When we look at the strength of today’s economy, we often focus on the low level of unemployment, prime age males coming back into the labor force, and stock market resiliency. But often we forget the efforts taken by policymakers since the Great Recession that helped make these outcomes possible.
During the Great Recession, not only did American citizens undergo a level of uncertainty never before experienced in their lifetimes—seeing their incomes drop, discover they owed more on their homes than they were worth, and fear how they would support their families—policymakers faced uncertainties not seen since the Great Depression.
Orchestrated by many public servants within agencies such as the US Treasury, Federal Reserve, and White House, solving the problems of 2008 took a tremendously coordinated effort with an “all hands on deck” approach. But even so, the recession was so deep that policymakers found traditional roadmaps to be of little use . The question of “well, what do we do now?” must have been a daily utterance by Washington's policy elite as each “economic solution” proved either ineffective or insufficient.
Looking back on the crisis, most researchers would agree that those in charge drastically underestimated its depth. Those on the left argue that President Obama’s spending package wasn’t big enough and the Federal Reserve didn’t carefully craft its quantitative easing programs. Those on the right believe the measures implemented by the Obama administration were inadequate, proclaiming additional supply side measures were needed such as corporate tax relief and capital gains tax reductions. But regardless of how one views the actions taken or the policies prescribed, one thing is clear: policymakers had room to maneuver. They had space to throw things at the wall and see what stuck.
This isn’t the case today.
With the recently passed Tax Cuts and Jobs act, the unprecedentedly large balance sheet of the Federal Reserve, and the worsening legislative gridlock in Congress, establishing a proper course of action for a coming recession is quite challenging. Expecting policymakers to respond to declining GDP with tax cuts and spending increases (preferably pro-growth projects with near-term multipliers) is hard to fathom given the current political environment. This coupled with the fact that the Federal Reserve has even less room to adjust interest rates, a future crisis all but guarantees new and untested policies that go well beyond those new and untested policies of 2008.
Will the Federal Reserve venture into negative interest rate territory and again pursue large scale asset purchases that have shown to have mixed results and arguably create asset bubbles? Will Congress increase domestic spending and cut taxes even though we are running unprecedented peacetime deficits?
Most economists today would describe themselves as New Keynesians, or at least accept that Keynesian principles can be useful in confronting demand side recessions like the one in 2008. But our policymakers have ignored the lessons of Keynes and constructed a policy space that all but eliminates the possibility of a prudent Keynesian response. Because as anyone who has ever fixed a leaky roof knows, the time to do it isn’t during a rainstorm. Rather than try to develop a response when recession clouds are forming, policymakers need to address these issues now, during this period of steady economic growth.