Blinder on Government and the Economic Recovery

Alan Blinder was a member of the Council of Economic Advisors to President Clinton, a Vice Chairman of the Board of Governors of the Federal Reserve and is a professor of economics at Princeton.  Few economists can match his academic and practical experience.  In "Government to the Economic Rescue," published in the Wall Street Journal, he argues that three policies spanning two administrations are responsible for the economic turnaround.  The policies are the Troubled Asset Relief Program (TARP), otherwise known as the bailout, the stimulus, formally known as the American Recovery and Reinvestment Act, and the "stress tests" of major banks.  While I tend to believe that TARP continued to feed the too-big-to-fail moral hazard, that fiscal multipliers are small, possibly less than one, and that the cost of expanding debt are yet to be felt, his arguments are well reasoned and represent an empirically supportable position.  I picked a few key paragraphs but recommend that students and others interested in the impact of fiscal policy read the entire article.

Let's start with two indisputable facts. First, both the financial system and the economy are in far better shape today than they were in the dark days of January or February 2009. For example, even though unemployment is higher now, it is receding rather than soaring, dropping to 9.7% in May from 9.9% in April. Second, the growth of the U.S. economy over, say, the last 12-18 months beat virtually every forecast made back then. I know, because I stuck my neck out on this page with a forecast viewed as too optimistic in July 2009, and the U.S. economy did better than I predicted.

He argues that government policy was causal in the turnaround.

The first was the much-maligned Troubled Asset Relief Program (TARP), which Fed Chairman Ben Bernanke and then-Treasury Secretary Henry Paulson persuaded Congress to pass on Oct. 3, 2008. TARP must be among the most reviled and misunderstood programs in the history of the republic. Voters are clearly appalled by the idea that their government spent $700 billion bailing out banks.

The only problem is: It didn't. Even if we count insurance giant AIG as a bank, no more than $300 billion ever went to banks. TARP's total disbursements, including the auto bailout, never reached the $400 billion mark. The money went for loans and to purchase preferred stock; it was not "spent." In fact, most of it has already been paid back—with interest and capital gains. When TARP's books are eventually closed, the net cost to the taxpayer will probably be under $100 billion—far under if General Motors ever repays.

Spending perhaps $50 billion of taxpayer money to forestall a financial cataclysm seems like a bargain. Yes, I know it's maddening to hand over even a nickel to bankers who don't deserve it. But doing so was a necessary evil to save the economy. Think of it as collateral damage in a successful war against financial armageddon.

The second landmark was the fiscal stimulus package that President Obama signed into law about four weeks into his presidency. Originally priced at $787 billion, it was later re-estimated by the Congressional Budget Office (CBO) to cost $862 billion. A huge waste of money, say the critics—even though most independent appraisals, including that of the CBO, credit the stimulus with saving or creating two million to three million new jobs...

I come, finally, to the third major landmark: the "stress tests" of 19 big financial institutions (not all of which were banks) conducted by the Federal Reserve and other banking agencies in the spring of 2009. This unheralded but ingenious policy initiative was a riverboat gamble that paid off big.

When the stress tests were announced in February 2009, hardly anyone in the financial markets trusted anyone else—least of all the banks. The nervous markets might have panicked if the Fed had declared the need for bank capital to be either too large ("My God! It's hopeless!") or too small ("My God! It's a government whitewash!"). Instead, the Fed's careful and credible estimates found capital needs that were both realistic and manageable.