Of course, as with most Keynesian economic theories, it is seriously flawed. Keynesians do not understand capital markets. When a business experiences new demand, there is pressure to expand. That expansion, however, does not come from profit alone. Businesses must borrow money to meet the new demand. It would take too long to wait for profit to fund the expansion. This is where investment enters in. However, recall today that much of our capital is being used up by government. So even though interest rates are low, commodity prices are spiking. We cannot ignore scarcity; there is only so much capital to go around. Government is using all of that capital on its stimulus programs.
So in our current economic situation, what would happen when you try to stimulate demand? If it is too expensive for businesses to expand, the only result can be higher prices. This is where the example of cash for clunkers comes in. Look at what happened to the price of used cars as a result of the programs. But there was some growth in the auto industry as a result, but that has crawled to just 0.4% in the 2nd quarter.
But people might say that the benefits in this case outweigh the negatives. But alas, I did not discuss all of the negatives. The Broken Window Fallacy states that when money is spent on one thing, it is necessarily not spent on something else. Opportunity cost is a very real issue. So because consumption was driven in the auto industry, growth in other industries was necessarily stifled. These other industries, where consumers were actually demanding growth, must now comparatively shrink as compared to the situation we would have been in. We are worse off as a result since the products we demand are not produced as they can and should be. Is government intervention saving our economy? Not likely.
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