Wwelcome to the Capital Note, a newsletter on business, finance and economics. On the menu today: Biden’s economic plan, Yellen’s debt dilemma and deficits in a zero interest rate world. Follow this link to sign up for the capital note.
CARES Wet Redux
This morning we presented an editorial on Biden’s stimulus plan, which looks more like a structural economic reform package than an emergency spending bill.
That proposal includes:
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$ 1,400 checks to households, bringing the second round to Trump’s preferred figure of $ 2,000.
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$ 370 billion in state and local aid.
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$ 170 billion in public education grants (essentially a supplement to state and local aid).
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A weekly unemployment insurance supplement of $ 400, extended to September, after the current deadline for March.
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$ 160 billion in public health spending, with specific allocations to the distribution, testing and emergency response teams of vaccines.
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A national minimum wage increase to $ 15 per hour.
The most striking of the proposal is the agreement with the CARES law of last March. All the major ticket items – direct checks, unemployment improvement, loan relief – were used by policymakers at the start of the pandemic almost a year ago. Congress implemented these measures to provide relief during a deep economic contraction and to try to protect Americans at home. But as our main article notes: ‘Now that vaccines are being administered, policymakers face another challenge – not to keep Americans inside, but to get them back to work as quickly as possible. In this context, President-elect Biden’s $ 1.9 billion stimulus package misses the point. ”
As Robert Barro wrote to us in March:
One of the key policy responses to the coronavirus pandemic has been to curb economic activity as a way of reducing the spread of the infection. I would describe this policy as a decision to reduce US and world GDP in the short term by about 20 percent. In essence, it is a voluntarily implemented negative supply shock, similar to a sudden loss of productivity.
Policies such as increased unemployment insurance and direct checks can be seen as stimulating measures insofar as they increase GDP growth, but it was also deliberate contraction. Congress discouraged work so workers could stay home. If you want to reduce the labor supply, it makes sense to sharpen unemployment insurance and send money to households.
Now we want Americans to return to work, and the only way to do that is to accelerate the rate of vaccination. The Biden plan only gives a fleeting nod to social health measures, throwing a few billion to hospitals and testing centers, hoping the problem disappears. But public health efforts should be the main focus for Biden’s economic team.
And money alone will not do the trick. The explosion of vaccines is largely due to complicated rules for admission. Although the elected president supports the requirements for laxity, one can hope that his government will be more ambitious in reducing the bureaucratic barriers to vaccination.
Once the economy is open, demand-side measures will not be enough to boost GDP growth. Especially since Biden is likely to limit production through tax increases.
On the internet
Once he has a deficit, Janet Yellen will soon be managing a federal debt:
When Ms. Yellen served in the Clinton administration as chair of the White House Council of Economic Advisers, she was among those who insisted on a balanced budget. Today, she, cautiously, has joined an emerging consensus concentrated on the left that more short-term loans are needed to help the economy, even without concrete plans to repay it. Central to the view is the expectation that interest rates will remain low in the foreseeable future, which will make it more affordable to finance the loans.
The New York Times’ Nellie Bowles explores the exodus from San Francisco:
‘I miss San Francisco. I miss the life I had there, ”said John Gardner, 35, the founder and CEO of Kickoff, a personal training company. He packed his things and left in a camper van to wander around America. “But at the moment it’s just like: What else can God and the world and the government think of making the place less livable?”
A few months later, Mr. Gardner wrote: ‘Greetings from sunny Miami Beach! This’s about the 40th place I’d set up a temporary headquarters for Kickoff. ”
Random Walk
On the subject of large expenditures, I share part of Olivier Blanchard’s presidential address in 2019 to the American Economic Association, which explains how low interest rates can reduce the fiscal cost of government debt:
Today’s interest rates are not only low but also lower than the growth rates. For example, ten-year forecasts of US nominal growth rates exceed US government bond nominal interest rates by about 1 percent. The difference is even greater in other major advanced economies: 2.3 per cent for the UK, 2 per cent for the eurozone and 1.3 per cent for Japan. If this inequality applies in the future, debt will have no fiscal cost. In other words, higher debt does not have to lead to higher taxes. The government can just roll over the debt, issue new debt to pay the interest, and the debt will rise at the interest rate. However, production will increase at the growth rate, and if the growth rate exceeds the interest rate, the debt-to-GDP ratio will decline over time without ever raising taxes.
Second, welfare costs are likely to be small.
The fact that such a debt fulfillment may be possible does not imply that it is desirable. Higher debt displaces capital accumulation, which reduces future potential output. The issue is what it does to future consumption. This is an old question in macroeconomics, which is being explored by Paul Samuelson and Peter Diamond, among others. The standard answer is that whether consumption rises or falls depends on whether the economy is ‘dynamically efficient’. This condition in turn depends on the relationship between the interest rate and the growth rate. If the interest rate is lower than the growth rate, the economy is dynamically inefficient, and while capital accumulation and production fall, consumption actually rises. The question in the real world, however, is what ‘interest rate’ one should use for this comparison. Should it be the average rate of return on capital, which is clearly higher than the growth rate? Or because people are risk averse, should it be the risk-adjusted rate of return to capital, which is simply the safe rate and lower than the growth rate?
– DT
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