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Three economists, John Cogan, John Taylor and Volker Wieland, co-authored an opinion piece in today's Wall Street Journal with a headline boldly proclaiming: "The Stimulus Didn't Work." Their argument essentially says that their neoclassical economic models were right, and those silly Keynesians were wrong. They go through a few empirical data points to show just how little the stimulus did. While I'm sympathetic to most of their reasoning, I worry they're missing something very key about human psychology that should be considered.

First, they look at the stimulus' effect on consumption. They say that there was none, relying on this chart:

The blue line represents the disposable personal income of Americans. Those two spikes you see are stimulus payments. The first is from Bush's 2008 stimulus payments; the second is from Obama and Congress' much smaller payments. The red line is consumption. As you can see there are no similar spikes in red. Here's what they say:

This is exactly what one would expect from "permanent income" or "life-cycle" theories of consumption, which argue that temporary changes in income have little effect on consumption. These theories were developed by Milton Friedman and Franco Modigliani 50 years ago, and have been empirically tested many times. They are much more accurate than simple Keynesian theories of consumption, so the lack of an impact should not be surprising.

They go on to prove their bipartisanship by saying: and by the way -- look -- the Bush stimulus payments had the same spectacularly negligible effect on consumption! And they're right. That temporary payments don't change consumption patterns is widely accepted economic fact. Unfortunately, it's little known to politicians in Washington.

Yet this money must be going somewhere, so where is it going? Maybe it's being used to pay down debt; maybe it's being used for investment; or maybe it's just being saved. I would argue that, though not consumption, those are still actions that ultimately help a stumbling economy get a little healthier. Having more money in your pocket certainly makes you feel better, and consumer sentiment matters a lot during a recession, even if that doesn't translate to immediate consumption. Maybe people would have saved even more and spent even less without the payments, for example.

Next, the authors investigate how the stimulus affected the 5.4% increase in GDP from the first to second quarter. They attribute this mostly to the 5.8% increase in private business investment in plants, equipment and inventories. Here's their explanation of why the stimulus must not have had anything to do with that:

One is hard put to see what specific items in the stimulus act could have arrested the decline in business investment by such a magnitude. When one looks at monthly investment indicators--such as new orders for nondefense capital goods--one sees a flattening out starting early in the first quarter of 2009, well before the package went into operation. The free fall of investment orders caused by the financial panic last fall stabilized substantially by January, and investment has remained relatively stable since then. This created the residue of a very large negative growth rate from the fourth quarter of 2008 to the first quarter of 2009, and then moderation from the first quarter to the second of 2009. There is no plausible role for the fiscal stimulus here.

Again, I generally agree with them on the quantitative reality of these facts. But there's still some psychology here behind why businesses were comfortable ramping up investment. Even if you believe that it had nothing to do with stimulus funds reaching the private sector, then there could still be an intangible effect here. Perhaps knowing that the government was throwing $787 billion at the economy in order try to reduce the pain of the recession helped the sentiment of business as well. Maybe businesses decided that the economy can't possibly continue to suffer given such extraordinary government intervention, so built more plants, ordered more equipment and ramped up inventories in the hopes of imminent recovery built on that government action.

Now don't get me wrong: I'm not really disagreeing with the central thesis of this essay. I fear that the stimulus probably did far less than the Democrats in Washington would like to believe. But I also think it borders on absurd to say that it did nothing. Psychology is relevant in economics. So even if people believed that the government's efforts would stimulate the economy, then that is something -- even if it is something of a placebo effect. Was it worth the $787 billion cost? Would a smaller stimulus have failed to accomplish largely the same result? Those are completely separate questions, both of which I'd feel much less comfortable arguing in the affirmative.