COVID-19, the economy, and how the Government makes things worse

The economic dislocation from COVID-19 need not be as large as it appears at first sight. To see why, consider a simplified perspective, Case A.

Suppose COVID-19 requires shutting down non-essential firms, e.g., theatres, sports events, restaurants, cruise ships. These firms and their employees lose their income. However, those who would have purchased their goods and services have money they otherwise would have spent that exactly equals the lost income of the closed firms and their employees. In principle, the federal government could tax this money away from those who would have spent it and pay it to those they would have spent it on. This would leave all firms and their employees with the same income as before with all essential services being provided exactly as before.

Once the COVID-19 crisis ended, all that would be necessary is to cancel the tax, at which time everyone could return to their previous spending patterns.

Case A requires no borrowing, no budget deficit, and no economic hardship on anyone, and a quick return to the previous pattern of economic activity once the crisis is over.

There are several issues with Case A. For example, Case A fails to take advantage of the closed firms’ laid off employees by having them do something useful. This problem implies that implementing Case A should yield a better result than stated, since at least some of these newly unemployed people would do something useful.

Another issue with Case A is that it is not practical to determine who would have spent how much on the closed firms’ goods and services. This makes impractical an accurate assessment of who should pay how much tax. On the other hand, there is no good reason why only the people who would have bought the closed firms’ goods and services should pay the whole tax – that would mean that the closed firms and their employees, who lose nothing under Case A, gain at the expense of their customers. It seems better if everyone shares in paying the tax. This would make things easy – simply charge a surtax on everyone’s current tax bill (remember, the closed firms and their employees retain their gross income in Case A). Call this Case B, which is better than Case A.

Things are not quite so simple. The COVID-19 crisis requires large additional expenditures for health care, although not as large as it appears at first sight, because only incremental costs must be counted.

Incremental medical goods and services come at the expense of leisure time and giving up production and consumption of other items to provide the time and materials to produce medical goods and services for COVID-19 use. All this is a rearrangement of the use of person-hours in real time and represents only a re-allocation of resources, not magically creating them. Consequently, just as above, increased taxes are feasible that pay for it all with no borrowing and no budget deficit, and as few adverse consequences as possible.

Contrast the above with what Government is doing, including a huge budget deficit, indiscriminate payments to most taxpayers, and, roughly, reallocating resources as if COVID-19 treatment is more valuable than anything else.