Daily Policy Digest: Economic Issues

The Naked Stimulus: Why Savings Stimulate More Than Spending

Despite the struggling economy, President Obama argues that his stimulus package is producing gross domestic product (GDP) growth that is far better than the disaster that would have ensued without the $862 billion in emergency spending. The reason, he and his advisors maintain, is that what really counts is spending -- the more the better, at least for now, says Shawn Tully, Fortune Magazine's senior editor-at-large.

But the administration's policy has a fundamental flaw. It's impossible to raise GDP by borrowing from one group of people, who would otherwise save that money, and transfer it to another group of people (and the government) to spend. Savings, in the short term, have precisely the same impact on national income as spending, says Tully.

GDP measures all spending on all the goods and services that America produces.

Savings translate, dollar for dollar, into a major component of that total spending: investment.

All the money that the administration successfully moves from savings to consumption simply channels one type of spending to another, in precisely offsetting amounts.

The GDP does not change when the government drains investment to lift consumption.

Over long periods, savings -- not consumer spending -- finance the investments in mainframes, robots and other capital equipment that enhance productivity and drive economic growth.

So what would have happened if we'd had no stimulus at all?

First, private investment would be higher, because of the bigger pool of savings -- a positive sign for the future.

Second, the United States wouldn't have to borrow nearly as much from abroad.

Source: Shawn Tully, "The Naked Stimulus: Why Savings Stimulate More than Spending," Fortune, September 9, 2010.

For text:
http://finance.fortune.cnn.com/2010/09/09/the-naked-stimulus-why-savings-stimulate-more-than-spending/?section=magazines_fortune

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