Disappointing Growth Shows Diminishing Return of Stimulus

August 2, 2021 Updated: August 3, 2021


The U.S. economy recovered at a 6.5 percent annualized rate in the second quarter of 2021, and gross domestic product (GDP) is now above the pre-pandemic level. This should be viewed as good news—until we put it in the context of the largest fiscal and monetary stimulus in recent history.

With the Federal Reserve purchasing $40 billion of mortgage-backed securities (MBS) and $80 billion in Treasuries every month, and the deficit expected to run above $2 trillion, one thing is clear: The diminishing effect of the stimulus isn’t just staggering; the increasingly short impact of these programs is also alarming.

The GDP figure is even worse, considering the expectations. Wall Street expected a GDP growth of 8.5 percent, and most analysts had trimmed their expectations in the past months. The vast majority of analysts were sure that real GDP would comfortably beat consensus estimates. It came in massively below.

What’s wrong?

In recent times, mainstream economists have only discussed the merits of stimulus plans based on the size of the programs. If it isn’t more than a trillion U.S. dollars, it isn’t even worth discussing. The government continues to announce trillion-dollar packages as if any growth at any cost is acceptable. How much is squandered, what parts aren’t working, and, more importantly, which packages generate negative returns on the economy are issues that are never discussed.

If the eurozone grows slower than the United States, it’s always blamed on the allegedly smaller size of the stimulus plans, even if the reality of the figures shows otherwise. The European Central Bank balance sheet is significantly larger than the Fed’s relative to each economy’s GDP, and the endless chain of fiscal stimulus plans in the eurozone is well documented.

In the United States, we should be extremely concerned about the short and diminishing impact of monster stimulus plans. Paul Ashworth at Capital Economics warned that this is more evidence that the stimulus provided surprisingly little bang-for-its-buck, stating that “with the impact from the fiscal stimulus waning, surging prices weakening purchasing power, the Delta variant running amok in the south, and the saving rate lower than we thought, we expect GDP growth to slow to 3.5 percent annualized in the second half of this year.”

The so-called consumption boom that many expected for 2021 and 2022 after the high savings increase during the lockdowns is now more than questionable.

Real consumption probably contracted in May and June, the consensus has made downward revisions to income growth estimates, and the saving rate is estimated to have fallen to 10.9 percent in the second quarter, very close to the trend-average of 9 percent. Residential investment contracted by 9.8 percent and federal non-defense spending contracted by 10.4 percent (pdf) even with massive deficit spending.

The 0.8 percent monthly increase in headline durable orders in June was also a lot smaller than consensus had expected. Excluding transport, it was worse at just a 0.3 percent month-on-month rise (pdf).

Inflation is eroding citizens’ purchasing power and weakening the margins of small and medium enterprises.

This, again, is the proof that neo-Keynesian “spend at any cost” policies generate a very short-term sugar rush followed by a long-term trail of debt and zombification. This disappointing 6.5 percent annualized gain in second-quarter GDP, well below the consensus at 8.5 percent, is even worse when considering the monster size of the fiscal and monetary stimulus, with declines in residential investment and a bigger drag from inventories.

Something is very wrong when U.S. GDP is growing at 6.5 percent, but salaries are growing only at 3.5 percent (pdf), with inflation at 4 percent annualized and the personal consumption expenditures (PCE) price index at 6 percent, weekly jobless claims at 400,000, and continuing claims at 3.3 million (pdf). In March 2020, jobless claims were approximately 220,000 per week.

With these figures, it isn’t a surprise to see that the University of Michigan consumer sentiment index has fallen to a five-month low of 81.2 in July, from 85.5 in June, driven by both the current economic conditions and consumer expectations indices, with the former falling to 84.5 from 88.6 and the latter showing a slump to 79.0 from 83.5.

The 0.6 percent increase in retail sales in June was a decline in real terms, as consumer prices rose by 0.9 percent (pdf). May’s decline in headline sales was revised to a worse figure, down 1.7 percent from the down 1.3 percent previously published (pdf). Is this a healthy economy? No.

The entire stimulus plan is doing nothing to improve job recovery or create real economic improvement. The real economy collapsed due to the lockdowns and is recovering thanks to the vaccination program and reopening; almost all of the rest of those trillions of dollars spent on questionable programs is generating no real effect. We can even say that jobless claims should be half of what they are today in a normal recovery and that massive government intervention is slowing the improvement.

I discussed recently in this column that the recovery would be stronger without such massive stimulus and that debt wouldn’t rise exponentially. What can’t be denied is that the government and economists need to start looking at these programs and monitoring their results, not just adding another zero to the next stimulus program and hoping for the best.

The disappointing quarter GDP is also a concern because the slowdown will likely be abrupt and leave a trail of debt that will be difficult to reduce. However, if governments can spend all they want, they will always blame the weak results on not spending enough.

Does this mean that nothing should have been done? No. To ensure a robust recovery and lower inflation, the government should have implemented supply-side measures, tax rebates, and supported job creation by boosting business start-ups and helping small and medium enterprises, not bloating federal programs that have nothing to do with COVID-19 by using the pandemic as an excuse to do so.

This is yet more proof that you can’t print and spend your way to prosperity. The lesson is that artificially bloating GDP and inflation always hurts the economy in the long run, especially the middle classes, who suffer both a loss of purchasing power and difficulty saving.

Daniel Lacalle, Ph.D., is chief economist at hedge fund Tressis and author of “Freedom or Equality,” “Escape from the Central Bank Trap,” and “Life in the Financial Markets.”

Views expressed in this article are the opinions of the author and do not necessarily reflect the views of The Epoch Times.

Daniel Lacalle
Daniel Lacalle
Daniel Lacalle, Ph.D., is chief economist at hedge fund Tressis and author of “Freedom or Equality,” “Escape from the Central Bank Trap,” and “Life in the Financial Markets.”