Ryan Murphy has a new piece at Mercatus that discusses the problem of estimating spending multipliers using regional data:
Even if the central bank is perfectly competent and offsets the effects of fiscal stimulus entirely (meaning the multiplier at the national level is zero), these statistical methods when applied to subnational data still calculate the fiscal multiplier to be greater than one. Under conventional assumptions and settings where central banks credibly target certain nominal variables, any multiplier greater than zero should instead be interpreted as one region taking aggregate demand and jobs from another. In other words, a multiplier of greater than zero in one area implies a multiplier less than zero in another.
Unfortunately, most researchers seem to be aware of this problem:
Research employing these methods is published in elite academic journals such as American Economic Review and American Economic Journal: Economic Policy. Very rarely does it seriously address the negative externality problem. If it does, it often implies that states engaging in fiscal stimulus will provide a positive spillover for neighboring states. When the problem is referenced, it is noted as a small caveat deep within the paper. For instance, one paper states in its abstract that $100,000 of public outlays corresponds to 3.8 job years (implying a multiplier greater than one). This article has been cited 133 times as of September 2016, according to Google Scholar. Within the paper, however, the authors write, “given that the results from this cross-state approach do not incorporate equilibrium effects, cross-state multipliers, or the response of the monetary authority, we interpret this multiplier as only suggestive of the national multiplier of policy interest.” This interpretation entirely undercuts their point.
Now that we have a new administration determined to pursue tax reform and infrastructure spending, it’s worth reviewing where monetary offset does and does not apply. Pundits often confuse the supply-side with the demand-side, when talking about the “growth” effects of “stimulus”. If the stimulus is demand-side, then monetary offset probably prevents any meaningful effects. But supply-side policies can still create growth, even with monetary offset.
Infrastructure spending is purely a demand-side policy as long as the infrastructure is still under construction. Thus one should not expect any immediate impact on growth from spending more on big projects such as highways, bridges and airports. Once an infrastructure project is complete, it may (and I emphasize ‘may’) boost aggregate supply, and hence real GDP growth. In my view, the supply-side effects of the sort of infrastructure package we are likely to see will be very small. That doesn’t mean it’s not worth doing, just don’t expect a dramatic boost to GDP growth.
As of now, the GOP is still claiming that it intends to pursue revenue neutral corporate tax reform. In that case, there would be no demand-side effects, so there would be nothing for monetary policy to offset. If the tax reform boosts the supply side of the economy, it may also boost real GDP growth. As with infrastructure, the long run effect may be greater than the immediate impact, as tax reform is likely to lead to more business investment. In my view tax reform could have a stronger supply side effect than infrastructure spending, albeit still fairly modest in absolute terms.
PS. I saw that the new Vegas football stadium was approved today. When these stadium projects are sold to the voters, there are promises of multiplier effects from the spending of tax dollars. Good luck.
According to Wikipedia, Vegas is just as sensitive to preserving its heritage as Boston:
The stadium as proposed is a domed stadium with a clear roof and silver and black exterior and large retractable curtain-like side windows facing the Las Vegas Strip. There is a large torch in one end that would house a flame in honor of the late Al Davis. MANICA Architecture confirmed on March 28th, 2017 that a full nude strip club would be included into the stadium to honor the heritage of Las Vegas.
Does this project in some strange way remind you of a certain American politician?
Update: I guess that Wikipedia quote has been corrected. Shame on me for being so gullible.