Economists arguing that there is indeed such a thing as a free lunch … as long as people are willing to eat it
Brad DeLong and Larry Summers have a new paper out that’s worth reading. Little in it is brand-new to obsessive followers of the fiscal policy debates of the past few years, but it’s a very useful compendium of evidence.
Their basic argument is that the effectiveness of fiscal policy support (say, like the Recovery Act) quite likely remains substantially under-estimated by most well-known models and assessments (and even these well-known models already make a powerful case for its effectiveness). They, in fact, go so far to say that:
“A combination of low real U.S. Treasury borrowing rates, positive fiscal multiplier effects, and modest hysteresis effects [i.e., the “scarring effects” of recessions – see here] is sufficient to render fiscal expansion self-financing”
To put this simply, fiscal support pays for itself, even in narrow budgetary terms (let alone in broader economic terms). This is a key lesson – one we have tried to impart before in a policy memo:
“The original Recovery Act spurred income creation that resulted in higher tax collections and lower safety-net spending, substantially blunting its bottom-line impact on deficits”
“While this caution may be useful, it should be made clear that the case for full self-financing over time of temporary fiscal support in an economy stuck in a liquidity trap is actually not totally implausible…”
Why is this point—that well-designed fiscal support programs are significantly or even totally self-financing—so important? Well, for some reason, far too many policymakers (even, or especially, ones who self-identify as Democrats, who one would think would be friendlier to calls for fiscal support for job creation) have settled on the mantra that short-term stimulus can only be done if coupled with long-term deficit reduction. There never was a real substantive reason for this stance – even if the Recovery Act, for example, had not come with any induced deficit offset at all, it would have added all of 2 percent to the long-run fiscal gap of the United States.
But, once one allows for the very real possibility that well-designed fiscal support adds nothing to long-run deficits, the logic of holding it hostage in the name of concern over long-run deficits falls apart completely. In short, holding up short-term fiscal support in the name of extracting long-run promises on deficit reduction makes about as much sense as insisting that a house with drafty windows that’s also on fire can only have the flames doused if somebody can be found to simultaneously do some caulking.