The COVID-19 pandemic has required the U.S. government to spend a massive amount of money. There are two primary concerns. The first is whether or not the cost of the CARES Act and the other federal government rescue/stimulus spending packages could drive the U.S. government into bankruptcy. The second is the impact the mountain of federal debt will have on our children and grandchildren. (Full disclosure: I am not an economist.)
The answer to the first concern is an unequivocal “no.” I wrote a column on this topic in the Town Crier back in 2016, and I think the explanation applies as well today as it did then. Basically, it can’t happen because the federal government has the ability to create as much money as it needs, and because the U.S. has grown so large relative to the global economy over the past century that our currency has become not only the standard for stability, but also the most popular exchange mechanism for international trade.
Was the CARES Act stimulus worth it? According to Bond Capital’s analysis based on data from the St. Louis Federal Reserve, after the 2008 recession, the federal government spent nearly $1.8 trillion (in today’s dollars) to stimulate the economy. The outcome: It took less than three years for real (inflation-adjusted) GDP to return to its previous fourth-quarter 2007 peak and seven years for employment to recover. Contrast that with the Great Depression, when the government spent only $800 billion (again, in today’s dollars) to revive the economy. That time GNP (the precursor to today’s GDP measure) did not return to 1929 levels for more than 10 years, and unemployment remained high until well into World War II.
So I would expect that the $2.5 trillion-plus that the government will end up spending this year has the potential to stimulate economic recovery faster than in either of the previous big recessions.
The best way to minimize long-term damage from any recession is for the federal government to act as the funding source of last resort, pumping money into the economy when it has slowed down too much. That’s exactly what it has been doing.
Legacy of debt?
What about the legacy of debt? The U.S. debt-to-GDP ratio had exceeded 100% by 2018, partly due to Trump’s massive 2017 business tax cut without a concomitant reduction in spending. It could rise as high as 150% or more before the COVID-19 pandemic and consequent stimulus spending plays out.
How will such a large debt burden impact future U.S. economic growth? Frankly, nobody knows. Even economists appear to be conflicted on this topic. Consider Japan as a positive case study. Despite having the highest debt-to-GDP ratio in the world (currently more than 250%), its economy has been performing relatively well. Japanese unemployment slid from 5% in 2008 to less than 3% in 2017, and its inflation rate – the biggest threat from government overspending – has not topped 3% for the past two decades.
It’s quite possible that despite a large federal debt balance, the U.S. might be able to continue positive economic growth in future decades just as Japan has been able to do.
The federal government has the ability to use its unlimited spending power to mitigate the COVID-19 health threat while at the same time reducing the associated economic fallout. It has demonstrated a willingness to deal with the latter. I hope it is prepared to provide the support needed by the states for the former.
As for the accumulated debt, it will have to be addressed at some point, but for now it is of lesser priority.