In today’s world, the term “smart” has permeated every aspect of our lives. We have smart cities, smart grids, smart policies, and an array of smart devices ranging from TVs and cars to watches and even underwear. The trend suggests that soon, our environments will become so intelligent that we might not need to think for ourselves anymore—smart algorithms will do the heavy lifting of thought for us.
Just recently, Chicago Fed President Charles Evans hinted to President-elect Donald Trump that fiscal policies should be “smart.” This implies, rather amusingly, that they should avoid being “stoopid.”
Fortunately, New York Fed President William Dudley elaborated on what constitutes smart fiscal policy. According to him, such policies should include automatic spending programs that activate during economic downturns. He specifically mentioned that extensions of unemployment benefits and reductions in payroll taxes could be triggered when a recession occurs.
The appeal of this so-called smart fiscal policy is that it would operate automatically, allowing Congress to act like automatons without needing to engage in deep thought.
What Could Possibly Go Wrong?
Of course, Dudley’s proposal of smart fiscal policy might sound brilliant in the insular world of Fed policy discussions. It appears deceptively simple, doesn’t it?
During a recession, unemployment checks could be extended automatically, while payroll taxes could be reduced without manual intervention. This fiscal stimulus, operating on autopilot, would theoretically provide the economy with the boost it needs to resume growth. Once recovery is underway, this loose fiscal policy would taper off automatically.
But really, what could go wrong?
It all seems cleverly symmetric. With simple parameters, the coding for these automatic triggers could be outsourced and integrated into the federal budget for minimal cost. Yet, this raises additional questions.
How does Dudley determine in advance which fiscal stimulus would be the most effective? Can he accurately forecast the future to guide these decisions? Is he aware of where transfer payments will actually reach, aside from potentially fueling bad habits?
What about smart infrastructure or defense spending? Don’t these avenues promise greater returns on investment?
Smart Programs of Capital Destruction
Perhaps. While infrastructure and defense spending can yield tangible outcomes, they don’t always do so effectively. Unfortunately, fiscal spending often results in misguided projects that produce questionable benefits.
The late economist Murry N. Rothbard pointed out that, “Deprived of a free price system and profit-and-loss criteria, the government can only blunder along, blindly ‘investing’ without being able to invest properly in the right fields, the right products, or the right places. A beautiful subway may be built, but no wheels will be available for the trains; a giant dam could arise, yet no copper for transmission lines exists.” Such mismatches highlight the malinvestment resulting from government planning.
Fiscal stimulus through infrastructure and defense spending is what the incoming administration claims it desires. Reports indicate a plan to invest $1 trillion into infrastructure over the next decade, aiming to accelerate economic growth.
While this may stimulate certain activities, we must ask ourselves if it will lead to the prosperous destination we hope for.
The unfortunate truth is that enhancing malinvestment through deficit-driven fiscal spending ultimately leads to capital destruction. We wish this were not the case and that fiscal stimulus could serve as an economic cure-all.
However, without the guiding hand of market forces to direct capital investment, any growth achieved will likely extinguish rapidly. Furthermore, the inflation that may accompany this spending will negate the positive effects of any growth.
The debt incurred as a result of these policies will persist. Unless, of course, it gets inflated away—taking with it the accumulated savings, aspirations, and dreams of generations.
Sincerely,
MN Gordon
for Economic Prism
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