The U.S. government is taking extraordinary measures to inject trillions of dollars of economic stimulus into the economy through a variety of lifesaving financial flotation devices.
The numbers are staggering, and it’s hard for average onlookers like you and me to comprehend the scale or effectiveness of what’s happening.
It’s all so nonchalant, $2 trillion, just like that.
The stock market seems to think it’s going to work, down only about 20% from its all-time highs as I write this, suggesting the economic fallout from COVID-19 might be a short-term event.
The U.S. government is like a bad manager, always reacting to problems when they arise instead of preparing for imperfect scenarios.
The economic stimulus is supposed to save individuals and industries, or at least keep us all afloat until the “swift recovery” or a vaccine puts an end to the crisis.
But what if the economic stimulus doesn’t work? What are the repercussions of so much spending?
The CARES Act
The U.S. government passed the $2 trillion economic stimulus package called the CARES Act (Coronavirus Aid, Relief, and Economic Security), which provides support to groups affected by the health crisis.
The biggest beneficiaries are individuals, followed by big corporations, small businesses, and state and local governments.
The idea is to inject money into the economy to try and support it as industries crumble, and people lose their jobs.
Here’s a view of how the funding breaks down:
Many of you received a stimulus payment last week. The rest either don’t qualify or will have to wait for a check.
Business owners can apply for Payroll Protection Program loans to help keep businesses alive and to alleviate the surge in unemployment. The federal government is also padding state weekly unemployment checks by $600.
These programs will help in the short-term, but is the CARES Act enough to carry us out of the recession?
The Federal Reserve Response to COVID-19
Join me as someone who struggles to understand WTF that means, even after many years of paying attention.
Here’s who the Federal Reserve is and what it does:
The Federal Reserve System is the central bank of the United States. It performs five general functions to promote the effective operation of the U.S. economy and, more generally, the public interest. The Federal Reserve:
- conducts the nation’s monetary policy to promote maximum employment, stable prices, and moderate long-term interest rates in the U.S. economy
- promotes the stability of the financial system and seeks to minimize and contain systemic risks through active monitoring and engagement in the U.S. and abroad
- promotes the safety and soundness of individual financial institutions and monitors their impact on the financial system as a whole
- fosters payment and settlement system safety and efficiency through services to the banking industry and the U.S. government that facilitate U.S.-dollar transactions and payments, and
- promotes consumer protection and community development through consumer-focused supervision and examination, research and analysis of emerging consumer issues and trends, community economic development activities, and the administration of consumer laws and regulations.
During the recession of 2008-2009, the Federal Reserve invented quantitative easing because lowering interest rates wasn’t enough. They ran out of bullets, so they brought in the bazookas.
Instead of raising interest rates during the incredible economic expansion of the last decade, they too failed to prepare for less prosperous times.
How is the Economic Stimulus Funded?
The U.S. government is using debt to pay for the CARES Act economic stimulus package because it doesn’t have enough money from tax revenues.
More federal debt is a viable option today because investors are willing to loan money at very low interest rates.
The other option to pay for the CARE Act is to raise taxes. Regardless of personal or party opinions on taxes, everyone agrees that raising taxes at the front end of an economic downturn would make matters worse.
But future tax increases now seem inevitable.
The Treasury Department sells debt products to investors around the world, including you and me (usually through mutual funds and ETFs), to raise money.
There are three primary types of U.S. debt:
- T-bills – 1-year maturity or less
- T-notes – 2-to-10-year maturities
- T-bonds – 30-year maturity
U.S. government debt is one of the most liquid assets on the globe. When the Treasury Department issues new debt, it does so via scheduled auctions. Supply and demand determine the interest rate.
Most investors consider U.S. government debt to be a risk-free investment product because it’s backed by the government’s authority to tax its businesses and citizens, which reside in the largest and most resilient economy in the world.
As long as the appetite for U.S. government debt remains high, the interest rates will stay low. As the economy recovers, investors will begin moving money out of government debt and into higher risk/return investments such as stocks, real estate, and alternatives.
The expectation is that markets will function in an orderly manner.
But when investors start to lose appetite for near-zero returns, rates may increase, making it more expensive for the government to borrow for regular deficit spending (let alone future crisis infusions).
Will the Economic Stimulus Work?
Everyone hopes the economic stimulus will work, but how are we supposed to define and measure success?
For now, economists and the government seem to agree that things would have been much worse without the stimulus.
Our legislators acted swiftly (for once), the IRS began delivering payments despite years of budget cuts and technology challenges, and the banks rallied to facilitate small business loans.
In the short-term, the stimulus should help break the fall of the unprecedented increase in unemployment and prevent some small businesses from folding.
Over the mid-to-long term, the economy will need to bottom before we can start measuring the recovery. Key metrics include GDP, unemployment, corporate earnings, bankruptcies, debt and mortgage defaults, and inflation.
The optimistic predict a swift economic recovery. But optimism isn’t an accurate prediction of the future. We could be headed into a deep and lasting recession.
Individuals who rely on the economic stimulus payment to cover rent a food might need more. Is it the government’s role to make multiple recurring payments to taxpayers?
Will this turn into universal basic income (UBI)? How would that be sustainably funded?
The first stimulus is a colossal spending event, and there’s more to come.
What if the Economic Stimulus Doesn’t Work?
Economists and lawmakers are already saying that the economic stimulus is not enough.
Some of the same people predicting the economy will recover quickly are also advocating for more stimulus. Politics are still driving decisions, which is so irritating when people are dying, and economic livelihoods are at stake.
No matter what legislation or financial support is enacted, there is no perfect remedy to a crisis. It’s going to be sloppy.
Whatever the government does, they can’t possibly think through all the benefits and consequences of the bills without more time. Rapid deployment is more important than pragmatism or tidiness.
Here’s what might happen if signs point to the economic stimulus not working.
More Economic Stimulus
Drafting of follow-on CARES Act legislation is already underway. The next bill that could pass this week adds another $320 billion for the Payroll Protection Program plus support for hospitals and testing.
Three additional legislative proposals are in the pipeline, as laid out by Jim Wang at Forbes:
- $2,000 per month (for 6+ months) stimulus payment for those making $130,000 or less
- Cancellation of all primary residential rent and mortgage payments for a year — with government relief provided to landlords and mortgage companies
- A payroll tax cut, or negative payroll tax — both employees and the employers would benefit, similar programs executed during both Bush and Obama presidencies
Of those three, payroll tax relief would be the easiest to administer and most likely to get bipartisan support. But a tax cut omits individuals no longer earning a paycheck.
Other future legislation could also include corrections and clarifications to the first bill, health care subsidies for laid-off workers, and hazard pay for front-line workers, according to the New York Times.
But how much is enough, and how do they avoid overcompensation?
Another idea always floating around is an infrastructure bill to build and repair roads, bridges, and civil engineering projects that have been neglected for decades.
These types of spending bills provide jobs for skilled workers, feed industrial supply chains, and improve public safety.
An infrastructure bill could also include investments in healthcare infrastructure and information technology modernization for the federal and state governments.
For example, it could provide funding for states like New Jersey to move from COBOL-based systems into the cloud. COBOL is a 60-year-old computer language no longer taught in schools.
These kinds of investments shouldn’t wait for a crisis.
States carry most of the infrastructure cost burdens paid for by fuel taxes. But state revenues are about to get walloped.
If the government is suddenly interested in fiscal stimulus, and since oil prices have plummeted, it’s a sensible time to index the federal fuel tax, which hasn’t changed since 1993, to inflation.
Sustained infrastructure investment would be a pragmatic long-term economic stimulus without excessive borrowing.
Our deteriorating infrastructure is another example of how the government avoids making long-term investments.
Do Nothing More
As the government monitors economic data, there will likely be more stimulus — because history hasn’t been kind to the government’s response to the Great Depression of the 1930s.
Former Federal Reserve Chairman Ben Bernanke studied the depression and knew this, which is one reason why the government and Federal Reserve aggressively stepped in during the 2009 Great Recession.
However, the government received criticism for bailing out the “too big to fail” banks instead of individuals. That criticism helped to shape the response this time, giving individuals a bigger slice of the pie during COVID-19.
Today’s response will be criticized, in hindsight, too. There is no perfect remedy to a crisis.
It seems unlikely, but one option is for the government to do nothing more — let the current stimulus make its way through the economy and households, and allow market forces to fill in gaps where opportunities unveil themselves.
In other words, let those prepared for the crisis, profit from it. Everyone else can suffer, but figure things out over time when the resilient economy recovers on its own.
Doing nothing isn’t a realist option, but a logical preference for genuine debt hawks.
Consequences of the Economic Stimulus
The economic stimulus has a good chance of achieving its short-term objectives, buoying the economy while scientists develop medicine for COVID-19.
But such aggressive fiscal actions can have negative consequences.
The consensus is that the needs of today outweigh any potential long-term risk. Five or ten years from now, we’ll look back to judge the decisions made.
An Insane Amount of Debt
The U.S debt burden was already mind-boggling at the start of the year.
Here’s a screenshot from USDebtClock.org, a beautiful display of the current U.S. financial situation. Click the link or image for a real-time view. It’s stunning and terrifying.
The country gradually pays back debts from annual tax revenues and by issuing new debt.
The interest expense on the national debt outstanding for 2019 was $574 billion, according to Treasury. 2019 was up 9.5%, but annual growth has averaged about 3.5% over the past 21 years.
That means out of ~$3.5 trillion in annual tax revenue, about 16% goes toward the interest expense.
But because of the current crisis, interest payments will soon increase, and tax revenues will, in the near-term, decrease due to unemployment and business disruption.
Even though the numbers are astounding, the low rates should keep the interest payments manageable — something to watch.
Some of the money the U.S. Treasury is borrowing this year won’t mature until my 8-year-old son turns 38. But this is normal.
Other Potential Consequences
I can’t predict what’s going to happen, but here’s a list of things I’ve read about:
- Fraud – With so much money up for grabs, bad guys are salivating
- Weakened U.S. Dollar – This would make U.S. goods more affordable for export but hinder aspiring travelers; the entire world is implementing similar stimulus packages
- Hyperinflation or deflation – Both suck, and I’m not smart enough to know which one is more likely or devastating
- Debt default – Unlikely and probably unconstitutional, but once this crisis is over, the government will need to start acting more like a responsible adult
- Tax increases – Leadership requires courage
The most frightening repercussions of the historic economic stimulus spending are the ones we can’t imagine.