Krugman Sees Spending as Spending

Paul Krugman sees hypocrisy when fiscal conservatives bemoan the lack of investment spending:

There’s now a lot of talk about the fact that U.S. corporations are sitting on a lot of cash, but not spending it. I don’t find that particularly puzzling: with huge excess capacity, why invest in building even more capacity. But almost everyone seems to agree that if we could somehow get businesses to spend some of that cash, it would create jobs.

Which then raises the question: how can you believe that, and not also believe that if the U.S. government were to borrow some of the cash corporations aren’t spending, and spend it on, say, public works, this would also create jobs?….

I have never seen a coherent objection to this line of argument.

Here’s the difference. If a company spends money investing, it expects to create more value than it spends. That is, if the NPV of spending is greater than 0, meaning not merely via some multiplier, but the spender himself expects to garner more money than he spends, otherwise the NPV is less than zero. Businesses may make mistakes, but surely this is their expectation, and generally they are correct, as profit, on average are positive (in spite of Marx’s prediction in Book 3 of Das Kapital).

So, having GOOG spend $1B creates more than $1B in wealth via a virtuous circle of self-interested exchange. In contrast, if the government spends $1B on a light-rail environmental impact study and Global Warming research, the payback is much less than the $1B. You can say such spending creates $1B+ in wealth through the multiplier, but many of us fiscal conservatives are skeptical of such multipliers, especially given the political context in which such spending decisions are made.

When businesses invest it is not merely that they are writing checks that makes it productive, it is that they are spending money where they by definition expect to create value. Decentralizing investment decisions, relying on individuals to create wealth, is the Invisible Hand. When government spends, this is hardly ever the case. It’s a distinction with a difference, one that a true Keynesian simply can’t understand.

About Eric Falkenstein 136 Articles

Eric Falkenstein is an economist who specializes in quantitative issues in finance: risk management, long/short equity investing, default modeling, etc.

Eric received his Ph.D. in Economics from Northwestern University , 1994 and his B.A. in Economics from Washington University in St. Louis, 1987

He is the author of the 2009 book Finding Alpha.

Visit: Eric Falkenstein's Website

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