Pressure Points

Key points

• We take a step back and focus for the last Macrocast of 2020 on the new "big government" zeitgeist.

The next Macrocast will come out on January 11th. We want to thank our readers for their attention and feedback throughout 2020 and wish you the best possible festive season and a great year 2021.

As 2020 is drawing to a close we want to take a step back and discuss the return of “big government” which we think may be a lasting legacy of the ongoing crisis, even if it did not start with the pandemic. Our impression is that traditional, centrist political forces in the western world were in any case already responding to the general populist push by embracing more government intervention. On the centre-left Joe Biden’s “most progressive agenda since the 1960s” predates Covid. On the centre-right, the British Conservatives won the last election on a spendthrift manifesto, heavy on state transfers.  The pandemic accelerated this transition, for lack of alternative – monetary policy didn’t have enough room for manoeuvre to start with and is probably fundamentally ill-equipped to deal with this sort of shocks – and because the sense of urgency precipitated the intellectual conversion to a fairly old version of Keynesianism. 

Looking ahead, this “big government” zeitgeist will make it difficult for mainstream politicians to even start talking about the future necessary fiscal consolidation. Popular focus on inequality – which has probably intensified since the beginning of the pandemic – will fuel demand for more redistribution, while a generational conflict for scarce government resources may arise, given the well-documented deterioration in relative income for the millennials and the structural rise in the cost of ageing on public expenditure. It will be tempting to solve the equation with more tax, but this may merely displace the issue – if a large fraction of the middle class is hit by high taxation, this may fuel populism even more. It is also plausible that at least in some countries – in particular the US – redistribution is complemented by action on primary inequality (e.g. wages determination), shifting the pendulum back in favour of organized labour. This could prolong the US discomfort with free trade.

Central banks will be under pressure to act as the politically neutral “adjustment valve” which keeps everything together. At the beginning – and we think for sure in 2021 – this will work just fine. But in the long run we would be creating a “pressure cooker”.  There is another path, albeit a narrow one: diverting the bulk of this “big government” zeitgeist to projects which would ultimately lift productivity and hence potential growth, instead of transfers. There are elements of that in Biden’s platform as well as in the EU’s Next Generation Pact. They need to be nurtured.