In recent weeks, the U.S. has experienced two natural disasters – Hurricanes Harvey and Irma. Much real property was damaged or destroyed by these two hurricanes. There will be an increase in construction expenditures to repair and replace damaged/destroyed buildings and homes. There will be an increase in motor vehicle expenditures to replace those destroyed by the hurricanes. There is a natural strawberry-blonde (at least, that is her claim) economist based in Chicago who, in the past, was wont to talk about the increase in replacement expenditures following property-destroying natural disasters as economic silver linings. She is not alone among economic analysts in making such a ridiculous argument. In their narrow view, natural disasters “stimulate” aggregate demand. If this view is correct, why wait for random natural disasters to hit? Why not just send in the U.S. Air Force to carpet bomb selected U.S. neighborhoods to prompt increased expenditures? If this view were correct, the U.S. Air Force could play a constructive role in countering U.S. economic recessions! Who needs the Fed anymore?
But, of course, there are no silver linings with natural disasters. Yes, following natural disasters there is an increase in expenditures to replace damaged real property. But there is a corresponding decrease in discretionary expenditures. After all, the victims of natural disasters cannot spend more than their incomes unless they increase their borrowing. And if they increase their borrowing, the lender has to reduce his current spending in order to finance the loans. If the government increases its borrowing to make loans to the natural disaster victims or to make direct replacement expenditures, again, the lenders to the government have to cut back on their current expenditures. In sum, the replacement expenditures that take place after natural disasters do not increase current expenditures in the aggregate. Rather, replacement expenditures increase while more discretionary expenditures decrease.
Lastly and perhaps most importantly, natural disasters destroy real productive assets or capital. These assets came into existence in the first place through saving – using resources currently to produce capital assets that would produce future goods and services for people to consume and enjoy. The current production of capital assets involves delayed gratification of consumption. The destruction of capital assets by natural disasters implies that we must again delay consumption gratification in order to replace productive assets.
Paul L. Kasriel
Founder, Econtrarian, LLC