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m_d_hBack in 2009 I thought President Obama and the Democratic Congress, along with the Federal Reserve, had a once-in-a-Century chance to do what FDR did during the 1930s and move the US economy to a fundamentally higher plane of growth via trillions of dollars in new federal spending combined with near-zero interest rates. Instead, Obama gave his team an arbitrary spending limit of "under a trillion dollars" and the Federal Reserve began paying banks not to lend out their reserves. The result was a deeper recession than anybody had expected, and a slow-burn recovery that didn't truly bloom until after Obama was gone -- allowing Trump to take credit for the lowest unemployment in over 50 years.
Why didn't Democrats grab the prize in 2009? Obama's personality turned out to be less than his campaign rhetoric implied. His was a slow-but-steady hand on the economic rudder, and he turned out to be more interested in making grand deficit-cutting deals with Republicans than growing the economy. It was a historic missed opportunity.
As for the Federal Reserve governors, they had fallen under the spell of having an inflation target of under 2%. This target came out of nowhere -- it was not mandated by the organizing statute of the Federal Reserve, which instructs the Fed to balance unemployment, inflation, and long-term interest rates. It was not suggested by academic research, which correctly predicted such a low inflation target would increase financial and economic instability -- giving us the worst two recessions since FDR abandoned the gold standard in the 1930s. Obama did nothing to change this ideology -- instead he renominated Ben Bernanke, who made this 2% target official Fed policy.
On the other hand, Obama's restraint did result in the longest economic expansion in US history, only ending when the COVID-19 pandemic resulted in widespread lockdowns during the spring of 2020. Slow and steady. But the "what if" factor haunts his legacy. Most of the people who worked in the White House during his first term, and most Congressional Democrats from back then, ended up thinking they hadn't done enough to fix the economy. They were too timid, they focused too much of their too-small stimulus on tax cuts instead of spending, they focused too much of their federal aid on banks instead of people. They focused too much on a complicated and incomplete ObamaCare and not enough on fixing the overall economy.
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You cannot blame either Trump or Biden for making the same mistake this time around. As I've written before, the federal government has engaged in WW2-size fiscal and monetary stimulus and is preparing to continue dumping additional trillions of federal spending into the US economy.
But the stimulus has been horribly designed. Lots and lots of federal stimulus, yes, but 2/3 of it has ended up in the savings accounts of people who didn't need it. Hundreds of billions given to business owners to pay their bills, hundreds of billions sent out as rebates to taxpayers, regardless of need. If your business was doing fine, you still got aid. If you were able to keep your job, you still got aid. Most of the aid was in the form of "income support" -- cash transfers to people and businesses to keep them afloat, whether they needed it or not. Expanded unemployment benefits for those who did lose their jobs -- in addition to the IRS rebates -- often boosted people's income above what they had been making when they were employed -- and a lot of people wisely put these extra payments into their savings accounts.
I'm not saying nobody needed help, but the aid wasn't targeted toward people who needed help. So 2/3 of it ended up in people's savings accounts.
-----
Some "centrist" Democrats and Republicans are warning that an additional $1.9 trillion of federal stimulus could end up doing more harm than good. They're rightly pointing out that most of the stimulus we've already spent ended up in people's savings accounts. They're rightly pointing out that we've run up our debt to WW2 levels. They're rightly pointing out that we're doing nothing to pay for this extra stimulus, and that the result after the lockdowns end could be inflation, higher interest rates, and then another recession.
WW2 levels of stimulus, during WW2, did result in a decade of higher inflation, averaging over 5%/year and occasionally hitting double-digits. I have plenty of reason to think that our COVID stimulus will result in the same. Now, I'm not afraid of some moderate inflation, I think overall it can be good for the economy to break out of the Fed's 2% inflation cap. But after three decades of inflation never reaching 4%, and with financial markets having built-in long-term inflation expectations of under 2%, there will be unexpected repercussions from higher inflation.
And if the Fed decides to fight this higher inflation, we're going to be in for a rough ride, because the only way the Fed can fight inflation is to force the economy into recession, sometimes repeatedly, sometimes with interest rates well above 10%.
Congress also has a role in fighting inflation -- if Congress wants to. The way Congress can fight inflation is by increasing taxes and cutting spending. So if we start seeing the highest inflation of the 21st Century as our economy recovers from the pandemic, we could see the Federal Reserve react with much higher interest rates, and Congress react by increasing tax rates and cutting spending.
It's stuff we're not used to, stuff many people will never have seen before. We're so used to low inflation and low interest rates. But there's another mode to economics, the mode in which the velocity of a currency increases as people no longer look to it as a store of value, as people no longer hoard a currency instead of spending it.
When the global savings glut turns into a global spending frenzy.
On the one hand, we'll have stronger economic growth than we've seen in decades. But the economy will not look familiar anymore, there will be different winners and losers. People who counted on the US Dollar as a store of value, people who counted on low interest rates, people who counted on high stock valuations -- they'll be losers. People who are able to produce high-value consumable goods and services will be winners. The finance economy, which makes up 20% of US GDP, will be losers. Those who sell durable goods and services on credit, will be losers --> houses, cars, educational degrees. Retired people with lots of savings will be losers. Younger people with marketable skills and/or lots of debt will be winners.
-----
But this vision of the next 10 years isn't so much about Biden's stimulus plan. It's about the stimulus we've already done. We've already baked in WW2 levels of stimulus, deficits, and debt. So we're already likely to get the aftermath of WW2 -- higher inflation. We could get a bit less of the coming disruption -- if Biden's stimulus plan focused more on needy people and less on aid to people who don't need it.
I could definitely be wrong about the future. We'll see what happens next when it happens.
Why didn't Democrats grab the prize in 2009? Obama's personality turned out to be less than his campaign rhetoric implied. His was a slow-but-steady hand on the economic rudder, and he turned out to be more interested in making grand deficit-cutting deals with Republicans than growing the economy. It was a historic missed opportunity.
As for the Federal Reserve governors, they had fallen under the spell of having an inflation target of under 2%. This target came out of nowhere -- it was not mandated by the organizing statute of the Federal Reserve, which instructs the Fed to balance unemployment, inflation, and long-term interest rates. It was not suggested by academic research, which correctly predicted such a low inflation target would increase financial and economic instability -- giving us the worst two recessions since FDR abandoned the gold standard in the 1930s. Obama did nothing to change this ideology -- instead he renominated Ben Bernanke, who made this 2% target official Fed policy.
On the other hand, Obama's restraint did result in the longest economic expansion in US history, only ending when the COVID-19 pandemic resulted in widespread lockdowns during the spring of 2020. Slow and steady. But the "what if" factor haunts his legacy. Most of the people who worked in the White House during his first term, and most Congressional Democrats from back then, ended up thinking they hadn't done enough to fix the economy. They were too timid, they focused too much of their too-small stimulus on tax cuts instead of spending, they focused too much of their federal aid on banks instead of people. They focused too much on a complicated and incomplete ObamaCare and not enough on fixing the overall economy.
-----
You cannot blame either Trump or Biden for making the same mistake this time around. As I've written before, the federal government has engaged in WW2-size fiscal and monetary stimulus and is preparing to continue dumping additional trillions of federal spending into the US economy.
But the stimulus has been horribly designed. Lots and lots of federal stimulus, yes, but 2/3 of it has ended up in the savings accounts of people who didn't need it. Hundreds of billions given to business owners to pay their bills, hundreds of billions sent out as rebates to taxpayers, regardless of need. If your business was doing fine, you still got aid. If you were able to keep your job, you still got aid. Most of the aid was in the form of "income support" -- cash transfers to people and businesses to keep them afloat, whether they needed it or not. Expanded unemployment benefits for those who did lose their jobs -- in addition to the IRS rebates -- often boosted people's income above what they had been making when they were employed -- and a lot of people wisely put these extra payments into their savings accounts.
I'm not saying nobody needed help, but the aid wasn't targeted toward people who needed help. So 2/3 of it ended up in people's savings accounts.
-----
Some "centrist" Democrats and Republicans are warning that an additional $1.9 trillion of federal stimulus could end up doing more harm than good. They're rightly pointing out that most of the stimulus we've already spent ended up in people's savings accounts. They're rightly pointing out that we've run up our debt to WW2 levels. They're rightly pointing out that we're doing nothing to pay for this extra stimulus, and that the result after the lockdowns end could be inflation, higher interest rates, and then another recession.
WW2 levels of stimulus, during WW2, did result in a decade of higher inflation, averaging over 5%/year and occasionally hitting double-digits. I have plenty of reason to think that our COVID stimulus will result in the same. Now, I'm not afraid of some moderate inflation, I think overall it can be good for the economy to break out of the Fed's 2% inflation cap. But after three decades of inflation never reaching 4%, and with financial markets having built-in long-term inflation expectations of under 2%, there will be unexpected repercussions from higher inflation.
And if the Fed decides to fight this higher inflation, we're going to be in for a rough ride, because the only way the Fed can fight inflation is to force the economy into recession, sometimes repeatedly, sometimes with interest rates well above 10%.
Congress also has a role in fighting inflation -- if Congress wants to. The way Congress can fight inflation is by increasing taxes and cutting spending. So if we start seeing the highest inflation of the 21st Century as our economy recovers from the pandemic, we could see the Federal Reserve react with much higher interest rates, and Congress react by increasing tax rates and cutting spending.
It's stuff we're not used to, stuff many people will never have seen before. We're so used to low inflation and low interest rates. But there's another mode to economics, the mode in which the velocity of a currency increases as people no longer look to it as a store of value, as people no longer hoard a currency instead of spending it.
When the global savings glut turns into a global spending frenzy.
On the one hand, we'll have stronger economic growth than we've seen in decades. But the economy will not look familiar anymore, there will be different winners and losers. People who counted on the US Dollar as a store of value, people who counted on low interest rates, people who counted on high stock valuations -- they'll be losers. People who are able to produce high-value consumable goods and services will be winners. The finance economy, which makes up 20% of US GDP, will be losers. Those who sell durable goods and services on credit, will be losers --> houses, cars, educational degrees. Retired people with lots of savings will be losers. Younger people with marketable skills and/or lots of debt will be winners.
-----
But this vision of the next 10 years isn't so much about Biden's stimulus plan. It's about the stimulus we've already done. We've already baked in WW2 levels of stimulus, deficits, and debt. So we're already likely to get the aftermath of WW2 -- higher inflation. We could get a bit less of the coming disruption -- if Biden's stimulus plan focused more on needy people and less on aid to people who don't need it.
I could definitely be wrong about the future. We'll see what happens next when it happens.