Facing an economic downturn and an election, politicians of both parties seek to stimulate consumer demand— and some business investment—through political action. If the early 2008 “Stimulus Package” does not succeed, they promise there will be “more to come.”
As in recent stimulus campaigns—for example, during the first terms of presidents Bill Clinton and George W. Bush—politicians almost uniformly accept the legitimacy of government stimulus and rarely ponder the future economic harm such intervention may cause.
Genuine stimulus would entail liberalization of the economy from excessive regulations, interventions, and spending, and from political inflation of the money supply. It would maintain the conditions—legal order, minimal regulations, and stable institutions—within which wealth can be created while recognizing that governments do not themselves create wealth.
“Say’s Law” in economics holds that supply creates its own demand. A relative overproduction of certain goods may occur, implying that too many scarce inputs have gone into the production of unwanted items relative to inputs for desired goods. But general overproduction—to which demand stimulus would allegedly provide relief—is not the core economic problem.
Among the prerequisites for economic well being—along with negligible political interference—is low tolerance for special-interest pleadings for resource transfers, no political maintenance of wages or prices above market levels, and a rejection of government-granted monopolies. Indeed, there is a tendency for recession if government does not perform these classical functions of preventing the interest group manipulation that distorts smooth economic enterprise.
Unfortunately in today’s world, the opposite of Say’s Law—“demand creates supply”—dominates macroeconomics and politics generally. Political expediency induces policy makers to overlook the long run, and to support measures like short-term demand stimulus packages. Such artificial demand distorts the freely determined distribution between consumer and producer goods. Political stimulus sends resources in the wrong direction and the true adjustment that the market actually needs is further postponed.
It may very well be that, while downturns and recessions can be effectively addressed through voluntary, market means—as Say’s Law implies and its noninterventionist adherents maintain—our current political framework does not allow for non-governmental resolution as an option. We rarely open the newspaper to read the headline, “Government Decides to Do Nothing about Economic Downturn.” Policy prescriptions like the 2008 election-year stimulus package may foster political ends that have little to do with actual economic recovery.
A real test of Say’s Law will require changes in what most people expect from government, and in what representatives in government are able— constitutionally—to do in the name of public service. Once it moves beyond performing its “classical” functions of maintaining order and thwarting contrived scarcity, government becomes a transfer mechanism, one inherently limited in what it can contribute to the real economy. It can add little, and subtract much.
One immediate form of “stimulus” is to cut marginal tax rates to facilitate economic activity via increased supply. With returns to enterprise increased and workers and investors certain that present efforts will be penalized less, the economy will begin expanding owing to reduced effective tariffs on the creation of supply. Similarly, a sustained program of reducing governmental regulatory interventions in the economy, and invigorating institutions to keep such interventions minimal, point the way toward prosperity and wealth creation, and to an economy that can finally eschew damaging appeals to political stimulus.