At the zero lower bound on safe nominal short-term interest rates, an expansionary fiscal policy impetus of d percent of current GDP will:
- raise current output by (μ)d,
- raise future output by (φμ)d, and
- raise the debt to GDP ratio by a proportional amount ΔD = (1 - μτ - μφ)d,
where μ is the Keynesian multiplier, τ is the tax rate, and φ is the hysteresis coefficient.
It will then require a commitment of (r-g)ΔD percent of future output the service the additional debt, where r is the real interest rate on government debt and g is the growth rate of the economy. The debt service can be raised through explicit and fiscal deadweight loss-inducing taxation, through inflation--a tax on outside money balances accompanied by disruption of the unit of account--or through financial repression--a tax on the banking system but also imposes financial distortions.
That is the simple arithmetic of expansionary fiscal policy in a liquidity trap.
The question of whether and how much expansionary fiscal policy a government facing a liquidity trap should engage and then becomes a technocratic one of calculating uncertain benefits and uncertain costs. Why uncertain? Because our knowledge of the parameters of the economy is uncertain. And we are particularly uncertain not just of the outcome of the key debt- amortization parameter r-g but of its ex-ante distribution as well. There is this an element of radical, almost Knightian, uncertainty here in the benefit-cost calculation. But it remains a benefit-cost calculation. And rare these days is the competent economist Who has thought through the benefit-cost calculation and failed to conclude that the governments of the United States, Germany, and Britain have large enough multipliers, strong enough hysteresis coefficients for infrastructure investment programs, and sufficient fiscal space--favorable likely distributions of r-g--to make substantially more expansionary fiscal policies than they are currently following almost no-brainers.
It is against the backdrop of this situation that we find aversion to fiscal expansion being driven not by pragmatic technocratic benefit-cost calculations but by raw ideology. And so we find Barry Eichengreen being... shrill:
Confronting the Fiscal Bogeyman: "The world economy is visibly sinking, and the policymakers who are supposed to be its stewards are tying themselves in knots...:
...Or so suggest the results of the G-20 summit held in Shanghai.... All that emerged… was an anodyne statement… structural reforms… avoiding beggar-thy-neighbor policies. Once again, monetary policy was left… the only game in town…. Someone needs to do something to keep the world economy afloat, and central banks are the only agents capable of acting. The problem is that monetary policy is approaching exhaustion….
The solution is straightforward. It is to fix the problem of deficient demand… by boosting public spending. Governments should borrow to invest in research, education, and infrastructure…. Such investments cost little given low interest rates… [and] enhance the returns on private investment [as well]…. Thus it is disturbing to see… particularly… the US and Germany [refusing] to even contemplate such action, despite available fiscal space….
Barry blames Germany’s derangement on the ideology of Ordliberalism:
In Germany, ideological aversion to budget deficits… is rooted in the post-World War II doctrine of ‘ordoliberalism,’ which counseled that government should enforce contracts and ensure adequate competition but otherwise avoid interfering in the economy…. The ordoliberal emphasis on personal responsibility fostered an unreasoning hostility to the idea that actions that are individually responsible do not automatically produce desirable aggregate outcomes…. It rendered Germans allergic to macroeconomics….
Barry blames the U.S. derangement on a somewhat analogous ideological formation—call it Ordovolkism:
[In] the US… citizens have been suspicious of federal government power, including the power to run deficits, which is fundamentally a federal prerogative.… That suspicion was strongest in the American South… rooted in the fear that the federal government might abolish slavery…. During the civil rights movement, it was again the Southern political elite that opposed the muscular use of federal power…. The South [became] a solid Republican bloc and leave its leaders antagonistic to all exercise of federal power except for the enforcement of contracts and competition—a hostility that notably included countercyclical macroeconomic policy. Welcome to ordoliberalism, Dixie-style. Wolfgang Schäuble, meet Ted Cruz.
And Barry concludes by asking:
Ideological and political prejudices deeply rooted in history will have to be overcome to end the current stagnation. If an extended period of depressed growth following a crisis isn’t the right moment to challenge them, then when is?
Barry intends this last as a rhetorical question: It is the great Hillel's "If not now, when?", to which the proper answer is: "Then now!"
But it is quite possible that the best answer is, instead: "Never!"
While Austerian fear and suspicion of countercyclical monetary policy is rooted in the same Ordoliberal and Ordovolkist ideological fever swamps as objections to countercyclical fiscal policy, it is much weaker. It is much weaker because fundamentalist cries for an automatic monetary system—whether based on a gold standard, a k%/year percent growth rule, or John Taylor's interest-rate rule—have crashed and burned so spectacularly so many times that they lack even the barest surface plausibility. History has definitively refuted Henry Simons’s call for rules rather than authority in monetary policy. The near-consensus agreed-upon task of institution design for monetary policy is not to construct rules but, instead, to construct authorities with technocratic competence and sensible objectives and values.
Thus one way around the Ordoliberal and Ordovolkist ideological blockages is to redefine a sufficient quantum of countercyclical fiscal policy as monetary policy. I call this "social credit". Others call it "helicopter money". Move the central bank’s seigniorage revenue stream outside of the government’s consolidated budget. Assign the disposition of this revenue stream to the central bank. It is not first-best. It may be good enough to do the job.
Another way of attempting to finesse the problem is to construct a fiscal council of some sort. Such an institution, assigned responsibility for the government’s investment budget, may attract the technocratic competence and status of the central banks, and so outflank Ordoliberal and Ordovolkist ideological blockages. Are haps.
But if neither of these expedients—neither social credit or helicopter money on the one hand nor fiscal councils on the other—will serve, then Barry Eichengreen is completely right: it is long past time for a frontal intellectual assault on the dangerous and destructive ideologies of Ordoliberalism and Ordovolkism.
And that assault would be, itself, part of a broader intellectual struggle. The major point of Steve Cohen’s and my Concrete Economics is precisely that ideology is a very bad guide the economic policy. This is simply another—albeit an unusually important—instance.