The country is well served when researchers and political constituents avoid ideology and strive for eclecticism, which allows one to be open minded to what works from the broad menu of economic thinking out there. One line of thinking makes the case for tax cuts and/or government expenditure increases to stimulate demand--hence, stimulus spending. Another point of view posits that the evil culprit is the looming deficit, which needs to be brought under control. To achieve control of the deficit, government spending must be cut. In this instance, the catalyst to economic recovery is the restoration of business confidence. We are looking at two diametrically polar views of what to do about a recession using the same instrument, fiscal policy--(1) increase in government spending (stimulus), and (2) cut in government spending (deficit management). Is there a way forward out of this conundrum?
Allow me to propose a way out. First, there is a way of thinking that smacks of heresy in some quarters because it has a tinge of socialism, but by way of disclaimer, it is one to which this author does not ascribe in the extreme. Having said that, suppose instead of cutting police, teachers, and firefighters' jobs, the government (and/or the private) sector institutes job-creating policies in both sectors of the economy--private and public. However, in the present political climate, tax increases are, of course, not on the table--they're verbatim--because the political acrimony between the two parties leaves no room for compromise on this. But if the workweek were reduced to 35 hours, the retirement age rolled back to 62 for men and 60 for women, and the minimum wage raised, firms will need to hire more workers to achieve the same level of output at 35 hours as at 40 hours a week. An earlier retirement age will create vacancies for replacement workers. Then of course, a higher minimum wage puts more purchasing power into the hands of workers. If the lack of demand is the source of the economic problem the country faces, these steps will have the positive effect of raising the demand for goods and services. Now, when demand rises, other factors of growth will kick in, too. And the Fed's potency in achieving a policy pass-through from interest rates to investment could be facilitated by this strategy--i.e. the increase in demand from additional employment with implementation of the 35 hours workweek, the lower retirement age, and the increase in the minimum wage would lift business profits. In turn, the larger profit margins will incentivize new business investment. There is another piece to this; that is, low interest rates signal that the U.S. is a good credit risk although political infighting during the recent budget debate around spending and the debt ceiling led to a credit downgrade. S&P dinged the U.S. credit rating from its esteemed AAA to AA+. However, America is still far and away a safe harbor for dollar denominated interest-bearing assets.
If there were ever a good opportunity to borrow dirt-cheap it is now. The current economic climate--this rare moment in history of low interest rates will pass and not soon return, perhaps not in our lifetimes. But banks and other lending institutions stand in the way of easing like petulant kids stomping their feet on the pavement; they refuse to shake loose of their excess reserves, and the Fed's tactical moral suasion efforts so far have failed.
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