Fiscal Policy: James Pethokoukis Predicts a 2011 Recession
It would seem that TCSDaily has dusted off the old Keynesian canard that only fiscal policy matters:
Now you don’t have to be an acolyte of supply-side guru Arthur Laffer to find that sort of “static analysis” a little weird. Most Americans probably would. So, apparently, did the economic team at Goldman Sachs, the old employer of Robert Rubin, President Bill Clinton’s second treasury secretary. Thus the firm’s econ wonks decided to try and simulate the real-world effect of letting the Bush tax cuts expire at the end of 2010. Using the respected Washington University Macro Model, Goldman reset the tax code to its pre-Bush status, assumed all tax cuts expired, and watched how the economy reacted as 2011 began. What did the firm see? Well, in the first quarter of 2011 the economy dropped 3 percentage points below what it would have been otherwise. “Absent a tailwind to growth from some other source,” the analysis concludes, “this would almost surely mark the onset of a recession.” So actually it’s CBO’s economic forecast, not Bush’s, that is overly optimistic about future economic growth. But wouldn’t the Federal Reserve jump in and cut interest rates, offsetting the fiscal drag of the tax hikes with easy monetary policy? The Goldman Sachs experiment assumes it would, but WUMM still shows the economy sinking: “In an effort to resuscitate demand, the Fed immediately cuts the federal funds rate, bringing it 250 basis points below the status quo level over the next year and one-half … Despite this, output growth remains well below trend over that period, putting downward pressure on inflation as slack in the economy increases.”
So let me get this straight. If we restore fiscal responsibility, national savings will rise which must mean that we get a recession. Lower interest rates cannot raise investment enough to maintain full employment. The currency will not devalue enough so as to increase net exports sufficiently. I’m sorry but I’m not buying this outdated version of the Keynesian model. Why? Didn’t we try an experiment like this in 1993? Might Mr. Pethokoukis provide us with the evidence that we had a Bill Clinton recession since he is predicting the Hillary Clinton recession?