We have been living through tense times. But the legislation that President Trump signed on Friday should make us feel better.
Economists overwhelmingly agree that we needed this dose of fiscal medicine, and probably more, to treat individuals and businesses that are suffering and to minimize the potential for their troubles to spread. Rising to the occasion, Congress put aside its polarized politics and passed the bill. The press, which has been harshly critical of the Administration for its tardy and often ineffectual actions in dealing with the virus, is much more on board with these economic measures. We are seeing America come together to take constructive measures in a crisis.
If you are like most people, the passage of this legislation eased some of your anxiety. Government is doing something, and it’s going to help. You are experiencing a sense of relief.
And you should not read the rest of this post.
Really, you should stop now. Watch an entertaining YouTube video. Go out for a walk.
Trust me, you don’t want to read what I really think about fiscal stimulus.
You are going to get angry at me. This is going to be very offensive.
Let us stipulate that we want to shift some resources toward hospitals and toward people who have been economically dislocated by the virus crisis. Think of two ways of doing this, which I will call B and K. B stands for “balanced budget,” where the government spends on hospitals and on relief for distressed individuals and businesses by raising taxes or cutting other spending. K stands for “Keynesian,” where the government runs an enormous deficit, possibly even larger as a share of the economy than in any year in history (I believe that the peak deficit during World War II was about 25 percent of GDP). I believe that we should have chosen B.* I do not think that one can make a good case for K, and in fact choosing K is likely to prove to be a big mistake down the road.
*Of course, had we chosen B, we might have chosen to spend a lot less than $2 trillion. We probably would have considered priorities much more carefully.
We are going to be getting checks from the government. But a check from the government is not the same as a paycheck.
You get a paycheck when you have worked to produce something of value to someone else. When you deposit your paycheck, you have earned the right to spend the money. Or you may give it to a relative to spend. Or you may give it away to an individual or organization that you would like to see able to spend.
Suppose that instead of getting a paycheck, I write a check to myself on one account and deposit the check in another account. In this case, I have not produced anything of value to anyone else. I would have to be an idiot to believe that I can now afford to spend more.
How about if I get a check from the government? If the government used B, then the check is like a paycheck. Joe worked to produce something of value for someone else and got a paycheck. The government took some of Joe’s money and gave it to me, so now I can spend it. I can spend more because the government took some of what Joe produced and gave it to me.
If the government used K, then the check is more like a check that I wrote to myself. The check does not represent something that was produced. I can spend it, all right. But collectively, we have to be idiots to believe that we can now afford to spend more.
I know someone who until last week was a recruiter for a hotel chain. The hotel chain decided that it probably was not going to be doing a whole lot of hiring in the near future. The recruiter was no longer producing something of value to someone else, and instead was ZMP, as Tyler would say. So the recruiter was laid off.
Our intuition is that if the ex-recruiter stops spending, then someone else in the economy might become ZMP and get laid off. So we want the ex-recruiter to keep spending. We can get the ex-recruiter some unemployment compensation, either by method B or method K. Keynesians believe that method K will lead to more spending than method B. Their assumption is that collectively we really are idiots. And by being idiots, we will cause more people to be employed producing something of value to someone else.
I am willing to grant the assumption that we are idiots, or at least a lot of us are. But I am pretty skeptical of the assumption that their spending will lead to people producing something of value to someone else. If the idiots spend more, but nothing more of value is produced, what happens? Prices have to go up. We get infected with the inflation virus.
Clearly, we didn’t catch the inflation virus from the 2009 stimulus. Does that mean we don’t have to worry about it?
Well, apparently I didn’t catch the Covid-19 virus the last time I mingled with other people. Does that mean that it’s safe to mingle as much as I want?
[sorry. this post is not about how to stop the virus. this comment is off topic. –ed]
It is about the virus, the new economic context surrounding the virus, and I consider it a personal failure not to have the skill set required to help smart people see that unfolding truth.
I is not later we pay.
We already have assigned the cost, it will take one or two quarters for the extra Keynesian interest to be due and payable. This is a been there done this for the financial industry, they know where the expenses go, mainly to the retail banking sector which gets rolled up.
The Fed already had a pricing problem, losing market share makes pricing erratic, taxes cannot be estimated, government budgets to volatile and we will get sudden stop, again, in about two quarters regardless of the virus.
Examine the financial discussions before the virus. It was about how much QE that Fed would need this recession cycle, and the number 4T got bandied about extrapolated from the 2008 crash. The actual medical costs of the virus are running about 200 billion total right now.
So, it seems to me the bailouts we already hedged, the cost path already set up, retail banking is taking a big hit. Politicians have imply aligned their regularly scheduled bailouts with the virus. A coincidence? No, and we can see that in the government confusion. The virus costs way over estimated, and good recession for other causes would have created a very similar sudden stop. We are misinterpreting what is happening, but finance is not, they were well prepared months before we knew about the virus.
Did the pending recession cause the virus?
One can make a very good claim they are related in evolution and economics. Recessions are cause and are caused by mass congestion, like homeless camps which spread viruses like wildfire and poor county hospitals that amass hundreds of patients in emergency rooms where is spreads.. There are good reasons to connect social distancing and value added chains, value chains minimize internodal congestion and minimize virus problems.
With plan B the taxes happen sooner. With plan K the taxes happen later. We will scramble to produce output to pay those taxes later so the difference between B and K is just the timing of taxes. Apparently you don’t agree so I’m asking why?
You can tell that many in Congress were ashamed to be associated with this spending bill because of the way it was passed (by voice vote). Rep. Massie of KY attempted to force a recorded vote and was the subject of massive bipartisan vitriol for doing so.
To take some limiting cases, obviously if the government injects, say, $1 billion somewhere, you would agree it has the capacity to do something and is not likely to cause widespread inflation.
And if the government injects, say, $1 quadrillion, then inflation immediately results.
Empirically $800 billion in 2009 did not do it. So the question is, why do you think $2,200 billion is the level that will burst the dam?
“Maybe it won’t, but it’s a risk” is a possible answer. But there should be a reason why you think the activation energy is somewhere between $800 billion and $2.2 trillion.
Good question – how much is too much debt?
For a stable country, Japan at 220% or so of GNP seems a reasonable top.
So. Lower the gov’t expenses OR grow the economy faster.
Trump’s lower taxes, less regulations will grow the economy faster.
Reps who support lower spending will continue to lose elections until the Dems decide that “too much debt” is a problem — when they are in power.
Or the hyperinflation starts.
Not clear which will be first.
Also, the USA should be able to handle a 220% level as well as Japan.
Probably a lot better, as the world’s reserve currency – until there is some other, credible world currency. I don’t Renmimbi/ Yuan nor Euro catching up soon.
Balanced budget is still more responsible, maybe.
But it’s political suicide – thanks to too many economists unable to teach the virtues of capitalism over socialism?
The financial crisis measures, though irresponsible and with some ugly side effect (and limited effectiveness?) were not directly comparable. More targeted sectoral stimulus than literally the printing press. The fact that banks earn interest on reserves also changed things.
I agree with the ideas presented in this post. Instead of a transfer, though, is there a difference when someone who produced something of value lends me money? Is it ok for me to spend that money knowing that they expect me to pay it back at some point with interest (knowing that there is risk inherit in the act of lending)?
I know this is not how it works, but if individuals financed the $3 trillion deficit by purchasing government bonds (forgoing their own spending and assuming the risk), would this be different?
One reason Japan has such high debt is because so much of it is owned by Japanese – so little capital flight away risk.
“If the government used K, then the check is more like a check that I wrote to myself. The check does not represent something that was produced. I can spend it, all right. But collectively, we have to be idiots to believe that we can now afford to spend more.”
It is fairly useful to see the economic damage as a near mirror of the biological effects. Economic distancing mirrors social distancing. To the degree your business models require crowds, the economic virus will spread. Fully distant business models are barely affected.
Your recruiter has the economic virus, because he is part of a business model that requires social intimacy. We know some people get light symptoms. About 20% will require hospitalization, which equates to significant support subsidies. Some of those will require the equivalent of an economic ventilator, and some will experience a complete economic death.
The virus will require a massive medical and social effort to contain it with real action, or it will spread much more rapidly and cause much more damage. The economic virus will work the same way.
So, Arnold, are you Governor Cuomo, or are you Governor DeSantis?
This is simply wrong. B is immediate taxes, K is future taxes (including inflation, which is basically a tax on dollar-denominated assets). Neither option is a check from an entity to the same entity.
In both cases, it’s a check to individuals from a DIFFERENT set of individuals, sometime in the future. That set may include the recipient, but almost certainly not for the same amount.
I agree with your intuition that B would be better, and would probably result in a smaller distribution. I believe that K will be more expensive overall for those who pay (more now, and far more later). But the metaphor of a check to yourself is not close enough to be helpful.
This means you have very little faith that americans in the future will be producing much of value.
In 2008 there was a major allocation problem in the economy, the patterns of specialization and trade needed a major shift for the economy to function properly, how well the economy could shift and how productive it would be with new patterns was unknown, on top of stimulated spending likely delaying and reducing the needed adjustments. I would say overall the case for K in 2008 was weak relative to today.
In 2020 the cause is completely external to the economy. Things were fine (at least as far as anyone could tell, I haven’t seen any predictions for a recession for any specific cause, just general ‘it’s about time’ sort of predictions) and without this virus the economy would have continued humming along for quite a while. So really all we need is a something to bridge the gap from now to when we get rid of the virus, borrow money from the future and give it to americans today, first so that the people will be fine (able to pay rent, buy food, etc), and second so that there is less of a disruption in current patterns of S&T since as far as we can tell these patterns are doing well in directing resources to their best uses.
Obviously everyone can quibble with the details of the $2T bill, just in general I think borrowing from the future is more appropriate here than in previous recessions where the economy itself needed to adjust and stimulated spending delays and reduces those adjustments.
You don’t think the economy will have to adjust? Then, I’ve got some stock in cruise ship lines that I’d like to sell you.
But to be serious: Economic change can be hard–getting out of one business, getting into another, eliminating some jobs, creating others. It’s more likely to happen when some outside force shakes things up. I’m starting to feel shaken.
As Neil Irwin wrote in the New York Times, the purpose of a fiscal stimulus is to stop a supply shock from turning into a demand shock.
Say we have a supply of toilet paper for 100 people. Currently, only 75 people have an income to buy toilet paper. What a fiscal stimulus does is enable the other 25 people to buy toilet paper, in effect turning notional demand into effective demand, and balancing demand with supply.
Absent that fiscal stimulus, we would have a glut of toilet paper leading to lower toilet paper prices, not higher.
To be clear, we are not adding new demand for toilet paper by giving people money but maintaining the previous level of demand. It’s a distinction with a difference.
Which can be accomplished by monetary policy but less expensively (and without the problem of fiscal stimulus being offset by the central bank).
Does the central bank have the ability to sterilize this effusion of bipartisan dreck?
Also, this story assume the decline in supply complements the decline in demand. E.g. a waiter loses his job and his realized demand for restaurant food declines with it. Keynesians like Irwin are used to thinking about negative demand shocks, but this is a real shock, not a negative aggregate demand shock, so the hits to supply do not necessarily line up with the hits to demand. On the one hand, people are producing less of things in the same category as toilet paper, things notional demand has remained the same for, because the decline in supply is largely the result of work being more hazardous now, not because of declining demand for those goods; supply could decline more than realized demand for some things in a real supply shock, meaning fiscal stimulus would just mean more money chasing fewer goods. On the other hand, much of the loss of demand is in fact a decline in notional demand; e.g. people haven’t stopped eating at restaurants because their income has declined, but because of the epidemic. Give these people more money and they won’t start eating out more. In my case, I’m going to save literally the entirety of my stimulus check, and I’m nowhere near rich. For these reasons, fiscal stimulus is far more limited in its potential impact – even in old fashioned, unreconstructed Keynesian models – than in a conventional recession.
Hey Arnold – Welcome Back!
Okay, I’m obviously at least somewhat guilty of being in the “top half” of your post here. Just not for the reasons you might suspect.*
I’m fully on-board with the core of the bottom half of your post as well, if I understand it correctly. I’d merely state it in somewhat different terms. Suffice to say, I’d REALLY prefer a US economy that has individuals, institutions, businesses, agencies that are vastly MORE Self-reliant and vastly LESS Government-reliant. In addition to that, I’d REALLY prefer a Federal Government that is vastly LESS Federal Reserve-reliant. And all that, completely irrespective of whether there is a “balanced budget” or not.
Ceteris Paribus
Now let’s get down to cases and questions. What taxes would you suggest increasing (or implementing anew), and what spending cuts would you suggest?
*I’m just impressed as all get out that the Federal Government (especially THIS Federal Government), in conjunction with the Financial sector, has proven themselves capable of orchestrating this massive a response – to anything – this rapidly, and in this orderly a fashion. I’m impressed. And little over a month ago I wouldn’t have predicted it possible even in the event of a military attack.
Having said that, I fully recognize the “Keynesian” characteristics of what is going on, and I’m under no illusions that there aren’t going to be a slew of potentially detrimental unintended consequences resulting from it. I just don’t foresee inflation/hyperinflation being one of them. In fact, the worst possible/probable unintended consequence I anticipate is that even more individuals, institutions, agencies, etc. become even MORE Government-relient – in perpetuity. I AM going to be watching for that, by the way.
I don’t think the stimulus itself will cause inflation, but I gather that’s not the main concern. We’re talking about ‘down the road’ mainly. The real issue is that the cost of servicing the debt is going to go up even faster now, which is going to add still more to deficits, and a vicious cycle emerges. Eventually, the temptation to lean on the fed to use inflation to reduce the debt. That would be how fiscal policy would lead to inflation in the more monetarist model.
Distributing costs through inflation is one way to let market forces work their magic.
Surreptitious default on debt is the primary rationale for fiat money.
I view the fiscal spend in addition to Fed actions as liquidity efforts aimed at one thing: Avoid massive losses today caused by the Virus in return for postponing some or all of anticipated today losses for hoped for lesser losses on a PV basis spread over some future time period.
Inflation, down the road? Who knows , but short term more questionable.
Let us say that “this time is different”. That today, in the developed world, there is “plenty” of capital – because there is enough production capacity to fulfill all needed and very many luxury goods. Plus extra capacity – no World Wars in many decades!
So if “demand” for anything produced goes up, TP, sanitizer, even ventilators — the production capacity will swiftly adjust. Prices will NOT rise thru shortages.
Food, basics, clothes.
But housing, in good areas, keeps going up.
Also services.