Fiscal Policy in a Depressed Economy

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The new Brookings Paper by Larry Summers and Brad DeLong, Fiscal Policy in a Depressed Economy, is an important document and should be widely read. It explains the conditions under which fiscal stimulus can be self-financing.

In normal times central banks offset the effects of fiscal policy. This keeps the policy-relevant multiplier near zero. It leaves no space for expansionary fiscal policy as a stabilization policy tool. But when interest rates are constrained by the zero nominal lower bound, discretionary fiscal policy can be highly efficacious as a stabilization policy tool. Indeed, under what we defend as plausible assumptions, temporary expansionary fiscal policies may well reduce long-run debt-financing burdens.

If you are at the zero bound, have hysteresis in output and employment (likely in severe recessions), and your long-term interest rates are low, you need only a fairly modest fiscal multiplier for stimulus to improve the long-term debt position. Not many countries are in this position--but the US is one, and the UK is another.

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Clive Crook is a senior editor of The Atlantic and a columnist for Bloomberg View. He was the Washington columnist for the Financial Times, and before that worked at The Economist for more than 20 years, including 11 years as deputy editor. Crook writes about the intersection of politics and economics. More

Crook writes about the intersection of politics and economics.

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