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Archive for September 17th, 2009

One of the (many) frustrations of my job is dealing with the confusion about economic growth. It should go without saying that economic growth occurs when there is an inflation-adjusted increase in national income. Many policy makers (and journalists) presumably understand this elementary observation. Yet those same people usually attach great importance to monthly data on consumer spending. There is nothing wrong with that data, to be sure, but there is something wrong with how it is analyzed. Many people assume that consumer spending drives growth because it is roughly two thirds of the economy. But this puts the cart before the horse. Higher levels of consumer spending do not cause prosperity. Instead, more consumer spending is best understood as a symptom of prosperity.

Consider an example: Would it be a positive sign if national income fell by 1 percent (and assume that this translated into a 1 percent fall in disposable income), but people increased consumer spending by 2 percent by borrowing lots of money and utilizing their credit cards? Retails stores might be happy, but clearly this pattern would not be sustainable.

This is why “Keynesian” policies are misguided. The goal of Keynesianism is to have the government borrow money and then to distribute that money to consumers. Yes, that may bolster consumer spending, but only at the expense of investment spending. After all, the government had to borrow the money out of private credit markets.

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