Since around June 2009 many indicators have been pointing up: GDP has been rising in all major economies, world industrial production has been rising, and US corporate profits have recovered to pre-crisis levels. Yet unemployment has hardly fallen in either the United States or Europe--which means that the plight of the unemployed, especially in America with its minimal safety net, has grown steadily worse as benefits run out and savings are exhausted. And little relief is in sight: unemployment is still rising in the hardest-hit European economies, US economic growth is clearly slowing, and many economic forecasters expect America's unemployment rate to remain high or even to rise over the course of the next year.
... So what would we recommend doing? Practically everything that might stimulate [demand]. If more spending on infrastructure is politically impossible, at least make the case for it and pound its opponents for their obstructionism. (It's worth noting that President Obama’s recent proposal for a national infrastructure bank is very similar to a proposal that has been endorsed by none other than the bitterly anti-Obama Chamber of Commerce.) Targeted, temporary tax cuts--like the temporary incentives for business investment also recently proposed by the Obama administration--aren't our preferred policy, but they would be better than nothing. And monetary expansion should be pursued through every route possible--yes, it's uncertain how effective any given measure would be, but that's no reason not to try.Background information:
... the Federal Reserve can, I think, make a contribution on the employment side by mitigating economic fluctuations--by stabilizing real activity. I thus translate the "maximum employment" proviso of the Federal Reserve Act as a mandate for the Fed to lean against the wind, stimulating the economy when the economy is in recession or unemployment is clearly in excess of the NAIRU (the non-accelerating inflation rate of unemployment--the minimum rate of unemployment consistent with stable inflation), and restraining the economy through tighter policy when economic activity is pushing against the limits of capacity with inflationary implications. This is what the Federal Reserve has traditionally done and it is what I think the Fed should continue to do.But now that the central bank has run into the zero-interest-rate lower bound, making conventional monetary policy ineffective, open conflict has broken out between "saltwater" economists (like Krugman) and "freshwater" economists (like Robert Lucas and Edward Prescott). Krugman explains the history in How Did Economists Get It So Wrong? (2009) (previously). Saltwater economists are pushing for fiscal expansion, temporarily borrowing and spending to boost public demand and compensate for the slump in private demand, rather than cutting public spending to match the slump in tax revenue; they argue that the US had much higher public debt during World War II. Freshwater economists are vehemently opposed to fiscal stimulus, arguing that it's a problem of structural unemployment (a mismatch between skills needed and workers) that the free market will resolve in the long run.
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