- The Washington Times - Tuesday, February 4, 2003

Imagine a physician doing invasive surgery to correct a disease about which he knows only the symptoms but is clueless about the cause or the solution.
This is a metaphor for the long history of Keynesian countercyclical fiscal policy, the economic model now being employed by the Congress and the White House.
Everyone is at work on a "stimulus plan" for doing something about the recession. The much-publicized disagreement between the Republicans and Democrats is not about economic theory as such. There has been no critical thinking applied to the subject of why the recession, the longest in the postwar period, continues. Rather, the disagreement is about which levers to pull when, and who should get the benefits.
The underlying idea in the Keynesian tradition is to attribute the length of the recession to insufficient effective demand, so it is up to government to give the economy a kick-start, change public psychology, spend money on anything and everything, stop the money hoarding and start the buying, inflate a bit here and there, drive down interest rates, run deficits for a while, and fool the workers into thinking they're getting raises though their real wages are falling.
That's the traditional mix of policies employed during every recession between the early 1930s and the current day. The only difference in the current recession is that the main concern is the stock market. Moreover, the recession is not marked by notably high unemployment. There's only one problem: There is no evidence this path has ever worked to pull an economy out of recession.
While any non-socialist should cheer a tax cut though if government spends money, it has to come from somewhere let's not pretend the Bush administration is driven by the desire to free the economy from the taxman's shackles. If every dime saved by taxpayers were put into savings accounts, the administration would consider its plan a failure. The idea is to get people to spend the money. This is the type of Keynesian policy Republicans like because it dovetails nicely with Republican slogans about small government.
The idea of eliminating taxes on dividends in particular is designed to boost demand for the stocks that pay them (typically older companies with more political connections). And where is the money that will flow to stocks coming from? Most likely from investments that currently yield interest payments at least that's the theory. If the purpose were merely to boost the business sector and eliminate double taxation, that could be accomplished by a reduction of corporate taxes, an idea that was ruled out early on.
Another idea that made a brief appearance in late December was to create a payroll tax holiday. The Democrats favored this idea because it would benefit their constituents, but the Republicans rejected it out of hand, proving once again they have no general interest in making government cheaper for average Americans. The idea was quickly dropped when everyone realized the dangers associated with creating a precedent that would allow people not to pay a tax. After all, if a tax holiday is good for the economy, why not make it permanent?
But will draining savings and boosting spending cure what ails us? No, because the U.S. economy is, in fact, not suffering from some blight of insufficient aggregate demand. It is suffering from the malinvestments of the previous boom, when the capital-goods sector expanded disproportionately to what savings could justify, an imbalance brought about by the Federal Reserve's loose money policies of the late nineties.
But you won't read about this in the literature of the Keynesians who still rule the roost in Washington. For further proof, look at the headlong rush to extend unemployment benefits on into the future. This is completely contrary to what economic reality should dictate. In a recession with unemployment, wages need to fall in real terms. But an ironclad tenet of Keynesian economics is that this must never be allowed to happen. By this one error, the Great Depression in the U.S. and Britain was prolonged by many years.
There are several undeniable realities of a recessionary environment. Wages tend to fall. Businesses tend to be liquidated. Resources are withdrawn from investment and put into savings. Consumers spend less. Stock prices fall.
All these tendencies may seem regrettable, but they are necessary to bring all sectors back into realistic balance with each other. It can only do harm to fight these developments, as Japan has done for 10 years and Washington is doing again today.
Even if the first stimulus held out the prospect for success, Washington has worked for 18 months to cripple economic growth through mind-boggling spending, aggressive protectionism, and attacks on the personal liberty that undergirds free enterprise. The prospect of war and all it entails is the Sword of Damocles threatening American prosperity. All this drains power and resources from the private to the public sector, the last thing an economy in recession needs.
Might the economy be in recovery mode had Washington not engaged in these destructive acts? Perhaps. It is a general rule of public policy that when government acts to fix a problem, it makes the targeted problem worse and creates a few more in the process.
By all means cut taxes. Anytime, anywhere. But one must also cut spending if the goal is to reduce the overall burden of government (and that is clearly not the goal). One must also be prepared for the possibility citizens will save this money, as they probably should, rather than spend it. In the current D.C. hysteria, however, it is Keynesianism and not clear economic thinking, that rules.

Llewellyn H. Rockwell Jr. is president of the Mises Institute in Auburn, Ala., and editor of LewRockwell.com.

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