It is as though the Fed were riding on the back of a double-headed monster. It cannot hang on forever, but it cannot dismount the beast without being devoured. As it is, the U.S. Treasury depends on ZIRP to fund America’s ballooning debt. When investors flee an enfeebled dollar the Fed is likely to be the “buyer of first resort” so that the price of Treasurys does not fall, pushing up interest rates. (So far Treasurys with low yields are still in high demand.) So with the Fed insisting that short-term interest rates will remain near zero “for an extended period,” a phrase used for the past two years, a new round of QE is almost inevitable.

For its part, QE involves flooding financial institutions with excess liquidity to try to flatten out the yield curve and depress long-term interest rates in hopes of sparking a recovery. But QE has created a massive overhang of excess reserves in the banking system that constitute repressed price inflation. And the sums involved are truly staggering: The Fed has injected at least $2.3 trillion into the financial system since Lehman Brothers collapsed in September 2008.

From late 2008 through March 2010 the Fed bought longer-term securities worth $1.7 trillion (QE1). This included purchases of $500 billion in mortgage securities and $100 billion in agency debentures with a target of $1.25 trillion for mortgage debt. Purchasing mortgage-backed securities and bailing out AIG and Bear Stearns, as well as buying other securities, led to a 140 percent increase in the monetary base.

In November 2010 the Fed began QE2 by buying an additional $600 billion in longer-term Treasury securities, a program that officially expired at the end of June. Yet the Fed has indicated it will continue buying Treasurys using proceeds from maturing debt it already owns.

Stealth Easing

With over $112 billion of the Fed’s government bond holdings maturing over the coming 12 months, replacement alone would involve purchasing over $9 billion of Treasurys each month. It also has more than $914 billion of mortgage-backed debt and $118 billion of debentures issued by government-sponsored enterprises (Fannie Mae and Freddie Mac). As such this is a “stealth” continuation of QE with only a limited, if any, decrease in the money-creation process.

For all the fanfare about QE, it must be said that it constitutes a last-gasp step and admission of the failure of other monetary policy tools. Consider the case of Japan. Its central bank, the Bank of Japan (BoJ), began asset purchases under QE to offset deflation and stimulate its ailing economy in early 2001. After nearly a decade of setting interest rates near zero the BoJ realized it had been unable to conjure up an economic recovery. Then after five years of gradually expanding its bond purchases, the BoJ exercised an exit strategy from QE in 2006, only to begin again.

Last March the BoJ increased its QE program from ¥5 trillion to ¥10 trillion (about $130 billion) scheduled until the end of 2012. Recently it announced another expansion to ¥15 trillion ($183 billion).

Incentives vs. Growth

A child untutored in economics might think it makes no sense to continue massive increases of liquidity into the economy that have been ineffective for so long. But most central bankers and many economists argue that previous amounts were too little and more is needed.

The incentives that QE and ZIRP create for commercial banks make it easy to see why these policies cannot promote economic growth. On the one hand, low interest rates reduce the cost of borrowing, which should encourage more investment spending. But on the other, commercial banks pay almost nothing to borrow yet receive interest payments from the Fed to hold excess reserves, making them unlikely to extend new loans.

A sufficiently high interest rate paid on bank reserves will induce banks to choose a risk-free interest-bearing asset rather than lending to private-sector borrowers. And so it is that commercial banks are earning record profits while making very few new loans.

Exit Strategy?

The question of whether the Fed or the BoJ has an effective “exit strategy” from monetary expansion using near-zero interest rates and quantitative easing remains open. One possibility for the Fed is to engage in repurchase agreements (repos) to remove some of the excess liquidity that it pumped into the financial system.

These repos involve selling securities to commercial banks with the Fed agreeing to buy them back at a higher price at a later date. But once again commercial banks will find holding risk-free interest-bearing assets a much better bet than issuing new commercial loans.

In the end both QE and ZIRP have been ineffective in restoring economic vitality while also creating a massive overhang of repressed inflation. Most economists view business startups, especially small and medium-sized enterprises, as the key to economic recovery and growth. Yet QE and associated central-bank policies are diverting credit away from newly forming firms.

The Fed has now announced it will continue the “exceptionally” low short-term interest rates until the middle of 2013. This indicates that U.S. central bankers are unconvinced of the errors of their ways in their policy choices. That they are unwilling or unable to change course means the U.S. and Japanese economies are doomed to painfully slow economic growth for the foreseeable future.

TV hosts of course are not authorities on economics, so when they judge Keynesianism as the only truly scientific economics, they mean two things: That is what a Keynesian taught them in school and that is what all their Keynesian friend-guests assure them is the case. Since they never invite a non-Keynesian economist on their shows, they insulate themselves against informed dissent from their faith. Who’s antiscience?

I know many people who (like me) reject Keynesian economics and embrace science (while realizing that scientists are prone like the rest of us to confirmation bias and career ambitions.) But Matthews & Co. say there are no such people.

This explains their intolerance to those who refuse to agree that in a recession government spending is indispensable to raising aggregate demand and restoring economic growth.

If you point out that every dollar government spends, whether taxed or borrowed, is a dollar removed from the private sector, the Keynesian pundit might agree but point out that business is not investing (true) and consumers are not spending (false)—so what’s lost?

The pundits’ blinders keep them from a broader perspective. Since all they know is the most vulgar rendition of Keynesian economics, they have no idea that two distinct factors now prevent economic growth. First, the boom (without which there’s no bust) was created by monetary, housing, and financial policies that to a great extent still exist. Government officials are trying to resurrect the housing industry, indicating that the ruling elite still does not realize that the industry’s pre-bust condition was the artificial result of misguided interventions. Widespread malinvestments—investments unjustified by real underlying conditions—have to be liquidated before economic growth can resume. Liquidation requires the costly but necessary adaptation and transfer of resources and labor to purposes for which there is genuine demand. This correction cannot take place if political responses to the recession get in the way by, say, discouraging saving.

Second, the government has created significant new regulatory uncertainties that chill the investment climate. With so many yet-to-be-written rules coming down the pike, why would anyone risk money now? A government regulatory regime is bad enough; one that can change at any moment is far worse.

Finally, the pundits are blind to the fact that government can’t create real jobs by design. It’s not that government can’t pay people to do things. But in economic terms, a job is not merely exertion in return for a paycheck. It’s activity that transforms resources from a less valued form to a more valued form in the eyes of consumers.

Keynesian pundits insist that a stimulus program to pay workers billions of dollars to repair schools, roads, and bridges would qualify as productive because people value those things. What’s missed is that we live in a world of scarcity and tradeoffs, and that we always make choices at the margin. Repairing a school may sound good in a vacuum (Which school? How elaborate a repair?), but not so good when something more valuable must be given up in exchange.

We all make similar tradeoffs in the marketplace, and we can do so intelligently because goods and services have prices. But government-produced goods and services are not priced and sold in the market. Instead, government collects its revenues by threat of force, and politicians and bureaucrats dispose of them ostensibly in the interest of the people but more likely in the career interest of those same politicians and bureaucrats. Without prices and free exchange—without entrepreneurship—we cannot know if what government produces is worth the alternative goods and services forgone. Putting the infrastructure into the freed market would correct this defect.

The Keynesian pundits, then, are wrong. The government need not be the spender of last resort because 1) producers and consumers would spend just fine if it would get out of their way, and 2) the government can’t be relied on to create, rather than destroy, value in its use of scarce resources.

* * *

In a move reminiscent of medieval times, the government of Atlanta has told independent street vendors they now owe tribute to a new monopoly contractor. Bob Ewing describes this outrage against economic freedom.

“Infrastructure” is the magic word for those who want the government to spend ever-more amounts of the taxpayers’ money. Richard Fulmer reminds them that this is no substitute for a free economy.

The American people continue to be plagued by unemployment. What is it exactly, and where does it come from? Warren Gibson starts a two-part series this month.

People favoring a tax-hike strategy for reducing the federal deficit point to the booming Clinton years for support. Arthur Foulkes takes a closer look at those years.

Russell Conwell was well known in the late nineteenth century for his inspirational speeches about entrepreneurship and self-help. Today he’s forgotten, but Harold Jones, Jr., is trying to change that.

Fed Chairman Ben Bernanke promises to continue his near-zero-interest-rate policy for another two years. But Christopher Lingle says that would be a disaster.

Failure can be painful, but not as painful as what results from a public policy aimed at preventing failure. Jack Knych and Steven Horwitz explain.

Communitarian sociologist Amatai Etzioni has been railing against libertarianism for at least 30 years but refuses to respond to rebuttals. Aeon Skoble gives him one more chance.

Our columnists have had fun coming up with topics for their sharp observations. Lawrence Reed remembers Samuel Tilden. Donald Boudreaux finds fault with economists. Stephen Davies uses debt and taxes to gauge political failure. John Stossel looks at some historical myths. David Henderson traces the causes of the 1967 Detroit riot. And Tyler Watts, reading Paul Krugman’s appeal for more government spending because it will create jobs, responds, “It Just Ain’t So!”

Our book reviewers have been absorbed in works about the financial crisis, a champion of the freedom philosophy, libertarianism, and capitalism.

That’s right: Despite record federal spending and unprecedented Federal Reserve intervention, the economy remains depressed. Beyond stating the obvious about the nonrecovery Krugman frets about the long-term implications of the stubbornly sour labor market. He also notes that consumers are “still burdened by the debt that they ran up during the housing bubble,” which, to my Hayek-schooled mind, sounds an awful lot like the drawn-out bust phase of a credit-fueled business cycle.

Rather than concluding that deficit spending and printing money are the wrong cures for what ails us, Krugman complains that government is not doing enough. Citing the tea-party Republicans’ “deficit obsession,” Krugman complains that government has been “pulling back [rather than] supporting the economy in its time of need.” He also cites lassitude at the Fed, claiming it’s been “intimidated by the Ron Paul types” into overreacting against potential inflation. Krugman argues the federal government should be doing much more, and its top priority should be creating jobs, not reducing the deficit.

While Krugman avoids the specifics of what such grandiose federal jobs programs would entail, he’s on the record supporting massive New Deal-style public-works spending, which would employ “armies of government workers.” Krugman also favors more monetary stimulus by the Fed to boost spending throughout the economy. In brief Krugman is saying we have not yet begun to fight the Keynesian battle of stimulus on either the monetary or fiscal fronts.

Let’s review the figures. Since September 2008 the Fed has more than tripled its balance sheet, printing roughly $2 trillion in new bank reserves, monetizing around $900 billion of U.S. government debt, and lending over $3 trillion to U.S. and foreign banks. As for federal spending—the real growth engine, in Krugman’s mind—it increased by 40 percent (29 percent in real terms) from 2007 to 2011 to a record $3.8 trillion, with half that increase coming in the recession year 2009 alone. “Stimulus” spending by itself has amounted to $666 billion so far, and federal bailouts have racked up at least $150 billion in taxpayer costs. Since 2007 gross public debt has increased from 64 to 103 percent of GDP.

And Krugman’s argument again? Government is not printing and spending enough. This fetish for unlimited spending juxtaposes strangely against a backdrop of perhaps the most fiscally profligate decade of American history, but I’ll give Krugman credit for boldness. However, the figures themselves, shocking as they are, mask the real question: Can more government spending actually encourage productive employment that promotes overall economic welfare?

Stimulus enthusiasts like Krugman are sure it can. And their first big task for the new labor armies is to go forth and fix America’s broken infrastructure. Haven’t you heard? America’s roads, bridges, sewers, airports, and more are in total disrepair—so says the infrastructure lobby. But these folks—an assortment of large construction, manufacturing, and transport companies, and their unions—have been carping about infrastructure being underfunded for the last 30 years. No surprise here: like any special-interest group, they want a continued and enlarged flow of federal funding. Hence my Public Choice nerves twitch at every mention of “crumbling infrastructure.”

But let’s concede that they’re right: that our infrastructure is in a sad state and more federal spending would be a wise investment. Using the infrastructure lobby’s figure of 18,000 new jobs for every $1 billion in government spending, doubling federal infrastructure spending would reduce the unemployment rate to 8.3 percent. And this ignores the matter of timing, as infrastructure projects require years of planning and regulatory hurdle-jumping before they’re “shovel-ready.” Nonetheless, even the most unrealistically generous assumptions about infrastructure spending indicate that if you want to get the economy back to full employment, it’s going to take a lot more than just public works.

But stepping back from labor army fantasies, there’s something absurd about using infrastructure “investment” as a jobs program. To the extent that federal funding of infrastructure is economically advisable, “good government” would require minimum expenditure (read: minimum employment), lest said public works turn into a black hole of rent-seeking—public spending to enrich private interests.

Infrastructure spending is not immune to the institutional inefficiencies that beset all government programs. But questioning the value and efficiency of public works is only half the matter. Call me a conservative stick in the mud, but the little question of how the government is going to pay for all this largess strikes me as relevant these days.

Krugman of course sees no problem here. He is on record favoring larger deficits, seeing historically low interest rates as a go-ahead for even more federal borrowing. Oddly enough, others in the economy, such as Standard & Poor’s, see a quite large problem with continuing government debt growth. It’s called insolvency: If you have too much debt and you can never pay it off, bad consequences ensue. (I wonder if Krugman would advise a family with $325,000 in credit card debt on an income of $50,000 a year to go ahead and open up a new credit card account simply because it came with a 0 percent teaser rate?) While Krugman, with his stale brand of vulgar Keynesianism, appears increasingly oblivious to it, other recent events have revealed in stark fashion what our real economic problem is—excessive government debt, a direct consequence of excessive government spending.

The fixation on ever-bigger government stimulus programs to “fix the economy” reveals the basic fallacy with Krugman and the Keynesians. They view “the economy” and “the government” as distinct entities—as if poor little Johnny Economy would be just fine if only rich, stingy old Uncle Sam would open up his wallet and give Johnny a job! The reality is that the economy is us—the government exists within the U.S. economy, not apart from it. To “support” the economy the government must take resources from the very same economy. This can only confer a net increase in productive activity if government bureaucrats and politicians a) are truly benevolent, suppressing their representation of private interests in favor of “the general welfare” and b) know better than individual entrepreneurs throughout the country how to wisely invest scarce resources.

Since the days of Hume and Smith, economists have rightfully heaped skepticism on such assumptions. Politicians and bureaucrats are neither angelic nor omniscient; simply increasing their ability to print and spend is not a formula for prosperity. The fact that the United States is currently suffering the lingering effects of a complex recession and government debt crisis does not change these lessons, but confirms them. To adapt a phrase from a president who understood this (even if he couldn’t quite enact it): In our present crisis government spending is not the solution to the problem; government spending is the problem.

As described in William J. Bernstein’s book The Birth of Plenty: How the Prosperity of the Modern World Was Created, France’s minister of finances under Louis XIV from 1665 to 1683, Jean-Baptiste Colbert, worked tirelessly to expand commerce by improving his country’s roads and canals.  Unfortunately, trade was hindered by more than potholes — a complex system of internal tariffs was throttling commerce.  Colbert tried to dismantle the tariffs but was only partially successful.  After his death, “all fiscal restraint was lost.  By the end of Louis XIV’s reign three decades later, the State had doubled the tolls on the roads and rivers it controlled, and the nation that had once been Europe’s breadbasket … was bled white….”  Bad regulations trumped good roads.

Prometheus Bound (in Red Tape)

During the Great Depression, Franklin Roosevelt initiated massive public-works programs to improve the nation’s infrastructure in hopes of putting people back to work and jumpstarting the economy.  The construction efforts were staggering.  According to Conrad Black:

The government hired about 60 percent of the unemployed in public-works and conservation projects that planted a billion trees, saved the whooping crane, modernized rural America, and built such diverse projects as the Cathedral of Learning in Pittsburgh, the Montana state capitol, much of the Chicago lakefront, New York City’s Lincoln Tunnel and Triborough Bridge, the Tennessee Valley Authority, and the heroic aircraft carriers Enterprise and Yorktown. They also built or renovated 2,500 hospitals, 45,000 schools, 13,000 parks and playgrounds, 7,800 bridges, 700,000 miles of roads, and a thousand airfields.

Yet these extraordinary accomplishments were not enough to pull the nation out of the Depression. Neither were the millions of jobs generated by this monumental work.

Not only did the work direct resources away from the private sector but, worse, Roosevelt unleashed a regulatory blizzard on the nation’s private sector, significantly increasing the risk of doing business in the country.  Higher personal, corporate, excise, and estate taxes; wage and price controls; production restrictions; antitrust lawsuits; and constant experimentation provided few incentives for companies to expand.  As in Louis XIV’s France, an improved infrastructure could not revive commerce in the face of stifling government regulations.

High-Speed Rail to Nowhere

Today, Barack Obama is touting high-speed rail and other infrastructure improvements as keys to economic renewal.  But if massive infrastructure investments were not enough to turn the economy around in the 1930s, they are far less likely to do so today.  Because Roosevelt was starting from a lower base, his improvements would have had a far greater impact on the economy of his day than would similar work done now.  Furthermore, the lighter regulatory burden in the 1930s meant that there were projects then that truly were “shovel ready.”  Today, environmental impact studies, possible archeological finds, and nuisance lawsuits may stall construction for years or halt it completely.

The real roadblock to economic growth is the burgeoning regulatory burden that President Obama, like Roosevelt before him, has placed on business.  According to a study by James Gattuso and Diane Katz, “[T]he Obama Administration imposed 75 new major regulations from January 2009 to mid-FY 2011, with annual costs of $38 billion.”  Hundreds of additional regulations will pour forth from Obamacare, Dodd-Frank, and proposed EPA greenhouse gas restrictions.  All this is on top of an already monumental regulatory burden imposed by government.  According to a Small Business Administration report (pdf), the cost of regulatory compliance was over $1.75 trillion in 2008 alone.

Goods, people, and information will not flow freely across a nation, regardless of the quality and extent of its infrastructure, if taxes and regulations block their flow.  Trade perished in France as Colbert’s improved roads and canals were made all but useless by high internal tariffs.  Some 700,000 miles of new and rebuilt roads were not enough to move commerce past the regulatory roadblocks that Roosevelt erected.  President Obama’s proposed high-speed trains will not pull the country over the mountain of regulations that has been created in the decades since the Great Depression and that Obama has raised to new heights.  A bridge wrapped in red tape is truly a bridge to nowhere.

In his State of the Union address earlier this year, President Obama spoke of the need for the federal government to help boost the economy by making “investments” in a wide variety of areas, including construction jobs, high-speed rail, education, biomedical research, “clean energy” technology, and even high-speed wireless Internet access. But this “investment” is just a code word for more spending on pet programs. This will only lead to more economic stagnation, not economic recovery, because the wealth-consuming nature of public investment is fundamentally different from the wealth-creating nature of private investment. Taxpayers ignore this difference at their peril.

President Obama’s form of investment promises to “create countless new jobs for our people,” but he does not stop to ask from where the money to pay for all these new jobs will come. It must be taken from others “of our people,” either today, through tax increases, or tomorrow, through borrowing (which will harm the economy in the future and delay the ultimate recovery). Of course, taking money from taxpayers to fund these new jobs means there is less money left in the private sector to invest in new jobs and business growth.

The crucial difference between the public sector and the private sector is that the public sector cannot create wealth; it can only shift resources from one group of people to another (after skimming some off the top to placate special-interest campaign donors and support bureaucratic inefficiency, of course). In the private sector, job growth—and economic growth generally—occurs when firms create something that consumers value. In the public sector, government growth occurs whenever government can appropriate more money from the people, and these funds are directed to whatever politicians desire.

The government’s “investment” in green energy startup Solyndra Inc. is a case in point. Last May, President Obama visited the Fremont, California-based solar panel maker in a highly publicized photo-op to hail it as the kind of business in which he thinks the country should invest. And that’s just what the government did. In September 2009 the administration announced that it was awarding Solyndra $535 million in taxpayer-funded loans to finance the construction of a new solar-equipment factory. The following June, just one month after the President’s visit, the company cancelled its initial public offering, and its CEO quit the following month. In November 2010 the company announced it was abandoning its plans to expand its Fremont facility (and the planned hiring of a thousand workers) and would even have to close another factory in the East Bay, eliminating nearly 200 additional workers. That’s some investment.

Throwing Good Money after Bad

This episode did not prevent Obama from visiting another green-energy company two days after delivering his State of the Union address to tout the benefits that surely would come from investing in such technology. During his trip to renewable-energy firm Orion Energy Systems in Manitowoc, Wisconsin, Obama lamented that the United States was falling behind the investment of even more centrally planned economies: “China’s making these investments and they have already captured a big chunk of the solar market, partly because we fell down on the job. We weren’t moving as fast as we should have. Those are jobs that could be created right here that are getting shipped overseas.” While China has made great strides toward a more open economy in the past couple decades, the communist country is hardly a model for economic policy. China’s growth is due to its economic liberalization, not the arbitrary decisions of the ruling elite, yet these command-and-control elements of economic planning that remain in China seem to be Obama’s model of the ideal. This does not bode well for economic liberty and growth here in the United States.

Government has never been particularly good at picking economic winners. Consider, for example, the government “investments” in Amtrak, which has never turned a profit since it began service in 1971 and has lost about $35 billion in its 40 years of operation—or the U.S. Postal Service, which lost a record $8.5 billion last year alone and has projected an additional $6.4 billion loss this year.

The reason for this failure of government investment is not simply poor leadership (although this is certainly endemic and does not help matters) but rather an inability to determine value in the public sector. There is no market price system in government, so there is no measure of profit and loss. As Mises noted in Human Action, “There is no such thing as prices outside the market. Prices cannot be constructed synthetically, as it were.” In Bureaucracy he added, “Bureaucratic management is management of affairs which cannot be checked by economic calculation.”

Value

In a free market prices are determined by supply and demand, by changing consumer preferences, differing knowledge and evaluations of market information, and the risk-taking of entrepreneurs. A greater desire for a good or service will be reflected in consumers’ willingness to pay more for it and bid up the price.

In the political sphere “value”—such as how much to spend on a particular government program—is determined by the force and influence politicians, bureaucrats, and special interests can exert to extract money from taxpayers and divide it up as these elites please. There is rarely even any semblance of competition for the provision of these services and thus little incentive to maximize productivity and service quality or minimize costs. Since there are no price signals to reveal people’s preferences for one thing or another, there is no good mechanism to determine if programs are useful or satisfying constituent demands.

In the absence of a true market price mechanism, how do you tell if an investment is profitable? And where is the incentive to avoid unprofitable investments? If a government program is deemed successful, there are calls to provide more funding. If it is a failure, we are told we must double down on the spending in order to turn it into a successful program.

Private investment means putting your own money at risk in anticipation of realizing a gain later; public “investment” means taking and spending someone else’s money to support your idea of how you think they should live, or to satisfy the special interests that help get you reelected. Private investment requires putting off spending today so that you may (hopefully) earn more in the future; public “investment” is all about spending today.

Unfortunately, the federal government has not learned the lessons history has tried to teach us about subsidizing business and illusory job growth. This ignorance is especially on display when politicians react to the onset of a recession. The prescription made famous by economist John Maynard Keynes is to “stimulate” the economy through government spending and job creation (otherwise known as “make-work”). Never mind that this means fighting a problem of too much debt by incurring even more debt. As Freeman columnist Robert Higgs, senior fellow in political economy at the Independent Institute and author of Crisis and Leviathan, has said, “Every drunk understands this way of fighting depressions.”

Lost Decade

In the 1990s—and beyond, as it turned out—Japan faced a financial crisis as asset bubbles in the real estate and stock markets, stoked by the central bank’s expansionist monetary policy of the late 1980s, burst and prices came crashing down. The ensuing government response and policy errors paralyzed the economy and ultimately led to a series of economic recessions. Japan followed the Keynesian remedy—with disastrous results—and the country still has not recovered to this day. During the 1990s, Japan passed ten fiscal stimulus packages, focused largely on public works. When one construction plan did not work (meaning it did not return the economy to rapid growth), another was tried. Altogether the Japanese government spent about $6.3 trillion on construction-related projects between 1991 and 2008. Those plans did not revive the economy, but they did saddle the nation with a mountain of debt that postponed any recovery at all for many years, leading the period to be dubbed Japan’s “Lost Decade.”

The construction jobs for the government’s infrastructure projects were not sustainable and did not lead to systemic economic growth. Public debt skyrocketed, unemployment actually doubled, and the economy remained stagnant. (Does any of this sound familiar?) As Gavan McCormack, Pacific and Asian history professor at the Australian National University, noted in his book The Emptiness of Japanese Affluence, “The construction state is in some respects akin to the military-industrial complex in Cold War America (or the Soviet Union), sucking in the country’s wealth, consuming it inefficiently, growing like a cancer and bequeathing both fiscal crisis and environmental devastation.”

The Great Depression

Even during the Great Depression, often held up as a great example of government creating jobs to help get the nation out of an economic recession, President Roosevelt’s massive spending program, which actually had its roots in the Hoover administration, did not stimulate the economy. Despite all that spending and all those jobs programs, unemployment remained extremely high. Prior to the stock market crash in 1929, the unemployment rate stood at a little over 3 percent. By 1933, in the midst of massive spending and public-works projects, it had risen to 25 percent. Even after years of New Deal programs unemployment remained around 15 percent or higher through 1940. It was not until World War II that unemployment dropped back to the low single digits (and then only because millions were drafted into military service).

This led Henry Morgenthau, treasury secretary under Roosevelt, to make a startling admission in 1939:

We have tried spending money. We are spending more than we have ever spent before and it does not work. And I have just one interest, and if I am wrong . . . somebody else can have my job. I want to see this country prosperous. I want to see people get a job. I want to see people get enough to eat. We have never made good on our promises. . . . I say after eight years of this administration we have just as much unemployment as when we started. . . . And an enormous debt to boot! (Morgenthau Diary, Roosevelt Presidential Library)

The fact is that economic recessions—and even more serious depressions—need not be so severe or so long-lived. It is government policies that prevent the natural pressures and incentives of the market from purging bad investments and other economic decisions and returning to a path of stable growth. As Murray Rothbard wrote in the introduction to the third edition of his book, America’s Great Depression,

Before the massive government interventions of the 1930s, all recessions were short-lived. The severe depression of 1921 was over so rapidly, for example, that Secretary of Commerce [Herbert] Hoover, despite his interventionist inclinations, was not able to convince President Harding to intervene rapidly enough; by the time Harding was persuaded to intervene, the depression was already over, and prosperity had arrived. When the stock market crash arrived in October, 1929, Herbert Hoover, now the president, intervened so rapidly and so massively that the market-adjustment process was paralyzed, and the Hoover-Roosevelt New Deal policies managed to bring about a permanent and massive depression, from which we were only rescued by the advent of World War II. Laissez-faire—a strict policy of non-intervention by the government—is the only course that can assure a rapid recovery in any depression crisis.

After more than two and a half years and trillions of dollars worth of bank and auto industry bailouts, stimulus packages, and Federal Reserve interventions, the American economy remains sluggish and unemployment is still about 9 percent. According to Federal Reserve Chairman Ben Bernanke, it could take another four or five years for the labor market to “normalize fully.” Unless the government’s interventionist policies are abandoned and reversed, it appears that the United States is headed for its own Lost Decade.

The United States’ $14 trillion federal debt and annual deficits of over $1 trillion are reducing productivity and hindering economic growth. It is time we learned the repeated lessons of the past that government spending, particularly when used to try to stimulate an economy, is simply a bad investment.

In recent months – or has it been years? – Paul Krugman and Brad DeLong have been saying, in effect, “We told you so – the stimulus was not enough. Look at the sluggish economy and high unemployment rate.”

They are arguing that the problem with the fiscal stimulus is that it was not enough. The idea was right but the quantity was wrong.

Let it pass that at ThinkMarkets it was predicted that this is what the stimulus advocates would say in the event that the economy did not improve as much as they wanted.

The basic problem with the quantitative claim is that it skirts some real problems in the analysis.

The rest is here and definitely worth reading.

Specifically, Krugman defends the claim that World War II got us out of the Great Depression, because “this is a situation in which virtue becomes vice and prudence is folly; what we need above all is for someone to spend more, even if the spending isn’t particularly wise.” Even spending on something destructive like war, he argues, is what is needed to solve the problem, especially when the “political consensus for [domestic] spending on a sufficient scale” is not available. In Krugman’s version of Orwell’s Newspeak, destruction creates wealth, and war, though not ideal, is morally acceptable because it produces economic growth.

Thankfully, we can get behind his Newspeak to see the fallacy of his economics. To believe that spending—any kind of spending—is the cure for what ails us is to ignore the subjective nature of wealth and the microeconomic basis of economic growth in favor of an absolute reification of economic aggregates such as GDP and unemployment. Spending trillions of dollars fighting a war can certainly bring idle capital and labor into employment, driving up GDP and lowering unemployment. But this does not mean we are any wealthier than before.

Wealth increases when people are able to engage in exchanges they believe will be mutually beneficial. The production of new goods that consumers wish to purchase is the beginning of this process. When instead we borrow from future generations to spend on goods and services connected not to the desires of consumers, but rather to the desire of the politically powerful to rain death and destruction on other parts of the world, we are not allowing individuals the freedom to do the things they think will make themselves better off. And we are certainly not extending that freedom to those killed in the name of our economy-enhancing war. At a very basic level, the idea that any kind of spending is desirable overlooks the fact that spending on war (and, I would argue, public works as well) actively prevents people from enhancing their wealth through production and exchange linked to consumer demand.

Employing people to dig holes and fill them up again, or to build bombs that will blow up Iraqis, will certainly reduce unemployment and increase GDP, but it won’t increase wealth. The problem of economics is the problem of coordinating producers and consumers. This coordination happens when we produce what consumers want using the least valuable resources possible. That is why it is wealth-enhancing to dig a canal using earth-movers with a few drivers rather than millions of people using spoons, even though the latter would generate more jobs.

Sending soldiers off to war is a waste of human and material resources, and is almost by definition wealth-destroying, no matter what it does to GDP or unemployment rates. The only way one can view economics amorally, as Krugman wishes to, is if one is only concerned with total GDP and not its composition. However, it is the composition of GDP, in the sense of how well what we’ve produced matches consumer wants, that ultimately matters for human well-being. It’s easy to create jobs and generate spending, but those do not constitute economic growth, and they are not necessarily indicators of human betterment.

So yes, Professor Krugman, it does matter how we try to get ourselves out of depressions. The world is not upside down and vices aren’t virtues. War isn’t peace and destruction isn’t creation. The real solution to digging out of a recession is to remove the barriers to the free exchange and production that actually comprise wealth creation. Borrowing trillions more from our grandchildren to spend on building the equivalent of pyramids or on blowing up innocents abroad only digs the hole deeper. And when one is reduced, as Krugman is, to saying we “needed Hitler and Hirohito” to get us out of that hole in the 1930s, one has abandoned morality to worship at the altar of economic aggregates.

No critic of free-market economics can ever again accuse us of being irrational and immoral when it is Paul Krugman who says destruction creates wealth, and war is an acceptable second-best path to economic growth. Don’t let Krugman’s Newspeak fool you: War and destruction are exactly what they appear to be. To argue as Krugman does is to abandon both economics and morality. Big Brother would be proud.

In October Barack Obama said this in defense of his opposition to extending the 2001 and 2003 tax-rate reductions for people making more than $200,000 a year. The government guesses that not extending them—that is, raising taxes—would bring in $700 billion over a decade.

Let’s break the statement down.

If we were going to spend $700 billion . . . The “we” isn’t you and I. It’s him and his army of bureaucrats. There is no collective decision made by the nation. A group of identifiable individuals, backed by armed personnel, will decide how those resources will be used. How did they get those resources?

Imagine a mugger eyeing a potential victim, thinking, “I could spend that guy’s money by leaving it in his pocket, or I could spend it myself right away. Now which would be the better way to spend it?”

Anyone can see what’s wrong. But change the context to government, and all the rules are thought to change. Why? Because the government represents us? But it doesn’t really. The people who run the government say it represents us, but they don’t know what they’re saying. True, they can be voted out of office by a majority. But no individuals can opt out. So while the politicians are in office, they represent only themselves and their patrons.

. . . it seems it would be wiser having that $700 billion going to folks . . . Does it now? On what grounds are we to conclude that Barack Obama—or anyone else in political office—is qualified to say what a wiser use of such a sum of money would be? It’s hard enough deciding what’s a wise use of one’s own meager resources. The future is uncertain and the choices are many. It is the height of hubris—a pretense of knowledge, to use Hayek’s phrase—to invoke wisdom while asserting the power to dispose of that money.

. . . who would spend that money right away. There you go. He has a good reason after all. He says the money will go to people who will spend it in a hurry. Of course, he doesn’t actually know that. The money would just be distributed across the budget, funding the same old boondoggles or starting some new ones. Part of that $700 billion would surely go to military contractors to make something irrelevant to Americans’ welfare and inimical to the welfare of some non-Americans. We don’t know how quickly those recipients would spend the money. The wealthy executives of the contracting companies may be the same people who would have held on to the money if the tax-rate reductions were extended. A lot of it will go to government employees, who have higher wages than people in the private sector. This is one of those talking points that sounds as though it makes sense until you . . . think about it.

But let’s assume the people who get the money would spend it right away. Why is that better than simply letting the people who make the money keep it? The theory is that people making over $200,000 a year don’t spend enough of their incomes to stimulate the economy. So it’s Keynesianism that Obama is espousing here. The economy’s in a ditch. Consumer spending would get it out, but consumers are afraid to spend, so the government must spend for them.

But Keynesianism gets it wrong on so many counts. The fundamental economic problem is not that aggregate demand is too low. Individuals are doing things—and not doing things—for particular reasons in response to what’s going on around them. Consumers are holding back because they’ve lost their jobs or fear they may do so. People are losing their jobs because a government-produced inflationary boom went bust and malinvestments need to be liquidated so resources can be realigned with consumer demand. But that’s not happening (fast enough) because unpredictability over what the government may do next and other factors make entrepreneurs and investors cautious.

Once the reasons are understood, the remedy becomes clear. The burdens of government must be lifted quickly and people must be confident they will stay lifted.

* * *

Congress created the Privacy and Civil Liberties Oversight Board to assure the people their freedom is safe. Was it just a device to lull people into believing their freedom is safe? James Bovard says that’s closer to the truth.

Patents and copyrights can do some serious damage to genuine property rights and innovation. But they can also yield some funny stories. David Levine has a few.

New diseases are being invented (not discovered) all the time. They are the product of collusion among the medical profession, the pharmaceutical industry, and the government—not a combination to inspire confidence, writes Wendy McElroy.

Vested interests are powerful political forces, but not as powerful as ideas. Isaac Morehouse explains.

America’s attempt to prohibit the manufacture and sale of alcoholic beverages was a failure on so many levels that it was called off after little more than a decade. Douglas Rogers examines those years via the latest scholarship on Prohibition.

Insider trading sounds like a terrible crime that strikes at the very foundation of the economy. Warren Gibson says it’s more like much ado about nothing.

Wilhelm Röpke was at the first meeting of the Mont Pelerin Society with Ludwig von Mises, F. A. Hayek, Milton Friedman, and Leonard Read. For many years his book A Humane Economy was recommended reading for libertarians. Yet he had some differences with American free-market advocates—differences interesting enough to get the attention of Joseph Stromberg.

As our columnists were saying . . . Donald Boudreaux shows that tariffs did not create America’s nineteenth-century economic growth. Burton Folsom tells the story of a boat-building entrepreneur. John Stossel points to early cracks in Obamacare. Walter Williams says people express preferences among human differences all the time. And Steven Horwitz, reading Paul Krugman’s assertion that war can stimulate an economy, proclaims, “It Just Ain’t So!”

This issue’s book reviewers dissect tomes on the Constitution, revisionist history, socialism, and the New Deal.

What else might affect the economy? The answer is obvious, but its implications are frightening. War and peace influence the economy.

Look back at FDR and the Great Depression. What finally resolved that economic crisis? World War II.

Here is where Obama is likely to prevail. With strong Republican support in Congress for challenging Iran’s ambition to become a nuclear power, he can spend much of 2011 and 2012 orchestrating a showdown with the mullahs. This will help him politically because the opposition party will be urging him on. And as tensions rise and we accelerate preparations for war, the economy will improve.

I am not suggesting, of course, that the president incite a war to get reelected. [Excuse me?] But the nation will rally around Obama because Iran is the greatest threat to the world in the young century. If he can confront this threat and contain Iran’s nuclear ambitions, he will have made the world safer and may be regarded as one of the most successful presidents in history.

Aside from the lack of evidence for his charges against Iran and aside from the fact that war would kill many innocent people, could ignite the Middle East, and raise oil prices (always good for an economy), the money spent on the war would have to be withdrawn from somewhere else. Broder commits Bastiat’s broken-window fallacy in the worst possible way. War is the ultimate breaking of windows.

As for World War II ending the Depression, let’s get real. To be sure, war can put people to work and have factories operating around the clock. But the point isn’t to put people to work and have factories running overtime; it’s to have people and factories making things consumers — not politicians and generals — want. That doesn’t happen with war spending. Consumers experienced privation not prosperity during World War II: rationing of everyday goods and other hardships. They experienced privation in the 1930s also. So in what sense did the war end the Depression? Only in the sense of a rise in economic aggregates like GDP and unemployment. (This assumes the statistics were accurate, a bad assumption.) But aggregates hide important facts. A person making bombs and another making cars are both employed for the purposes of government statistics. Yet one is working to enhance living standards and one is making something that will blow up. Don’t be fooled by aggregates.

War is not the way to prosperity. Is it really necessary to tell people that?