This is an article written in 2009 replying to an article that criticised something I had written prior to that. My own article reprinted below was titled, Picking losers and was in reply to this written by James Guest. My original article that set this exchange in motion was published at Quadrant and titled, The Dangers of Keynesian Economics, dangers which are endless and only getting worse. There is nothing in the least dated in the article reprinted here even if the names are now different and the circumstances have now changed. For all that, governments are still stealing from the poor and middle class to give to our so-called public servants along with the rich.

The difference between myself and James Guest seems to come down to whether one actually believes markets work or, instead, thinks that we cannot count on them for growth and prosperity and that the government must come to the economy’s rescue to keep things ticking over. 

There has been, let us agree, a major dislocation in markets across the world. Jobs are being lost in 2009 at a rate we have not seen for sixteen or seventeen years. It’s not good, you wish it were better, but it’s the way things are. 

Moreover, these occurrences are not unknown but take place with a kind of regularity that makes their visitation unwelcome but not completely unexpected. Economies are subject to the cycle, and in the downturn firms that cannot make a quid disappear. 

So what do we do now? Do we have our domestic entrepreneurs decide where the best use of our resources would be, or do we leave it to Kevin Rudd and Co? Do we let people who have a market-focused desire not to lose their money make such decisions, or do we pass the baton onto a bunch of politicians and public servants who, if a productive economy is still our aim, are almost by definition incapable of deciding how our resources should be put to use. 

Let me therefore say exactly what Richard Posner is quoted as saying so there is no need to infer anything about my thoughts. The stimulus is very expensive and may well do major long-term damage to the economy. 

We are already looking at a budget that we are told is going to squeeze billions out of every hollow log the government can identify. The Government has committed large amounts of money on various projects of its own that it now must fund by raising taxes and imposts at every turn while winding back various benefits that had been provided in the past. 

How can any of this be a good thing? We are socialising more and more of our economy, putting decisions into the hands of those who have no genuine competence to make productive decisions. It will rescue some now at the expense of many more later on. 

James Guest quotes my writing that “it is clearly difficult to get the message across that spending money on anything at all is not the road to growth.”  It just seems to me that in his reply, he confirms just exactly that. 

He signs on to the expenditure on insulation without I am sure having done a moment’s worth of analysis himself. He writes: 

If the program were using resources which would otherwise be used in a more productive way that would be a ground for criticising it but that is not likely to be the case because the contracts to insulate houses and the budget spending tap for them can be turned on and off very quickly.  

OK, then. Come to the end of the project. There will then be many houses with insulation and there will be the debt the government incurred in having all this work done. You can say the same about the school auditoriums that are being built on the same principles. But what there won’t be is a single dollar of additional cash flow in the hands of government which it can use to pay off that debt. 

This is in complete contrast from a well chosen, properly costed private sector project of the same sort. In the private sector, such activities are designed to be self funding from the eventual cash flows that accrue when the project is up and running and earning its keep. 

On government project of this kind, however, there really never is a time when the debts are paid off. Only when some form of austerity is forced on public revenues because of the need to pay off the interest on the debt do the debts eventually disappear. 

And all the while the resources that are being used in these loss-making government projects are not being used in profit-making activities elsewhere. There are therefore the large but invisible losses to the economy of all the activities that were not done because the government has decided to direct our limited and scarce capital and labour into projects of its choosing. What we are losing are the projects that would have been supported on the market by people who would actually have been willing to pay for the goods or services when they were finally put up for sale. 

From the way James Guest writes, you would think we were in the midst of the Great Depression. You would think that we are wrestling with mass unemployment rather than a minor downturn in activity that, were it left to work itself out, could at least in Australia, be over and done with by the start of next year. 

We do not have a quarter of the labour force unemployed, as we did in 1932. That a forecast unemployment rate of between 7-8% should be a trigger for a spending frenzy shows a lack of proportion, and little regard for the long-term consequences that piling up such debt may cause. 

The problem once again seems to come back to macroeconomic theory as it is now taught. All spending is good no matter what it’s on. You put the various outlays under the labels consumption, investment or government – the C+I+G of modern theory – and forget about what you are spending the money on. It is really all the same, so the particulars apparently don’t matter. 

Public sector construction projects, without an increase in value relative to their costs, is a loss-making enterprise, just as it would be in the private sector. Running deficits for a net loss in value is like a giant Ponzi scheme. 

Macro theory tells you that there are multiplier effects. Even if the original outlay loses money, it is said, all of the secondary expenditures on various goods and services do their part to keep the economy growing. 

But if the initial expenditure loses money, then all of the secondary expenditures that hang off it are contributions to an overall loss-making project. Imagine if every one of the related expenditures had been part of a single enterprise. The fact that this spending is broken down into individual payments to various enterprises only disguises the fact that whatever is being produced is not leading to the creation of enough value to repay all of the costs. 

The economy is not creating enough additional value to validate the increase in the total level of spending. Something, somewhere will have to give. 

There is then the US.  The American stimulus package puts in place an immense increase in expenditure and a massive increase in debt. Yet James Guest believes that Obama’s $800 billion package is so paltry that it is “hardly going to touch the sides”. 

Is there really no sense of just how much sludge in the crankcase this expenditure will create? What will it take for it to be understood that economic growth occurs not in the spending but in the goods and services produced? 

It is true that a large part of the wealth we thought we had has disappeared. It was paper wealth, bundled up in asset values that when actually tested on the market, turned out to be a mirage. That says to me that our economic structure had become distorted and that some rearrangement of our economic structure is now required. 

Into this readjustment process we are now going to interpose government direction of expenditure on assets that will never pay for their own keep and we are doing so without an ounce of evidence anywhere to show that they will. 

We are creating the conditions for a very slow recovery in real incomes and another downturn to follow whatever upturn we now manufacture. Because of our spending today, the basis for a truly sustained period of growth and prosperity may continually elude us. 

Each and every job in the private sector must create value for those who employ. In the public sector, around the first 30% of expenditure might be productive in that sense, but the rest is taxpayer funded admin and transfers. I don’t say it is necessarily without value or purpose, only that it is dependent on taxpayer funding to allow these activities to occur. 

But what can be said about the extraordinary expenditures governments are now taking on to spend the economy into recovery? These are deficit financed without a thought in the world on how to pay them off. 

It is the timeworn role of governments to pick losers. It is what governments can be expected to do for which they have had much practice. I cannot think why they should be encouraged further along this road than they have already gone.