Yet another fiscal stimulus is proposed and this time, Bernanke backs it.
Oct. 20 (Bloomberg) — Federal Reserve Chairman Ben S. Bernanke endorsed additional fiscal stimulus, saying the credit crunch is “hitting home” as Americans find it harder to get loans, threatening a prolonged economic slump.
Lawmakers “should consider including measures to help improve access to credit by consumers, homebuyers, businesses and other borrowers,” Bernanke said in testimony to the House Budget Committee. “Such actions might be particularly effective at promoting economic growth and job creation,” he said, calling consideration of a stimulus “appropriate.” [Bernanke Backs More Stimulus, Citing ‘Weak’ Outlook. Scott Lanman. Bloomberg. October 21 2008]
Earlier in the year, a fiscal stimulus in form of a one-time tax break was executed. The rationale behind the first stimulus was unconvincing and true enough, it did not work as the proposers had hoped for.[1]
There is however hope for the second stimulus to succeed, unlike the first which fell victim to the game of expectation from the outset.
Access to credit in the real economy is the crux of the current crisis. Acts to improve access will go a long way in making the stimulus matters.
While I opposed the first stimulus, I may be supportive of the second effort, especially if the plan seeks to untighten credits. It is becoming clear to me that the banks’ reluctance to lend money may be a form of market failure, similar to the idea of lemons in the used cars market where there is a lack of trust as well as a form of negative externality. Banks simply do not know who to trust and hence, hoard money at the expense of the economy.
In the used car market, market failure occurs when buyers simply do not know which used cars are bad (lemons) and which are good. Prices for good used cars are higher than lemons for the obvious reason. With information asymmetry faced by buyers and sellers enjoying complete information, sellers have the incentive to sell the lemons at the prices of good cars, thus gaining handsome profits. Buyers, realizing this, simply refuse to participate in the market to avoid from being cheated and losses. Hence, market failure as transactions do not occur.[1a]
This however is not to say that the whole crisis is caused by the market. The US government has blood on its hand. Government interference in the market has caused a cascading effect throughout the US economy, leading to a government-induced market failure.
As a green libertarian conscious of the fact that market can fail and government does have a role in combating market failure, I think I can support the second, more properly tailored fiscal stimulus.
I do wonder however how could a fiscal policy improves credit access? Could the government lends directly to the market? Would the government become a guarantor to various borrowers?
But hey, since the US government already owns some banks, why not just order those banks to lower down their rates… (sarcasm) What better way to untighten credit in the market than that?[3]
On a separate note, Mark Sunshine at the Economix writes that a tax-rebate might work because the US economy might have entered into a liquidity trap in which the economy becomes unresponsive to monetary policies.[2] While I do think fiscal stimulus might work, the effectiveness of one-time tax rebate is suspect for the same reason the first stimulus failed. A fiscal stimulus based on government spending might work better than a one-time tax cut.
Whoa. What am I talking about? Heresy!
[1] — Momentum for fresh measures built after an earlier stimulus package failed to prevent a jump in the unemployment rate to a six-year high and the longest slump in retail sales since at least 1992. [U.S. Moves Toward Stimulus as Bernanke, Bush Shift. Ryan J. Donmoyer. Scott Lanman. Bloomberg. October 21 2008]
[1a] — See The Market for Lemons on Wikipedia for more information on the subject.
[2] — Momentum for fresh measures built after an earlier stimulus package failed to prevent a jump in the unemployment rate to a six-year high and the longest slump in retail sales since at least 1992. [Will Paulson’s Two Plans Unplug the ‘Liquidity Trap’?. Mark Sunshine. Economix. October 4 2008]
[3]p/s — Apparently, there is a rumor about that flying around…