The US government finally figured out how to help average Americans during an economic crisis. And then it all fell apart.

  • The massive fiscal stimulus bill passed in March was a clear benefit for millions of Americans and showed the power of government support for the economy.
  • But political disagreements and economic orthodoxy has delayed any follow up bill.
  • The experience of not only the CARES Act, but also the last four years of fiscal policy shows that whoever wins the presidency in November should seriously consider a more sustained stimulus program to drive unemployment lower and assist American households. 
  • Matthew Zeitlin is a writer in New York City.
  • This is an opinion column. The thoughts expressed are those of the author.
  • Visit Business Insider's homepage for more stories.

Fiscal stimulus works.

This is the lesson of the tragically brief radical experiment of the CARES Act, the nearly $2 trillion economic rescue package passed in March by Congress to cushion against the effects of the coronavirus pandemic. 

Unfortunately, while there was that brief period of consensus on the need to spend trillions to try to shock the economy back into shape, political infighting and economic dogma may have already pushed the country back into the old mode of thinking. The White House and the Republican Senate are divided against each other on the wisdom of fresh spending and Speaker of the House Nancy Pelosi unable to reach an agreement with either. 

While the talks over more immediate spending seem stuck, the case for stimulus is easy to make with the current level of elevated unemployment. But beyond the obvious near-term case, whoever is in the White House on the afternoon of January 20 should take heed from lessons learned from the last four years: unemployment can go lower than previously thought, but maybe only if political leaders are willing to take fiscal deficits past levels previously thought prudent.

Taking unemployment even lower

Among the broad mainstream of the economics profession, and especially among policymakers in the Federal Reserve, there was a rough consensus from 2014 to 2017 that the economy had reached full employment, or the level of unemployment below which inflation would accelerate and destabilize the economy. Reaching this level meant there was little need for continued monetary policy stimulus and that fiscal stimulus would likely only have meager gains.

The Fed began to "lift off" rates in late 2015 while many economists theorized that labor force participation was doomed to decline due to factors outside the economy itself, whether the opioid crisis or demographics.

"We are reasonably close to achieving full employment," Jerome Powell, now the Fed Chair, said in November 2016. Cleveland Fed President Loretta Mester was saying as early as 2014 that "we're getting close to our goal in terms of slack being reduced," in the labor market. 

The debate only heated up in 2017 as Trump and the Republican Congress were contemplating a massive tax cut, largely tilted towards the wealthy and corporations. While not optimally designed as economic stimulus (typically directing money towards those more likely to spend it results in more effective demand-side policy), some Democratic economists and commentators pooh-poohed the policy due to the economy already "very close to or at full employment," as Larry Summers put it in October, 2017.

But unemployment kept on falling, and the labor force participation rate — or the percentage Americans actively in the job market — drifted up. 

Trump and conservative economists might credit this continued progress to fewer regulations or the tax cuts ability to incentivize investment. But progressive economists — who may have opposed the tax bill for its decided tilt towards the wealthy — have a simpler explanation: it expanded the deficit, juicing economic growth, and powered the labor market well past the point much of the mainstream thought possible without incurring inflation. 

So while the Trump administration is more than happy to praise their own tax cuts as stimulative, they also opened up the taps on spending, reaching a budget deal with congressional Democrats in early 2018 that lifted caps imposed by the 2011 Budget Control Act by some $300 billion. 

"The big difference in 2017 and 2018 relative to the five or six years that came before was that fiscal policy was a lot more expansionary," Josh Bivens, an economist at the progressive Economic Policy Institute, told Business Insider.

"It wasn't the fiscal policy I would have chosen, but it proved that there was slack in the labor market, we got continued reductions in unemployment without a huge uptick in wage or price inflation," Bivens said.

The timing of the two budget deals points to the tricky politics of fiscal policy going forward. The caps that were undone by Trump and Congress in 2018 were put in place as part of a deal to raise the debt limit in 2011 between the Obama administration and the Republican House Majority. While Republicans seem to waver on their commitment to spending discipline (it certainly gets stronger when a Democrat is in the White House), Democrats are perfectly happy to cut deals with Republican presidents that fund both of their priorities. 

So while a Biden White House may look favorably on stimulus spending and new government programs, they could be stymied by a Republican majority in either the House or Senate or the deficit skittishness of Democratic senators who would represent the deciding 50th vote for any legislation. 

And a Biden administration is unlikely to get much, if any, support from Republicans for spending plans. Several Republican senators have already cast doubt on expansive spending proposed by a president of their own party in the midst of a reelection campaign.

The Federal Reserve has a role too

But fiscal policy does not solely determine the unemployment rate. No matter who wins in November, the Federal Reserve has committed to not making the same mistake of thinking that around 5% unemployment (the level at which it started hiking rates in 2015) is the best the U.S. economy can do even when inflation is below 2%.

Dallas Fed president Robert Kaplan has suggested that the Fed could keep rates at near zero even if unemployment gets under 4%in the coming years, thanks to their new framework. 

This would be a big change from the last time the Fed encountered what they thought was a low unemployment rate with quiescent inflation.

About a year ago, one Fed Governor, Lael Brainard, acknowledged that the "lift off" of interest rates in 2015 was mistaken, when unemployment was at 5%.

Since then the Fed's rethinking has been even more comprehensive. In a speech in August, Fed Chair Jerome Powell admitted that the "historically strong labor market did not trigger a significant rise in inflation" and that these forecasts had been based on estimating an unemployment rate below which inflation would kick up. The Fed's estimate of that rate dropped as continued labor market strength did not prompt inflation from 5.5%in 2012 to 4.1%.

Today, however, the Fed says that the normal rate of unemployment can't be precisely known and have projected that they would not raise rates from their current near-zero level through 2023 with unemployment falling to 4%by then. 

Charles Evans, the president of the Chicago Fed, said this week that, had the Federal Reserve been operating under its new framework, "it's highly likely that this strategy would have forestalled raising rates in 2015 and 2016."

The experience of the last few years teaches us what's possible with an expansive fiscal policy even in "normal" times, let alone extraordinary ones. Let's hope Democrats have learned this lesson — and Republicans don't forget.

This is an opinion column. The thoughts expressed are those of the author(s).

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