending is merely delusional and paranoid. But it's much more complicated.

For starters, the robust demand for U.S. government bonds is more than a simple referendum on America's creditworthiness. It's a sign of the massive risk aversion plaguing markets as investors crowd into this seemingly risk-free asset despite very low rates of return. It's more of an indicator of investor anxiety than evidence of a calm about U.S. finances.

Moreover, the benefits from stimulus spending have been very dubious. Using the government's ability to borrow cheaply and apply those funds judiciously for clearly defined goals -- like using unemployment benefits to ease the pain of those hit by the recession or in the form of productive, long-term investment -- is key.

The U.S. Is Not the Next Greece

Making it easy for Krugman to skip over these details are the alarmists on the other side of the table. Ferguson, for example, has been howling that countries with high government debt like Japan and the U.S. are about to face the same wrath of creditors that recently plagued Greece.

But that ignores the immense safety that advanced major economies like the U.S. and Japan offer to creditors, who in the end have a limited number of choices. For example, in the wake of Europe's own jitters, Chinese investors have been flocking to Japanese government bonds despite that nation's high level of public sector debt.

The hyperbolic crossfire comes at a time when real ideas for righting the ship in the U.S. are desperately needed. And to the millions of jobless Americans who are suffering as pundits and lawmakers score points, the debate is anything but academic.
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