President Trump’s Challenge: How To Return The Economy To Normal After Years Of Unrelenting Stimulus
Can President Trump manage the economy if it begins to slow? It’s an important question that will likely determine the success or failure of his second term in office. Historically, the federal government has boosted the economy anytime they project a recession ahead. However, President Trump is removing much of that fiscal stimulus with his push to streamline government and reduce waste. Like a man on the high wire, he exponentially increases the risk of recession. Here’s the story of how this all came about.
The Keynesian Strategy
It’s a strategy first proposed by Economist John Maynard Keynes in the 1920s. After the Wall Street Crash of 1929, President Franklin Roosevelt’s Administration, following this untested Keynesian strategy, boosted Federal Spending from less than 3% of GDP to nearly 8% of GDP by 1932. This dramatic flood of dollars (labeled “priming the pump”) helped boost the economy from the general depression.
Historians quickly point out that World War II finally ended the Depression with its excessive “Stimulus” during the 1940s. At the peak of War Spending, the Federal Government spent 40 cents on every dollar in the economy. It was “Stimulus” on steroids.
By the end of the War, Washington was convinced that the way out of economic hardship was to have the Federal Government spend, spend, spend. Of course, much of this Spending was through issuing Government Bonds, borrowing our way to prosperity.
For nearly 80 years, Washington managed the economy this way. At the hint of a coming recession, the Federal Government would boost its Spending to put dollars into circulation, “prime the pump,” and lead the economy into better times.
Throughout the remainder of the 20th Century, a benchmark came into use. It was generally assumed, at least in practice, that as long as the Government kept its stimulus level below 20% of GDP, that was acceptable, and the Country could recover.
Aside from two blips, under Presidents Reagan and Bush I, the nation adhered to this benchmark: Fiscal Stimulus did not exceed 20%. This provided much-needed discipline to Government Spending.
2008 Global Financial Crisis
The Global Financial Crisis and the correspondent Recession of 2007–09 resulted in the loss of asset values, from the Dow Jones Industrial Average, which fell by 45%, to the price of an average American home. Anyone relying on these assets to secure their loans found themselves in trouble.
Banks, Savings and Loans, and Mortgage lenders of all types began to foreclose on “ underwater “ loans that didn’t have sufficient collateral. Several major financial institutions, including Citibank, were in danger of closing. The thought that one of the nation’s big four banks and a couple of major brokers would go out of business started a wave of panic selling in the markets.
Once again, the Federal Government was called on to boost Spending (Fiscal Stimulus). Within days, the Government was spending at over 24% of GDP, the highest level since World War II, 60 years before. However, more money was needed to boost the economy, so Washington looked to the Federal Reserve. Treasury asked the Federal Reserve to provide a trillion dollars to stem the tide, which they did. This was the introduction of Quantitative Easing. Altogether, the Federal Reserve’s “Balance Sheet” (2008 Assets held) expanded to over $2 trillion, the highest level ever.
Now, Washington was providing two levels of Stimulus: Fiscal Stimulus (Government Spending, 24% in 2008) and Quantitative Easing (Federal Reserve Assets, 2.2 Trillion in 2008).
The nation was well on its way to becoming a Stimulus-dependent economy. From 2008 onward, the old “ceiling” of 20% of GDP spending became the new “floor,” with fiscal stimulus (Spending) exceeding that 20% level almost every year since then.
It was as if we couldn’t live without the extra economic boost that Stimulus provided—stimulus that now came from both the Federal Reserve (QE) and the Federal Government (Fiscal Stimulus).
Of course, none of our politicians dared challenge this “New Economy.” Stimulus made everything hum, financial markets rallied, the price of homes climbed, and the balance sheet for the wealthy grew and grew.
What might happen if the Stimulus was removed? No one dared ask.
The COVID-19 Crisis
Regrettably, just 12 years after the Global Financial Crisis, America was hit with yet another catastrophe, the COVID-19 Pandemic. The leaders in Washington and many State Capitals urged citizens to stay home if possible, non-essential businesses were shuttered, and commercial activity ground to a halt. The second quarter of 2020 saw the economy decline by 30% annualized, a drop worse than the Great Depression. Again, the Federal Government and the Federal Reserve came to the rescue.
Only this time, they outdid themselves. The Federal Treasury spent like there was no tomorrow. In 2020, over 30% of all economic expenditures came from the Federal Government, while the Federal Reserve pumped over $5 trillion into the financial markets, bringing the Central Bank’s total assets to over $9 trillion, by far the highest ever.
None of this will surprise President Trump; he was there at the beginning of COVID.
Since then, the world has seen dramatic geopolitical change. Changes such as wars in Ukraine and Gaza, the dominance of technology, and mass migration throughout the Western World. However, from an economic perspective, much of the same trends continue from when Trump first was last in the White House.
Although fiscal spending has declined somewhat (from 30% to its current 23%), it is still well above what is considered “normal” for a recovery. Although the Federal Reserve’s assets have dropped from $9 trillion to $7 Trillion, Fed assets are still more than double the level before the Covid Crisis.
Although much reduced, these two moves indicated that Fiscal Stimulus and Quantitative Easing continued to boost economic activity. We remain far from a normally functioning financial system.
President Trump’s Challenge
However, President Trump's latest move promises to reduce Fiscal Stimulus much further. The heavily touted DOGE Team continues to chip away at a bloated bureaucracy, promising to reduce Federal Spending even more. Trump’s suggesting that the Fed lower interest rates would help reduce the interest burden on both the Fed’s Balance Sheet (QE) and the Nation’s Bond Service, which now exceeds $1 trillion annually.
In less than a month in office, Trump has made it apparent that he wants to reduce government spending (Fiscal Stimulus) and likely reduce Quantitative Easing (the Fed’s Balance Sheet). He is the first politician willing to move us beyond Stimulus to fiscal responsibility.
For sixteen years, Washington has behaved as if the Global Financial Crisis never ended — piling unsustainable debt levels onto the financial system, inflating asset prices while burdening those who pay taxes (individual and corporate). With every move he makes to streamline Government and remove waste, Donald Trump reduces the Fiscal Stimulus.
It is an overdue process—one that is essential for America’s long-term financial viability. We can only wish him well; it will not be without pain.
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