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Does US Government Spending Have a Multiplier Effect?

Margaret Thatcher passed away Monday at age 87.  Looking back, the UK economy had been limping along for years when she became Prime Minister in 1979.  High inflation was problematic, and she attacked it with high interest rates, deregulation, increased focus on services, and a free market emphasis.  The Labour movement before her tried unsuccessfully to use stimulus spending to jump start the economy.  Ultimately, it was her leadership and methods produced steady economic growth that benefited the nation. 

The same debate is going on in Europe and the US today – should nations engage in stimulus spending or free market measures.  Three economists, one from the St. Louis Federal Reserve Board, another from the University of California, and the third from the Bank of Canada, engaged in a study by examining historical evidence in the US from 1890 to 2010. 

What they found is that when the US Government spends a dollar during periods of high unemployment, the multiplier effect of that dollar is less than one.  The economic benefit of a dollar spent by the government ranged from $0.54 to $0.64.  It was slightly better when unemployment was above 6.5% ($0.63 to $0.78).  Thus, a dollar borrowed or taxed from the private sector loses power when filtered through the federal government.  The conclusion is that the benefits are not generally commensurate with the cost. 

We are indebting our nation in the hopes of restoring the US to sustainable growth.  The example of the United Kingdom under Margaret Thatcher and the study referenced above on the multiplier effect suggest that the economy is growing because the free market system works, not because of an interventionist government. 

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