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(email exchange)

>   
>   On Thu, Jan 22, 2009 at 5:46 PM, Michael wrote:
>   
>   Bullet points from the GS report, what do you think of their assessment?
>   

Pretty good up to a point.

Agree the deficit probably should be larger to restore full employment.

It goes bad where highlighted below:

>   
>   The US economy urgently needs a large dose of fiscal stimulus to counter a sharp
>   retrenchment in private-sector spending. Consumers are cutting back in a way not
>   seen since World War II, and businesses are following suit. Based on current equity
>   prices, current credit spreads, and the trend in home prices, we expect the
>   private-sector balance between income and spending to rise from 1% of GDP in
>   mid-2008 to about 10% by the end of 2009, an annualized increase of 6% of GDP.
>   
>   To fill this hole in demand, the federal government should become the spender of
>   last resort, as monetary easing cannot do the job alone. We reckon that the
>   appropriate level of stimulus is $600 billion (bn) at an annual rate, or 4% of GDP,
>   

Could be. Maybe more.

>   
>   with the remaining 2% filled by a narrowing in the current account deficit.
>   

Increased domestic demand and higher crude prices could increase the trade gap, which would be highly beneficial, reduce demand, and therefore allow us to run deficits that much higher.

>   
>   Moreover, with prospects for cyclical recovery in the private sector looking dim,
>   this stimulus should stay in place through 2010 and be withdrawn only gradually
>   thereafter. The bill recently introduced in Congress, priced at $825bn over two
>   years, is a major step in the right direction but is apt to prove insufficient if our
>   estimates are correct. On the five-year view customarily used to score such
>   programs, we could justify stimulus totaling $2 trillion.
>   

Agreed!

>   
>   While stimulus will boost the federal deficit, it is important to recognize that the
>   deficit will rise sharply even if nothing is done. Our projection of the private-sector
>   balance implies a deficit of about $1 trillion in 2009, a figure that looks roughly
>   consistent with the Congressional Budget Office (CBO) baseline—$1.2 trillion for
>   fiscal 2009—when adjusted for differences in economic outlook, accounting, and
>   timing. Moreover, since the deficit must ultimately be financed either by private
>   domestic saving or net foreign inflows, the net budget cost of stimulus can be
>   reduced if the package avoids measures that mainly boost saving.
>   

There’s nothing ‘wrong’ with measures that increase savings and therefore require higher deficits. He’s afraid of deficits per se.

>   
>   Likewise, much of the prospective surge in federal debt that terrifies many market
>   participants is already baked in the recessionary cake. While stimulus will aggravate
>   this increase, the United States starts from a fairly comfortable federal debt ratio
>   of just over 40% of GDP at the end of fiscal 2008, lower than the G7 average. And
>   those who worry about a lack of demand for all this debt should not overlook US
>    households and businesses as potential customers.
>   

Lack of demand is never an issue.

>   
>   After all, it is their efforts to repair balance sheets that has caused the need for
>   stimulus; with risk aversion running high, it stands to reason that they will shoot
>   a few bucks the government’s way to help it do their spending for them.
>   
>   However, the long-term budget imbalance remains serious.
>   

Not applicable.

>   
>   Thus, any program must feature measures that not only have quick and powerful
>   effects but also expire as soon as the need for stimulus has passed. To balance
>   these competing objectives, the package should focus on infrastructure and
>   investment but also include carefully targeted tax cuts, enhancements of benefit
>   programs, and aid to state and local governments as a bridge to these projects,
>   many of which take time to develop.
>   

OK.

>   
>   Assuming that the final package is in the range now under consideration, we
>   estimate that the federal deficit will reach $1.425 trillion in FY 2009, or 10% of
>   GDP (based on CBO’s accounting for TARP and GSEs). While the scale of the
>   package driving this change has risen sharply in recent months, so has the rate
>   at which the economy is losing momentum. Accordingly, we have not changed
>   our economic outlook, though of course this remains subject to review.
>   

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