Stimuli, jobs, and multipliers

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The latest figures for unemployment once again bring to the fore the question of whether the UK Government is following the best economic strategy or not.  And the fact that a different approach in Scotland has apparently led to a different outcome will add to the demand for a change of policy, although I’d be cautious about reading too much into one set of figures – people who claim to have the answer too quickly can all too easily be proved wrong a month or two later.

There are some economists who favour one approach, and others who favour another – it sometimes seems that politicians are vying to see who can come up with the biggest name economists in support of their position.  But ultimately, the question is more a political one than an economic one, and has as much to do with the question of who wins and who loses during the process of recovery as it does with recovery itself.

In that context, recovery through fiscal stimulus rather than recovery through fiscal rectitude will inevitably be the favoured approach of those of us who see economic fairness as an objective, rather than merely looking at the overall bottom line.

There is a danger, though, that in advocating a particular approach we overstate the potential impact.  I don’t doubt that a stimulus, in the shape of spending on government capital projects, will benefit the economy, but the extent of that benefit depends on the multiplier effect, and some of the claims for the numbers of jobs likely to be created from a given stimulus seem to be assuming an extremely high multiplier.

What the size of the multiplier effect is – or even whether there is one – is a matter of some debate, as this article from the Economist demonstrates.  An estimate of between 1 and 2 is probably reasonable; yet some claims for jobs created seem to assume a multiplier of up to 10, a figure for which I can see no substantive supporting evidence.

There seems to be little dispute that an expanded programme of spending has a greater impact than a tax reduction of the same amount – because the multiplier is higher.  Although a temporary cut in VAT might be politically popular, it’s unlikely to have as much effect as investing the same amount of money in capital projects.  Those who are serious about wanting a stimulus should really be concentrating on capital spending rather than tax cuts; concentration on tax cuts looks more like propaganda than economics.

But they should not be overstating the impact of their proposals, particularly in terms of the numbers of jobs likely to be created.  Creating false hopes may look like good politics in the short term, but it inevitably leads to disillusion over the long term.