Among the many lessons of the 2008 financial crisis and its aftermath in the United States is that there is no good reason to start worrying about debt when unemployment remains high and interest rates low. The hasty embrace of austerity derailed the last recovery, and it must not be allowed to do so again.
BERKELEY – Ten years and 10 months ago, US President Barack Obama announced in his 2010 State of the Union address that it was time for austerity. “Families across the country are tightening their belts and making tough decisions,” he explained. “The Federal Government should do the same.” Signaling his willingness to freeze government spending for three years, Obama argued that, “Like any cash-strapped family, we will work within a budget to invest in what we need and sacrifice what we don’t.” So great was the perceived need for austerity that he even vowed to “enforce this discipline by veto,” just in case congressional Democrats had something else in mind.
Immediately following these remarks, which appeared to fly in the face of economic common sense, some in the Obama administration tried to convince me that the president was merely engaging in Dingbat Kabuki Theatre. The implication was that the administration would, of course, continue to use fiscal policy to reduce unemployment through tax cuts and spending on items that were exempt from the freeze: “national security, Medicare, Medicaid, and Social Security.”
But political theatre can have a powerful effect on policy debates, determining which arguments can and cannot command broad assent in the public sphere. After the 2008 financial crisis, I and others had argued that in an environment of still-high unemployment and extremely low interest rates, the cost of continued government borrowing and spending would be trivial compared to the benefits. Yet Obama’s rhetoric lent austerity the bipartisan gloss that it needed to prevail.
Never mind that the US prime-age employment rate was still a dismal 75.1%, having fallen from 80% in early 2007 (and from almost 82% in mid-2000). Owing to the embrace of austerity, the employment rate was still only 75.6% when Obama gave his Second Inaugural Address in January 2013. Almost three years later, it remained at 77.4% – making up less than half the loss since 2007, and just one-third of the loss since 2000. Nonetheless, then-Federal Reserve Chair Janet Yellen announced in December 2015 that the economy would soon be running “too hot” unless interest rates were raised.
In the event, the Fed started raising its benchmark rate for the first time in a decade. The US prime-age employment rate did not return to its 2007 level until August 2019, and even then, US national income was still 8.3% below its 2000-07 growth trend, meaning that none of the lost real income and production output since Obama’s January 2010 speech had been recouped.
In 2012, Lawrence H. Summers, the director of Obama’s National Economic Council until January 2011, and I warned that without a renewal of aggressive fiscal stimulus, prime-age employment, productivity, and real incomes would never recover to their pre-2007 trends. We were right about the latter two, while the prime-age employment rate eventually recovered only after 12 years (three times longer than in previous post-World War II business cycles).
Summers and I considered it a matter of elementary arithmetic. The rates at which savers around the world were lending to the US government, we noted, implied a willingness to pay the government to keep their wealth safe. Not only was there no cost to government borrowing; there also was no need to divert resources to service the debt.
Under those conditions, borrowing to fund additional stimulus would have been wholly beneficial. Although there might well come a time when savers would lose their taste for holding US government debt, and when policies to curtail the debt would be appropriate, 2012 certainly wasn’t it.
Needless to say, our arguments had little if any impact. But I am reminded of this now-ancient history because it increasingly looks like we are about to repeat it.
Owing to the COVID-19 pandemic, US prime-age employment is back down to 76%, just a little higher than it was in 2010. Remember, in normal times (before 2007-08), one-fifth of prime-age Americans were neither employed nor looking for a job; but now, an extra 5% of the population has been added to this cohort. That is millions of people who could be performing any number of useful paid tasks that are currently being left undone.
Under a sane national policy, the Federal Government would spend as much money as it takes to generate the demand necessary to make it worthwhile for employers to re-hire this one-twentieth of the working-age population. Worries about what we can afford would be set aside until the day the world’s savers no longer regard US government debt as a special, singularly valuable asset. That day may never come.
As John Maynard Keynes famously observed during World War II, “What we can do, we can afford.” Today, the point is even more obvious. We do not even have to figure out how to finance the response to the current crisis; that part of the equation has already worked itself out.
•J. Bradford DeLong is Professor of Economics at the University of California at Berkeley and a research associate at the National Bureau of Economic Research. He was Deputy Assistant US Treasury Secretary during the Clinton Administration, where he was heavily involved in budget and trade negotiations. His role in designing the bailout of Mexico during the 1994 peso crisis placed him at the forefront of Latin America’s transformation into a region of open economies, and cemented his stature as a leading voice in economic-policy debates.