E How Effective Are Government Stimulus Programs?

As Congress considers Biden’s stimulus package, economists are debating the merits of a $1.9 trillion relief package. The debate centers on whether the government response is appropriate or goes well-beyond what is needed to promote recovery. Former Secretary-Treasurer, Larry Summers, on one side, argues that the proposed is excessive, possibly resulting in the economy overheating and ultimately leading to an acceleration in inflation. Countering his argument, the current Treasury Secretary, Janet Yellen, advocates that the administration has to “go big” this time. Former Obama officials recognize that the government’s response to the 2008 crisis was well short of the mark, consequently the economy never really fully recovered from that financial crisis. Today’s COVID-19 crisis, they argue, is even deeper and more destructive than that of 2008.

The economics profession continuously examines the multiplier effects of government expenditures in response to economic crises. How large is the stimulus impact of fiscal spending? By definition, the fiscal multiplier is the change in real GDP caused by an increase in government spending. For example, if government spending increases by one dollar and this results in a 50 cent increase in GDP, then the government consumption multiplier is 0.5.  So, just how impactful are government expenditures to kick start an economy and restore economic growth?

In his most recent report to clients, Lacy Hunt of the Hoisington Investment Management tackles this issue. He concludes that:

Despite the fact that much of the expenditures by the federal government are useful to provide a cushion from lost income and output, the size of the outlays has created some concern regarding future inflation. That particular debate can revolve around the macroeconomic effects of fiscal stimuli (fiscal multipliers) …. It is our conclusion that U.S. fiscal multipliers are in fact negative for noninvestment type of spending.

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William K. 3 weeks ago Member's comment

Certainly there is a need to help some people and some industries, BUT the random dispensing of large amounts of resources, without any discernment of actual need, will cause exactly the conditions and problems described. While some recipients were in desperate need of the past handout, others, such as myself, also got the gift despite having no need and not asking for it. A further example is the GameStop run-up, with so many using their "free money" to invest.

I understand that it would be a challenge to only give to those in need, but certainly there should be some evaluation prior to the broad distribution. Otherwise there is a whiole lot of debt creation without doing as much good as could be done.

Norman Mogil 3 weeks ago Author's comment

I fully agree. We had the same situation in Canada where money was shoved out the door indiscriminately. I think govts just panicked and took no time to take the measurement of those in need and those not. I think govts believe that the pandemic would be short-lived and everyone who lost a job would get it back soon, so just helping temporarily was all that was needed. Now, we know better and the longer term consequences are just starting to sink in.

The Federal govt in Canada has not indicated it will adopt a similar policy that Biden is proposing--- indiscriminate handouts. We are all a little wiser.

Gary Anderson 3 weeks ago Contributor's comment

Prof, the average guy is given a little windfall to encourage him to pay his bills. Bailouts are always ultimately for the wealthy creditors.

Gary Anderson 3 weeks ago Contributor's comment

No doubt it would take a lot to move our markets into inflationary mode.

William K. 3 weeks ago Member's comment

It probably would, although we are already seeing a few price increases in some commodity items. That was mentioned in one of the Thursday posts. Besides that, inflation is a lot more like a junk tree than a explosion. It takes a bit to start growing, but then it does grow more rapidly.