Peter Smith demolishes the basis on which Keynesian policies are often deemed a success:
“If government spends a dollar; this will always be shown as contributing to GDP in the period it is spent. And, it would be shown this way even if the whole dollar were spent on imports and did not, in fact, contribute to GDP”.
“The fact that government expenditure is shown dollar for dollar as contributing to economic growth is therefore meaningless. It is a truism because of the way the accounts are constructed. It doesn’t show that stimulus spending works at all; it simply reflects the way the national accounts are put together.”
“However complex the model, it will be based on the textbook macroeconomic identity that aggregate private consumption spending plus private investment spending plus government spending plus exports minus imports equals production. It will also have within it a positive relationship between an increase in production and an increase in employment.
If you impose on these models an increase in government spending they will inevitably show an increase in production and employment. It is important to understand that whether total employment rises or falls, the models will still show that an increase in government expenditure will have contributed to employment growth.”
“If the government spends taxpayers’ money to build, say, a school library, at a reasonable cost, this will be shown dollar for dollar as contributing to GDP. If the same library were built at an inflated cost, this would be shown dollar for dollar as contributing to GDP. If the same library were then immediately demolished at government expense even more would be added to GDP. And this is not the end of the matter. If government takes resources away from the private sector to build a school library, this will be recorded, and probably written up, as the economy being saved from a decline in private sector activity by government spending.”