Must-Read: Paul Krugman: Multipliers and Reality

Must-Read: Paul Krugman: Multipliers and Reality: “When Bernstein and Romer assumed that [the fiscal multiplier] was 1.5, Robert Lucas accused them of ‘shlock economics‘…

…and smeared Romer’s professional ethics. Since then there has been quite a lot of empirical work, which generally indicates a multiplier of about… 1.5. Now… Simon Wren-Lewis and Robert Waldmann raise… interesting issues. Wren-Lewis argues for a multiplier of around one… [from] a priori reasoning…. Waldmann counters that… real consumption decisions reflect rules of thumb that can easily lead to a multiplier much more than one….

And I would add: don’t forget the investment accelerator as well. Tobin’s q is really not a sufficient statistic for the determination of business investment; capacity utilization measures matter a lot.

Krugman:

The point [Wren-Lewis] makes about the implications even of perfectly well-informed and rational consumers was and as far as I know still is totally misunderstood by freshwater economists…. Lucas’s attack on Romer rested in part on the [false] claim that government spending on a new bridge would lead consumers, anticipating future taxes, to offset it one for one with cuts in their own spending; this is completely wrong if the spending is temporary….

Rigorous intertemporal thinking, even if empirically ungrounded, can be useful to focus one’s thoughts. But as a way to think about the reality of spending decisions, no…. Consider (from Vox) what the public knows about the biggest new government program of recent years[, ObamaCare]…. If people are that uninformed about something that big, imagining that they do anything like the calculations assumed in DSGE models is ludicrous. Surely they rely on rules of thumb that don’t make use of the kind of information that plays such a large role in our models…