- - Monday, January 9, 2012


By Tim Congdon
Encounter Books, $29.95, 486 pages

In early 2009, two of President Obama’s economic advisers predicted that a stimulus package could keep American unemployment below 8 percent. Needless to say, that hasn’t panned out. There’s now a bipartisan consensus that the administration’s stimulus efforts didn’t work.

There’s no consensus, however, as to why. Stimulus defenders such as New York Times columnist Paul Krugman - who trace their ideas to the British economist John Maynard Keynes - say that the package wasn’t big enough. If the government had borrowed much more money and spent it in the American economy, everything would have started moving again.

Another school of thought holds that the stimulus didn’t work because the theory behind it is wrong - and Tim Congdon’s “Money in a Free Society” is a fine explanation of this position. In a series of 18 essays, Mr. Congdon lays out a framework that explains why stimulus doesn’t work, why it appeals to the left anyway, and what the government should do instead to get the economy growing.

A few of the essays make for difficult reading, as they require a basic understanding of fiscal and monetary policy. But those willing to put in the required effort will find them to be filled with important ideas and novel arguments.

Mr. Congdon presents a variety of reasons to think that stimulus doesn’t work. One is that government borrowing “crowds out” private investment; when the government sells bonds to the private sector, it drives up interest rates and leaves the private sector with less money to invest elsewhere. Another is that budget deficits make people worried about the government’s solvency, hurting their confidence and reducing their spending. Yet another is that, by Mr. Congdon’s calculations, increased public spending has not been associated with economic improvement, historically speaking.

Of course, these arguments are hardly the last word, and many professional economists continue to think that stimulus works. But as Mr. Congdon notes, the debate over stimulus isn’t merely economic in nature. It’s also political, because stimulus offers a rationale for increasing government spending, something the left wants to do anyhow. Of course, a truly Keynesian stimulus would end when the economy improves, so that the government could keep its debt under control - but as America’s history and massive debt show, once Congress starts spending money on something, it’s hard to get it to stop.

So, what should the government do instead of stimulus? The alternative to fiscal policy, Mr. Congdon explains, is monetary policy, which includes the efforts the government takes to influence the “quantity of money” - a statistic that Mr. Congdon says should be measured in a broad way, to include all bank deposits. (His favorite official measure is “M3,” which was recently discontinued, a decision he sees as indicative of policymakers’ cluelessness.) The main function of the central bank, Mr. Congdon says, is to make sure that the quantity of money continues to grow at a stable rate.

When the economy is stumbling, one problem might be that the quantity of money has stopped growing in this fashion. In response, the government should try to expand the quantity of money - which can be done in two ways, “open-market operations” and “debt-market operations.” (The latter includes the “quantitative easing” the Obama administration has undertaken, which Mr. Congdon supports.) Mr. Congdon provides as simple an explanation as is possible for these two maneuvers, which is to his credit, because their workings are incredibly complex.

Is there a point at which these techniques can no longer work? An especially interesting argument in “Money in a Free Society” has to do with Keynes‘ theory of a “liquidity trap” - which is essentially when the money the central bank injects into the economy is hoarded, and thus doesn’t help the economy recover. Keynes argued that in a liquidity trap, monetary options are exhausted, and stimulus - spending directly by the government - is the only answer. Keynes‘ disciples, Mr. Krugman in particular, have argued that the United States is in a liquidity trap, and therefore must implement a stimulus.

Mr. Congdon disagrees. The details are far too complex for a brief review, but essentially, he distinguishes between a “narrow liquidity trap” and a “broad liquidity trap.” He says that Keynes was concerned about a broad liquidity trap, but all Mr. Krugman has identified is a narrow liquidity trap. In a narrow liquidity trap, open-market operations may not work, but debt-market operations still can. Here’s what makes this so interesting: In Mr. Congdon’s analysis, even Keynes himself might have advocated changes to monetary policy instead of stimulus.

In November’s election, the economy will be a top issue for voters. But it is hard to decide which candidate’s economic policies are best without an understanding of how money and stimulus work. “Money in a Free Society” is merely one man’s opinion of an intensely controversial topic, so it cannot be treated as a comprehensive textbook on these matters. It should, however, be one entry on every informed voter’s reading list this year.

Robert VerBruggen is an associate editor of National Review.

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