Stimulus Economics: The Data Says NO!

Okay. I’ll admit it. Having read Sinclair Davidson’s post on the Premier’s plan and the stimulus, I was somewhat skeptical. Heck, you have to bear in mind that I went through High School being taught that the Premier’s Plan failed, and besides, I thought that U.S government spending only went up after FDR took office in 1934. Plus Sinclair’s graphs were a little bit fuzzy. So I decided to research this on my own. Because if Sinclair was right, we really had an iron strong case against stimulus packages.

I mean think about it. Take two economies in an identical situation, and test the impact of different government policies on them. It would be the perfect experiment! We could, for instance, find out whether or not stimulus spending actually works or not! And this is exactly what the case was. After all, both countries were in an almost identical position, both followed deflationary monetary policy, the only real difference was the U.S engaged in stimulatory fiscal policy, Australia did not. So. I set to work.

And what did I find.Firstly, I looked up US Federal Spending, which the Office of Budget Management conveniently posts online. And lo and behold, under President Hoover, federal spending did in fact rapidly increase government spending in real terms by over 70% between 1930 and 1932 (from $2.7b to $4.7b, adjusted for deflation), despite revenue collapsing by over 40% ($3.3b. to $1b9b, adjusting for deflation). In fact,  by 1934, when FDR took office, US. Government spending had increased a whopping 250% over 1929 levels. In contrast, the Australian government in August 1930 resolved to cut Federal spending by 20%, and restore a balanced budget. Looking at the actual figures for Commonwealth spending from the ABS Year Books, I found that whilst perhaps Federal Spending did not quite fall as much as they wished, there was a real decrease in Federal Spending. I should note that I used the Bureau of Labor Statistics and the Reserve Bank of Australia to factor in inflation (or, as the case was, deflation – how often do you write that!)

Taking this data, I created this graph:

Spending

It is clear that 1931 is the year the policies diverge.

From the beginning of the year, the U.S increases spending by 45%, Australia cuts it by 15%.  If the fundamental theory underpinning ‘stimulus’ economics holds, we should see, almost immediately, a change in outcomes. Australia’s GDP should decrease, whilst GDP should increase in the U.S. Similarly, unemployment should go up in Australia, and fall in the U.S.

So. What happened. This time I went to the OECD (behind paywall) to find out US and Australian GDP per capita during the early years of the depression, and plotted them such that 1929 was the base year of  this index. And guess what happened?

GDPGraphWow.

Australia’s GDP starts to grow. In the U.S it continues plummeting. In fact, almost immediately after Australia resolved to slash the size of government, it’s GDP began to rise.

I can not stress this enough. In the year that US Government spending increased 45%, GDP fell a whopping 17%. I repeat, 17%. In Australia, where government spending fell 15%, GDP increased 5%. In the following year, while the U.S “stimulated” economy fell 2%, Australia’s grew a whopping 7%. While the U.S economy eventually begins to improve, as the business cycle kicks in, it does so at a considerably delayed rate to Australia, where the government did not crowd out the private sector thereby delaying the recovery.

There could be no better example of how the economics behind ‘stimulus’ packages fail.

Then I decided to look at unemployment rates, again using ABS statistics and combining them with the BLS. Again, please note, the critical year here is 1931, the year the two countries diverged in policy.

UnempAgain, wow.

From 1931-1932 unemployment index in Australia stabilizes, while in the US it increases almost 8%. Whilst the US rate begins to stabilize the following year, it is clear from the Australian experience that this would have occurred faster, and more effectively, without the stimulus. Not captured here is the fact that Australia had double the U.S rate of unemployment to begin with, and in 3 years had less than half.

I suppose there is a reason why Henry Morgentha – FDR’s very own Treasury Secretary from 1934-1945 said “we have tried spending money.  We are spending more than we have ever spent before and it does not work. . . . I say, after eight years of this administration, we have just as much unemployment as when we started . . . and an enormous debt to boot.”

So. To summerise. In 1930 the U.S and Australian governments, when faced with an identical situation, responded in different ways. The U.S tried a ‘stimulus’, Australia tried cutting government.

The U.S. government policy failed. Abysmally. On every indicator.

The facts don’t lie.

My thanks again to Professor Davidson for opening this up to me!

(By the way though, I should note that I don’t claim to be any good at maths, so if I have made any mistakes (and I don’t think I have), please do let me know – I won’t be too offended!)

(Cross-posted at Thoughts on Freedom)
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7 Responses to “Stimulus Economics: The Data Says NO!”

  1. Sean Says:

    Tim,

    A very interesting article and the latest series of stumuli are operating in a comparatively more open economy so leakages will have a greater impact.

    The stimulus in the US was less effective because the financial system was fundamentally broken. Banks were collapsing daily so fiscal stimuli to boost aggregate demand only target the symptoms of financial disaster rather than the root cause.

    The credit crunch will show the limits of fiscal stimuli. Economists like Stiglitz are now advocating another round of stimulus spending. These academics suffer from confirmation bias in their blind belief to Keynesian pump priming. They ignore the impacts on interest rate, the availability of credit to an economy, the impacts that this will have on crowding out large corporates trying to raise debt financing in the capital markets.

    The only way the US and Australia will grow is via the private sector. Crowding out the private sector is a perfect recipe for stagnation and a “lost decade”.

  2. Tim Andrews Says:

    Yes indeed.
    *sigh*

  3. Adam Gwynne Says:

    That’s some pretty impressive research Tim.

  4. Lorenzo Says:

    FDR was elected in 1932 and took office early in 1933. Apart from that minor correction, nice post.

  5. Tim Andrews Says:

    So he did. Thanks for the correction!

  6. henry hoover Says:

    Website if no, amount of finesse?Work you have, reasonable time after.Is low back, others This allows.Month Lorenzo Market henry hoover, this is worth important role inclusion.This make-up or, Baby is YoungMany.,

  7. Mcintyre Says:

    Regarding stimulus packages and the economy, where do you get the best grocery savings

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