How Would a Benevolent Ruler Combat a Recession? | 7

So why do I say we aren’t ready? Because a large fiscal stimulus has always in the past required large borrowing by the Treasury and therefore a large increase in government debt. Experience shows that any policy that requires a large increase in government debt is strongly opposed by many policymakers and citizens. This is especially true in a severe recession, because the recession itself causes a plunge in tax revenue that forces the Treasury into huge borrowing to avoid large cuts in government spending, thereby sharply increasing government debt, which alarms policymakers and citizens. It is hardly surprising, then, that in a severe recession a proposal for a large fiscal stimulus that requires even more borrowing would be met with intense opposition. That, of course, is exactly what happened during the Great Recession in the United States, when the fiscal stimulus proposed in early 2009 met stiff resistance. Yes, despite opposition, a two-year fiscal stimulus was enacted in early 2009 and was large by historical standards. But simple calculations at the time showed that the fiscal stimulus needed to be at least twice as large in 2009 and 2010 to overcome this severe recession, and later calculations showed that it needed to be three times as large. Yet even most advocates of fiscal stimulus didn’t dare propose a larger fiscal stimulus because even they worried about making the increase in government debt even larger. Despite the continuing weak recovery, after 2010 fiscal stimulus was made much smaller, not larger, because of worry about government debt. So it took until 2016 for the unemployment rate to return to normal.

The lesson, therefore, is sobering: As long as a large fiscal stimulus requires a large increase in government debt, Congress won’t make it large enough to successfully combat a severe recession. The one policy—large fiscal stimulus—that has the capacity to overcome a severe recession won’t be used to its full potential strength. So we are indeed not ready to combat the next severe