Thursday, January 22, 2009

Barro's Multiplier

Robert Barro, Harvard professor, former Rochester professor, and strong candidate for a future Nobel Prize in Economics, has one of the best explanations of the concept of the multiplier effect in his WSJ article today.

Team Obama is doing their math with a multiplier of 1.5. That suggests that government spending will add one-and-a-half times its own value to GDP, without displacing any private production. Barro's own estimates show that wartime spending has a multiplier of 0.8, and peacetime multipliers have not been significantly different than zero. That is, in peacetime, government stimulus spending is completely offset by lowered private production. Society gets zero net benefit, and government debt rises.

If this is hard to understand, read Barro's article, which explains the concepts at greater length and with more fluency.

32 comments:

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inos said...

Is the "future Nobel Prize" the wishful thinking of the Global Review, or a real possibility?

Chops said...

Definitely a real possibility, though no guarantee.

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Barros's proposed alternative, that projects should only be done if benefits exceed costs, is useless, because every project in the stimulus package purports to meet that criterion. There are societal benefits to reducing pollution, reducing traffic congestion, improving education, etc., and so there is an endless list of projects accomplishing this -- but because it's hard to get revenue out of these benefits, there's too little money to pay for them all. So it's easy for the stimulus package to find a trillion dollars of "worth-it" projects.

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