The CBO came out today with a new report on the effect of the stimulus, or the American Recovery and Reinvestment Act (ARRA). The conclusion is that the stimulus has had essentially the same impact on GDP and employment as the CBO predicted in March 2009 -- lifting production by between 1 and 3 percent and raising employment by between 0.6 and 1.6 percent. The conventional wisdom (which I've helped forward sometimes) is that the stimulus has worked much worse than the government expected. But the fact that the CBO's new estimates are only changing by fractions of a percentage point -- and often for the better -- suggests that the conventional wisdom isn't so wise.
In the other direction, substantial government spending can cause a shift in resources (including employees) away from production in other firms and sectors to government-funded projects. That indirect crowding- out effect could cause growth in employment among recipients of ARRA funding to be offset by declines in employment elsewhere in the economy. Increases in interest rates are one mechanism for such crowding out: Higher interest rates discourage spending on investment and on durable goods such as cars because they raise the cost of borrowed funds. However, that mechanism has not been an important factor this year because the Federal Reserve has held short-term interest rates at very low levels. Activities funded by ARRA could also reduce production elsewhere in the economy if they used scarce materials or workers with specific skills, creating bottlenecks that hindered other activities. That effect, too, has been much smaller this year than it might be otherwise because of the high unemployment rate and large amount of unused resources (as well as the diversity of activities funded under ARRA)