"Stimulus" Explained

Addressing The Fallacious Views Of Contemptuous Keynesians - Louis Woodhill - Unconventional Logic - Forbes: "The purpose of stimulus is to increase demand (and thereby nominal GDP) over what it would have otherwise have been.  Operationally, stimulus consists of selling bonds and then spending the money thus obtained.

“Dollars” exist as entries in on the “liabilities” portion of the Federal Reserve’s balance sheet.  When the Treasury sells bonds to finance stimulus, the operational effect is to transfer dollars from the “Other deposits held by depository institutions” line on the Fed’s balance sheet to the “U.S. Treasury, general account” line.  This action is, in and of itself, highly contractionary.  It directly reduces the size of the monetary base and the funds available to the banking system for lending.

When the government spends the “stimulus” money, the effect is to transfer the dollars from the “U.S. Treasury, general account” line back to the “Other deposits held by depository institutions” line.” This action is expansionary. It restores bank reserves and the monetary base to the levels that they were before the bonds were sold. But this is all that it does.

From looking at stimulus in physical, operational terms, it is clear that this process cannot increase total demand. However, by taking capital out of the private sector to finance increased government spending, stimulus can reduce capital investment, and thereby GDP and employment. This appears to be what happened in the case of Obama’s $814 billion stimulus program."