Thoughts on Prosperity

As we speak the House and Senate have passed competing versions of a “stimulus” package—policies designed to kick start our free-falling economy. The approach, to spend close to a trillion dollars following on the heels of 700 billion dollars, will encourage banks to lend, people to spend, firms to quit laying off people and invest in new capacity, and a general return to confidence in our economy.

Not everyone, however, agrees with the plan. Nor should they. As I see it, there are two issues that not many are saying much about. One is the lessons of history, and the second, perhaps more daunting, is underlying economic fundamentals.

First, we seem completely unaware that historical efforts to spend one’s way out of economic downturns are not a quick solution. Many believe that a new “New Deal” will stimulate our economy and return us to prosperity in a short period of time. While 75 years of perspective seems to have convinced us such a strategy will work, we seem blind to the reality that 20 years transpired between the implementation of the New Deal and the impact we hope our current spending will have. Nor do we talk much of the social upheaval of war and displacement that happened in between.

Japan’s experience with economic downturn in the 1990s provides a similar lesson. Intensive government spending, to the tune of 181% of gross national product, contributed to economic turnaround in 12 years! To the extent that spending will work, it will probably not work quickly.

Yet the second problem gives rise to doubts that spending will work at all. Keynes’ perception of a “paradox of thrift,” where if people save and don’t consume then plants will shut down and people will be furloughed and then unable to save at all, leads our current politicians to equate spending with patriotism. But the problem is that American’s have nothing left to spend. Collectively we have a negative savings rate and our credit limits have mostly been exceeded.

I can remember as a young boy my Grandfather, who lived through the Great Depression, telling me to avoid credit and live within my means. Save for a rainy day. Build your business from your retained earnings. He sold chickens and eggs to make his living. When the chicken coop burned down, he had no insurance, he simply rebuilt and started over. He lived a hard life, but one that he could always afford and which was sufficient to send two boys to medical and business school and help his grandchildren with their schooling.

Now lest you think this is a “walk to school in the snow uphill both ways” story, I am not advocating that we use no credit or return to a less sophisticated financial system or time. But there are underlying fundamentals to which we must return if we are to create stability and confidence in our markets. And getting there won’t be quick or easy.

# posted by Bryan K. Ritchie @ 8:56 AM