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summary

  • Europe and the U.S. Consider State Aid
  • Is China’s Rebound Sustainable?
  • Mortgage Rates Hit Bottom

With movie theaters, concert venues and sports arenas closed, streaming services have enjoyed immense popularity during the pandemic. One offering our family agreed to stream together was “Hamilton,” the hit Broadway show that has been made into a movie.

But while we watched the performance in the same room, members of my household were attracted to different aspects of the production. Some were engaged by the historical narrative; some were inspired by the choreography; and some were mostly into the music.

Not surprisingly, I was most interested in the economics. Hamilton’s gambit to consolidate debts at the federal level was controversial, depicted by some as a bailout of weak states by richer ones. In the present day, both Europe and the United States are confronting difficult questions about the relationship between federal and state finances. The gambits under discussion this summer could bear critically on the prosperity of each union.

After months of difficult negotiations, leaders of the European Union (EU) emerged this week with a landmark fiscal proposal. A stimulus program of €750 billion, financed by common debt, will be presented to members for approval. The money will augment the automatic stabilizers that have kept Europe’s economy afloat over the past few months.

Weekly Economic Commentary - Chart 1 - 07/24/20

Europe has a less-than-perfect union. After the U.K.’s departure, the EU now has 27 members, but only 19 of them use the euro as a common currency. For those 19, the European Central Bank (ECB) sets a common monetary policy, but fiscal policy is largely the province of member states. Some countries have been more frugal, while others have been less so. When the pandemic arrived, the former were in much better positions to react; those on the periphery (financially and geographically) have struggled.

EU members have historically been reluctant to issue common financing, fearing it would dull incentives for fiscal discipline among its members. The Netherlands led a group of more frugal nations who wanted strict terms and conditions for those receiving aid under the proposed accord. Dutch taxpayers wondered, reasonably, why their hard work should subsidize citizens in other countries where the benefits paid to those not working are more generous.

“Europe takes a step toward commingling its finances.”

Ultimately, EU leaders realized that if some of its members struggle, everyone will struggle. Angela Merkel, the German Chancellor, came to this conclusion earlier this year; her conversion from skeptic to supporter was critical to the deal. While conditions will be attached to some of the forthcoming aid (a complex governance structure will oversee disbursements), a significant portion will be considered grants. The money should be viewed as an investment in the economic and political future of the continent.

On the other side of the Atlantic, the pandemic has done substantial damage to U.S. state finances, which are heavily dependent on sales taxes. States are on the front lines of providing medical and social services, which are at risk for cutbacks. Further, state and local governments account for one in eight jobs in the United States; substantial layoffs in the public sector could seriously hinder the recovery.

Weekly Economic Commentary - Chart 2 - 07/24/20

The U.S. federal government appropriated $150 billion of aid to the states earlier this year as part of the CARES Act, but that amount will not be nearly enough to balance local budgets. Earlier this summer, the House of Representatives passed a bill that called for $1 trillion of additional aid to states, but the Senate and the White House have balked at the amount and the design.