Historians will remember 2008 as the year modern finance failed. On the heels of this trainwreck, world leaders will go to extraordinary lengths to stop the economic bloodletting in 2009. Indeed, it seems all but certain that 2009 will go down as a year of unprecedented global economic stimulus--though the degree to which this strategy will succeed in boosting the world economy remains hotly disputed.
Over $1 trillion in fiscal stimulus (public spending and tax cuts aimed at revving up the economy) has already been approved by various world governments, and broader economic stimulus packages seem all but certain to be passed. Many analysts now expect Barack Obama's U.S. stimulus package alone could command a price tag of nearly $1 trillion (WSJ). China already unveiled a stimulus plan worth over $500 billion (NYT). The European Union is planning a package incorporating $260 billion (IHT) of stimulus spending, and some individual European countries are planning spending packages of their own. Japan, South Korea, India, Russia, and several Latin American countries (LAT) have similar packages in the works, albeit with more modest bankrolls.
With most of the industrialized world now in or near a recession--and with global growth engines like China, India, and Brazil forecasting sharply slower growth rates--economists largely agree on the need for an economic spark. Most advocate some form of stimulative spending by the United States and the governments of other major economies. On an industry level, they point out that the collapse of firms in strategically-important industries can have a debilitating effect on other, healthier, companies. (This was the logic behind the U.S. government's actions to stabilize the American financial sector, following the massive economic disruption wrought by the bankruptcy of Lehman Brothers.) On the state level, the corollary is the geoeconomic and geopolitical shock that can be caused by a country defaulting on its debts. Such is the reasoning behind the creation of the International Monetary Fund as an international lender of last resort.
With all this in mind, many economists have now called for fiscal stimuli across the world's leading economies. In a report released in late 2008, leading UN economists call for a coordinated global spending package involving spending 1.5 percent to 2 percent of gross domestic product (GDP) in the world's leading economies, above and beyond what has already been spent to boost credit market liquidity. Even with this spending, economists project significant declines in economic growth worldwide, but they argue that targeted stimulus, combined with measures to ensure sustainable development in emerging markets, will help reduce the probability of a major global recession.
The ultimate usefulness of stimulative spending will be determined largely by the nature of the spending itself. A recent Brookings paper examines how different forms of fiscal stimulus affect both the economy and the living standards of average citizens. It argues for a set of principles governing stimulus measures, and outlines the going economic theory on how to make stimulus spending most effective. Most importantly, it says, spending should be:
- Timely, to guarantee that spending affects the economy when it is needed most, and to prevent against capital injections leading to overexpansion or rapid inflation.
- Targeted, to make sure each dollar spent creates the maximum possible bump in short-term GDP, and to make sure that spending benefits the people most adversely affected by the economic slowdown.
- Temporary, to prevent unnecessary strain on a country's budget in the long run.
Not all economists agree that stimulus is helpful. "There's a lot of talk right now on stimulus," said CFR's Amity Shlaes in a recent interview. "It can be perverse because you stimulate something [i.e. an industry] that's really pretty weak, and should maybe fade." In a recent paper, two scholars from the Heritage Foundation argue the best medicine for the U.S. economy would be to pare back Obama's planned stimulus measures and work to reduce overall government spending. Several economists have pointed out that current global trade imbalances, which ballooned in part due to profligate U.S. spending during the early 2000s, were one of the main factors facilitating the U.S. housing bubble that catalyzed the 2008 financial crisis.
One of the defining economic questions of 2009 will be how the Obama administration chooses to stimulate economic activity. Obama's advisers have pressed for a program (WashPost) featuring middle-class tax cuts, aid for state governments, and investments in infrastructure, health-care technology, and education. They argue such a plan will provide a means of economic growth that doesn't require massive job losses beyond the 3.5 million layoffs already forecast for 2009. But special interests are already lining up for handouts (Philadelphia Inquirer) from the stimulus bill, and opponents say overreach is a major concern. With both the U.S. and global economies hanging in the balance, in 2009 Washington will have a chance to help fix a crisis it is widely blamed for starting.