Markets ≠ The Economy: Fiscal Stimulus
Markets have a habit of going gaga whenever big fiscal stimulus packages are announced, helped on by the financial media who, in these situations, only ever seem to ask “Is it big enough?”.
Here’s another perspective that gets lost in the cacophony: stimulus to households does not work as advertised.
It is not a question of the raw size of the checks, but of sustainability. Sustainability in this case is of course replacing lost income.
To be clear, $600, or $1400 checks are extremely important to families who need assistance in paying their bills and are facing having their utilities cut off, and/or families who cannot afford to buy food. The importance of these checks should not be understated.
Unfortunately, for the economy as a whole, these checks do not do much good simply because it’s cashflow that really matters, with the emphasis on the latter part of the word; because it’s the predictability and stability of future income streams that matters most for the economy.
An individual cannot go to a bank with his stimulus check and ask for a loan, he will get laughed out of the establishment. An individual with an income stream however, can at least get a conversation with a loan officer (whether the loan gets approved is another story).
Because the bank needs to know if someone can repay the loan, which of course is represented by predictable future income. Cashflow.
Stimulus checks do not get people loans. No loans means no new credit entering the economy. No new credit means money supply does not increase, new businesses cannot be created, and consumer spending will struggle to grow meaningfully. This further perpetuates the vicious cycle of poor economic conditions.
What fiscal stimulus can do is buy time for businesses to stay solvent and keep from firing their employees. Of course, since no new money is created in the system, all of this is in the hope that the economy can bounce back quickly and strongly enough before the initial burst in money velocity from people spending their stimulus check fades away.
Why then do markets like to rally when new and large stimulus packages get announced (the bigger the better)?
For the same reason stock markets like to rally on news of QE: paradigm.
Just like with Fractional Reserve Banking, every introductory econ class in university teaches that fiscal stimulus is how governments can intervene in economic cycles to pull economies out of recession. More money in consumer’s pockets means more spending, which means a stronger economy!
Every modern economist knows this, and the majority whole-heartedly buy into it. Every modern politician knows it, and every trader, professional or amateur, will have been exposed to it, if not in school then in the financial media.
Since everyone knows, and to a large extent believes in it… why bother thinking if it actually works? Just buy!
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