Fiscal and Debt Policies for Sustainable US Growth

Abstract

In our interpretation, the Great Recession which started in the United States in 2007, and then spread to the rest of the world, was the inevitable outcome of a growth trajectory based on fragile pillars. The concentration of income and wealth, which began to rise in the 1980s, along with the stagnation in real wages made it more difficult for the middle class to defend its standard of living, relative to the top decile of the income distribution. This process increased the demand for credit from the household sector, while the deregulation of financial markets increased the supply, and the US economy experienced a long period of debt-fuelled growth, which broke down first in 2001 with a stock market crash, but at the time fiscal and monetary policy managed to sustain the economy, but without addressing the fundamental problem, so that private (and foreign) debt continued to increase up to 2006, when a more serious recession started. At present, the long period of low household spending, along with personal bankruptcies, has been effective in reducing private debt relative to income, and, given that the problems we highlight have not been properly addressed yet, growth could start again on the same fragile basis as in the 1990-2006 period. In this paper, adopting the stock-flow consistent approach pioneered by Wynne Godley, we stress the need for fiscal policy to play an active role in (1) modifying the post-tax distribution of income, which, along with new regulations of financial markets, should reduce the risk of private debt getting out of control again; (2) stimulate environment-friendly investment and technological progress; (3) take action to reduce the US external imbalance; and (4) provide stimulus for sufficient growth in employment.