Why the Stimulus Failed to Create Jobs

COMMENTARY Budget and Spending

Why the Stimulus Failed to Create Jobs

Dec 12th, 2009 3 min read

Senior Research Fellow

Brian Riedl is The Heritage Foundation's lead budget analyst and has built...

Last January, a report by White House economists predicted the $787 billion stimulus would create (not just save) 3.3 million net jobs. Since then, 3.4 million net jobs have been lost, pushing unemployment over 10 percent. And now the White House concedes that by next summer the stimulus will be "contributing little to further growth."

By the White House's own standards, the stimulus failed.

Its central flaw? It was based on the myth that government spending is a free lunch.

Stimulus advocates assert that government spending injects new dollars into the economy, thereby increasing demand and spurring economic growth. It makes perfect sense under one condition: No one asks where the government got the money.

Congress doesn't have a vault of money waiting to be distributed. Every dollar Congress "injects" into the economy must first be taxed or borrowedoutofthe economy. No new income, and therefore no new demand, is created. It is merely redistributed from one group of people to another.

Removing water from one end of a swimming pool and pouring it in the other end will not raise the overall water level - no matter how large the bucket. Similarly, redistributing dollars from one part of the economy to the other will not expand the economy, no matter how much is transferred. Not even in the short run.

The White House says the $200 billion spent from the stimulus thus far has financed nearly 1 million jobs. That may be true. However, the private sector now has $200 billion less to spend, which - by the same logic - must lose the same number of jobs, leaving a net jobs impact of zero. But the White House's single-entry bookkeeping simply ignores that side of the equation.

Some dispute this logic by insisting that this $200 billion represents new demand because it was transferred from savers to spenders. That implausibly assumes every dollar lent to Washington for this spending would have otherwise been saved. Anyone who has observed America's miniscule savings rate understands the private sector would have spent the vast majority of this $200 billion had it not lent the money to Washington instead.

Furthermore, even if all the stimulus money had been borrowed from savers, it still would make no difference. Savings do not fall out of the economy. They are invested or deposited in banks - which then lend them out to others to spend. Even when recession-weary banks hesitate to loan money, they invest it in Treasury bills instead. They don't hoard customer deposits in massive basement vaults. One person's savings quickly finances another person's spending.

Consequently, all $200 billion would have otherwise been spent by the private sector. The government stimulus spending merely displaced private spending dollar-for-dollar.

Even money borrowed from foreigners is no free lunch. Before China can lend America dollars, they must acquire them by running a tradesurplus (which is a tradedeficit for America). America's increased tradedeficit exactly offsets the dollars borrowed, leaving a net impact of zero.

It is tempting to believe that government spending creates income and jobs because we can see the factories and people put to work with government funds. We don't see the jobs that would have been created or factories utilized elsewhere in the economy with those same dollars had they not been lent to Washington.

Consider that a family might normally put its $10,000 savings in a CD at the local bank. The bank would then lend that $10,000 to the local hardware store, which would then recycle that spending around the town, supporting local jobs. Now suppose that the family instead buys a $10,000 government bond that funds the stimulus bill. Washington spends that $10,000 in a different town, supporting jobs there instead. The stimulus hasn't created new spending and jobs, it has only moved them to a new town.

This explains why, despite all the new stimulus-supported jobs, the unemployment rate remains high.

If governments could spend their way to economic growth, then Germany, Spainand Greece would be wealthier than America, instead of stagnating and seeing downgraded credit ratings. If budget deficits stimulated growth, then this year's original $1.2 trillion budget deficit would have overheated the economy even before the stimulus added $200 billion more to bring the deficit to $1.4 trillion. It clearly did not.

In reality, individuals and businesses drive economic and productivity growth through work, investment, innovation and entrepreneurship. This requires less government spending, taxes and budget deficits - not more.

Brian M. Riedl is Grover M. Hermann Fellow in Federal Budgetary Affairs in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

First appeared in the Washington Times