The new New Deal?

The mother of all economic stimulus is about to be unleashed on America. Joe Biden has only been in the White House for what, not even 3 months, and a 1.9 trillion dollar pandemic relief package has been passed by Congress, and his administration has already presented an infrastructure package worth 2.5 trillion during this running quarter. God knows what else he and his team have in store. Fact is his actions combined with the stimulus by the previous government amounts to roughly 1/3 of GDP.

It wouldn’t be America if this enterprise wasn’t marketed appropriately and accompanied by a visionary media reporting. And so, the press has been full of analogies between the New Deal of Franklin D. Roosevelt in the early 1930s and Biden’s undertaking. It is not that this is a bad thing. FDR’s stunt 90 years ago absolutely worked, and both stimulus exercises pursue the same objective, as in lift America from a Great Depression kind of environment.

To be sure, however, history may rhyme, but it never truly repeats itself. However appealing this comparison sounds, and remember that Americans can sell everything, the world is entirely different from the 1930s, and we are a long way from home. My sense is that there is no way to take reasonable cues from that era, despite the marketing gag. Let me offer the following observations for further debate on the issue.

One, we live in materially different times politically. When FDR became president, his Democratic party controlled both chambers of Congress by considerable margins. His New Deal experienced little resistance, could be passed swiftly, and execution commenced immediately. Late last year, Biden’s Democrats won the election but narrowly held on to their House majority and face a 50-50 stalemate in the Senate, with only the vice president being able to tip the scale.

While the Covid relief package finally passed, the infrastructure deal will face lots more headwinds. Not that America doesn’t need a rejuvenation of its networks, highways, and airports, but the announcement that corporate tax increases are to help finance the package will provoke the Republicans’ ire. In an impossible split the Biden cabinet is forced to appease the left-wing of the party, and at the same time almost deemphasise the tax hikes by stretching them over years and years to come.

Two, what a blatant difference in monetary policy we observe. It was in the very early 1930s, when against the backdrop of a deepening recession the Fed significantly raised interest rates, only to force the economy even faster into the Great Depression. Why did they do that? Well, back then there was a thing called the gold standard that disciplined monetary policy to make sure fiat money is pegged against the shiny metal, and it had the Fed act against all odds.

Compare this to today. The gold standard is long gone. The Fed is keeping fund rates at quasi zero and swamps the financial system as it has never before. In the past 12 months, the Fed balance sheet almost doubled, and there is no stopping here. The national debt is fast approaching the 30 trillion threshold. The debt-to-GDP ratio is now firmly above the 100% mark and has only been higher once in the mid-1940s due to the War.

Three, the fiscal state of the nation couldn’t be more different. FDR’s predecessor, Herbert Hoover, only produced federal budget surpluses during his presidency, and at the height of the spending boom when FDR took over, the deficit never exceeded -5.5% of GDP. Biden hasn’t spent a dime on New Deal-ish kind of investments since the first relief package is really consisting of helicopter money for consumption and a reset of state finances, and America’s deficit stands at -15% of GDP.

Your guess is as good as mine to anticipate when America will return to single-digit deficit readings. Janet Yellen has the unthankful task of financing 4+ trillion of Treasury bills and bonds just this year. Ever since she was appointed as Treasury secretary she would have been acting like a fixed income syndicate manager sounding and sourcing demand for this gargantuan amount of new debt that needs to be placed with the investor community.

Finally, it is obvious that we are generally living in different worlds, differentiated by among other things globalised trade and supply chains. FDR’s stimulus would naturally and correspondingly have raised domestic manufacturing capacity within a largely closed economy. The trillions of demand instigated by Biden are facing a blatant lack of supply of consumer and capital goods in America because they are simply no longer produced there.

In light of record US trade deficits in the past few months, especially with China and contrary to all the efforts of the Trump administration, there will only be one beneficiary from this demand tsunami, and that is more imports. In other words, if we believe the current account deficit is already too high and unsustainable, think again. The problem that presents itself here is that the capital account is hardly going to keep track to ensure equilibrium.

Foreign buyers of Treasuries, usually the current account surplus countries that need to channel back their dollars in order to run a corresponding capital account deficit, seem to have little appetite for more amid a US money system that is sailing hard on the wind and widespread concerns of a dollar depreciation to release the pressure cooker. So, if Yellen can’t mobilise sufficient demand for her paper in domestic markets, the Fed will have to take up the slack.

To sum up, the New Deal rhetoric in the media is largely nonsense. Again, it may be a nice gag and a battle cry for the new and dicey era we are about to enter, but Biden ain’t no FDR, and the 1930s New Deal is nothing like what is unfolding before our eyes.