Alan Reynolds

When it comes to evaluating the economic impact of hurricane Katrina, two errors are constantly repeated. The first is the free-lunch fallacy -- believing that federally financed reconstruction and relief can be a net "stimulus" to the national economy. The second is the price-index blunder -- confusing a one-time spike in the relative price of energy with a broad and lasting change in the rate of inflation.

 The alleged "fiscal stimulus" of $62.3 billion of debt-financed federal funding in the hurricane-afflicted cities is pure illusion. The notion that replacing destroyed property will somehow boost the economy is, as economist Walter Williams reminds us, the old "broken window fallacy" exposed by Frederic Bastiat in 1848.

 Breaking windows may create work for glaziers, but property owners whose windows were broken will then have less money left over to spend on something more enjoyable. Society then has to devote scarce real resources to this unfortunate task, rather than another. Meanwhile, interest expense on the extra $62.3 billion of national debt is a burden on taxpayers, not a free lunch.

 There were about a million people potentially affected by the hurricane, so Congress plans to spend $62,300 for every man, woman and child who used to live in the affected area. In constant dollars, $62.3 billion far exceeds combined spending on the six biggest natural disasters since 1989. Yet some are talking about spending more.

 It might be appropriate to add so much to the national debt if the funds were for rebuilding public infrastructure of national importance. But the $62.3 billion seems mainly targeted at short-term rescue, recovery and repair, rather than elevating the New Orleans levee or rebuilding Gulf ports, roads, hospitals and schools.

 Most economically viable reconstruction efforts will be financed by insurance, which ensures the money is unlikely to be wasted. The congressional spending spigot, by contrast, is an open invitation to waste. Federal billions may even be used to reimburse the losses of households or firms who did not purchase the heavily subsidized flood insurance. That would set a disaster-prone precedent.

 Anyone who anticipated wisdom and foresight from any level of government was once again disappointed. Yet those most critical of bungling bureaucrats for crisis mismanagement nonetheless expect such incompetents to rebuild New Orleans. The fact is that government agencies lack the knowledge and incentives to rebuild cities in an economically sensible way. Business owners and managers, real estate investors and insurance companies know best how to allocate scarce resources because they put their own money at risk.


Alan Reynolds

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