If there is a recession this year, Donald Trump becomes president. Trump’s basic argument is that the decline of America, especially the decline of the middle class, represents such an immediate danger to average America that extraordinary actions are needed. Several days ago Obama took the podium at the State of the Union and attempted to remind America that the countries economy was the strongest in the world. Today the bottom fell out of the price of oil and the stock market went into meltdown.
What is taking place is a rerun of Recession of 1937. In 37 extraordinary measures, the New Deal, had managed to stabilize the economic situation in something appearing to approach normalcy. The government then brought an end of many of the New Deal programs. The results were a breathtaking economic decline — with conditions worsening faster than in the crash of 1929. In December, the Federal Reserve made a similar mistake raising interest rates without evidence of an uptick in inflation. The result have been crashing commodities prices and a marked downturn in the stock market.
To put it mildly, this is very bad. Economic capacity is no longer aligned with demand. For a quick example, take a store producing handmade cowboy boots in North Dakota. The demand for luxury boots is a lot higher when oil is at $129, bring well-paid oil workers into the local economy, than when it is at $29. The results are economic dislocation. Even if the production capacity is not destroyed, it will have to move. The boot shop needs to leave North Dakota and relocate Dallas. The difficulties of such relocations tend to produce, at least in the short term, economic decline.
It is time for the Fed to start thinking in the short run. If Trump becomes President during a recession, he has promised to round up illegal immigrants and put them in camps pending deportation. Once people begin to be put into camps, the situation is beyond control or prediction. While a good prediction might be impossible, the historical track record of such situation is not encouraging. However, research has shown that voters only really pay attention to what the economy is doing in the handful of months leading up the election.
What needs to be done is simple, unleash the floodgate and pump money into the economy. Reverse the interest rate hike and return to quantitative easing. Don’t wait for things to get bad, do it now. Among the other benefits of immediate action offer, at least, a glimmer of hope that a quick uptick in the economy might stop Trump from being the Republican nominee. It would be far better to take action when it can plausibly help both Democrats and moderate Republicans, then wait for a situation to develop where action can help only one political party.
Could this produce inflation? In the long run maybe. In the short run, it offers hope for an increase in economic activity. To put it another way, the lag between taking these actions and consumers experiencing a worrisome increase in inflation is likely to be longer than the time between now in the election. In March of 2017, with the markets reassured by a return to political stability in America, inflation running slightly above target, and new President pushing a host of fiscal stimulus extraordinary measures can be slowly wound down. On the other hand, a failure to return to extraordinary measures now may well provoke a political crisis doing far more economic damage than any potential uptick in inflation from a return to QE.