More on Laffer’s math

I guess that most of my readers have noticed that I have been somewhat upset by Arthur Laffer’s attempt to demonstrate that fiscal stimulus doesn’t work. While I am certainly very skeptical about how fruitful fiscal stimulus will be I was not impressed with Laffer’s “evidence” that fiscal stiumulus does not work. I did, however, not plan to write more on this – as I certainly do not want to promote fiscal easing anywhere and find this fiscal issue somewhat boring and irrelevant for understanding the present crisis – but then I got an interesting email from Jim Allbery.

Jim is not an economist, but a software developer with a degree in math. Jim had been equally upset by the bad math in Laffer’s Wall Street Journal piece as I had been and Jim actually has taken a closer look at Laffer’s math. Jim sent me a note on his considerations about Laffer’s math. I think Jim’s note is rather interesting and Jim has kindly allowed me to publish it. So here is Jim’s comment on Bad Math in the WSJ

Finally, just to get my position clear. I believe there is a rather significant need for fiscal consolidation in both the US and the euro zone. There is therefore no room for fiscal easing in the US or in most euro zone countries. However, the fiscal position is being made worse by overly tight monetary policy, which seriously depresses growth in both the US and the euro zone. I therefore agree with Laffer that fiscal stimulus is not the way forward in the present situation. However, I am no Calvinist and I do not believe that our present problems are due to bad fiscal policies, but rather due to overly tight monetary policy.

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Related posts:

Arthur Laffer you’re embarrassing yourself
More on Laffer and Estonia – just to get the facts right
“Meantime people wrangle about fiscal remedies”
There is no such thing as fiscal policy

David Glasner’s posts on Laffer’s math:
Arthur Laffer, Anti-Enlightenment Economist
A Laffer Postscript

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10 Comments

  1. I was similarly interested in Laffer’s initial editorial and your response from a purely mathematical perspective. I’ve posted an analysis of it at http://usbudget.blogspot.com/2012/08/laffer-on-ineffectiveness-of-stimulus.html . In any case, I appreciate your intellectual honesty in pointing out Laffer’s mathematical errors despite agreeing with many of his basic points.

    Reply
  2. I guess you feel that fiscal stimulus has been so overwhelmingly debunked in the past that theres no reason to even dignify it with a repsonse…

    However, while I get that you very much prefer monetary to fiscal stimulus. suppose that for whatever reason we could achieve fiscal stimulus right now but not monetary-in reality it looks like we can’t achieve either so I’m not saying this is what the real world is at present.

    Are you telling me that you’d rather continue with the status quo-neither fiscal or monetary stimulus-than having fiscal stimulus and not monetary stimlulus?

    Are you so against fiscal that you’d rather have nothing at all is the question.

    Reply
    • Damn Mike…you would just love me to say fiscal stimulus would be great;-)

      I will give you this. I don’t think there is an urgent need for fiscal tightening in the US. I think targeted tax cuts could do a lot of good on the supply side of the economy and if they are not fully financed it might not be a major concern (in the short-run). However, I continue to think that the impact on aggregate demand/NGDP will ultimately be determined by monetary policy.

      Reply
  3. LAL

     /  August 14, 2012

    the second expression on page 2 is wrong:
    after distributing, 2008 is negative in one and positive in the other… this is not the change in changes of percent change in gdp.

    considering the last expression on page3:
    GDP09/GDP08 + GDP08/GDP07, the 09/08 term is benefited by a smaller denominator: the overall effect (in general) is ambiguous since the 08/07 is hurt by it. apply the same reasoning to the suggested method after simplifying…see what you get? I completely understand the concern about adding what seems to be incommensurable percentages, but they are actually linked (albeit in ugly ways) and it isn’t clear to me that the simplest method is best.

    much economic theory would suggest that most of the benefit would be seen before the end of 2009, but even so, you could extend the methodology and show us yourself. Anyway Laffer I think could be attacking the monetary actions and automatic fiscal stabilizers that were well under way by 2009.

    who knows why Laffer used percent changes to begin with…I guess he figured that Krugman gets away with it so why shouldn’t he…

    Reply
  4. Jim Allbery

     /  August 14, 2012

    LAL,
    Thanks for taking the time to read the paper and comment. You are, of course, correct about the equation on page 2. That minus sign between the two components in parentheses should be a plus. It is the sum of the delta deltas, not the difference. I am quite embarrassed to have made such a stupid arithmetic error in commentary on someone else’s math! Fortunately, it was only in a dead-end attempt to make some sense of Laffer’s measure, and was not the basis for anything else in my analysis.

    I get what you are saying about the 09/08 term and the 08/07 term, however I still do not see how this equation is in anyway a measure of the effectiveness of 2009 economic policy (or much of anything else). Consider a county where from 2006 to 2009, the GDP grew or shrank like this: +10%, +10%, -20% (recession), +30% (dramatic recovery). Laffer’s equation says that this is a -10% failure. And if 2006 had been a year of 20% growth instead of 10%, Laffer would say that it was a -20% disaster.

    My point remains: his numbers do not measure what his text implies they measure.

    Reply
  5. Jim Allbery

     /  August 14, 2012

    Lars has kindly updated his site with my revised document that addresses the error that LAL pointed out.

    Reply
  6. LAL

     /  August 14, 2012

    Yes, I think the only argument he could make is that the percent of government expenditure matters (as opposed to the total amount), which is unlikely and probably silly; thus I am inclined to agree that these percentage methods were not very informative.

    Thanks for the article, I enjoyed going over your work.

    Reply
  7. “Damn Mike…you would just love me to say fiscal stimulus would be great”

    LOL. Lars I know you’re not a fan of fiscsal stimulus. However my question was really about your hiearchy of wants. While you will never see fiscal stimulus as the best choice is it worse than having no fiscal or monetary.

    I’m more in the camp of do whatever you can. If we can get MS take it if FS take it. I see Nick Rowe is a little closer to me on this. Yet one more reason to like the Canadians.

    At least I find you and Sumner honest. You aren’t as so many like Laffer are just using this recession for an opportunity for what youd want anyway.

    Reply
  1. The Bundesbank demonstrated the Sumner critique in 1991-92 « The Market Monetarist
  2. Greece is not really worse than Germany (if you adjust for lack of growth) « The Market Monetarist

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