Sunday, January 6, 2013

Big Government in 1975 And In The Lesser Depression

Whether our current level of government is big or small, not everyone has always written about "Big Government" as if it were necessarily a bad thing. Here's Hyman Minsky from "Stabilizing an Unstable Economy", writing about the impact of Big Government towards avoiding deep depressions,
"Big Government, with its potential for automatic massive deficits, puts a high floor under an economy's potential downward spiral. Although this high floor is important in itself, it is particularly important in a world with business and household debt because corporate gross profits and household savings are essential to validate such debt.
Without the emergence of a huge government deficit in 1975, the debt-carrying capacity of business and households would have been severely compromised. Such compromising, due to an iterative, downward spiral of income and profits, led to the debt deflation and deep depressions of the past. The sectoral budget impact of Big Government that sustains business profits is precisely what makes such a cumulative interactive decline impossible."
Chart of the output gap through the Lesser Depression so far, real GDP versus potential GDP
The Lesser Depression
Impossible is a strong word, and arguably a bit overboard. Given that Minsky would say we have "Big Government" and the experience of the Lesser Depression starting in 2008, it seems rather clear that a sufficiently large financial crisis without sufficient mitigation from increased discretionary spending can indeed still create such a decline even with our size of government. However, "Big Government" certainly slows the decline. (And even an under-sized increase in discretionary spending -- one not large enough to make up for the output gap -- can still help bring about an anemic recovery ... if not the robust recovery we'd see from an appropriately scaled fiscal mitigation.) As larger government create resistance to decline, it partially stabilizes the economic system. That's likely more or less what Minsky meant in describing the beneficial impact of big government, even if he may perhaps have employed a touch of hyperbole when making that point.

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