When the economy goes south, the United States traditionally has two ways of dealing with it. The Federal Reserve cuts interest rates. And Congress passes spending increases or tax cuts to try to put more money into people’s pockets.
But the past decade has exposed flaws in these approaches.
Interest rates are very low even when the economy is good, meaning the Fed probably won’t have much room to cut them in the next downturn. And while the Fed is good at reacting quickly to economic weakness, its actions to aid growth may fuel inequality and financial bubbles.
The use of fiscal policy — adjusting taxes and spending — has different problems. In a polarized Congress, the party that doesn’t control the White House tends not to want to do anything that might help the opponent get reelected. When Congress does act, as when it passed the Obama administration’s stimulus bill in early 2009, it may not get the timing or the details of action right. Money tends to go wherever lawmakers have the most clout rather than where it would do the most to stabilize the economy or help people who are suffering.
But there may be another way: an approach that would reduce the pain of the next recession no matter when it comes, what causes it or what the political dynamic might be when it arrives.
Economists like to talk about “automatic stabilizers,” a term for programs that expand automatically when the economy is weak. Some of these already exist. Think of unemployment insurance benefits, which pump more money into the economy when joblessness is high.
But what if more government programs worked as automatic stabilizers?
That’s what two think tanks, the Washington Center for Equitable Growth and the Brookings Institution’s Hamilton Project, asked a group of scholars. They’ve published their answers in a new volume of policy proposals.
The ideas span a range of government activities.
For example, Andrew Haughwout, an economist at the Federal Reserve Bank of New York, writes of adjusting an existing program through which the federal government gives grants to states for infrastructure projects. If the unemployment rate were to rise more than half a percentage point above its recent average level, the federal grants would expand. Then, as the economy improved, they would contract, recouping the additional spending.
This approach, by taking advantage of plans and programs in place, might bypass some of the challenges the Obama administration faced in 2009 in finding “shovel-ready” infrastructure work to allow stimulus dollars to flow into the economy quickly.
Other ideas are aimed more at people likeliest to suffer in a recession. For example, Hilary Hoynes of the University of California, Berkeley, and Diane Whitmore Schanzenbach of Northwestern University argue that the Supplemental Nutrition Assistance Program, once known as food stamps, ought not to have work requirements and should be increased by 15% during recessions.
Claudia Sahm, an economist for the Fed’s board of governors, details how the government might automate a strategy of making direct payments to families during an economic downturn, as Congress did on a discretionary basis in 2001, 2008 and 2009. Besides helping the recipients, this injects cash into the economy at a time businesses face a shortage of demand.
The project arose in recognition of the ways the response to the 2008 recession fell short. Heather Boushey, executive director of the Washington Center for Equitable Growth, recalled being a congressional staffer that year and casting about for policies that might combat what we now call the Great Recession.
“There were a lot of folks who were eager to think about what to do, but there wasn’t a lot to take off the shelf,” Boushey said. “With automatic stabilizers, you can think through a policy when you have enough time to get it right, rather than in a moment of crisis.”
Although Congress is relatively gridlocked and there’s little reason to think any of these policies will be quickly embraced, there are elements that might one day give automatic stabilizers bipartisan appeal.
In particular, they can be devised in a state of ignorance — not knowing which party will hold the White House and Congress when the next recession hits, or what part of the country will feel the downturn most severely. By setting rules for fiscal stimulus before the recession arrives, either party might assume it has equal chance of being helped.
Then there’s the flip side of having automatic stabilizers that are triggered when the unemployment rate or some other sign of recession reaches a certain level: The stabilizers can also be scheduled to go away when things get better. That could give some comfort to anyone worried about the possibility of open-ended government stimulus.
Finally, these types of policies would make it easier to distinguish strategies aimed at keeping the economy on an even keel from those meant to change the country’s longer-term priorities.
In practice, both parties have conflated the two: The Bush tax cuts in 2001 were sold as both fiscal stimulus and as part of a longer-term effort to lower taxes; the Obama administration’s stimulus bill in 2009 included a wide range of clean energy boosters and other goals not directly related to stabilizing the economy.
“If you’re going to make a big, sweeping change to fiscal policy, it should be debated on its own terms, not as fiscal stimulus,” said Jay Shambaugh, director of the Hamilton Project. “If something is properly countercyclical, it should kick in when the economy slows and go away when the economy recovers.”