Home > More Fiscal Stimulus in the United States – Is It Needed?

More Fiscal Stimulus in the United States – Is It Needed?

The U.S. Senate has approved over the weekend a new round of fiscal stimulus. The emergency spending, $1.9 trillion, comes on top of the $4 trillion already spent before Joe Biden became president. 

The vast amount of money dwarfs anything seen in other parts of the world. For example, a quick comparison between the United States’ fiscal response and the one in the Eurozone reveals a huge difference. Not only that Europe is more conservative, but the fiscal stimulus is less than half of the output gap, while in America it is more than double.

Implications for Financial Markets

Based on what happened in the past with the previous checks received by Americans, a big part of the stimulus will be saved. The savings rate did increase during the health crisis, as it does on economic uncertainty.

Also, a big part of it will find its way to the stock market. Americans, and especially retail traders, have invested part of the stimulus money they received, so the stock market should get another boost on the back of it.

How about the dollar? How come that the dollar is rising when the logical response should be the opposite?

The answer comes from the world’s reserve status that the American dollar has. Most debt in the world is issued in American dollars, and the health crisis led to nations’ debt level increasing dramatically. However, such debt needs to be paid sometimes down the road, in the form of interest and principal. Therefore, the demand for dollars increases exponentially as the world issues more debt denominated in dollars. More precisely, despite the fact that the Fed keeps an easy monetary policy and despite the huge fiscal stimulus, the world needs dollars.

At this point, the debate is whether the new round of stimulus is needed or not? After all, the NFP report last Friday showed a strong labor market and a declining unemployment rate. In other words, the economy is recovering much faster than expected. Therefore, some critics argue that the new round of fiscal stimulus will lead to the economy overheating and inflation shooting much higher than the Fed wants.

The months ahead are critical to the inflation narrative, especially because the price of oil is above $65. Higher oil prices coupled with more dollars on the market may lead to much higher inflation that the Fed wants to see.

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