The politics of fiscal stimulus are problematic  

Central banks do not have the tools to tackle the supply side shocks facing the global economy

Megan Greene

30 October 2019, Berlin: German Chancellor Angela Merkel (R) and Minister of Finance Olaf Scholz arrive to attend the weekly cabinet meeting at the Federal Chancellery. Photo: Michael Kappeler/dpa
German finance minister Olaf Scholz and Chancellor Angela Merkel are in no rush to inject a fiscal stimulus into the German economy © Michael Kappeler/dpa


We have heard repeatedly this year that co-ordinated monetary easing is not going to be enough when the next recession comes. Fiscal stimulus will be necessary to maintain global growth. Unfortunately, this pronouncement reminds me of my childhood Christmas wishlist. For several years running, I put a baby brother at the top. But doggedly wishing for something is not enough to make it happen.

There is widespread agreement that central banks do not have the tools needed to address the kind of supply-side shocks the global economy is facing. The world is caught in a liquidity trap, with persistently low interest rates and a glut of savings. Fiscal stimulus would be one way to escape it.

But while the economics are sound, the politics are problematic. In the US, the 2020 election means bipartisan consensus on any major new initiatives is all but impossible. Fiscal stimulus in an election year is not unprecedented — a Democrat-led Congress and Republican president passed a programme in February 2008 amid signs of a sharp slowdown. But US growth in the third quarter this year was 1.9 per cent, slow but not alarming.

Prospects for fiscal stimulus may be limited even after 2020. Democrats and Republicans say infrastructure spending is needed, but for years have been unable to agree on how to pay for it. The recent Congressional Budget Office forecast that US deficits will top $1tn next year makes an agreement even harder.

The chances for significant fiscal stimulus in the eurozone are equally grim. Many look hopefully to Germany, which has a large current account surplus, reflecting an excess of national savings over investment. But Chancellor Angela Merkel’s centre-right Christian Democratic Union views the balanced budget as one of its crowning achievements. In August, finance minister Olaf Scholz suggested Germany could muster a €50bn fiscal expansion, but made it clear he is in no rush to do so.

This is partly because some risks to the German economic outlook — trade and Brexit uncertainty — could abate without public spending. It is also because, as a number of CDU members of parliament explained to me, German politicians are more worried about unemployment than growth. A mild recession would not be enough to trigger a fiscal response.

That would require a spike in unemployment, and so far the labour market remains robust.

Germany’s room for manoeuvre is also limited by its constitution, which prevents the federal government from running structural deficits of more than 0.35 per cent of gross domestic product outside times of crisis. This debt brake would cap stimulus at an estimated €5bn next year and €10bn in subsequent years — hardly a game changer.

France and Italy are still on the long, hard road back to fiscal credibility and have little room to spend. If things got really bad — we are nowhere near that — eurozone fiscal expansion could come in the guise of climate change initiatives.

Germany recently launched a €54bn programme to counter climate change. Eurozone governments and companies could ramp up the issuance of green bonds to finance environmental projects, which the European Central Bank is already buying.

When Chinese growth slowed in 2008 and 2015-16, authorities provided overwhelming stimulus that reflated the economy and buoyed global demand. This time, Beijing’s stimulus has been more targeted and domestically focused, diminishing spillover benefits.

I wouldn’t hold my breath for significant fiscal stimulus from the world’s largest economies.

The real question we should be asking is, what happens when it fails to materialise. There’s an old saying: hope is not a strategy. I wanted a baby brother. I have three sisters.


The writer is a senior fellow at Harvard Kennedy School

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