Short-Term Economic Boost from Fiscal Stimulus Outweighed by Long-Term Output Loss

We all know there’s no such thing as a free lunch so it should come as no surprise that a new IMF working paper finds that the long-term costs of economic stimulus measures outweigh the short-term benefits.

The paper, which is not official IMF policy, uses the IMF’s Global Integrated Monetary and Fiscal Model to compute short- run multipliers of fiscal stimulus measures and long-run crowding-out effects of higher debt.

First the good news:

• Multipliers of two-year stimulus range from 0.2 to 2.2 depending on the fiscal instrument, the extent of monetary accommodation and the presence of a financial accelerator mechanism.
• We find that the multipliers of a two-year fiscal stimulus package range from 1.3 for government investment to 0.2 for general transfers, with targeted transfers closer to the upper end of that range and tax cuts closer to the lower end.
• In the presence of monetary accommodation and a financial accelerator mechanism multipliers are up to twice as large, as accommodation lowers real interest rates, which in turn has a positive effect on corporate balance sheets and therefore on the external finance premium.”

Now the bad:

• As for crowding-out, a permanent 0.5 percentage points increase in the U.S. deficit to GDP ratio leads to a 10 percentage points increase in the U.S. debt to GDP ratio in the long run.
• Servicing this higher debt raises the U.S. tax burden and world real interest rates in the long run, thereby eventually reducing U.S. output by between 0.3 and 0.6 percent, with the size of the output loss again depending on the distortionary effects of the fiscal instrument.
• The real interest rate effect (but not the tax burden effect) affects the rest of the world equally and accounts for output losses of around 0.2 percent.

These output losses are larger than the corresponding short-run stimulus effects for the same instruments. But much more importantly, they are also permanent.”

“The foregoing suggests that a carefully chosen package of fiscal and supporting monetary stimulus measures can provide a significant contribution to supporting domestic and global economies during a period of acute stress. But such measures should also be embedded in a conservative medium-term fiscal framework which ensures that deficits and debt do not drift upwards permanently when the economy recovers. In the absence of such a framework the long-run costs would far exceed the short-run benefits.”

Fiscal Stimulus to the Rescue? Short-Run Benefits and Potential Long- Run Costs of Fiscal Deficits
Charles Freedman, Michael Kumhof, Douglas Laxton, Dirk Muir, Susanna Mursula

Comments

[User 353732]

When demented public borrowing is combined with maniacal Govt spending on low or negative value added activities, 5 consequences seem assured:

1. The bigger The Stimulus today the smaller will be the real economy tomorrow

2. The more fake or temporary jobs are created today the fewer real, enduring jobs will be tomorrow

3. The greater the transfer payments to the lower class from the middle class today the more downward mobility from the middle class tomorrow.
This is a malevolent consequence of the fact that the lower class is bribed and subsidized and the middle class is plundered and punished by Big Govt so ,of course, the lower class will expand and the middle class will compress

4. The more fiat dollars are issued today the more the dollar will be spurned as a global store of value tomorrow

5. The more the present is fed today at the expense of the future the more hungry tomorrow will be: the more the future is robbed today the more terrible will be the retribution exacted by the future tomorrow

2009 Nov 18 01:05 PM

[Mr. Big]

Unfortunately, our esteemed leaders can only think ahead 4 years at a time... beyond that....it gets a little hazy for them.


On Nov 18 12:16 PM chris coonan wrote:

> This nation needs to stop thinking Short term. That is what gets
> us into trouble all the time. LONG TERM thinking will be the key
> to happiness in the future. It may take a LONG TIME before we get
> there.

2009 Nov 18 10:34 PM

[flow5]

GDP doesn't fund deficits, savings fund deficits. The Federal Deficit to gross savings is the correct ratio.

2009 Nov 19 08:51 AM