Beware the Dark Side of the Boom

By Kevin D. Williamson

Friday, March 05, 2021

 

Maybe a boom is not what we need.

 

The economic forecasters are expecting a big 2021, and have been revising their growth forecasts upward in anticipation of another $1.9 trillion in stimulus spending.

 

How big a boom? Goldman Sachs estimated 6.6 percent GDP growth back in January, and more recent estimates from other firms have run as high as 9 to 10 percent. (For comparison, consider that in the postwar era the United States has never seen a year of 9 percent GDP growth.) The more conservative forecast survey published by the Federal Reserve Bank of Philadelphia foresees GDP growth at 4.5 percent in 2021, with unemployment heading downward and falling below 5 percent by 2023.

 

Those are perfectly respectable numbers, even with growth being measured from a relatively low baseline because of the awful effects of the epidemic on the U.S. economy in 2020.

 

The Harvard economist N. Gregory Mankiw, writing in the New York Times, estimates that it would take about $444 billion in stimulus spending to goose the economy back to its full potential. There already is $900 billion in COVID-relief spending on tap thanks to the bill signed in December. As reckoned by my English-major math, $900 billion is a good deal more than $444 billion, and $900 billion plus $1.9 trillion is a whole heck of a lot more than $444 billion.

 

There are some potential downsides to spending more than enough.

 

One is the possibility of raising inflation to a problematic level, something that is not exclusively the concern of libertarian deficit scolds and gold bugs. As Professor Mankiw points out, the big uptick in both military and welfare spending that took place under the Lyndon Johnson administration launched an inflationary spike that punished the U.S. economy from the 1960s into the 1980s.

 

The United States and the world have been through a lot in the past 20 years, and undermining the dollar would both impose obvious costs and court risks that we are not expecting, from the purely economic to the geopolitical. This is not an especially good time to be rolling the dice.

 

And though the hypocrisy of Republican elected officials has made it easy for many Americans to dismiss them when they raise the problem of the budget deficit and the national debt, the math is the math irrespective of the GOP’s moral standing to thunder about it. Even without $1.9 trillion in wheel-greasing for Democrats, the federal debt is expected to exceed U.S. GDP later this year.

 

So far, the market for U.S. government debt appears to be robust, but Japan and China — the largest and second-largest foreign holders of U.S. debt, respectively — have been reducing their holdings since last year, with their exposure to U.S. debt shrinking by about $20 billion each between February and December of 2020. Meanwhile, the Federal Reserve’s balance sheet has increased from $4.2 trillion to $7.6 trillion over the past year, with the central bank expected to buy up to $30 billion in Treasuries and mortgage-backed securities a week in 2021. But investors at home and abroad are fickle, and ultimately there are real economic limitations on what the Fed can do to support federal borrowing.

 

This presents a genuine risk to the U.S. economy. A meaningful increase in the interest rates on the federal debt (say, a return to their historical average) would cripple the federal government as the cost of debt service amounted to adding something on the order of a second Pentagon to the budget burden — and things could easily get much worse than that. Keep in mind, those billions (ultimately trillions) of dollars would not be going out the door in the form of politically palatable programs such as writing checks to middle-class and well-to-do Americans who do not need them but nonetheless appreciate them — that money would only be interest payments on the debt, a considerable portion of it paid to overseas investors and central banks. That is not going to be popular, and it is easy to imagine the resulting economic chaos and the resulting political chaos aggravating each other.

 

There are other reasons to avoid a stimulus-driven boom. A great many bad investment decisions get made during booms (and what is a bubble except a boom in a silo?), and we already are seeing some worrying trends, such as big run-ups in commodities prices. Slower but steadier growth might be a better path. And while right now probably is not the moment to start paying down the debt (even in the imaginary world in which such a thing is politically viable), we are going to have to get our federal government (and our cities and states and their pension systems) on a more sustainable fiscal course at some point. That is going to mean doing some things that are politically difficult, including reforming the popular entitlement programs.

 

One of the lessons of COVID-19 is that the American economy and American institutions are more resilient than many of us, myself included, had feared; another lesson is that a crisis can come suddenly, urgently, and in an unexpected form. When the epidemic hit, we had spent a great deal of time and energy war-gaming scenarios involving China and Russia but had invested comparatively little in scenarios involving Rhinolophus bats. As the subprime meltdown showed, economic crises can proceed in unexpected ways as well.

 

Having more debt relative to GDP and more locked-in long-term spending amplifies our risks. Having less debt reduces our risks.

 

It is always better to solve the problems you can solve when you are not yet in a state of emergency that forces you to solve them — when you still have time, resources, and, most important, choices. That’s one benefit of having a debt-to-GDP ratio that is more like Denmark’s (35 percent) or Sweden’s (27 percent) than ours.

 

The $1.9 trillion stimulus bill represents 1.9 trillion choices taken away — it represents a choice to put ourselves in a riskier position than we have to be in rather than to begin reducing our risk in a responsible and orderly way. That Democrats are insisting on this poor choice in order to create a boom that they hope will benefit them in the midterm elections and in 2024 is something to which voters ought to give some serious consideration.