Monday, December 29, 2008

Tax Cuts > Gov't Spending

Over at Greg Mankiw's blog, he recently posted an analysis on the impact of tax cuts vs. Keynesian-style spending on the growth of GDP.

Citing a study by Susan Woodward and Robert Hall, it turns out that, using WWII and the Korean War as a case study, that every dollar spent by the government translates into roughly one dollar of growth of GDP.

Meanwhile, a study by Christina and David Romer indicates that, for every dollar in tax cuts, three dollars of GDP growth is stimulated.

Mankiw analyzes:

One hypothesis is that that compared with spending increases, tax cuts produce a bigger boost in investment demand. This might work through changing relative prices in a direction favorable to capital investment--a mechanism absent in the textbook Keynesian model...

My advice to Team Obama: Do not be intellectually bound by the textbook Keynesian model. Be prepared to recognize that the world is vastly more complicated than the one we describe in ec 10. In particular, empirical studies that do not impose the restrictions of Keynesian theory suggest that you might get more bang for the buck with tax cuts than spending hikes.

No comments: