Research Topics

In this Strategic Analysis, Dimitri B. Papadimitriou, Michalis Nikiforos, Giuliano T. Yajima, and Gennaro Zezza discuss how the current state and structural features of the US economy might affect its future trajectory. The recent recovery after the pandemic has been remarkable, when compared to previous cycles, and offers evidence of the efficacy of fiscal policy. Moreover, the inflation rate has been finally decelerating as the problems in global value chains that emerged after the pandemic are resolving and the price of commodities and oil, which spiked after the pandemic and the war in Ukraine, are stabilizing.

Yet despite the recent success of fiscal policy in promoting output and employment growth, the recent debt ceiling deal—culminating in the 2023 Fiscal Responsibility Act—risks putting the US economy on the austerity path of the previous decade. And given the structural weaknesses of the US economy—including its high current account deficits, high level of indebtedness of firms, and overvalued stock and real estate prices—this projected fiscal policy tightening, combined with the impacts of high interest rates, could lead to a significant slowdown of the US economy.

The US economy, the authors contend, is in need of a structural transformation toward modernizing its infrastructure, promoting industrial policy, and investing in the greening of its economy and environmental sustainability. A necessary condition for achieving these goals is an increase in government expenditure; they show that such an increase could also have positive demand effects on output and employment. 

Lessons for the Current Debate on the US Debt Limit

In 1943, Congress faced unpredictably large war expenditures exceeding the prevailing debt limit. Congressional debates from that time contain an insightful discussion of how the increased expenditures could be financed, dealing with practical and theoretical issues that seem to be missing from current debates. In the '43 debate, Representative Wright Patman proposed that the Treasury should create a nonnegotiable zero interest bond that would be placed directly with the Federal Reserve Banks. As the deadline for raising the US federal government debt limit approaches, Senior Scholar Jan Kregel examines the implications of Patman's proposal. Among the lessons: that the debt can be financed at any rate the government desires without losing control over interest rates as a tool of monetary policy. The problem of financing the debt is not the issue. The question is whether the size of the deficit to be financed is compatible with the stable expansion of the economy. 

A Scenario of Hitting the Debt Ceiling

The United States entered the second week of a government shutdown on Monday, with no end to the deadlock in sight. The cost to the government of a similar shutdown in 1995–96 amounted to $2.1 billion in today’s dollars. However, the cost and broader consequences of today’s shutdown are not yet clear—especially since the US economy is in the midst of an anemic recovery from the biggest economic crisis of the last eight decades.

A common refrain heard from those trying to justify the results of the recent midterm elections is that the government’s fiscal stimulus to save the US economy from depression undermined growth, and that fiscal restraint is the key to economic expansion. Research Associate Marshall Auerback maintains that this refrain stems from a failure to understand a fundamental reality of bookkeeping—that when the government runs a surplus (deficit), the nongovernment sector runs a deficit (surplus). If the new GOP Congress led by Republicans and their Tea Party allies cuts government spending now, deficits will go higher, as growth slows, automatic stabilizers kick in, and tax revenues fall farther. And if extending the Bush tax cuts faces congressional gridlock, taxes will rise in 2011, further draining aggregate demand. Moreover, there are potential solvency issues for the United States if the debt ceiling is reached and Congress does not raise it. This chain of events potentially creates a new financial crisis and effectively forces the US government to default on its debt. The question is whether or not President Obama (and his economic advisers) will be enlightened enough to embrace this “teachable moment” about US main sector balances. Recent remarks to the press about deficit reduction suggest otherwise.