Paul Krugman writes:
But the stimulus wasn't nearly big enough to restore full employment -- as I warned from the beginning. And it was set up to fade out in the second half of 2010.
I've heard this complaint from a number of commentators, and it always surprises me. Did anyone think we were going to get a stimulus big enough to restore full employment?
How much unemployment reduction you get for a given amount of stimulus spending is, obviously, at best an imperfect estimation. But let's take the CBO's estimates as representing a rough consensus of those who favor stimulus: for our $800 billion, we got a reduction of 0.7 to 1.8 percentage points.
Full employment is perhaps 4.5-5%. If we assume that stimulus benefits increase linearly, that means we would have needed a stimulus of, on the low end, $2.5 trillion. On the high end, it would have been in the $4-5 trillion range.
I'm going to go out on a limb and say that even if Republicans had simply magically disappeared, the government still would not have been able to borrow and spend $2.5 trillion in any reasonably short time frame, much less $4-5 trillion. The political support for that level of government expansion simply wasn't there among Democrats, much less their constituents. Even if they had found the political will, I doubt that government institutions could have effectively channeled that much new spending. And assuming away those two problems, would lenders really have been available to fund 18% deficits at rock-bottom rates?
The CBO's numbers imply that even if we'd gotten a much larger stimulus--$1.3 trillion, say--unemployment would at best be something under 9%. The economy would still be underperforming.
If course, linearly-scaling stimulus benefits is a pretty heroic assumption. Maybe they build on each other, so that the next $800 billion delivers twice the unemployment reduction of the first. On the other hand, maybe stimulus has diminishing marginal returns, and the next $800 billion delivers half the stimulative benefits; given that most things eventually exhibit diminishing returns, given that we hopefully did the best projects first, and given all the institutional bottlenecks on the spending, I find this at least as plausible as the notion of increasing returns to stimulus.
Which raises an interesting question: what if Keynesian stimulus works, but no one can ever actually afford to do it, short of something like World War II, where the government can tap into a patriotic outpouring of national savings by issuing bonds with negative real yields.