Tuesday, January 01, 2013

Of Pizzas and quantitative easings

Bill Black takes on P.J. O'Rourke's Pizza critique of Obama. Prof. Black does it well so I simply quote him here and then add some of my comments below:

O’Rourke has gotten his pizza metaphor reversed. Obama’s positive-sum policies produced economic growth while the eurozone’s negative-sum austerity programs caused a recession. Under O’Rourke’s metaphor, it was Obama who made more and bigger pizzas. Had the members of Congress who, like O’Rourke, favor the negative-sum policy of austerity not diminished and warped Obama’s proposed stimulus Obama would have created even more and larger pizzas with better toppings available to a broader group of diners.
Simply put, the problems in terms of the pizza example during adverse economic conditions like we are facing are following:
  1. Without government intervention, the number of pizzas produced declines leading to pizzas being available only to wealthy thus skewing the pizza availability in favour of those who already have some.
  2. If government intervenes, it can make as many pizzas as before or more. However, in making them, government must spend money which it must borrow. Further, government cannot sell pizzas at profit as people cannot afford them even at cost price. Thus, government must incur losses. It can truly recover these losses when it no longer needs to produce pizzas and it can tax the profits of others who are able to profitably make and sell pizzas.
  3. If government already has some money due at the time pizza production falls, and it decides to reduce its debt burden, then number of pizza available falls drastically - more than in first case.

Now, A correctly executed stimulus will yield more pizzas and need less money. The need for stimulus is undoubtable and so is the fact that such stimuli will cause rise in deficit. The focus of debate should be ways to improve the effectiveness of government stimuli rather than the need for stimuli itself. Such a debate would have been more productive in keeping the increase in deficit as small as possible. Unfortunately, 70 years after Keynes explained all this we are still at the same point having learnt nothing.