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Thursday, October 01, 2009

"Multiplying Multipliers"

Paul Krugman responds to Robert Barro's claim that the government spending multiplier is much less than one, and he notes other research that comes to a different conclusion:

Multiplying multipliers, by Paul Krugman: Mark Thoma, Menzie Chinn, and The Economist all have posts on the question of the size of the fiscal multiplier.
Mark already provides links to my various commentaries on Barro. But let me repeat the gist. Barro makes a great deal of the fact that private spending fell during World War II, rather than rising the way it should in a classical Keynesian (oxymoron?) story.
What I and others immediately pointed out was that this tells us very little about what would happen under current conditions: during World War II there, um, was a war on: consumption goods were rationed, construction required special permits, and so on. The government was, in other words, deliberately suppressing private spending, through direct controls. So WWII is not a useful data point for determining what the multiplier is under other conditions.
Barro’s response to this, as far as I can tell, was … nothing. I don’t think he even acknowledged the nature of the complaint.
On a happier note, this piece by Ilzetzki et al is interesting, and offers a wide range of multipliers depending on a country’s situation. The question for the United States is which estimate is most relevant.
I’d say it’s the fixed exchange rate estimate. Yes, I know, we have a floating rate. But they explain the relatively high fixed-rate number by pointing to Mundell-Fleming, which says that fiscal policy is effective under fixed rates because it doesn’t drive up interest rates (capital flows in). We’re in a similar position for a different reason: fiscal expansion doesn’t drive up rates because we’re at the zero bound.
Oh, we’re also relatively closed.
The thing is that both the fixed rate and closed multipliers are around 1.5 — which so happens to be just about the number assumed by Christina Romer in her analysis for the Obama administration. Just saying.

    Posted by on Thursday, October 1, 2009 at 01:06 PM in Economics, Fiscal Policy | Permalink  Comments (12)


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