The dangers of Obama's public-works juggernaut
Given the risks, it'd be wiser to let economic nature take its course.
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A second possibility is that China, preoccupied with its own weakening economy, will not finance America's debt but use its reserves internally.Skip to next paragraph
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In this scenario, the US Treasury Department will be forced to sell US government bonds into a credit-constrained market. This will drive up interest rates and "crowd out" business investment. This is why fiscal policy often fails – any rise in less-productive government spending is more than offset by a fall in typically far more productive business investment.
The third possibility may be most dangerous of all – printing extra money. Mechanically, this involves the US Treasury issuing new bonds to finance the deficit. Rather than these bonds going to public market, the US Federal Reserve buys them – while printing enough new money to pay the bill. The increase in the money supply would almost certainly debase the US dollar and cause an inflationary spike that would prematurely choke off recovery.
The dangers do not end there.
There are also the well-known "size and timing" problems. It's very difficult to calculate exactly how much fiscal stimulus is needed – too little doesn't get the job done, too much ignites inflation. It also takes a lot longer for government spending to work its stimulative magic than monetary policy. This is because new infrastructure takes significant time to plan and build. Moreover, in the worst-case scenario, the full impacts of a fiscal stimulus come long after the economy has fully recovered and wind up overheating the economy, causing inflation problems.
In light of all these dangers, would it not be better to simply let economic nature take its course? Falling prices of real assets such as oil, food, homes, and cars would eventually rekindle demand. Falling prices of financial assets such as stocks and bonds would set the stage for a bull market recovery, with all its salutary effects on consumption and investment.
Has America gotten so soft and so fearful that its citizens run to the government during a recession? We must at least have this debate before setting out on such a perilous course.