Modeled Behavior explains our fundamental economic dysfunction, with charts:

This is a failure of our basic institutions of production. The job of the market is to bring together willing buyers with willing sellers in order to produce value. This is not happening and as a result literally trillions of dollars in value are not being produced.

Let me say that again because I think it fails to sink in – literally trillions of dollars in value are not being produced. Not misallocated. Not spent on programs you don’t approve of or distributed in tax cuts you don’t like. Trillions of dollars in value are not produced at all. Gone from the world entirely. Never to be had, by anyone, anywhere, at any time. Pure unadulterated loss.

This is what has bothered me for months — the opportunity cost of having so much human and industrial capacity idle. We live in a world where many, many things are needed and wanted by people, and the capacity to produce them exists but is going unused. I don’t know if another round of government spending will help or if that’s what we should do, but “stimulus” is exactly the right word for what needs to happen.

His main point is that this loss should bother everyone to the extent that they’re willing to move beyond their political hobby horses and look for a solution. That isn’t happening.

Brad DeLong captures the general line of thinking in an article for The Week, entitled Keynes & Co. have lost the stimulus argument. In it he explains why he’s pessimistic about our current economic situation, things the government can do to restore economic growth, and why the government probably isn’t going to do any of those things. Here’s his summary of the current situation:

The good news is we have avoided another Great Depression. But it seems ill-advised for Barack Obama to stand up on a Friday morning in early July and say that the economy is “headed in the right direction” (even if, as he said, “we are not headed there fast enough”) and to highlight “the sixth straight month of job growth in the private sector.” The employment-to-population ratio has been flat since November. Over the past six months–since the downturn ended–the U.S. economy has not been recovering from its near-depression, and not been putting a greater and greater portion of its potential labor force to work. Rather, it has been bumping along the bottom. There is a big difference between the economy getting “better” and the economy “no longer getting worse rapidly.”

Ultimately, I come down on Krugman/DeLong side in this debate. There are specific things the government needs to do to get the deficit under control (or, alternatively, it could just do nothing), but those are structural changes to the federal budget. In the meantime, we need economic growth.

If you, like me, read a lot of liberal blogs, you see people arguing every day that the best thing the government can do right now is spend more money to stimulate the economy and restore economic growth. For example, it’s become clear that the spending in the stimulus bill in 2009 has been offset fully by the contraction in government spending at other levels that resulted from falling tax revenues. And the general argument is that as long as interest rates are low for government bonds, we should take advantage and borrow money to prop up the economy. I find this argument persuasive, so I’m on the lookout for solid counterarguments.

Analyst John P. Hussman, in a long (and important) article arguing that the economy is not really in recovery and that the worst is yet to come, describes a pattern that we’re seeing right now:

From an inflation standpoint, is important to recognize the distinction between what occurs during a credit crisis and what occurs afterward. Credit strains typically create a nearly frantic demand for government liabilities that are considered default-free (even if they are subject to inflation risk). This raises the marginal utility of government liabilities relative to the marginal utility of goods and services. That’s an economist’s way of saying that interest rates drop and deflation pressures take hold. Commodity price declines are also common, which is a word of caution to investors accumulating gold here, who may experience a roller-coaster shortly. Over the short-term, very large quantities of money and government debt can be created with seemingly no ill effects. It’s typically several years after the crisis that those liabilities lose value, ultimately at a very rapid pace.

Reinhart and Rogoff continue, “Episodes of treacherously high inflation are another recurrent theme. Indeed, there is a very strong parallel between our proposition that few countries have avoided serial default on external debt and the proposition that few countries have avoided serial bouts of high inflation. Even the United States has a checkered history. Governments can default on domestic debt through high and unanticipated inflation, as the United States and many European countries famously did in the 1970’s.

“Early on across the world, the main device for defaulting on government obligations was that of debasing the content of the coinage. Modern currency presses are just a technologically advanced and more efficient approach to achieving the same end. In many important episodes, domestic debt has been a major factor in a government’s incentive to allow inflation, if not indeed the dominant one. If a global surge in banking crises indicates a likely rise in sovereign defaults, it may also signal a potential rise in the share of countries experiencing high inflation. Inflation has long been the weapon of choice in sovereign defaults on domestic debt and, where possible, on international debt.”

This is why many smart people are talking about inflation even though we’re currently experiencing deflation. On one side, we have the risk of inflation or default down the road if we keep borrowing money now. On the other side, we have the risk of a deeper, more painful recession and less economic growth down the road if we go with austerity. And we have two parties in Congress who are making decisions about what to do based on their immediate political future rather than the long term interest of the country. We are so screwed.

The big macroeconomic debate is over deficit spending. Should the federal government keep borrowing money and spending it to lower unemployment and hasten economic recovery, or should it focus on fixing its balance sheet by cutting spending and possibly raising taxes? Ireland went for the latter approach, and the New York Times reports on the results. Ezra Klein has the Cliffs Notes version. I’ll go even shorter: it’s been a disaster for Ireland.