This is an exceptional time--a time in which many of the normal rules of the Dismal Science are changed and transformed. It is a time for, as Paul Krugman puts it, not normal economics but rather “depression economics.” The terms on which the U.S. government can borrow now are exceptionally advantageous. And because of high unemployment the benefits of boosting government purchases are exceptionally large.
The result is that the normal benefits and costs of borrow-and-spend policies by the government are overturned for the short run—for as long as the current economic crisis of high unemployment lasts. Yet I find that many people do not understand that and how arguments that hold perfectly well in normal times do not apply today. In normal times a boost to government purchases:
- Produces a limited increase in production and employment,
- Is associated with a substantial increase in national debt,
- Which crowds out productive private investment,
- And which then must be financed at a sizeable interest rate.
Thus only government spending initiatives that promise a high value for the dollar are worth undertaking. Now, however, things are very different. Let’s run through the arithmetic--first in normal times, and then in a financial crisis-ridden environment like this one.