Not so long ago, the US economy needed a boost. Millions of Americans had lost their jobs as the country shut down to slow the spread of a deadly virus. At the time, policymakers, advocates and economists agreed that Americans needed immediate help — and so they quickly acted on it.
Lawmakers passed a $2.2 trillion stimulus package in March 2020, followed by two more tranches of COVID-19 relief later in 2020 and then again in 2021. In total, that added up to one of the most generous fiscal responses to the virus in the world.
However, there would be a catch. As US prices continue to rise at rates not seen in decades, it has become clear that the stimulus has come at a significant and unforeseen cost: inflation. Whether inflation has peaked is unclear, but the situation is now economically and politically toxic, and it has left many of the same policymakers, advocates and economists now wondering if the stimulus checks were a mistake.
The stimulus had big economic benefits – but it also stoked inflation
On the one hand, the COVID-19 stimulus has undoubtedly helped Americans in very important and tangible ways. Namely, it reduced poverty — beyond just keeping people afloat during the early days of the pandemic.
According to the US Census Bureau’s Supplemental Measure of Poverty, stimulus payments lifted 11.7 million people out of poverty in 2020 – a drop in the poverty rate from 11.8 to 9.1%. And the 2021 poverty rate is expected to fall further to 7.7%, according to a July 2021 report from the Urban Institute. We don’t yet know if this has materialized, but Laura Wheaton, senior researcher at the Urban Institute and one of the analysts behind the 2021 figures, told us that it was clear from their analysis that stimulus checks led to a dramatic reduction in poverty.
More generally, stimulus checks also cushioned workers during one of the worst economic crises in modern history, which likely helped the economy rebound in record time. In April 2020, when Americans received the first round of checks — up to $1,200 with the CARES Act — unemployment was at a disastrous 14.7%. But two years later, it’s almost back to pre-pandemic levels, with plenty of job vacancies. “I hope we don’t forget how great it was that we supported people so well and recovered as quickly as we did,” said Tara Sinclair, professor of economics. at George Washington University.
However, there is also evidence that the stimulus, especially the last round, likely fueled ever higher prices for the very people it was meant to help. Although global supply chain issues (and, more recently, the war in Ukraine) have been important drivers of inflation, the divergence between US and European inflation suggests there is more to it. In fact, recent analysis by researchers at the Federal Reserve Bank of San Francisco found that the stimulus may have raised US inflation by around 3 percentage points by the end of 2021.
As a result, Americans are struggling financially, especially low-income people who don’t have a cushion to absorb higher prices. Moreover, inflation is outstripping wage growth. Despite a 5.6% increase in wages year over year, inflation of 8.5% in March 2022 meant that Americans saw an almost 3% drop in inflation-adjusted wages .
Nor was it a completely unforeseen problem. In early 2021, some economists sounded the alarm about the scale of the latest round of stimulus — the US bailout, which was characterized by direct payments of $1,400 to American individuals — for its potential to overheat the economy and creating an inflationary environment. According to Thomas Philippon, professor of finance at New York University’s Stern School of Business, stimulus checks played a major role in creating excess demand, which in turn spurred inflation. “The increase in demand was very significant in the United States, and stimulus checks were a big part of it,” Philippon said. But at the same time, many policymakers – including Federal Reserve Chairman Jerome Powell – thought the risk of pumping too little money into the economy seemed greater than the risk of investing too much.
Recovery has become political
Part of the problem is that the latest rounds of stimulus — the checks that were issued in December 2020 and March 2021 — may actually have been too big. But the decision to send an extra $2,000 to most Americans was not supported by evidence or economic calculations. It was shaped by politics.
Although the CARES Act was passed almost unanimously and on a bipartisan basis in March 2020, when former President Donald Trump was in power, a much different story unfolded during the transition from his administration to that of of current President Biden. Towards the end of 2020, Trump pushed for additional $2,000 payments, which House Democrats supported and later passed, but that effort was blocked by Senate Republicans who were alarmed at the price. . In the end, direct payments of just $600 were approved — despite widespread support for larger checks among voters of both parties.
But Democrats, with control of the Senate on the line, have decided to campaign for bigger stimulus checks ahead of Georgia’s runoff election. It’s impossible to know if support for the checks gave Senators Raphael Warnock and Jon Ossoff their respective advantages now, but the Democrats ended up winning both seats and passing the US bailout two months later, which included $1,400 checks to reach the desired $2,000. target.
Claudia Sahm, director of macroeconomic research at the Jain Family Institute, said the March 2021 check should ideally have been smaller. But due to the politics of the issue, there was no room to push for a lower number. “People were promised the $2,000 checks,” she said. Politically, that meant it would either be a $2,000 payout or nothing at all.
Moreover, much of the economic response to COVID-19 leaned to the left, which may help explain why so many policymakers underestimated the threat of inflation. Rather, they were more worried about not giving Americans enough money – a lesson from an earlier era. Democrats who were in power during the Great Recession — including Biden, who helped oversee the 2009 recovery as vice president — approached the COVID-19 recovery determined not to repeat spending mistakes. too little money. It wasn’t clear then, but many economists now believe that Congress’s reluctance to pump money into the economy after the crash of 2008 led to a long and painful recovery.
That’s why this time around, the Democrats wanted to pump money into the economy. It seemed like a clear political winner, as support for another round of stimulus payments was extremely high: Polls in late 2020 and early 2021 consistently found that the vast majority of Americans, including many Republicans , supported the proposed stimulus checks. But although Democrats took control of the Senate and passed the hugely popular stimulus package — albeit on a party-line vote — that grassroots philosophy hasn’t seemed to bear fruit since. In particular, voters don’t appear to be rewarding Democrats and Biden for the extra stimulus money. A majority of voters blame Biden for inflation — including a sizable portion of Democrats — and disapprove of his handling of the economy more broadly.
Instead of helping Biden and his party, the stimulus could therefore end up hurting them in the 2022 midterm elections.
We will probably learn the wrong lessons from the stimulus
The lessons we learn from the response to the COVID-19 recession are important because they will almost certainly shape how we respond to the next economic downturn. In the wake of the Great Recession, policymakers shot too low. Now they seem to have shot too high. If this were the story of Goldilocks, we’d be close to getting it right next time – but politics is no fairy tale, and it’s very possible we’ll overcorrect every time we go. another recession hits.
In many ways, we are still looking to learn lessons, as the pandemic is still not over. And it is of course difficult to disentangle what might have happened had the government’s response not been so aggressive. A clear lesson from the COVID-19 pandemic, however, is that America’s social safety net was unprepared for a crisis of this magnitude, which is a big reason why the response had to be so massive. .
Our social safety net was not ready to catch everyone who needed it, so it was very difficult to determine who really needed help and when to turn off the tap, according to Sinclair. The rickety state unemployment insurance systems couldn’t be recalibrated to replace people’s incomes, so many people ended up getting paid a lot more after losing their jobs. It was not easy to target direct payments to people in specific income brackets, so payments went to some families who did not need them.
But with a better social protection infrastructure, we might not have been so vulnerable to inflation, according to Darrick Hamilton, professor of economics and urban policy at the New School. If we had been able to identify and reach the people most in need of support, a massive and comprehensive response would not have been necessary.
” [T]The automatic stabilizer of this makes us less vulnerable to economic shocks, like a pandemic recession,” Hamilton said. “We would already have this kind of political infrastructure in place. »
The problem is that politicians’ incentives go the other way – there’s no political benefit to preparing for a nebulous future crisis, so they often don’t. And as worries about inflation mount, there is little appetite to pump more money into the country’s social safety net. “It would be a drastic change and it would look like a huge expense,” Sinclair said. “And it’s hard to say to people, ‘Hey, look, if we do this, it’s going to look like a lot of money now, but the next time there’s a crisis, we’re not going to end up spending a trillion or two, willy-nilly.
Depending on what happens with inflation, economists might end up concluding that the trade-offs of the COVID-19 stimulus were worth it, but that won’t necessarily be the political conclusion. All of this underscores the fundamental tension of any response to an economic crisis – it will be designed by politicians, whose goals are shaped by the prevailing political winds. And at this point, it seems very likely that the political pain inflicted by rising prices will shape how we remember the current response, whether economists agree or not.