Beyond monetary stimulus
Central bankers, including those in the US, have lamented the absence of fiscal stimulus over the past decade. This created a vacuum that has, to a certain extent, been filled by monetary stimulus. However, monetary stimulus can only do so much; it is a blunt instrument, not a surgical tool. Significant fiscal spending should provide a boost to the US economy, particularly since there has been an absence of fiscal stimulus and an over-reliance on monetary policy in recent years.
In terms of her fiscal policy platform, Secretary Clinton has traditional Democratic views on spending. She plans an increase in government expenditures in a variety of areas, including education, clean energy and healthcare. As mentioned in last week's Upshot, Clinton plans to spend $275 billion on infrastructure; this would include a $25 billion national infrastructure bank and $250 billion in infrastructure grants. The National Taxpayers Union Federation projects that Clinton's proposals would result in increased spending of $169 billion per year.
Trump's spending plans are not as fiscally conservative as a typical Republican platform, as he plans to spend more in certain areas. For example, Mr. Trump has stated that he will spend at least double the amount on infrastructure as Clinton has proposed. Trump also plans to spend more on other areas such as defense while maintaining Social Security spending. However, he would also like to cut a significant amount of current government spending. As a result, the National Taxpayers Union Federation projects that Trump's proposals would result in a net decrease of $56 billion per year.
Keynesian multiplier
John Maynard Keynes, one of the most influential economists of the 20th century, was an early and strong proponent of using fiscal policy to stimulate the economy and, in particular, reach full employment. Many economists have come to believe in Keynes' theory that fiscal policy can be effective in reducing unemployment. More specifically, expansionary fiscal policy can be stimulative as spending typically begets more spending. In other words, spending has a multiplier effect.
But the multiplier effect varies by type of fiscal spending, as I've pointed out before. The Congressional Budget Office (CBO) estimates that government purchases can have a multiplier effect as high as 2.5. Benefit payments to individuals (examples include Social Security) are also typically a very effective form of fiscal spending in terms of boosting aggregate demand and presumably employment, with a multiplier effect as high as 2.1. That's because many lower income Americans are recipients of such benefits, and they are more likely to spend disposable income rather than save it, putting that money back into the economy.
The financing of fiscal stimulus
As we discussed in last week's Upshot, infrastructure spending is often considered one of the most effective forms of fiscal policy in terms of its impact on the economy. However, we have to offer the caveat that multiplier effects are not stable over time or over regions and depend on various factors. Most notably is how fiscal stimulus is financed and its impact on bond yields, which means the multiplier can ultimately be much lower than the CBO's estimates.
We also need to contemplate the type of budget deficit these policies would create. One more caveat: changes to policy need to be passed by Congress to have any impact at all; so we need to factor into our calculus our expectations for the composition of Congress. All in all, a close examination of the candidates' fiscal policy platforms is critical, given the important role fiscal policy will have going forward as the Fed normalizes monetary policy.
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About the Author
Kristina Hooper is the US Investment Strategist and Head of US Capital Markets Research & Strategy for Allianz Global Investors. She has a B.A. from Wellesley College, a J.D. from Pace Law, a master's degree from Cornell University and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
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