The Limits of Stimulus

Kevin Drum ponders an interesting factoid: rising gas prices have pretty much wiped out the whole cash value of the stimulus to families:

Stimulus is hard in an energy-constrained world. I confess that the more I think about this, the more I wonder if conventional fiscal/monetary policy has as much traction as we believe. I'm not an energy fundamentalist by any stretch, but the constraints are real. Ordinary stimulus measures still work, and we should be pursuing them more aggressively, but I can't help but suspect that we're entering an era where they're getting less effective all the time.

My macro professor at the University of Chicago argued that the stagflation of the 1970s looks pretty good as an oil-led phenomenon; when supply constraints are real, stepping up the fiscal and monetary policy gives you inflation plus economic doldrums.

But how relevant is that to the current recession?  Well, James Hamilton has made a prettly compelling case that oil prices are responsible for more of the current setback than we might think.  And even if you dispute that, I think it's easy to agree that they're making a bad downturn worse.

While I was at Chicago last weekend I sat down with Raghu Rajan, formerly Chief Economist of the IMF.  And one of the things he pointed out is that the Great Moderation bred this assumption that policy can always do something.  That may not be the case.