The US bailout of Biden has exacerbated inflation
With President Joe Biden’s legislative agenda stalled in Congress, the US bailout – the $1.9 trillion stimulus bill passed by Democrats in March 2021 – may represent his biggest achievement.
But did it contribute to the current inflationary chaos in the country?
The massive spending bill, which included $1,400 per family member, generous expansions of unemployment insurance and child tax credit benefits, and hundreds of billions in aid for state and local governments, was intended to help those in need and stimulate economic demand, and it did.
Some economists argue, however, that all this came at the cost of making inflation worse. New CPI figures released on Wednesday showed prices rising 8.3% over the previous year. “Core inflation,” which does not include volatile energy and food prices, rose 0.6 percent in just one month.
Countries around the world are struggling with inflation due to pandemic turmoil, but Biden’s stimulus has made the inflation problem in the United States more acute, at least to some extent. “I think we can say with certainty that we will have lower inflation and fewer problems that we need to solve now if the US bailout is of optimal size,” said Wendy Edelberg, senior fellow in economic studies at the Brookings Institution.
Inflation brought with it two big problems. The first is already clear: Because most Americans’ wages haven’t risen enough to keep up, real (inflation-adjusted) wages have fallen at the highest rate in four decades.
The second problem is, if inflation continues to be so persistent, it may have the effect of curbing it. The Federal Reserve started raising interest rates in an attempt to cool the economy. They try to do this very cautiously, with the goal of a “quiet landing”. But if demand and investment end up sagging in response, the US could face a painful recession.
What the future holds is uncertain, but to understand how we got here, it is worth re-evaluating the past. The US bailout was drafted with good intentions, but it caused real problems.
The “core” inflation rate in the US was much worse than similar economies
It is important to understand the broader context. Inflation is happening around the world, due to disruptions linked to the pandemic, and has been exacerbated this year by Russia’s invasion of Ukraine and China’s lockdown over the Covid-19 virus. Even before the US bailout was passed, Mark Goldwyn of the Committee on Responsible Federal Budget said, “The seeds of a high-inflation environment had already been sown.”
But in terms of the exact amount of inflation, the US stands out. It began to emerge shortly after President Biden took office.
From 2021 onwards, what is known as “core inflation” was significantly higher in the United States than in other rich countries. (Core inflation is a common measure that excludes food and energy prices, which tend to fluctuate, to try to get a better understanding of general price levels and inflation in the economy.)
A recent article by the Federal Reserve Bank of San Francisco makes this point. The authors—Oscar Jorda, Celeste Liu, Fernanda Nichio, and Fabian Rivera-Reyes—compared core inflation in the United States to the average of eight rich countries (the United Kingdom, France, Germany, Canada, the Netherlands, Norway, Sweden, and Finland). Prior to 2021, these countries and the United States had similar inflation levels. Then the United States fired.
The authors do not exaggerate the reason for their belief, writing: “It is estimated that fiscal support measures designed to counteract the severity of the economic impact of the pandemic may have contributed to this difference by increasing inflation by about 3 percentage points by the end of 2021.”
That is, the US did a lot more stimulus than those other countries, and is now experiencing much more core inflation. The most notable catalyst is Biden’s $1.9 trillion US bailout – because it was triggered after more than $3 trillion had already been spent to stimulate the economy under Trump, with much of that approved just three months ago.
Put gasoline on the fire. This is basically what ARP does. “It was almost written as if we didn’t just pass a trillion-dollar stimulus plan in December,” Goldwyn said.
The core inflation divergence between the United States and similar countries continued into 2022, as did Jason Furman, professor of economics at Harvard Kennedy School and former chair of the Council of Economic Advisers under President Barack Obama, on Twitter (Although it is also worth noting that Europe was hit hard by rising energy and food costs after the invasion of Ukraine.)
Inflation in the US is still much higher than that of the Eurozone. This is the 12-month change in baseline HICP, and it’s a fairly comparable measure to economists.
The US has always been 4 points higher than Europe. This is the huge difference. pic.twitter.com/pboWfRluRR
– Jason Furman (@jasonfurman) April 12 2022
There is a range of views among economists about how much higher inflation in the US during 2021 (7 percentage point increase including energy and food prices, 5.5 percentage point increase excluding this increase) can be attributed to the US bailout. Michael Strain of the right-leaning American Enterprise Institute estimated that the law added 3 percentage points. But Dean Baker of the Left-leaning Center for Economics and Policy Research put this figure at one or two percentage points.
Some economists with low ratings still argue that it is wrong to place too much blame on the US bailout, which in their eyes was just a minor contributor to inflation. The White House shares this view. A senior White House official, who spoke on the condition of anonymity, said there were other possible explanations for differing core inflation rates in the United States and Europe, and that the arguments blaming Biden’s stimulus were only related.
The US also stands out from other countries in a more favorable way: it experienced a faster and stronger economic recovery in 2021. This appears to be partly due to Biden’s stimulus spending.
However, international comparisons suggest that the US would have recovered without the US bailout, albeit more slowly. “I think we would have had a slower recovery, and we would have had more suffering along the way,” Foreman said in an interview. But almost everyone, including countries that basically did nothing, has recovered. and side effects [in the US] It was a big problem.”
And if temporary aid worsens into a long-term inflation problem, that’s no great deal. Wages, when adjusted for inflation, experienced their biggest annual decline in 40 years. The main fear is that inflation will become (or has already become) a self-fulfilling prophecy, as consumers and producers anticipate it and act accordingly. Then there may be a different kind of economic pain ahead as the Fed tries to control inflation. “Ultimately, if you have a situation where wages are not keeping pace with prices and the risk of recession is very high, it is not a good situation to be in,” Strain said.
Criticism of the US bailout plan
The status of the US bailout’s contribution to inflation has three parts: its size, its timing, and the specifics of its spending.
First, size: $1.9 trillion. Many economic analysts at the time argued that this was too much. They say their models showed that much of the new spending (on top of the trillions already spent) was not needed to stimulate the economy, and they risked heating it up and causing inflation. “I was on the expansion side of every financial discussion in my life until last year,” Forman said. But quantities matter. More couldn’t be better.”
In early 2021, a group of 10 Republican senators proposed a $618 billion stimulus as a counteroffer to Biden. But Democrats, haunted by what they thought were policy blunders from the Obama administration, refused, deciding to go as far as possible and would rather spend very little.
“I think the cool point would be a $300-500 billion US bailout,” Strain said. “That could have given us a lot of the benefits of ARP without triggering such rapid price growth. The ARP was so big that this kind of marginal dollar went into inflation, not to increase economic production.”
Second, the timing: This money was mostly spent quickly (half of it was spent last year), rather than spread out over a longer period of time. This resulted in a lot of money pouring into the economy last year – and that was the goal – except that supply couldn’t keep up, and prices soared.
Third: Composition: What is included in the plan. Much ARP spending has contributed a lot to helping those in need, with child poverty and child hunger declining. But the other parts weren’t very well targeted. $350 billion was allocated to state and local governments under the old assumption that they would face budget crises, but by early 2021 it was already clear that most states were not facing such crises. (The White House official argued that while many states may not have needed the money, cities still did, and that money has been spent more slowly, so they may not have contributed much to inflation yet.)
Checks were another issue. Generated as a result of a political promise Democrats made to Trump and an attempt to win runoffs in the Georgia Senate, the checks totaled about $400 billion in spending, some of which went to families whose finances were already in good shape. Giving money to people who don’t need it is not necessarily a bad thing in and of itself. But if the consequences are high inflation and economic problems that affect everyone, that’s a big deal.
“Had we made the checks smaller and more targeted, and spread out over time. I think we could have had less unwanted inflation and a slower recovery in real activity,” Edelberg said. It’s good to take it.”
Meanwhile, the plan’s anti-poverty benefits proved temporary, when the expanded child tax credit expired at the end of 2021. Democrats had hoped to extend it further in better rebuilding legislation, but Senator Joe Manchin (D-Va) killed this. The law actually took effect last December, citing inflation fears. Manchin has always been skeptical about an expanded child tax credit based on benefits, but rising inflation certainly hasn’t helped the Democrats’ case for more massive spending.
Good intentions don’t always make good policies
There is high inflation now, and the worse and more persistent inflation is, the more likely the Fed will raise interest rates to control it, and cause a recession.
It is true that the US bailout was not the main cause of inflation today. But if inflation has always been a problem, it is important to avoid policies that could make it a big problem worst problem.
In retrospect, it appears that Democrats didn’t take this seriously enough in early 2021. They erroneously concluded that a stimulus far superior to what the models said was necessary was the least risky option. They believed they were still in the “go brrr money printer” era, where there was less pressure to be judicious about where that money was going – so instead of targeting help to those who needed it, they sent hundreds of billions of dollars to – from Americans and states well for political reasons.
Now, the Democrats had many good intentions crafting the US bailout – they wanted to help people and avoid economic suffering. They have had some successes, such as low unemployment rates and strong GDP growth. But wages have not kept pace with prices. And if that leads to significantly worse economic problems in 2022, 2023 and 2024, not to mention the electoral consequences for Democrats, it is unclear whether it will be worth it.
“We need to see if we can really make a smooth landing without creating a slump that involves a lot of pain,” Edelberg said. “It remains to be determined whether all of this has a happy ending.”