Friday, June 19, 2009

The Sustainability of Stimulus

Stimulus is a funny sort of public policy. In normal years we rightly decry government deficits, but in severe recessions deficits are not only good but necessary. It's not always easy to make the case for recession spending, especially when the media is full of "green shoots" articles claiming that the recession is easing.

These days, polls and articles are all pointing towards a shift in priorities. Six months ago everyone was worried about avoiding a depression. Today, everyone seems to be worried about the deficit.

The worst thing we could do now is pull back on deficit spending. The US did that in the 30s and the Japanese in the 90s, in both cases causing a prolonged era of economic hardship. We need to not only stay the course on deficit spending this summer, but prepare ourselves to continue to increase our deficits over the next year, perhaps longer. In other words, $50B is likely not the end of it.

Cutting back on deficit spending will not reduce the deficit. It's a false economy to hold back now because the subsequent fall in economic activity will reduce government revenues to the point that we'll have the deficit anyway, along with unemployment and bankruptcies and other havoc.

Anti-recessionary spending is often seen as a blunt sword: in terms of fighting the recession it doesn't much matter what you spend the money on, as long as it stays in the economy. But there are reasons why we should be very concerned with fine-tuning: (1) After the recession we'll have to drastically cut spending to get the deficit under control: there will not be money for infrastructure spending for a long time, so we'd better finance important infrastructure projects now. (2) Timing is vital: if we maintain stimulus spending too long we risk causing inflation or even stagflation.

In short, we're on life support now, and it's madness to pull the plug before we're able to breathe on our own. The outcry against deficit spending seems possible only in a world where media and policy makers are largely isolated from economic realities. Many Canadians know how bad the economy is. At the downtown Toronto office of a friend of mine, an ad was placed for one day for a minimum wage receptionist job: they got 250 resumes, some from engineers and MBAs. A woman I know at an employment agency told me that for months now, companies that routinely roll over contracts for skilled financial workers have demanded pay cuts up to 20%. On a purely economic level, every penny taken out of someone's pocket is a penny less to get the economy back on its feet. We're not out of this by a long shot.


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