Optimal fiscal policy in a liquidity trap

[jk]

Optimal fiscal policy in a liquidity trap (ultra-wonkish) paul krugman

One thing that’s been bothering me about the discussion over fiscal stimulus is the virtual absence of fully worked-out models, with all their t’s dotted and eyes crossed, or something. Not that a rigorous model is always better than a rough-and-ready but more realistic approach, but I like to have both on hand. So I’ve tried a very rough sketch of a full, intertemporal maximization yada yada analysis of the fiscal policy issue. It was written in a hurry, so it’s surely incomprehensible to readers who don’t know the New Keynesian Economics literature, and probably incomprehensible even to those who do.

But here’s what the model says: when monetary policy is up against the zero bound, the optimal fiscal policy is to expand government purchases enough to maintain full employment.

Unreadable little paper here. You have been warned.

http://krugman.blogs.nytimes.com/200...ultra-wonkish/

[vinoveri]

Re: Optimal fiscal policy in a liquidity trap

Optimal fiscal policy in a liquidity trap (ultra-wonkish) paul krugman

One thing that’s been bothering me about the discussion over fiscal stimulus is the virtual absence of fully worked-out models, with all their t’s dotted and eyes crossed, or something. Not that a rigorous model is always better than a rough-and-ready but more realistic approach, but I like to have both on hand. So I’ve tried a very rough sketch of a full, intertemporal maximization yada yada analysis of the fiscal policy issue. It was written in a hurry, so it’s surely incomprehensible to readers who don’t know the New Keynesian Economics literature, and probably incomprehensible even to those who do.

But here’s what the model says: when monetary policy is up against the zero bound, the optimal fiscal policy is to expand government purchases enough to maintain full employment.

Unreadable little paper here. You have been warned.

http://krugman.blogs.nytimes.com/200...ultra-wonkish/

Thanks for the post JK.

Looks to me like he started with the conclusion (i.e., gov needs to spend) and employed smoke and mirrors to justify/arrive thereto (but what do I know, I studied physics not macroeconomics). The conclusion after all is what "everyone" seems to want - and when have we ever heard from these Keynsians that the gov shouldn't spend (unless its a vague reference to not "crowding out the private sector"). I'm sure he'll be invited to Capitol Hill to expound on his new revolutionary theory so that our big gov folks have a noble laureate they can point to to support the coming profligacy (and make no mistake, boondoggle for those who get the money first).

His concluding paragraph really gives me confidence that the experts are going to take care of us all (where do they learn how to obscure so well with this gobbledy-gook?)....

The bottom line here is that while we usually think of Keynesianism as the preserve of ad hoc models, in this case doing it "right" – using a macromodel with maximizing agents and a proper concern for intertemporal constraints – actually suggests a very strong case for big government spending in the face of a liquidity trap. When the economy is depressed and monetary policy can’t set it right, the true opportunity cost of government spending is low. So let’s get those projects going.

Sounds like he's saying something to the effect of "when the gov has failed with plan A, go to plan B" and what do you think he means by "opportunity costs of gov spending", uh maybe potential gov insolvency, (oh forgot were already there), currency collapse (oh forgot, "we" want this to some degree, right?), threat to the standard of living of future generations ... oh year, forgot, we can grow ourselves out of our debt ....

[jk]

Re: Optimal fiscal policy in a liquidity trap

i think that

"opportunity costs of gov spending"

=

"crowding out the private sector"

[*T*]

Re: Optimal fiscal policy in a liquidity trap

Looks to me like he started with the conclusion (i.e., gov needs to spend) and employed smoke and mirrors to justify/arrive thereto (but what do I know, I studied physics not macroeconomics).

Which is why economics is no science. With model-based work, the results are pretty much a function of the assumptions used. There doesn't seem to be much critical self-examination as to validity of assumptions going on within economics.

But then, I also studied physics, not economics, so what do I know?

[metalman]

Re: Optimal fiscal policy in a liquidity trap

Which is why economics is no science. With model-based work, the results are pretty much a function of the assumptions used. There doesn't seem to be much critical self-examination as to validity of assumptions going on within economics.

But then, I also studied physics, not economics, so what do I know?

i figure krugman's angling for a job on the obama gravy train.