Mankiw And Meltzer Are Right! More Or Less

by Mario Rizzo  

As we have been saying here, the claims that the fiscal stimulus has saved or created X number of jobs is not a simple empirical question. It must be an inference from a model that tells us what would have happened in the absence of that stimulus. Collecting reports from various firms or local governments about their job situations will not do. At best these individual reports are based on pop-theories on the part of the reporters about what would have happened.

But things are worse than this. In many cases (especially state and local governments) there is an incentive to report job creation in order to ensure the flow of stimulus funds now and in the near future.  

Paul Krugman seems to think that you can make such statements about the job-creation/saving of fiscal stimulus by looking at the data. He thinks that Greg Mankiw “should be ashamed of himself” in not understanding this. Mankiw does a good job of defending himself.

Krugman also extends this criticism to Allan Meltzer who has also criticized Team Obama’s job claims.  

And Brad DeLong  is in the mix too. He says that Meltzer is also doing something suspect in criticizing the idea of “jobs saved.” DeLong says: “Exercise some moral responsibility, Allan. Shameless partisan hack.” 

Well, this economist, for one, agrees with Mankiw and Meltzer.  

When an Austrian, a New Keynesian and Monetarist agree on a point like this it is because we are dealing with a very basic point about economics and how to apply it to the real world.

However, I will admit that I am not all that optimistic about actually determining the number of jobs saved or created by the use of models based on historical data. This is because the economy may be undergoing important structural changes. As I said in August:

The statement that the stimulus has already saved or created a certain number of jobs is not a brute fact – like the presence of the table upon which I am writing. (This is not literally a brute fact, but let that pass.) It is the implication of a theory or a model about how the economy is supposed to work. Suppose the economy is hypothesized to function as a more or less Keynesian mechanism. Let us say that looking backward, the model fit the actual economy’s behavior over the relatively normal past. We shock or “stimulate” it with various amounts of spending. Then, if previous relationships hold, we get results.  

Since forecasting is usually a terribly inaccurate business, using a model – no better than any – to tell us what would have happened if we did not have the stimulus is not likely to produce reliable results – even  under normal conditions. Is it reasonable then to think that such a model or models based on past data will fit these abnormal times? Recall economists of many stripes have been telling us that we are in unprecedented times. 

When such models are used for forecasting, the future comes into actuality and we see how far wrong we were. But contrary-to-fact worlds don’t occur to test the “prediction” of how well off we would have been. (How well do these models predict where we are? We’ll have to see.)  

One possible reason that Krugman and DeLong are so upset is that they want more stimulus and so it is necessary to show that the current stimulus is doing good. At the beginning of the year and before the stimulus bill had been passed, Team Obama came up with a model to show what the unemployment picture would be without stimulus. Quite embarrassingly, that model predicted that we would have less unemployment now without the stimulus than in fact we have!  (See here and here.)

Details aside, Krugman and DeLong either need to think more deeply about economic method or express themselves more clearly. All the talk about “shame” and “moral responsibility” is, in this context, a distraction.

10 thoughts on “Mankiw And Meltzer Are Right! More Or Less

  1. Since I can’t think of anything to write which shouldn’t be obvious to everyone, I’ll just say this: with a name like “Krugman” he’s got to be a bad guy. It’s basic Hollywood logic — evil and/or dangerous people have ugly names.

  2. And here I thought that an Ivy League education (and a Nobel Prize) would have bestowed upon them the mantle of disinterested objectivity. Partisan hacks indeed…

  3. Slightly off topic – i’ve always thought that the theory behind ‘stimulus’ thinking and Keynesian models in general was based on a simple mathematical error. How can aggregates like consumption and investment and government spending be lumped together in a mathematically valid manner, given that they play completely different roles in the economy?

    Y = C + I + G

    That’s like saying;

    Fruit = Apples + Oranges + Lemons

    Aren’t both equations attempting to add unlike terms? Regarding the Keynesian accounting identity, how can it be sensible to suppose that a reduction of two of these terms (C + I) can be compensated for by an increase in the remaining term (G)? That would be like saying that if the apple tree crop gets infected, we can make up the difference by planting more lemon trees. Too bad you can’t make apple pies with lemons.

    The Keynesians look at the economy as a circular system, where only two things flow around – ‘GDP’ and money. This overlooks that the economy is also a production system, where inputs (e.g. investment), logically precede outputs (consumption). There is simply no way in a production system that the reduction of an input can be compensated for by more rapidly consuming the output. This is the fundamental flaw in Keynesian thinking.

  4. Long ago Krugman abandoned all economic logic. He is a political hack, same to a less of a degree De Long. Krugman contradicts himself on a regular basis. As an example he said we had unsustainable deficit levels during the Bush admin. Now he is all for a 3x bigger one because it is the correct kind of deficit spending. Make up your socialist mind Krugman. Krugman is a hypocrite.He has said things like he doesn’t comment on the Austrian School because he considers it a fringe player and not worth his precious time.

  5. Technically, the Keynesian system has two cycles, the flow of income and money, and the flow of resources and goods and services. Like a lot of economics, it abstracts from inputs and looks at the resources used to make goods and services, which are to a large extent common to C, I and G.

    So if something happens to the resources used to make C or I, you use them to make G instead. I don’t see a problem there.

    The problems are that the model doesn’t work when you have anything close to full employment, and even in recession the model is compromised by the way that more G crowds out private sector spending.

  6. It is surprising how many different schools of through think that the current resurrection of activist fiscal policy is a return of an older fallacy.

    Rothbard noted that Thomas Kuhn’s Structure of Scientific Revolutions showed that sciences do not march onward and upward to the light.

    Kuhn found that once a central paradigm is selected, there is no testing or sifting, and tests of basic assumptions only take place after accumulated failures and anomalies in the ruling paradigm plunge the science into a crisis.

    Scientists do not give up the failing paradigm until a new paradigm arrives which resolves the failures and anomalies that caused the crisis.

    Rothbard pointed to economics is an example of a science which moves in a contentious, even zigzag fashion, with old fallacies sometimes elbowing aside earlier but sounder paradigms.

    Thomas Humphrey wrote excellent 200 year long literature surveys of the rules and discretion debate and of the cost-push inflation fallacy in the 1998 and 1999 Richmond Fed Quarterly.

    Humphrey wrote the reviews to see of economics was a progressive science in the sense that superior new ideas relentlessly supplant inferior old ones.

    Humphrey showed that policy rules where popular in good times to contain inflation, and when unemployment was rising, discretionary policies returned to vogue. Cost-push was even more resilient against repeated refutation.

    Barro (1989) and both have made point that Keynesian economics does not seek out new theoretical results for testing; rather to aim is to provide respectability for a basic viewpoint and policy stance of the old Keynesian models.

    Bellante (1992) likewise noted that the search in Keynesian economics for microeconomic foundations is to blunt criticism, rather than because it is otherwise useful. The analytical apparatus may change, but the policy conclusions are the same.

    There is nothing new about economics being condemned to repeat the past.

    Stigler explained why: those economists whose skill and viewpoint is congenial to the interests of large groups will prosper and become leaders of opinion; those lacking either skill or acceptable viewpoint will write letter to provincial newspapers.

  7. Jim,
    very interesting and well said.

    Keynesianism does seem to work on the basis that it’s purpose is to defend political policies rather than advance economics as a science.

    I try to keep in mind when considering the motivations of economists something quite simple; from the economists perspective, who is the customer? Who is ‘consuming’ economic knowledge and data? There are probably three main groups:

    a) governments
    b) lobby groups
    c) other economists

    Those who criticize economics (and the other social sciences) for a lack of success relative to the physical sciences need to realize that in terms of consumer sovereignty, economics, contrary to popular opinion, is doing a great job.

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