Congressional Research Service: “Fiscal Policy and Recovery from the COVID19 Recession”

From the summary of the document, which reviews the literature and current macroeconomic state of play. Some key findings are germane to the current intra-Republican party debate over how to proceed with the current recovery package. I know it is the triump of hope over experience to think they will accede to expertise, but here goes.

Economic theory and empirical evidence suggest that stimulative measures tend to move the economy toward full employment as the economy recovers from the contraction, but that measures to reduce the debt (which would require the opposite types of policies, reducing the deficit) are better put in place when the economy returns to full employment. Some views hold that one of the “most significant policy mistakes”in recent times was a premature shift to this policy (termed fiscal consolidation, or austerity) that removed fiscal support from the economy following the Great Recessionwhen the economy was still well below full employment and inhibited economic growth in most advanced economies.

The effectiveness of fiscal policy in stimulating demand depends on the type of policy and how much immediate spending it produces. Government spending, grants to the states, or transfers (such as expanded and augmented unemployment benefits or transfers to lower-income individuals) are considered by most economists to be more effective than tax cuts to higher income individuals or businessesin certain circumstances because such individuals and businesses are less likely to spend the tax cuts. Spending on infrastructure is effective, but may occur with a delay. Given the outlook for a prolonged underemployed economy, this delay may not be a serious limit, and investment in infrastructure would increase the public
capital stock and future output.

Preliminary studies that examined some of the major features of recently enacted measuressuggest the expanded and augmented benefits during the initial decline in output were effective at increasing spending, with stimulus checks being effective to the extent they were received by lower-income individuals. Stimulus checks received by higher-income
individuals appeared to be largely saved and not effective as stimulus. The studies on the PPPare mixed. Two studies indicated that the loans went to firms that already intended to retain employees or did not go to areas most affected by the virus, while one study found that states with more PPP loans had milder declines and faster recoveries.

The current recession’s economic effects, including discretionary spending and the automatic revenue declines and spending increases that accompany a recession, are projected to increase the debt significantly. Although there is a general consensus among economists that it is premature to address the debt given the severity of the current contraction, mainstream economic theory points to the importance of addressing an unsustainable debt as soon as economic conditions permit. Hence, eventually, after the economy recovers, a substantially increased debt may lead policymakers to consider deficit reduction policies, which may include raising taxes and/or reducing spending.

Full Congressional Research Service report here.

I hear already objections that this is a Keynesian analysis to which I would respond it’s a data-based analysis. But if one adjusts for the special attributes of this recession — induced for public health reasons, and disproportionately impacting high-contact services — it’s not clear that the implied policy responses are all different from what has been undertaken thus far. One example I used in my Spring 2020 class is Guerrieri et al.

By the way, the Congressional Research Service is the Congress’s nonpartisan, technocratic, think tank, just like the CBO is Congress’s budgeting and economic projection agency. If you just want to have faith (in “V-shaped recovery”, tax cuts pay for themselves, and leprechauns), this is not the document for you. CBO has an analysis of the implications of cutting off the $600/week enhanced unemployment benefits here.

On a related matter, the Economist has a good briefing “The Covid-19 pandemic is forcing a rethink in macroeconomic” on some aspects of the rethink in macro (in a nontechnical language).