Sonic Learns Remedial Econ II
April 25, 2011 2 Comments
(see Part I)
Matthew Yglesias writes,
So when gas prices get more expensive, spending on gasoline booms. With households credit-constrained, that means huge cutbacks in spending on things that aren’t gasoline. That becomes a huge hit to aggregate demand, and a big drag on our economy.
I still don’t understand how Matthew Yglesias thinks he is using the phrase ‘aggregate demand’.
When I buy gasoline, that’s C. If gasoline gets more expensive, so I have to spend $100 more on gasoline, Matthew is pointing out that I’ll feel like I have $100 less to spend on other stuff. But that other stuff is also C. Simultaneously increasing and decreasing C by the same amount, while leaving all other variables constant (which I assume Matthew is mentally doing, because he is perennially too lazy to do otherwise), has no effect on AD whatsoever, by definition.
Unless he’s making the (more complex) claim that having to spend more on gasoline not only removes that money from possible use on other goods, but also changes our behavior in a substantive way (through a ‘wealth effect’ or whatever) so as to reduce our consumption on everything. I see no such claim there though.
I suppose what he’s saying makes more sense if you consider gasoline to axiomatically consist entirely of imports (M), because higher imports (all else constant) does indeed reduce AD. But maybe I pay for that $100 more gasoline by buying fewer Toyotas (which is also an import), so again, the net effect on AD is nil. Does Matthew know or has he investigated which sort of substitution effects are dominant here? Anyway, if one is concerned about the effect on AD of increasing M in this way, how about just allowing for more domestic oil exploration and harvesting. Voila, that M becomes C, AD increases automatically, and Matthew Yglesias should be ecstatic.
The larger issue is that this AD-obsessed analysis seems spurious and doesn’t add anything whatsoever to the discussion. I’m perfectly able to see that us having to spend more money on gasoline hurts us economically and is a drag on our economy without bringing AD into the discussion. At most, if this ‘imports reduce AD‘ complaint means anything, I think it just reduces to mercantilism. Is all of Keynesianism like this? Spurious definitions and analyses that reduce to a bunch of economics that was already widely known centuries ago? Or is this just a case of an amateur Keynesian applying the only ‘hammer’ he has in his arsenal (“aggregate demand”) to every economic problem he sees?