If the economies of the world undertake $6 trillion in deficit spending for fiscal stimulus this year, what happens next year, if the stimulus is not renewed or increased? This is an arithmetic question. To keep fiscal spending adding to economic growth, you have to increase it each year. Do the math: If you add $6 trillion to the global economy this year, it will boost GDP growth by $6 trillion this year. That is about 6% of world GDP, conveniently, so it adds six percentage points to whatever growth otherwise would have been. To add those same six percentage points next year, you would have to double deficit spending to $12 trillion. If you hold fiscal deficit spending at $6 trillion next year, fiscal policy will be only neutral for economic growth. Let 2020 spending lapse altogether, and it will subtract six percentage points from the GDP growth rate.
We faced this kind of a fiscal cliff last in 2012-13, when tax cuts in the United States were set to lapse. In today’s case, global fiscal stimulus will lapse within a year unless it is increased. The world has neither the capacity nor the appetite for perpetual increases in fiscal deficits. So there is a fiscal cliff looming on the horizon. Brace yourself for it. Policymakers will have to ready their preparation for a policy-induced economic crunch in the first quarter of 2021, if not sooner.