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  • Mark Copelovitch

On “stimulus” and “overheating”: If not now, then when?


The big news in economic policy this week has been the very public debate about whether President Biden’s $1.9 trillion economic relief package is too large and risks “overheating” the economy. Somewhat surprisingly, two of the key players here have been Larry Summers and Olivier Blanchard, both of whom have expressed skepticism that the Biden package is too large and have raised surprisingly dire concerns about the inflationary risks it might unleash.


I’ve already commented on this a bit here and here and here, noting in particular that neither Summers nor Blanchard, in assessing the optimal size of the “stimulus,” takes into account that federal aid for state and local governments is the entire ballgame determining whether or not we end up having another austerity-induced Lost Decade. Likewise, Summers’ and Blanchard’s concerns about inflation and overheating seem strange in light of the decade-plus of target undershooting we’ve just lived through, the negative real interest rates across the entire Treasury yield curve, expectations of low inflation well into the future, and the fact that we still may not have recovered pre-2008 trend GDP and may never do so. But I wanted to expand on my thoughts about this economic debate a bit further here.


More importantly, though, I want to raise a point about the politics of the relief package: if we don’t “go big” now and make absolutely sure that we don’t avoid another Lost Decade, the electoral consequences for Democrats will be dire in 2022. Given where we are, with the Republican Party having collapsed into far right authoritarianism, the rest is noise. Fears of inflation and “overheating” the economy under current political circumstances, when the opportunity cost of doing too little is the possible full collapse of American democracy and another Lost Decade, seem not only “overheated” themselves – they seem to miss the forest for the trees.



The economics: it's not "stimulus" and what about that new macroeconomic thinking?


Others, such as Noah Smith and Paul Krugman, have clearly laid out the economic reasons why analyzing the Biden plan as we would assess Keynesian “stimulus” does not make sense, rightly arguing instead that we should label and analyze this as “social insurance” or “disaster relief.” Austin Goolsbee convincingly laid out the case this week for “going big” with COVID relief now to avoid long-term structural damage and once again falling behind, rather than getting ahead, of an economic crisis. Gene Sperling made the same point in today’s Financial Times. These three arguments are compelling and, I believe, correct.


On the economics, I want to focus on a slightly different topic, which is the puzzling disconnect between Larry Summers’ and Olivier Blanchard’s concerns about the Biden relief package and their highly publicized arguments of the last decade for a fundamental rethinking of macroeconomic policy and public debt. This week's vocal skepticism of the "stimulus" seems directly at odds with the project in which these two experts have been engaged for the last many years.


Summers has spent much of the last decade cogently and forcefully arguing that “secular stagnation” is the defining macroeconomic feature of our time, and that “new approaches are needed to deal with sluggish growth, low interest rates, and an absence of inflation.” The central theme of these arguments is that:


"I am increasingly convinced that current macroeconomic theories, with their premise that monetary policy can determine the rate of inflation, may be unsuited to current economic reality and so provide misguided policy prescriptions. They failed to anticipate Japan’s deflationary slowdown that began in 1990, or the global financial crisis, slow recovery, and below-target inflation during a decade of recovery, or the sustainability of high levels of government debt with very low real interest rates"(Finance and Development 2020).


The core policy implication of this, for Summers, is that more aggressive fiscal policy is necessary to raise real interest rates and escape the grip of stagnation:


"The core problem of secular stagnation is that the neutral real interest rate is too low. This rate, however, cannot be increased through monetary policy. Indeed, to the extent that easy money works by accelerating investments and pulling forward demand, it will actually reduce neutral real rates later on. That is why primary responsibility for addressing secular stagnation should rest with fiscal policy. An expansionary fiscal policy can reduce national savings, raise neutral real interest rates, and stimulate growth" (Foreign Affairs 2016)


Meanwhile, Blanchard has spent the last several years arguing for a fundamental reassessment of how we think about the tradeoffs of debt and deficits. In a series of papers and speeches and talks under the rubric of “Public Debt: Fiscal and Welfare Costs in a Time of Low Interest Rates,” Blanchard has argued that the current situation of interest rates below growth rates is “more the historical norm than the exception” and has called for a reassessment of how we think about the pros and cons of government borrowing in this environment. Blanchard’s insights are very much worth your time, especially if you have not previously seen or read them. The key takeaway is summarized here in a Peterson Institute policy brief from 2019:


"High public debt is widely perceived as economically, and even morally, destructive. Leaving aside the nearly religious arguments about debt and sin, two economic reasons are typically given. The first is fiscal costs: High debt implies high distortionary taxes in the future. The second is welfare costs: Debt crowds out capital in the portfolios of savers, decreasing capital accumulation and thus decreasing future output and consumption…In the current environment of low interest rates, I wondered how large these costs were and decided to explore that in my address. I reached two main conclusions…First, there may be no fiscal costs…Second, the welfare costs are probably small…. This leads me to the conclusion that, while public debt is probably bad, it is not catastrophic. It can be used but it should be used right" (PIIE Policy Brief 19-2, 2019).


In short, two of the world’s most brilliant, prominent, and widely-respected macroeconomists, with long and extensive policy experience, have spent the years since the Global Financial Crisis forcefully arguing that we need to update our beliefs about economic growth and debt and should embrace more activist and aggressive fiscal policy.


And yet…here we are, in early 2021, in the face of an unprecedented economic crisis brought on by a raging global pandemic, with a new Democratic president forcefully pursuing large-scale economic relief – in large part to avoid the well-documented mistakes of his former boss, whose questionable political and policy choices in regard to the 2009 stimulus package directly contributed to the 2008-18 Lost Decade – and the very public reaction of these two economists is…


“…Well, yes, but we didn’t actually mean now, or that kind of spending, or that much aggressive fiscal policy.”



Blanchard, it seems, is now deeply concerned that a massive surge in inflation will require the Federal Reserve to spike interest rates in response to major overheating of the economy:






This is truly puzzling. First, there is absolutely no signal from financial markets that investors are worried about future inflation. Mike Bird framed this nicely as “Summers & Blanchard vs. Mr. Market” in the Wall Street Journal this week:





As Bird notes, bond investors continue to expect world-historically-low real interest rates, across the entire Treasury yield curve, in spite of current debt and deficits and Biden’s policy announcements. If ever there were a market signal in support of Summers’ and Blanchard’s arguments about stagnation and public debt over the last few years, this would appear to be it.


Second, even if Blanchard were to be correct, more inflation is exactly what we supposedly want and actually need. Let’s say Blanchard is right, and Biden’s policies lead to persistently higher inflation, on the order of 3-4%, for multiple years. Isn’t this exactly what is necessary to offset the damage of a decade-plus of undershooting the Fed’s 2% target? Isn’t it perfectly in line with the Fed’s new monetary policy framework, in which the goal is a long-term, average, symmetric target around 2%? Currently, the Fed’s own forecasts expect inflation to remain below target for <another> decade, which means another decade of failing to meet its own mandate. It’s bizarre, in light of all of this, for Blanchard to fret that the Biden package would constitute “starting a fire” in the US economy. Rather, it seems to be exactly the sort of complementary fiscal policy for which every Federal Reserve Chair since Bernanke has been loudly pleading for the last decade, so that monetary policy and inflation can be “normalized” and the Fed can escape the trap of under-inflation that it’s been mired in since the GFC.


For his part, Summers is concerned not only about the specter of inflation and “overheating,” but also that spending too much money now will exhaust the political capital necessary for the Biden administration to pursue long-term investments after the pandemic ends:


"Is the thinking that deficits can prudently be expanded longer and further? Or that new revenue will be raised? If so, will this be politically feasible?"


The answers to these questions are “Yes." "Hopefully." And "Maybe.” There simply is no economic or fiscal tradeoff between spending now and spending later, as I discussed in my previous post. The US can afford to spend as much as we want on as many things as we want, by virtue of our unchallenged dominance in global finance. It’s strange, then, for Summers to frame the choice of COVID relief vs long-term investment as a tradeoff. It may be politically (see below). But economically and financially, this is simply not the case for the US.


All of this raises the question of what countries and circumstances, exactly, Summers and Blanchard were speaking about when they set forth their arguments about secular stagnation and debt. Did they not intend their arguments to apply to the US? That seems both impossible and incorrect, given the audiences to which they have pitched these arguments for years. If any country doesn’t face urgent fiscal constraints and can afford nice things both now and post-pandemic, without risking a debt crisis, default, or a large spike in inflation, it’s the country that issues the world’s dominant global reserve currency, in a time of negative real interest rates and unprecedented global financial flows.



The politics: if not now, then when?


Beyond the economics, though, Summers and Blanchard are missing the most important aspect of the Biden plan: the politics.


Quite simply, if we don’t fully and completely solve the COVID crisis and provide the needed disaster relief now, the political backlash will be severe and completely destroy any possibility of political support for the sorts of long-term public investment that Summers believes is our top priority and Blanchard seems to believe that debt in an era of low interests rates should be reserved for.


Imagine, for a moment, the scenario in which the Biden administration settles for a $1 trillion package (or less), one with little or no aid for state and local governments and far less in direct payments to households and firms. Not only would this break explicit campaign promises, but also it would quite likely turn out to be too little to return the economy to pre-pandemic trends. Now imagine it's November 2022, and Democrats, at the federal and state level, get hammered in the midterm elections, losing control of one or both houses of Congress and several more governorships. What, then, do the next two years look like in terms of economic policy?


We know the answer to this, because we’ve seen this movie before, in 2010-17. Not only won’t there be the long-term investment Summers supports, but also there surely isn’t going to be the runaway inflation Blanchard fears. No, instead, we’ll far more likely be mired in the midst of yet another austerity-induced Lost Decade. Republicans will surely block any serious fiscal policy and investment for the remainder of Biden's term, they will instead push for further supply-side tax cuts, and there will be absolutely no chance at new public investment on the scale needed to actually address secular stagnation.


We also know what those next two years look like, in terms of democracy. No multi-party democracy reform. More voter suppression. More extreme gerrymandering. More GOP nullification of the authority of remaining Democratic governors, as we see on an ongoing basis here in Wisconsin. More attempts at institutionalizing one party rule by a GOP that has collapsed into far right authoritarianism. In short, the stakes are extremely high right now, not just in terms of fixing the economy and defeating the pandemic, but also for the future of the rule of law and democracy in America.


For all of their fears about future inflation, Summers and Blanchard seem disconcertingly unworried about this political risk. This is unfortunate, since one of the central lessons of the years since the onset of the 2008 global financial crisis is that austerity and timid fiscal policy have massive negative political consequences. Indeed, we have ample research evidence now in political science and political economy that the political consequences of economic shocks and financial crises – most notably, the surge in support for far right authoritarian parties and candidates across space and time in their wake – are real and perhaps even more serious than the economic costs themselves. In fact, Summers himself, in 2016, was clearly aware of the political risk of stagnation and economic crisis:


"Secular stagnation and the slow growth and financial instability associated with it have political as well as economic consequences. If middle-class living standards were increasing at traditional rates, politics across the developed world would likely be far less surly and dysfunctional. So mitigating secular stagnation is of profound importance" (Foreign Affairs 2016).


Unfortunately, this part of the secular stagnation agenda seems to have gone missing in this week's debates. Yet a full assessment of the optimal size of the Biden relief plan must absolutely take into account these political realities. Which brings me back to the passage at the top of this post. It is a quote from Hillel, the famous Talmudic rabbi of the first century BCE, who was head of the Sanhedrin (the ancient rabbinic tribunal) and founder of the famous the school of Jewish law (Beit Hillel, “House of Hillel”) that engaged in a long series of disputes with its rival, Beit Shammai. The Jewish Talmud documents dozens of disputes between Hillel and Shammai, with the general pattern being that Beit Hillel adopts more lenient positions, while Beit Shammai takes stricter ones. More frequently, the rabbis in the Talmud favor the views of Beit Hillel, but the dueling views and opinions are both recorded, and these disagreements are a classic illustration of what is known in Jewish tradition as an argument “for the sake of heaven” – debates in good faith aimed at coming to the best solution, acknowledging that both sides may be partly right, and trying to disagree respectfully in search of deeper truths.


The quote above is perhaps Hillel’s most famous. It is found in Pirkei Avot (literally, “Chapters of the Fathers,” but generally translated as “Ethics of Our Fathers”), which is part of the Mishnah, the first text of Jewish oral law codified in the second century CE. Its last question, “If not now, then when?” is often interpreted as a charge to not put off important work for another day, because the work is urgent and difficult, and because there isn’t any time to waste. It is a charge, above all, to not find reasons to make the perfect the enemy of the good, and to not leave for tomorrow that which must be done today.


It is exactly the question that I find myself asking this week, in response to Summers and Blanchard’s public skepticism about the Biden relief plan. Indeed, it is one of many questions:


  • What, exactly, was the point of exerting so much time and effort on theorizing secular stagnation and debt sustainability if, at the very first sign of a serious crisis, the apparent policy implications of these arguments were going to be set aside so easily, and the old lines about potential inflation and fiscal space embraced again, as if the last Lost Decade had not occurred?

  • Would it spoil some vast eternal plan if we finally had a bit of inflation over 2% for a few years, if that meant a more rapid recovery from the COVID crisis and a way to finally return to the US economy to its pre-2008 trajectory?

  • Isn’t the Federal Reserve far more adept at reining in inflation than it has been in addressing persistent under-inflation, and couldn’t it do that once again with “normalized” interest rates if and when the currently nonexistent inflation becomes actual inflation?

  • Was the Summers-Blanchard revolution in macroeconomic thinking merely an intellectual thought experiment? Is it a set of policies designed only to be implemented in some future, optimal time in which our economy and our politics are more stable? If so, what exactly are those circumstances? How can we know when we've reached them?


These are not merely rhetorical questions. They are questions in the spirit of the debate between Hillel and Shammai. For those of us seriously concerned with the economics and politics of macroeconomic policymaking, knowing the answers to these questions about the scope conditions of these novel economic theories is crucially important. But those answers were missing from this week's debate, and it seems the questions weren't even being asked.


More importantly, for those of us seriously concerned with both real-world consequences of the economic crisis and with defeating the current frontal assault on American democracy, the risks of doing too little seem to so vastly outweigh the risks of doing too much that it’s hard to believe we’re really having this debate all over again.


If this is “overheating,” then please, light the fire. It’s awfully cold outside right now.


If not now, when?


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