It’s not often centre-left economists disagree with each other – let alone get into a stoush. But it’s what happened over the last week.
On February 5 former US Treasury Secretary and National Economic Council Chair Larry Summers published an opinion piece suggesting the Biden administration’s US$1.9 trillion bill might be “too big”.
I am known as a dove [one who supports low interest rates and generous government assistance] I believe that the absolute priority is to protect people and firms affected by COVID. Still, I agree with Summers. The $1.9 trillion program could overheat the economy so badly as to be counterproductive. Protection can be achieved with less.
This all caused a good deal of consternation within the Biden administration, and led the current Treasury Secretary Janet Yellen to push back hard, saying “we are in a huge hole with respect to the job market”.
further delay in approving a larger relief program would be a mistake. That ‘wait and see’ approach has proved to be deeply wrong since the pandemic began. The issue is what I have called the No. 1 rule of virus economics: If you want to help the economy, you have to stop the virus.
So who’s right?
The case for restraintSTEFANI REYNOLDS/EPA
The core of Summers’ argument is that, according to the Congressional Budget Office, the economy is running $50 billion a month below it’s potential, an output gap that will decline to $20 billion a month over the course of the year.
The improvement is in part because of a $900 billion package approved in December under the Trump administration.
Summers points out the Biden administration’s extra $1.9 trillion package would be three times larger than the projected shortfall in output.
As a result, it would “set off inflationary pressures of a kind we have not seen in a generation, with consequences for the dollar and financial stability”.
As well, a package so large might preclude the future spending on infrastructure and productivity-enhancing measures that will be needed to overcome the sluggish growth (“secular stagnation”) identified by Summers before COVID-19.
The case for bold action
Those who support the Biden plan argue it isn’t a traditional stimulus package of the kind Obama enacted in 2009 to get the economy out of recession. COVID is more like a natural disaster.
The spending package is akin to disaster relief, and it’s unwise to skimp on disaster relief.
That said, about a quarter the $1.9 trillion will be spent on sending $1,400 cheques to individuals, on top of the $600 cheques sent as part of the earlier package. That part looks more like a traditional stimulus measure than disaster relief.
So, who’s right?
He points out that
because the government sells both regular bonds and inflation-protected bonds, if you look at the difference between the interest rate on a regular bond and the interest rate on an inflation-protected bond, you get a market estimate of how much inflation is expected in the future
The resulting graph shows inflation expectation has moved back into the Federal Reserve’s target window of 2-3%.
- ^ published an opinion piece (www.washingtonpost.com)
- ^ backed Summers (twitter.com)
- ^ push back hard (www.bloomberg.com)
- ^ backed Yellen and Biden (www.nytimes.com)
- ^ $50 billion a month below it’s potential (www.cbo.gov)
- ^ secular stagnation (larrysummers.com)
- ^ $1,400 cheques (www.cnet.com)
- ^ output gap (www.crfb.org)
- ^ the markets (www.slowboring.com)
- ^ Federal Reserve Bank of St. Louis (fred.stlouisfed.org)
- ^ Joe Biden sends a clear message to the watching world – America’s back (theconversation.com)
Authors: Richard Holden, Professor of Economics, UNSW