Zombies! Run For Your Lives!

by Jonathan Chait | August 10, 2010

The Weekly Standard has a cover package about how President Obama drove the economy in the ditch. One of the stories, which I discussed yesterday, is premised entirely on ignoring economic forecasts from early 2009. The other article is Matthew Continetti's article, "The Zombie Economy," which is a kind of neoclassical argument that the economy needs to be totally purged, but Obama is intervening to support politically-connected business that ought to be allowed to die. "The zombie economy," he writes, "is filled with unproductive entities that exist only through government life support."

Few people would dispute that it is at least theoretically dangerous for the government to enmesh itself so deeply in private industry that it is picking winners and losers on the basis of private connections. But what is Continetti's evidence that this libertarian horror story is already happening? Well, he spends a great deal of time lambasting the auto industry. It's true that GM and Chrysler received a federal bailout, though he does not mention that George W. Bush initiated the auto bailout, nor that Chrisler received a bailout in 1979. Continetti concedes that the auto industry has recovered, though he implausibly attributes this recovery to the electric car tax credit, and also fails to acknowledge that creating a market for electric cars serves some interest other than saving jobs.

But let's put that aside. What other businesses out there are staggering along due to massive government intervention? We've been promised a story about an economy "filled" with them. It turns out the only other examples of massive government intervention in the economy are... state and local governments, and the continued existence of Fannie Mae and Freddie Mac. (Continetti acknowledges that Obama has promised to reform Fannie and Freddie, but dismisses this promise on the grounds that he has scheduled the reform for 2010 and thus it won't happen.)

So the rest of the "zombie economy" turns out to consist of the fact that state and local governments are not slashing spending and raising taxes as deeply as Continetti thinks they should:

Over the last two decades, they went on a spending spree. They hired public employees in boom times without thinking what might happen when the economy went bust.

We have two claims here: state and local spending exploded, and those governments failed to plan for the end of the "boom times," Continetti's description of the Bush expansion. Are either of these claims true? No they aren't:

State spending increases since the last recession were very modest. State spending fell sharply relative to the economy during the 2001 recession. And for states in the aggregate, it remained below the fiscal year 2001 level in state fiscal year 2008, before the current recession started. State spending as a share of the economy has declined since then and taken a particularly large dip in the current fiscal year (2010).
States also acted prudently between the last recession and the current one to build up rainy day funds and other reserves. At the end of fiscal year 2006, state reserves — general fund balances and rainy day funds — totaled 11.5 percent of annual state spending, making them the largest reserves on record. Reserves can be particularly important to help states adjust in the early months of a fiscal crisis or to weather a mild recession. But the reserves have proved inadequate in this unusually long and deep recession.

[Update: I meant to mention the fact that the aid to states decried by Continetti is going to close a mere one-sixth of the state fiscal gap, making Continetti's claim that federal aid has "delayed the painful adjustments necessary to make state and local budgets sustainable" at least five-sixths false.]

I don't mean to cherry-pick, but there's not much left to the argument here. The article is premised on the notion that Obama is transforming the economy such that government ownership of private business is the norm, but he cites just one example of this, and ruthlessly oversimplifies it. This is roped together with a brief aside about Fannie Mae and Freddie Mac, which have existed for decades, followed by a wildly inaccurate depiction of state and local finances that, even if true, would not bear on the thesis. In sum, is there really good reason to worry that the economy is being transformed into something rife with government favoritism on behalf of politically connected industries, and preventing a necessary purging of unproductive businesses? Not at all.

Source URL: http://www.newrepublic.com//blog/jonathan-chait/76926/zombies-run-your-lives