On the 10th Anniversary of the Keynesian Revival: Echoes
July marks the tenth anniversary of the revival of discretionary countercyclical fiscal policies in the U.S. Such Keynesian policies -- sending checks to people to get them to spend more, temporarily increasing government purchases, offering temporary tax credits -- are intended to counter economic downturns.
They were popular in the 1970s, but then fell out of favor during the 1980s and 1990s, largely because they didn't seem to work: in the 1970s, the economy performed very poorly, with both high inflation and high unemployment. In 1978, Nobel Laureate Robert E. Lucas Jr. and his distinguished co-author Thomas J. Sargent wrote an influential, devastating critique of these policies called "After Keynesian Macroeconomics."
Even so, the policies have returned in the past decade, beginning in 2001 when the U.S. Treasury started sending one-time stimulus checks to people in the hope of jump-starting consumption and creating jobs. The first 8 million checks went out in July 2001.
By the end of September, a total of 92 million checks had been sent. It's not easy to cut and send so many checks in such short order -- President George W. Bush had only signed the authorizing legislation in June of 2001 -- and the Treasury employees deserve credit for successfully carrying out a difficult task. But U.S. consumption did not rise as a result of the stimulus. People largely saved the money. The intervention did not work despite the good intentions behind it.
Nevertheless, the same Keynesian policies were tried a second time in the stimulus package of 2008, and again in 2009. This chart shows the impact on disposable income in all three cases. The 2008 stimulus was larger than in 2001, and the 2009 stimulus larger still, though spread out over a longer period.
But just as in 2001, there was virtually no increase in consumption at the time of the stimulus payments in 2008 and 2009. People tended to save the money. When you look at the other big part of the recent Keynesian revival -- the temporary grants to states in the 2009 stimulus -- you see no significant effects on government purchases or the economy.
My new paper, "An Empirical Analysis of the Revival of Fiscal Activism in the 2000s," reviews the evidence. Paul Krugman, in a recent response to this paper, says that he agrees with its empirical findings that the stimulus didn't work, but argues that it just should have been larger. My rejoinder disputes that view based on what happened recently.
The overall experience of the Keynesian revival in the 2000s raises doubts about the effectiveness of these stimulus packages. And it adds more weight to the position reached more than 30 years ago by Robert Lucas, Thomas Sargent and many others.
(John B. Taylor, a contributor to the Echoes blog, is the Mary and Robert Raymond Professor of Economics at Stanford University and the George P. Shultz Senior Fellow in Economics at the Hoover Institution.)
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