The theory that even in the devastation, there is opportunity doesn't always work out that way, notes Martin Hutchinson of Money Morning.

Invariably, every major disaster comes with the pundits who promise it brings a silver lining.

With a price tag of $50 to $70 billion, some economic forecasters are already rejoicing about the economic "stimulus" that rebuilding from Sandy will bring. If only it were so.

In fact, this paradox is well worn, since it involves one of the central conflicts of economics itself. You may recognize it as a battle between Maynard Keynes and Frederic Bastiat.

It involves Bastiat's famous "Parable of the Broken Window." You see, according to Bastiat (1801-50), the glazier who fixes the broken shop window earns money from it, and so he regards the broken window as economically beneficial. However, that's only half of the story. It doesn't take into account what the shopkeeper might have done with the money he used to pay the glazier to fix the broken window.

As Bastiat points out, there is a "hidden cost" within the broken window itself. The broken window made the shopkeeper that much poorer. What's more, if the glazier secretly paid the boy who broke the window to generate the "new" business, he would be effectively engaging in theft from all the town's shopkeepers.

On a net basis, it's a no-win ballgame. Yet that is the effect of such misguided policies as the "cash for clunkers" scheme of 2009, which paid consumers to junk their still-usable automobiles long before their time.

Likewise, it's found in the same line of argument that somehow World War II rescued the United States from the Great Depression, because it fails to properly account for the immense destruction of wealth (admittedly, mostly outside the US) the war caused.

It seems easy enough—-unless you're a Keynesian economist. That's because Maynard Keynes (1883-1946) argued that if resources are not fully utilized, the multiplier effect of the shopkeeper paying the glazier does produce additional economic activity. So in a Keynesian world, a broken window does indeed increase economic output.

But that's true only if the glazier was not fully occupied elsewhere. If fixing the shopkeeper's window forced him to neglect his other customers, overall economic output would not be increased.

Of course, Keynes also once suggested that the US Treasury should fill old bottles with banknotes and bury them in abandoned coal mines, after which the private sector would labor mightily to mine the banknote-bearing strata, causing massive increases in employment and output.

Meanwhile, with Hurricane Sandy, what we are left with is a stimulus fallacy, since we are well below full employment and in a state in which resources are not fully utilized.

Here's the Fallacy Buried Beneath the Hope
One more interesting feature of the Hurricane Sandy episode is that the National Weather Center (NWC) and state governors seem to believe economic losses are eliminated when they are paid for by insurance companies.

In fact, I thought it was odd when the NWC downgraded Sandy from "Hurricane Sandy" to "Post-Tropical Storm Sandy" the second it crossed the New Jersey shore on Monday evening.

It now turns out that most insurance companies have much higher deductibles for hurricanes than for regular storms, so the authorities were trying to maximize the payout on voters' insurance claims.

The problem is that insurance companies are people too, even if a quirk of the Constitution fails to give them the right to vote. Conniving at insurance fraud by pretending Sandy wasn't really a hurricane is not the ethical behavior we should expect from those in authority.

And if you work for an insurance company, go picket the New Jersey State House in Trenton or New York's City Hall. Mayor Bloomberg, of all people, ought to know better!