Keynes recommended governments run deficits during bad times and surpluses in good times.
The surplus recommendation seems to be largely ignored.
The idea is that recessions happen because there's this spontaneous behavior on the part
of New Yorkers.
They just stop going into the Carnegie Deli and ordering tongue sandwiches, and now we
have a recession.
There's massive unemployment as the Carnegie Deli has to lay off its workers, and the Federal
The Federal Government can come in and fix this by providing the City enough money to finish building the Triborough Bridge.
Yes, that is an oversimplification, but...
The analytical tests presented here face two main problems.
One is that deficits may result from economic downturns either as government revenue is lost endogenously
or because the deficit is purposely enlarged
to combat the recession. Thus recessions may cause deficits and if this is the
case it becomes somewhat specious
to conclude Keynesian stabilization policy fails to alleviate recessions.
A further difficulty is that Keynes's recommendation for surpluses in good
times
is never followed so we can't test theoretical Keynesianism
only Keynesianism and practice. First we regress the unemployment rate as the
explanatory variable and the GDP growth rate to explanatory variables on the
deficit being explained here expressed as a percentage of GDP. The positive
significant coefficient on unemployment means that larger deficits accompany
Any Higher Unemployment, and this is with annual data from 1948 to 2012.
If Keynesian Stabilization Policy as practiced has not been positively harmful, it certainly
has not been especially effective.
The insignificant coefficient on GDP growth may be due to multicollinearity.
When we take out GDP growth and just reverse the left and right-hand sides of this regression,
so now we have the deficit explaining the unemployment rate, and again we find a significant
and positive coefficient, meaning that deficits accompany, if not actually cause, higher unemployment.
We also find that every 1% of GDP the deficit rises based on the size of this coefficient.
That increases the unemployment rate by one half of one percent, and that's about 700,000
workers thrown out of work each year for the U.S. today.
The intercept in this equation can be taken as an estimate of the natural rate of unemployment
4.66 percent.
Not that that has anything to do with Keynesian stabilization policy, it's just an interesting
side effect of this research.
Regressing current and two-year lagged deficits on the GDP growth rate, we find that deficits
lower GDP growth, but that it takes up to two years for this effect to manifest itself.
The very low R-square of about 11% indicates that numerous other factors influence or determine
and GDP Growth Apart from the Deficit.
Explaining the standard deviation of unemployment
with the standard deviation of the deficit
shows that greater volatility in one
increases volatility in the other.
And this is the idea that if you increase the deficit,
it should cause this standard deviation to go down
if it's really stabilizing.
Now, higher instability for the unemployment rate
actually could be a good thing if in fact larger deficits lowered unemployment, it would
be good to see it going down by a larger amount. Unfortunately, we've already found that larger
deficits bring about higher unemployment. So higher volatility in unemployment is certainly
not a good side effect in this context. Since the increased volatility is in the wrong direction,
and it turns out to be a very bad thing.
Finally, regressing the current deficit on the change in unemployment over four years,
we find that deficits have a protracted positive impact on unemployment four years later.
I freely admit that I was not a great fan of Keynesian stabilization policy to begin with,
Stimulus government spending or monetary expansion may have short-run benefits, as Austrian business cycle theory predicts, but it seems clear that their persistent long-term effects are all detrimental. Attempts to stabilize expenditure appear to be inherently destabilizing, resulting in greater unemployment, permanently lost income and output, and lower long-term GDP growth.
and Growth. Thank you.