Is COVID-19 the unfortunate catalyst for global fiscal stimulus?

Economists have been calling for fiscal stimulus for years. The fact that interest rates are so low around the world means that the private sector doesn’t have enough productive uses for the massive quantities of savings sloshing around the global financial system. Government is required to absorb it, directly stimulating activity with its own investments, and indirectly catalysing further private sector activity. This process would support growth in productivity and wages, help bring interest rates back to ‘normal’ levels, and provide greater central bank ammunition for the next downturn.

Unfortunately, many governments have been unwilling to do this, despite record low borrowing costs and no shortage of investment opportunities – infrastructure, structural reforms like housing taxation, investments in skills and education, even just increased funding for the social safety net.

Why this unwillingness?

Traditional economic downturns, such as those originating from a stock market or housing market crash, can often be viewed as ‘natural’ events requiring correction. Governments may use this ‘necessary correction’ argument to avoid significant costly stimulus (ironically potentially making their budget situation worse, especially long term).

When central banks raise interest rates too fast, thereby tripping up the economy, government can similarly avoid blame and therefore responsibility for stimulus.

Then there is the more simple ‘fiscal responsibility’ argument, that even in the face of high unemployment and recession, governments should ‘live within their means’. The US and EU fell into this trap much too quickly following the GFC, resulting in a sluggish recovery for the US and a true repetition of the Great Depression for Europe. Cutting the recovery short ironically also made national budget situations worse, especially over the long term. Until recently, Australia was falling for a similar argument, preferencing a budget surplus over stimulus for a sluggish economy.

This time, the correction is almost entirely government-mandated – shut downs of entire industries, workers quarantined, drastic trade and travel restrictions. There is no escaping the fact that the government has literally chosen to crash the economy in order to focus on defeating a much larger enemy. This means, for the government, there is no escaping responsibility for building a “bridge”, supporting the economy and the people through the storm, and catalysing a proper recovery as soon as possible. Anything less will unambiguously be viewed as a monumental failure of government who can’t dismiss the situation as a ‘necessary correction’.

Government seems to understand this so far, with massive stimulus and support announced around the world. The Australian government and RBA have announced a combined $189 billion worth of support; $12.1 billion from the NZ government plus additional support from RBNZ; and potentially trillions in the US. Even Germany, the epitome of fiscal prudence, has abandoned its “schwarze Null” balanced budget rule and announced up to 350 billion Euros worth of new debt to combat the pandemic.

Government spending may not just be for tying people over until the pandemic is contained, and then simply putting them back to work in the same economy as before the pandemic. New infrastructure projects can also be fast-tracked to employ a less-than-fully-utilised construction workforce. Once the private sector returns to normal, they will have a whole plethora of new infrastructure upon which to capitalise. It won’t just be a return to normal. It will be a return to an economy with significantly more productive capacity.

The government could create a new golden age of economic activity by using the sudden absence of private sector activity in the short term to undertake all the investments for which economists have been calling for years. It will probably not be enough to fully offset the coming downturn but in the near future, the combination of returning private sector activity and new public infrastructure capacity will set the scene for an economy even stronger than it was before the pandemic.

It is a shame that it may be a pandemic that is the catalyst for this economic stimulus but even a crisis can be an opportunity for something great.