Many on the right claim that additional fiscal stimulus is not required and in fact will lead to staggering levels of inflation. But inflation is actually falling in the United States, more than four years after the beginning of our current economic crisis.
The Commerce Department’s price index for personal consumption expenditures, which is the Fed’s favored measure of consumer price inflation, was up 1.5% in June from a year earlier. That’s below the Fed’s 2% goal and also much lower than last year, when inflation measures neared 3% because of surging gasoline prices.
Falling inflation means one thing: lack of sufficient demand. It is what happened in the 1930s in this country, and in Japan in the 1990s. The result in both cases was suffering for the weakest among us. And it is happening today around the world on a huge scale.
The only reason that we have not had sufficient stimulus (i.e., government spending to plug the hole in demand and return our citizens to work) so as to help address the ruinously high levels of real pain is the intransigence of republicans in the House.
When an economy collapses, particularly when the cause of the collapse is a lack of demand, the only solution is fiscal stimulus, which is the antithesis of austerity.
Many economists argue that a stimulus would be the surefire way to ensure that the economy would regain its footing. Paul Krugman was an early and prominent advocate for a stimulus. He forcefully argued for a big stimulus. Other economists, particularly those of the conservative persuasion, criticized the idea of a big stimulus because they said that it would lead to inflation, hinder rather than facilitate economic recovery, and would spook the bond market, thereby making it more expensive for the U.S. to borrow money. They favored austerity as the best remedy for the ailing economy. Three years later, the verdict is in: Krugman, the Nobel Prize-winning economist, has been vindicated and the critics of the stimulus have been wronged, as none of their predictions had come to fruition
My undergraduate major was economics (albeit 40 years ago) and it was considered “black letter” policy that a demand shortfall was most effectively attacked via government spending to fill the hole of falling demand for goods and services. Despite the rush to so-called conservative values in this country, I continue to believe such is the case.
… Friedman also considered variables other than prices. A characteristic of both the contraction of the 1930s and the Japanese stagnation of the 1990s, he noted, was the drag of tight money on nominal GDP. Reversing this would “have the same effect as always,” he said: “output will grow, and after another delay, inflation will increase moderately.” He grew flexible, as well, concerning money-supply rules. In 1984 he wrote that slow, steady monetary growth was “not a necessary implication of monetarist theory”. And when an economic crash in 1990s Japan gave way to a feeble recovery and deflation, Friedman recommended a monetary “kiss of life” in the form of QE.
Ignoring decades of economic thought and numerous examples around the world, and in the absence of Congressional action, we are left only to the Federal Reserve’s preparation to do what they can. The most effective approach requires Congressional action in the form of increases in government spending over the short term. Here is a cogent explanation of what should happen, from The Economist in June of this year:
I’d LIKE to say a bit more about the policy side of things given the state of the world economy. There is a great deal of attention paid to fiscal issues, and certainly fiscal issues deserve scrutiny. Greece, Ireland, and Portugal have little choice but to embrace swingeing short-term austerity, but massive short-term cuts in places like Spain and Italy are foolish and counterproductive. Maybe Germany and France can’t be talked into substantial fiscal stimulus but, again, focusing fiscal consolidation efforts on the long-term and practicing a sort of benign deficit neglect at this moment of crisis seem the smart options. In America, the fiscal situation is extraordinarily frustrating. Each day, Treasury yields touch unbelievable new lows. It would certainly seem a very good opportunity to undertake, in scale, any capital investments the government has been putting off, and there are many. Congress isn’t doing that, obviously. Instead, paralysis reigns and may produce a massive fiscal contraction at year’s end, on top of which may come a disastrous debt-ceiling battle.
Despite the claims of the so-called deficit hawks, who have been sending up distress signals of impending rampant inflation, borrowing costs of reasonably stable economies like the US and Germany, are at record lows. Stated simply, money is cheap, whether over the short term or the long term. US 10-year Treasury bonds have hit new low yield records several times in the past two weeks. It is a perfect occasion to borrow money to grow economies over the long term.
But no such stimulus will occur in the United States prior to the election. And this will occur for purely partisan reasons. The House republicans can, have and will block such action solely to increase the likelihood that Romney will be elected in November as a result of continuing weakness in US employment.
Yet millions of unemployed Americans suffer every day, desperately searching to land a job and support their families, and hundreds of millions around the world suffer as well. Needless suffering is the result.
- Against the Financial Times’s Editorial on Austerity (delong.typepad.com)
- Some at Fed Urge Pre-emptive Stimulus (nytimes.com)
- Paul Krugman: The Great Abdication (economistsview.typepad.com)
- Paul Krugman: Schooling Inflationistas in Basic Principles of Logic (delong.typepad.com)
- A dose of inflation could start to look like a cure for our current ills (telegraph.co.uk)
- Is the Fed pushing on a string? (economist.com)