Tuesday, December 2, 2008

Pisani-Ferry on Stimulus

Jean-Pisani Ferry considers the problem of coordinating stimulus plans in the Eurozone. In Europe, with its patchwork economic governance, debate will naturally gravitate toward this question of coordination. In the United States, however, criticisms of the still-unformulated Obama stimulus package have tended to focus on the question of what theoretical assumptions will inform the plan and whether the proposal will please economists who make different assumptions about how the macroeconomy works. Greg Mankiw, for instance, asks about the robustness of certain nostrums under alternative models and notes that IMF chief economist Olivier Blanchard published a paper with Roberto Perotti which found that

... both increases in taxes and increases in government spending have a strong negative effect on private investment spending. This effect is consistent with a neoclassical model with distortionary taxes, but more difficult to reconcile with Keynesian theory: while agnostic about the sign, Keynesian theory predicts opposite effects of tax and spending increases on private investment. This does not appear to be the case.

Mankiw: "
I am especially attracted to the goal of robustness: we should try to find a stimulus plan that works under a variety of alternative business cycle models." A pious wish, but does such a beast exist? Still, it's good to have the caution flag raised as we prepare to spend on the order of a trillion dollars. One of the problems with Europe's balkanized system of economic management is that the complexities distract from the essential question that Mankiw raises.

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