Responding to Krugman and Sullivan

by Kevin Hassett

A few friends have pointed out to me that some on the left have become unhinged by my short two-paragraph blog post about the employment report. This observation seems highly suspect, as it begins with the precondition that these fellows were safely “hinged” before my piece was written.  But I suppose I should respond anyway.

The two paragraphs apparently appall Mark Thoma, Andrew Sullivan, and Paul Krugman because my post connects the increase in private-sector employment to the dwindling of the stimulus, an observation that was fleshed out in detail in a piece for National Review last month, and related to an interesting new research paper at the NBER. The accusation, which parrots a piece written by Ezra Klein a while ago, is that I was an advocate of Keynesian policies when Republicans proposed them, I oppose them now, and, thus, am clearly a partisan hack.

I have three problems with this assertion.

First, writing that the jobs report was strong probably serves the Democratic cause, not the Republican. Seems like an odd choice for a hack.

Second, the objective of science is to change the information set. If one makes an observation based on a new result in 2012 that is inconsistent with an observation in 2001, then perhaps it is because the information set changed. I prefer to listen to people who change their mind now and then.

Third, the second point is irrelevant, since the main argument about stimulus between the Left and the Right has been the same for about 50 years, and my testimony in 2001 makes essentially the same point I am making today, something that is obscured by unusually selective quotation. Recall that back then the policy debate was about the Bush tax cuts, which were intended to be permanent. Advocating a permanent tax cut then and opposing Keynesian stimulus today are fully consistent. Look at what my testimony then said, reread the attack posts, then have yourself a nice laugh before you quit for the day:

I should note that the view that a stimulus could now be effective is not an endorsement of Keynesian tax policy. Back in the 1960s, many Keynesians believed that economic fluctuations could be offset by tax policy. If consumers tend to consume too little in a downturn, then government could, it was thought, fix that with tax policy. A big tax cut, timed correctly, would boost spending and help push the economy out of the doldrums. The Keynesian theory applied on the upside as well. Tax increases in good times were recommended to stop a booming economy from overheating. 

It was Nobel-laureate economist Milton Friedman who first pointed out the key problem with such policy regime: It only works if citizens are extremely shortsighted. Consider: If a temporary tax cut gives you $1,000 today, but you know that you will have to pay it back next year — with interest — how much will you change your behavior? If you’re like most people, not very much. 

This does not mean all government policies are ineffective. On the contrary, if firms and individuals are rational and forward looking, high taxes can have enormous negative effects on the long-run health of the economy. But if you just jigger taxes up and down from year to year, hoping to manipulate the economy, you will fail. Taxes can set the level of activity around which the economy fluctuates, but they have very little effect on the fluctuations themselves. 

The President’s tax cut is not Keynesian for one simple reason. He does not plan to raise tax rates as soon as the economy starts to boom again because the current surplus is large enough to accommodate his tax cut. Under the Bush plan, a taxpayer would pay lower taxes this year and again in the future If experience is any guide, such permanent tax cuts are likely to have large positive effects. 

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