Reply #52: Believe it or not, both Dem and Repug proposals are based on the same "science": AD=C+I+G + (X-M)

[HamdenRice]

Aggregate Demand equals Consumption pus Investment plus Government Spending plus the surplus of exports over imports (or minus the excess of imports over exports, ie the trade deficit).

Republicans pretend that they are not Keynesians, but they are. Arguing for tax cuts is economically almost the same as arguing for a direct spending stimulus package.

The difference is distributive (who gets the immediate benefit), political and ideological.

The simple equation at the heart of all Keynesian economics:

AD = C + I + G + (X-M)

is also at the heart of the government spending versus tax cuts debate.

AD is down drastically and the question is how to get it up again. It is down because banks stopped lending (causing a catastrophic drop in I) and consumers stopped spending (causing a drop in C) and employers started laying people off (creating a vicious cycle of declining C and declining I). Longer term, we've had decades of catastrophic levels of (X-M) -- so large that they are similar in magnitude to catastrophic energy spikes.

The typical progressive answer to a drop in AD is increase G without increasing taxes. The typical republican answer is lower taxes.

In the formula, C, for example includes consumer spending. Consumer spending is typically described as:

CS = PI - T - S

Consumer spending equals personal income minus taxes minus savings. (By definition, if you take your gross pay, deduct taxes and deduct whatever you save, the rest has been spent, ie is consumption.) If you decrease T, taxes, while holding S steady, then CS goes up. The same holds for I. If you decrease business taxes, holding business savings steady, I goes up.

They are two sides of the same coin -- increase government spending while holding taxes steady versus decreasing taxes. The repugs don't admit it -- in fact they actively lie about it -- but they are fully Keynesians.

But increasing G typically leads to immediate employment for the people who need it most -- the unemployed. It also concentrates the stimulative, multiplier effect, while a tax cut is often wasted (like $300 tax rebates, most families don't really notice it). Direct spending also has a greater multiplier effect.

The other problem is that because both businesses and consumers are scared, a decrease in T might lead to an increase in S, rather than an increase in CS or I. Normally, that wouldn't be a problem because S is recycled through banks via lending as either I or CS to those who will spend it. In the middle of a banking crisis, however, decreasing T is more than likely going to lead to S that is not recycled, which is why tax cuts is not the way to go right now.

So I agree that all the stimulus should go to spending, not tax cuts. But it's wrong to say that the Repug proposals are based on flat earth type thinking. They are basing their proposals on exactly the same "science" as the Democrats, but don't admit it.