Maybe when the economy is in a downturn we should say this to our political leaders: Just stand there. Don't do something.
When they "do something," it's more likely than not a stimulus package, which is inevitably a disaster. John Cogan and John Taylor, both associated with the Hoover Institution and Stanford University, explain why:
Temporary, targeted tax reductions and increases in government spending are not good economics. They have repeatedly failed to increase economic growth on a sustainable basis. What may come as a surprise is that such policies are not good politics either. Their inability to deliver promised economic benefits has invariably led disappointed voters to turn against those politicians, Democratic and Republican, who have supported them.
Presidents Gerald Ford and Jimmy Carter both responded to the injunction to "do something" with stimulus plans. Ford got a transitory blip in the economy with some modest stimulus, but when the economy stalled again and Congress passed a second stimulus plan over his veto; the ensuing economic panic handed the presidency to Carter.
Carter tried the stimulus route with the same results: a blip followed by a downturn. If you read the Cogan-Taylor piece, you'll agree that Carter's plan sounds familiar. It even included a tax break for small and medium-sized employers-as if a company rushes to hire people it can't really afford to take advantage of a meager tax break!
Ronald Reagan understood the futility of stimulus packages:
President Reagan rejected temporary stimulus measures and instead proposed permanent income-tax rate reductions. His tax program, in conjunction with steady monetary policy begun by Paul Volcker, produced the promised results.
By late 1982 the recession was over and in early 1983 employment and investment began to rise rapidly. In 1984, it was "Morning in America" and Reagan was overwhelmingly re-elected. Nearly two decades of strong, steady, noninflationary economic growth ensued.
The success of Reagan's permanent tax-rate reductions, juxtaposed against the clear failure of his predecessors' temporary Keynesian stimulus measures, put the Keynesian approach on the back burner. The extent to which temporary stimulus measures fell into disfavor is evident from President Bill Clinton's first year in office. That year he proposed a minuscule $16 billion stimulus plan. Congress rejected it and turned its attention instead to reducing the federal budget deficit by cutting the growth in spending and raising taxes.
President George W. Bush tried a stimulus in the days after 9/11. It didn't work. Within four months after Bush pushed tax relief through Congress, the unemployment rate fell and the economy began to improve.
There are myths that influence our behavior. One myth is that the New Deal stimulus rescued the United States from the Great Recession (best debunking: here).
This myth has animated much of our economic behavior. Let us hope that the Obama administration has laid this one to rest forever.