In the latest Fiscal Monitor published earlier this month, the IMF encourages advanced economies to keep their fiscal taps running even beyond the initial phases of the crisis. Fiscal policy has so far been focused on building a ‘bridge’ over the initial collapse in economic activity to limit long term scarring in the form of permanent job losses and large-scale bankruptcies. This has cost governments around the world over $11.7 trillion or 12% of global GDP. Yet even as cash transfers, wage subsidies, furlough schemes and the like come to a tapered end, the IMF has emphasized the need for greater public investment in the ‘post pandemic’ phase of the recovery. Projects that are green, health related and/or digital will be the immediate beneficiaries of this increased investment.
This is a remarkable volte-face from the same economists who preached austerity in the aftermath of the GFC and the Eurozone Debt Crisis. What has changed in the decade or so since? Certainly, the failures of austerity are now well documented and therefore likely to not be repeated. More importantly, central bank financing of government spending is no longer an idea touted by the modern monetary theory (MMT) fringe. Rather, it has been welcomed into the domain of mainstream policymakers. Of the total US government debt issued since February 2020, the Federal Reserve has bought 57%. In the same period, the BOJ has bought 75%, the ECB 71% and the BOE 50% of their respective national government debts. With central banks financing most of the debt build up this year, borrowing costs have remained suppressed. Therefore, rather than crowding out, the IMF argues that fiscal stimulus will ‘crowd in’ even more private investment: ‘public investment can boost private investors’ confidence in the recovery and induce them to invest too, in part because it signals the government’s commitment to sustainable growth.’ Will advanced economies and their aging populations be able to spend and then grow their way out of a debt hole? We remain skeptical.
Some of the effects of prematurely withdrawing stimulus have played out in the US. With congress in deadlock and no further stimulus since July 31st, US personal income has fallen by 2.7% in August and permanent job losses have increased by 39% in Q3, still above the peak rate during the GFC. In this sense, an election win for either candidate will likely be positive in the immediate term as the deadlock is broken and much needed fiscal stimulus is renewed. The consensus view has been that a ‘Blue Wave’ scenario in which Biden wins the election and Democrats control both Houses would result in a c.$2 trillion package. Yet, like most things this year uncertainty is at an all time high. With millions voting through mail-in ballots for the first time, the risks of a delayed or contested election are very real.