The US will be paying for its current fiscal excesses with the promise of future payments. But inefficient economic stimulus now will not give future generations the productive resources needed to make good on it.
CAMBRIDGE – More than a decade ago, I undertook a study, together with Graciela Kaminsky of George Washington University and Carlos Végh, now the World Bank’s chief economist for Latin America and the Caribbean, examining more than 100 countries’ fiscal policies for much of the postwar era. We concluded that advanced economies’ fiscal policies tended to be either independent of the business cycle (acyclical) or to lean in the opposite direction (countercyclical). Built-in stabilizers, like unemployment insurance, are part of the story, but government outlays also worked to smooth the economic cycle.
The Year Ahead 2018
The world’s leading thinkers and policymakers examine what’s come apart in the past year, and anticipate what will define the year ahead.
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The benefit of countercyclical policies is that government debt as a share of GDP falls during good times. That provides fiscal space when recessions materialize, without jeopardizing long-run debt sustainability.1
By contrast, in most emerging-market economies, fiscal policy was procyclical: government spending increased when the economy was approaching full employment. This tendency leaves countries poorly positioned to inject stimulus when bad times come again. In fact, it sets the stage for dreaded austerity measures that make bad times worse.
Following its admission to the eurozone, Greece convincingly demonstrated that an advanced economy can be just as procyclical as any emerging market. During a decade of prosperity, with output close to potential most of the time, government spending outpaced growth, and government debt ballooned. Perhaps policymakers presumed that saving for a rainy day is unnecessary if this time is different and perpetual sunshine is the new normal.
Fast-forward to the United States in 2018. Trillion-dollar deficits as far as economists can project are prima facie evidence that the arc of fiscal policy in the US bends in the wrong direction. An aging population should be husbanding resources for the future, not spending on itself now. Of course, democracies have a long history of over-rewarding current voters at the expense of future generations, but the current scale and scope of fiscal largess is mistimed to both the trend and cycle of the US economy. Most analysts believe the US is at or near potential output. Fiscal stimulus at such a time is plainly procyclical.
