Today’s prolonged economic slump is fundamentally different from an ordinary recession. In the aftermath of a severe financial collapse, an economy is at risk of succumbing to a prolonged deflationary undertow. With asset prices reduced, the financial system damaged, unemployment high, consumer demand depressed, and businesses reluctant to invest, the economy gets stuck well below its full employment potential.
In these circumstances, fiscal contraction and tight monetary policy would only make things worse. But even very low interest rates, of the sort being implemented by the Federal Reserve’s policy of “quantitative easing,” are insufficient to cure the deflationary condition. What’s needed is aggressive fiscal policy – and not the kind of fiscal policy promoted by the austerity lobby to “restore confidence” and allay supposed fears of inflation. With creditors willing to lend the government money for 30 years at well under 3 percent interest, there is obviously little fear of inflation driven by deficits. The problem isn’t low confidence in deficit-reduction. Banks are now sitting on about $1.8 trillion in cash or government securities – because they can’t imagine where to profitably invest it. Businesses are delaying investment in expansion not because they are fretting about deficit projections for 2023. They are waiting to see customers with money to spend, and general austerity will only reduce that spending power.
But where should this fiscal policy be directed? One, obviously, is investment in a green economy and modern public infrastructure. The other – too little appreciated – is increased outlay in human services, of the sort that can create good, non-exportable jobs and improve the life prospects of the next generation, as well as provide stable, counter-cyclical sources of employment and demand. Government also has the power to structure other service-sector work as decent jobs.
Public investment, including public investment in the service sector, can help the economy climb out of the current deflationary trap – and establish a foundation for a stronger middle class in the future.