Keynesian fiscal policy is dead
By Scott Sumner
Matt Yglesias has a new post where he argues that a single-payer system is inevitable in America, as achieving universal coverage under a mixed public/private system (as in much of Europe) requires buy-in from both parties. Because the GOP will try to “dismantle” any Obamacare type system (to use President Trump’s terminology), only a single-payer system would have any staying power:
There are lots of alternatives based on subsidies and regulations that work in principle and are used in practice in many European countries. But in a democracy, a workable regulatory system needs to be able to survive the regular alternation of parties in power. The lesson of the Trump era is that the Obamacare approach can’t do that. It’ll take a big, dumb program that just keeps trundling along unless Congress actually repeals it — like how Social Security checks keep going out no matter who’s president.
It occurs to me that this argument applies even more strongly to Keynesian fiscal policy. Many non-economists do not understand fiscal policy; they view it as something that can be applied on a sort of ad hoc basis. But things don’t work that way, as Keynesian fiscal policy requires a countercyclical (full employment) budget deficit. It’s a full-fledged policy regime that must be maintained over time, not a gesture to be employed at a point in time. You can’t say “let’s do fiscal policy this year”.
Back when the unemployment rate was 8% in January 2013, the GOP suddenly cut the budget deficit in half, from a bit over $1 trillion to a bit over $500 billion. More recently, unemployment has fallen to 4% and they have gone on a deficit spending spree that is unprecedented for a period of peace and prosperity, with the budget deficit expected to reach nearly $1.1 trillion in 2019. (This is contrary to the prediction of the more enthusiastic supply-siders.) This sort of highly procyclical deficit is exactly the opposite of what the Keynesian model calls for.
Unfortunately for those Democrats who favor Keynesian policies, fiscal stabilization policies only work if both political parties buy into the program. Because the GOP does not, fiscal policy is now completely off the table.
A few years back I had an extensive debate with Keynesian economists over the question of monetary offset. I argued that fiscal stimulus (and austerity) was generally offset by countervailing monetary actions. Today, the validity of my monetary offset argument is a moot point. Keynesian fiscal policy is dead (even if the Dems were able to regain power), and thus whether we like it or not we are now completely reliant on the Fed to create a stable path of nominal spending.
PS. Monetary policy is also a regime, not a gesture. Commenters will occasionally suggest that I “favor using monetary policy during a recession”, which is a meaningless statement. I favor using monetary policy 100% of the time, because I think barter is a really clumsy system. I don’t want to bring a bag of apples to the store, to swap for peaches. Those of us who oppose barter can then have an intelligent conversation about what sort of monetary regime we favor, but that conversation will not have anything to say about “using monetary policy during recessions”.
PPS. I would not even say I favor using expansionary monetary policies during recessions. I always favor a stable monetary policy aimed at keeping NGDP growing along a 4% trend line. That policy is neither expansionary nor contractionary.