Where Should I Spend My Hard Earned Money?

BY busadmin  December 29, 2008 at 1:06 PM EDT

Women shop in New York City; AP photo

Question/Comment: Ok, so being a good dog, I need to keep spending to help the economy. What are some of the best things to spend my hard earned, devalued money on?

Paul Solman: That’s a very interesting question and not an easy one. Economics as currently taught is premised on the idea of “consumer sovereignty” which means that YOU, William, are the sovereign when it comes to such decisions. I bow down to you accordingly.

One must acknowledge, however, that some of your fellow sovereigns make some mighty weird – some would say “self-destructive” – choices when it comes to spending their money. But now that I think about it, you probably aren’t asking what you should buy for YOU. You must mean what spending might most help “the economy.” (I’m conflating our two “American” economies – the U.S. and Canadian – for the sake of convenience.)

So then, what are reasonable criteria? What IS good for the American economy? This is what I have suggested on the NewsHour and here on the Business Desk: More spending. Let me suggest several rules of thumb:

1) The money should be spent on goods and services produced here at home, not abroad. How to spend money that stays home? On goods and services produced by Americans, here in America.

2) You should buy from Americans more likely to spend than to save. All else equal, that would figure to be lower-income Americans, who won’t save – for no other reason, perhaps, than that they can’t afford to.

This line of reasoning would suggest buying your food from local growers where possible, I guess; not cutting back on dry cleaning; buying books; getting your shoes shined.

My younger daughter, new mom Joanna Noon, to whom I showed your email, adds a subtle twist, consistent with the values on her mommy blog. Consider products that provide “do-good” benefits at little extra cost, like organic baby food in glass jars. They should induce you to spend more than you otherwise would — which is, after all, the whole point.

And even if you DON’T want to spend but prefer to INVEST, you could use the same criterion: create the most jobs possible. That would suggest investing in firms with the greatest opportunity for fast growth that would in turn hire the most people who would then spend more, thus reviving the virtuous circle to lift us out of the morass. (Though admittedly, it may be hard to identify just which firms these are.)

One last point. An economy’s Gross Domestic Product (GDP) is made up of four basic factors: Consumption ©, Investment (I), Government (G) and Net Exports (NX). What we need right now in order to put idle resources (mainly people) back to work is immediate spending. Foreigners are likely to do it, so forget NX. C isn’t doing it, which is where this all started. G is about to make a big push to compensate for the shortfall, via infrastructure spending. (Watch our recent story below).

But the best possible spending, economists think, would be “I”: investment spending by COMPANIES – spending done today that also IS investing in the future: building a new organic baby food factory, to use Joanna’s example. True, the company will only build the plant if more people are buying the product, but even then it won’t build if it’s too expensive to do so. That’s why interest rates are thought to be so important: the lower they are, the cheaper the borrowing for spending on investment.

In the same way, when you yourself invest in such a company by purchasing its stock, you make it cheaper for the company to raise money to spend. Again, if the company uses that money not to enrich its management, say, but to SPEND – on construction of a new plant – the economy gets both a long and short-run payoff, the latter of which is what it needs at the moment. THIS spending is the “I” in the C+I+G+NX=GDP equation. YOUR investment (small “i”) is NOT part of the annual output of the economy and so not part of GDP.

So what’s the point? That if you insist on investing, with a small “i,” instead of spending (at least some of your money), then you might give some thought as to where that money is invested. It might help the economy more if you buy stock in a firm poised for fast growth than, say, lend it to the U.S. government (by purchasing a Treasury bond), although one can’t be sure.

But one thing is clear, and let this be final observation. Any form of little “i” investment — of putting your money to work — is better than hoarding it, which is what some folks are doing right now: stuffing it under the proverbial mattress, for instance, or “investing” in something “safe” that creates no jobs at all like gold. And that brings us back to where we began: the economy needs money circulating right now, not on the sidelines.