I am still trying to understand why smart economists have made extremely silly arguments against the stimulus. I am thinking of the dark ages of macroeconomics and the Treasury View.
I think an analogy is useful. It is related to the original dark ages and modern medical practice. The analogy is not for the faint of stomach and is after the jump.
My sense is that Fama and Cochrane et al responded to the suggestion of a fiscal stimulus with excessive haste and confidence, because they thought it was proven decades ago that Keynes was wrong about everything. So they assumed that an obvious simple argument was probably valid and had to work their way from making predictions based on an identity to arguing that the velocity of money is constant and the data on money and GNP are all irrelevant.
My analogy follows: How would you expect a physician to react if a colleague suggested the use of leeches ? My guess is that many physicians would call security and consider whether it would be enough to deprive that colleague of his license of if a, strictly temporary, this is the 21st century, bit of physical restraint for his own good was needed. I might be wrong.
Notice, I said many physicians. I didn’t say many ER physicians or many trauma surgeons. The reason is that the medicinal leech is currently used in modern medical care. Leeches somehow manage to get anti-coagulants into tissue where blood isn’t circulating. They are attached to severed limbs to prevent the blood from coagulating. (look I warned you it wasn’t for the faint of stomach). I know the link isn’t super convincing, but I know this from many sources and my stomach isn’t up to more googling.
So think of Fama as, say a psychaitrist or dermatologist nearing retirement. He hears that people are talking about sticking a leech on a patient. His reaction is to assume they are quacks and argue that leeches never did anyone any good and transmit diseases.
Why I know people who have practiced medicine for over 50 years and never dealth with a patient with a severed limb. It’s perfectly reasonable for a physician in some other field to have no idea what to do if a patient and a limb arrive separated at the ER.
Similarly, it is perfectly reasonable for an economist, even a macro-economist, to have no idea what to do when faced with a recession and a liquidity trap. Liquidity traps are really rare. One can be a perfectly competent practicing macro-economists without ever having thought of the concept of a liquidity trap.
In strange cases, the optimal treatment can be very strange.