Thinking About Stimulus in the US

A lot of US progressives, including Dean Baker, and Larry Mishel from the Economic Policy Institute, are weighing in on the need for a significant fiscal stimulus package, in the range of 1% of GDP. http://www.epi.org/subjectpages/stimulus.cfm

Citing – entirely reasonably – the need for measures which will have a quick impact on a slowing economy, these packages tilt to income transfers to lower and middle income families, and to labour intensive infrastructure investments which can be rolled out quickly to boost new hiring, especially in the hard hit construction sector.

I agree – and yet it does seem somewhat perverse that the top of mind response to this particular crisis should be to support personal consumption. Ever since the recovery of the early 1990s, US growth has essentially been maintained by growth of household consumption well in excess of real household income growth, juiced up by low interest rates, asset bubbles (first dot com stocks and then housing) and by easy (not to say profligate) credit linked to these asset bubbles. The hugely indebted US household sector is now in full retreat – while the financial sector faces an imminent insovency crisis due to the massive amounts of bad debt which have been generated. It’s not just sub prime mortages which are turning bad, but also, increasingly, credit card debt and home equity lines of credit based on now woefully dated house price valuations. (The big US banks may also soon also face problems with the massive amounts of corporate debt incurred to fund private equity buyouts and their loans to hedge funds , but that’s another story.)

Those who argued the unsustainability thesis – that a US expansion fuelled by massive growth of household and public sector debt, and by the willingness of foreigners to fund US over-consumption relative to real income growth – have been proved correct. It seems unlikely that another big increase in US household debt is on the cards, and foreign lenders may yet balk at funding increased US government deficits, especially at currrent very low interest rates.
All of which is to say that the really important question is not so much how to get the US through this year with a mild recession using the usual macro levers – though that is indeed important – but whether we face a set of circumstances that can only result in a continuing crisis.

Some see only the need for a temporary monetary and fiscal stimulus to US growth, with the centre of global growth shifting to Asia, and the US current account deficit being slowly unwound by slower domestic consumption and higher net exports. But the idea that Asia and Europe can decouple seems increasingly a wishful dream. Both have been hit by the aftershocks of the US financial crisis, and the real economy impact flowing from reduced US imports seems likely to be large. At the same time, deep US interest rate cuts introduced to address the threat of financial system insolvency would seem to threaten any real prospect for continuing huge US borrowing abroad. Who is going to pile up US government bonds if the US dollar is going to fall still further? (The option of  massively selling off real US corporate assets to sovereign wealth funds flush with cash in a buyers market is in principle available, but unlikely to arouse great enthusiasm.)

Obviously we face very uncertain times. In this context, what we should be thinking about are establishing new driving forces for global growth which help lead the US out of a deep structural crisis with minimum damage to the rest of us (not least Canadians.)

To my mind, a big part of the answer has to lie in a shift from export led development to domestic demand led development in Asia, above all China, kicked off by a serious realignment of currencies and by trade management to produce much more balanced outcomes. That would at least give the US a chance to seriously addrress the balance of payments and trade imbalance on terms which benefit the global economy as a whole.   But this will require a major shift out of free trade orthodoxy, and re-regulation of global currency markets.
And we should also be thinking about a major expansion of public investment in the US, Canada, Europe and elsewhere to deal with the global warming crisis. If the US is to run big deficits moving forward to sustain domestic demand and jobs, far better to use them to rebuild the economy along environmentally sustainable grounds than to maintain unjustifiably high levels of personal consumption relative to domestic production.  Those deficits may in turn have to be financed by surplus countries as part of an explicit bargain, rather than relying on fickle international financial markets.

I hasten to add that steeply redistributive taxes and transfers plus real wage increases for ordinary working people can and should ensure that it is the super affluent in the US who bear the necessary burden of austerity. If the top 1% sustained anywhere near the share of the pain as they did the gain over the past decade and more, that would be justice indeed.