Pasadena Chamber of Commerce

The US Senate approved President Obama’s proposals last week for a huge fiscal stimulus to the economy. The total package amounts to $787 billion in tax cuts and public spending. President Obama is expected to sign it into law tomorrow.

Fiscal expansion is right and urgent, and it needs to be big. The economy is contracting alarmingly: the IMF projects negative US GDP growth of 1.6 per cent this year. As private consumption and investment collapse, with inevitable collateral damage to the global economy, government must fill the gap. There are problems with this package, though, and the Administration must move quickly to defuse them.

First, a fiscal stimulus will work only if it is combined with other measures. In criticising the proposals, Republican senators have argued that Japan likewise attempted a fiscal boost in the 1990s but succeeded only in squandering vast sums and increasing public debt. The US, they argue, risks making the same policy mistake.

The Japanese experience does contain important lessons. The bursting of a property and stock market bubble plunged Japan into a decade-long recession that vast public spending proved unable to reverse. The lesson is not, however, that fiscal policy is useless. It is that monetary conditions must also be loose enough to encourage private spending, and that the financial crisis that has created the recession must be tackled directly. In Japan in the 1990s bankers refused to recognise bad debts but kept them on the books – thereby worsening the downward spiral in asset prices. There is much public anger in the US and Europe towards the banks, but at least they are writing down bad debts and replacing executives who have plainly failed. That process must be stepped up.

Are they saying, “No high speed train to Vegas?”

Paul