Fiscal policy in the COVID-19 era

Chris Murphy

CAMA Working Papers from Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University

Abstract: This paper analyses the COVID recession and the large fiscal policy response by modelling three scenarios using a macro-econometric model. Scenario comparisons show that the recession mainly arose from restrictions on certain consumer services to limit the spread of COVID-19. The large fiscal response to compensate for the income losses in the restricted industries meant that unemployment was 2 to 3 percentage points lower in 2021-22 and 2022-23 than otherwise would have been the case. However, there was over-compensation: for every $1 of income the private sector lost due to the restrictions, fiscal policy provided $2 of compensation. With the lifting of restrictions, the economy recovered, but the aftereffects of over-compensation generate excess demand driving inflation to a forecast peak of about 6 per cent in 2022 and 2023. Overcompensation can also have disincentive effects, as seen in the three forms of overcompensation in the JobKeeper program that led the fiscal response. The primary lesson for future pandemics is that fiscal policy should compensate, but not overcompensate, for income losses from health restrictions, both in aggregate and at the program level. The secondary lesson is that monetary policy needs to take more account of the stimulus already provided by the fiscal response, so that interest rates do not remain very low for too long.

Keywords: fiscal policy; COVID; econometric modelling; macroeconomic outlook; JobKeeper (search for similar items in EconPapers)
JEL-codes: E37 E62 E63 H32 H68 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2022-03
New Economics Papers: this item is included in nep-ban, nep-mac and nep-pub
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Persistent link: https://EconPapers.repec.org/RePEc:een:camaaa:2022-27

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