Friday, December 10, 2010

Rational Expectations and Irrational Intentions

π is an irrational number

The Pelosi Effect Revisited

- by: Larry Walker, Jr. -

“It has been said that we judge others by their actions, but judge ourselves by our intentions.” ~ The Philippian Jailer

On October 6, 2010, Lame Duck Speaker of the House of Representatives, and Democrat, Nancy Pelosi said, “For every dollar a person receives in food stamps, $1.79 is put back into the economy. It is the biggest bang for the buck when you do food stamps and unemployment insurance. The biggest bang for the buck." Now she’s boasting that for every dollar spent on unemployment and food stamps, $2.00 is put back into the economy. But as we pointed out in Rational Expectations vs. Obamanomics, “According to the theory of rational expectations, it is impossible to calculate the effect of deficit-financed government spending on demand without specifying how people expect the deficit to be paid off in the future.”

So okay let’s pretend that it’s true that every dollar the government spends on unemployment and food stamps magically doubles across the economy. There is just one major problem with the Pelosi Effect. Since the initial dollar was borrowed, and interest payments on the debt are effectively being borrowed as well, that same dollar will wind up costing the government $2.03 within 18 years, and may wind up costing in excess of $1,355,196.11 over time.

The cost of a deficit-financed dollar will double to $2.03 in about 18 years at an interest rate of 4.0%. Since we are not paying down the national debt, and are in effect borrowing further to make the interest payments, the cost will continue to rise over time. By the 29th year the cost of that dollar will be $3.12. By the 37th year it will have cost $4.27. By the 100th year the cost skyrockets to $50.50. And finally, by the 360th year that same dollar will have cost a total of $1,355,196.11, ad infinitum (see chart and table below).

You see, it is one thing for the government to spend a dollar from surplus, but entirely another when that buck has been deficit-financed. Thus, the effect that the proposed spend and spend package will have on demand will most certainly not be positive. It all points back to the importance of not spending what you don’t have (i.e. PAYGO). What happened to that theory? With the national debt currently at $13.8 trillion, and growing by $5 billion per day; how is it ever to be repaid when hundreds of billions more is recklessly piled on with every whim? Lady, please!

Apparently the word compromise means payoff rather than paygo. One can only imagine how much that elusive deficit reduction plan will cost [sarc]. Oh give me a break!


Note - The dollar never gets fully returned to the government, or to the recipient of benefits. In the near term, unemployment is partially taxable, but the most the government will get back in taxes is 10%. The recipient will only effectively be receiving 90 cents due to federal income taxes, and less when you factor in State taxes (in Georgia that would be 85 cents). So we’re back to around $1.70 (0.85 * 2) added to the economy rather than $2.00. Then once the recipient has spent the money it’s gone. Unless they are able to find a job within 13 months they will be knocking again, ad infinitum. First 99 weeks, then 56 more, and the debt grows on, and on, and on.......

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