Critiquing the Wall Street Journal Editorial Pages on Fiscal Policy
The Wall Street Journal Editorial Board demonstrates a lack of clarity on fiscal policy in its February 12, 2021 op-ed “The Pandemic Spending Hangover.” Consider the following passages from this op-ed. First:
CBO says federal spending reached $6.55 trillion in fiscal 2020, as Congress addressed the damage from Covid-19 and the government shutdowns. That’s about a $2.1 trillion increase in a single year, and understandably so given the uncertainty of the threat as it emerged in the spring. Notably, and in a pleasant surprise, revenue fell a mere 1.2% to $3.42 trillion as the economy held up better than expected. The deficit came in at a staggering $3.13 trillion, or a record 14.9% of GDP.
The Editorial Board expresses surprise that revenue didn’t fall that much. What they don’t mention is that the fiscal stimulus probably had a lot to do with keeping revenue up by keeping GDP from cratering worse than it did.
Second:
Debt held by the public—the kind the government has to pay back—broke above 100% of the economy in fiscal 2020. Even without new Biden spending, CBO says it will reach 102.3% in fiscal 2021.
…
How much debt is too much, and when does it begin to have corrosive economic consequences? No one knows, but one economic benchmark for harm has been 90% of GDP. We’ve never been preoccupied with debt, since the main focus of economic policy should be growth and broad prosperity.
This idea that above 90% of GDP is known to be dangerous is a zombie myth. (I disagree with Paul Krugman on many things, but he has been right in calling this a zombie myth.) This myth comes from Carmen Reinhart and Ken Rogoff’s badly flawed analysis, and hasn’t been updated in the Wall Street Journal Editorial Board’s minds since it came into question. To see how badly flawed, read my two columns coauthored with Yichuan Wang:
I have no doubt that there is some level of the debt-to-GDP ratio that will lead to bad outcomes but the fact that Japan has had a debt-to-GDP ratio of about 200% for some time without being able to get inflation up when they want to get inflation up should give one pause in thinking that a bit above a 100% debt-to-GDP ratio will be highly inflationary in the US.
(I should also mention that the appropriate measure of the debt-to-GDP should be higher, including the debt held by the Fed. Why? When interest rates finally do go back up, the Fed will either have to sell that debt or it will have to pay interest on that debt. Either way, some arm of the government ends up paying interest on that debt held by the Fed. This is an interesting case where the Wall Street Journal Editorial Board doesn’t understand something that would help their argument.)
Another February 12, 2021 op-ed, “Public Employee Unions Are Having a Fine Old Lockdown” by Carol Platt Liebau, makes a different mistake about fiscal policy. It seems to have the idea that it is a good thing for states to cut their spending during a recession. No: it is a bad thing for states to cut their spending during a recession. If the federal government can help them avoid cutting their spending, that is to be applauded. Here is what she says:
As part of his proposed $1.9 trillion relief bill, President Biden wants to send $350 billion in unrestricted cash to state and local governments to fill their budget holes. But while Covid-19 has depressed state tax revenue, the prospect of federal aid has encouraged many of these supposedly blameless states to keep piling on costs.
Much of the rest of Carol Platt Liebau’s op-ed is lamenting paying state employees too much. Suppose we give her the benefit of the doubt on that. In that case, it may be a good idea to use the crisis to cut back on raises for state employees, especially if there is more legal leeway to modify contracts to pay state employees less. But states shouldn’t cut salaries in order to spend less overall in a recession; if they cut salaries in a recession it ought to be in order to spend more on something else during the recession and then less later on. The timing of spending matters.
There is a way for the federal government to encourage states to spend more than they otherwise would during a recession and less later on. I talk about that in this post:
Part of what is going on in is that Carol Platt Liebau is confusing long-run fiscal policy and short-run fiscal policy. The appropriate considerations for these two dimensions of fiscal policy are very, very different.