Should We Fear the Money Cannon?
Will Biden’s ambitious stimulus plans overheat the economy?
By Brendan Wilson
Two weeks ago, President Biden signed his colossal $1.9 trillion American Rescue Plan. The package will send $1,400 to most Americans, enhance jobless benefits, expand the child tax credit, fund vaccine distribution, and bail out cash-starved states. This gargantuan stimulus is heaped on top of the $3 trillion injection enacted by the Trump administration in 2020. And Slow Joe is just getting warmed up! This week he announced his plans to spend another $3 trillion on critical infrastructure. The admirable aim is to jumpstart growth, lifting the tide that raises all boats, but doing so requires relighting the fuse on the Washington money cannon.
Though the rescue plan was hailed by supporters as the fulfillment of a major campaign promise and a necessary lifeline to millions of unemployed Americans, opponents of this aggressive, Rambo-esque fiscal expansion point to pent up consumer savings, improving manufacturing output, and frothy asset markets as proof that we are already on our way to a healthy recovery. Another $2 trillion injection, they argue, would overheat the economy, accelerating inflation and expanding the national debt at the expense of future growth.
One notable critic is former Treasury Secretary Larry Summers, who wrote in the Washington Post in February that “President Biden’s $1.9 trillion covid-19 relief plan…. would represent the boldest act of macroeconomic stabilization policy in U.S. history,” Mr. Summers added last week that the administration was carrying out the “least responsible” fiscal policy in the last four decades, risking a return to the hyperinflation of the 1970s.
Basically, if the economy were a motorcycle, Biden’s rescue plan straps rocket engines to the sides and puts Evil Knievel in the driver seat. Is this bad? It depends on how fast you like to go.
Those for and against the bill agree that the stimulus will spur a surge in satisfying economic growth, but we should consider the risks of overheating before we crown Biden the Bold savior of the realm. For some context, we look back to the other two massive macroeconomic stimulus initiatives on record: The New Deal and the Recovery Act.
For most of our history, government took a laissez faire, Garfield the Cat approach to the business cycle. Adam Smith’s invisible hand, not Washington, determined the course of the business cycle. But the profound suffering of the Great Depression defied the classical view of economics. Governments unwilling to tolerate the harrowing plight of their citizens began to heed the fiscal gospel of John Maynard Keynes, whose 1930 Treatise on Money preached that government should spur aggregate demand with deficit spending during recessions.
After taking office in 1933, Franklin Delano Roosevelt signed a barrage of legislation designed to reform the financial system and put the country’s unemployed back to work building critical infrastructure. Within three years, the “alphabet soup” laws creating the Social Security Board (SSB), the Securities and Exchange Commission (SEC), the Federal Housing Administration (FHA), and the Federal Deposit Insurance Corporation (FDIC) were signed into law. All told, the 2021 equivalent of $800 billion was injected into the economy between 1933 and 1936.
Less than a century later, we found ourselves once more caught in the downward spiral of a financial meltdown. The Great Recession of 2008-2009 wiped out millions of jobs and trillions of dollars of wealth, forcing Barack Obama’s administration to pass an immense stimulus package of New Deal magnitude. The Recovery and Reinvestment Act of 2009 cut taxes for 91% of householders, sent checks to individuals and struggling state governments, and invested in infrastructure like roads, bridges, and clean energy. Over three years, $1 trillion in 2021 dollars was deployed to galvanize the recovery.
This brings us to 2020, when the pandemic eliminated more than 20 million jobs and closed thousands of businesses. Knowing that the economic carnage wrought was several times that of the Great Recession, the Trump administration responded with an unprecedented $3 trillion in relief, three times the size of the Recovery Act.
The current administration argues that more is needed. When it comes to the king-sized price tag, Biden’s big bet is that the risk of doing too much is dwarfed by the risk of doing too little. To take this at face value would be irresponsible, so an examination of these risks is necessary.
The first is inflation. Well known economists are enjoying their fifteen minutes, penning op-eds and jabbering in cable news spots harkening the hyperinflation to come. The argument goes that businesses will raise prices to allocate a fixed number of goods to rapidly increasing demand, the purchasing power of the dollar will erode, and interest rates will climb higher. This will in turn harm asset markets from housing to stocks to nonfungible tokens. In effect, rocket fueled growth in 2021 could give way to a painful reversal in 2022. In his above mentioned Washington Post op-ed, Larry Summers argues that Biden’s plan would inject a sum much larger than the current estimation of the output gap, or the difference between where the economy is now and where it could be at its full potential. Historically, stimulus packages are sized to plug this output gap, not overshoot it by several multiples. This sort of overstimulation could overheat the economy.
Risk number two deals with how we pay for all this. In February, the non-partisan Congressional Budget Office reported that our national debt will reach 102% of GDP at the end of 2021 and rise to 202% in three decades. “The risk of a fiscal crisis appears to be low in the short run despite the higher deficits and debt stemming from the pandemic,” the report said. “Nonetheless, the much higher debt over time would raise the risk of a fiscal crisis in the years ahead.” The “crowding out” effects of a mammoth national debt burden could lead to higher borrowing costs, reducing business investment and slowing the growth of economic output.
These concerns are economically sound, but there are several mitigating factors. The first is that the money spent will not hit the economy all at once. White House economist Jared Bernstein contends in a recent interview for the Wall Street Journal that the administration will be closely monitoring inflation-related indicators and will pull back if the data calls for it. Janet Yellen supported this, declaring that they have “the tools necessary” to fight inflation should it show signs of running away.
The second is that 10-year treasury yields, a closely watched indicator of inflation expectations, is only just returning to its pre-pandemic level. Fear mongers have pointed to its recent climb as a sign that the inflationary chickens have come home to roost, but the yield has only just returned to its previous one-year high.
Third, the decade following both the New Deal and the Recovery Act was marked by low inflation. This suggests that factors other than simply money supply drive price growth.
Finally, with nearly 10 million Americans still unemployed, we are light years away from full employment. This alone is an argument in favor of additional stimulus. Moody Analytics’ chief economist Mark Zandi, whose work has been cited by those on both sides of the argument, has declared that $1.9 trillion is “exactly the right amount” of stimulus needed to get back to full employment and a “very strong economy.”
It is the opinion of your devoted blogger that a smaller package negotiated in conjunction with the ten olive-branch Republicans should have been Biden's course. Alas, it was not, and to quote a Roman general, "the die is cast." As the Economist magazine recently put it, “Mr. Biden’s gamble is better than inaction. But nobody should doubt the size of his bet.”
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