Author: Jamie Davis

The American Rescue Plan Act of 2021, or American Rescue Plan, is a COVID-19 stimulus bill consisting of a package of roughly $1 trillion towards economic recovery and assistance in response to the Coronavirus Pandemic. The American Rescue Plan, or ARP, was signed into law by President Biden on March 11, 2021 as an extension of the previous stimulus package. The passing of the ARP comes a year after the Coronavirus Aid, Relief, and Economic Security Act, or the CARES Act, which was signed into law by President Trump on March 27, 2020. 

Components of the ARP

The ARP contains many extensions of provided benefits under the CARES Act. One of the prominent extensions included in the ARP is the Pandemic Unemployment Assistance, or the PUA, which is an unemployment insurance program that covers unemployment benefits for qualifying citizens. Under the CARES Act, the PUA was scheduled to terminate in December of 2020 after providing 39 weeks of benefits. This timeline has been extended to 79 weeks under the ARP, providing benefits through September 6, 2021. However, the ARP only gives states the option to extend unemployment benefits, since the power to give out unemployment benefits rests with individual states.

The ARP also provides pandemic relief for state and local governments through “$219.8 billion, available through December 31, 2024, for states, territories, and tribal governments to mitigate the financial consequences of COVID-19.” This funding is directed to be used as pandemic relief, such as assistance for households, small businesses, nonprofits, or commercial industries; increasing employee wages or providing grants to employers; aiding to resolve the reduction in state revenue, territories or tribal governments; and investing in infrastructure.

The bill also provides relief via tax cut: for people who claim the extended unemployment benefits, up to $10,200 will be waived from their federal taxes. This component of the law will have the largest effect on the deficit according to the Congressional Budget Office. 

Critiques of the ARP

Many argued the ARP was unnecessary considering unemployment rates showed a decreasing trend months before the ARP was passed (seen in Figure 1 and Figure 2). National and state unemployment rates were increased by the consequences of COVID-19. However, these trends shifted after the first stimulus packages from the CARES Act came into effect, causing a steady decrease in national and state unemployment rates through late 2020 and into 2021. The ARP was passed in March of 2021 while unemployment rates were decreasing throughout the United States. This led some economists and politicians to consider the plan excessive or unnecessary, as the ARP includes not only stimulus covering the repercussions of the health crisis, but also a multitude of unemployment programs.

Source: Congressional Research Service

The above graph displays the United States’ national unemployment rate between 2005 and 2021. After hitting a peak of 14.8% in April of 2020, the unemployment rate began a steady decline, reaching 5.8% in May of 2021. 

Disputes over the unemployment provisions of the American Rescue Plan remain contentious and are largely fueled by a fundamental disagreement over the role of government in economic policy. One side advocates for laissez-faire capitalism—a system in which the government stays out of the economy and allows individuals to independently make economic decisions. The other is in favor of a more Keynesian approach. Keynesian economics theorizes that increased government spending and lower taxes are necessary during economic downturns in order to stimulate the economy. Those who support Laissez-faire economics believe that government intervention in free markets creates market distortions in the long run, in this case potentially discouraging those receiving benefits from actively seeking new employment. There are further concerns that these temporary provisions may remain in place even after the economy recovers, resulting in a soaring deficit. On the other hand, believers in Keynesian economics argue that the government has a responsibility to provide bailouts and other forms of support to citizens during recessions. Proponents of this view point out that shutdowns in the interest of public health caused unemployment to soar and argue that the unemployment compensation will bolster the economy.

The debate over this provision boils down to a debate over liberty versus equity, with advocates for liberty arguing in favor of lower taxes and minimal social safety nets, while advocates for equity argue that greater public welfare is more important than lower taxes. Equity proponents point to studies that estimate the expansion of the child tax credit could reduce child poverty in the US by 45%, lifting millions of children out of poverty. Conversely, liberty proponents say that money belongs to those who earn it, that private individuals use capital more efficiently than the government, and that high taxes discourage investment.

The ARP also designates nearly $350 billion for states’ budgets, which cannot run deficits in the same manner as the national government. $220 billion of those funds are for states to balance their budgets, which have suffered as a result of the COVID-19 recession, according to the Biden administration. The rest of the funds are specifically designated for states in dealing with the COVID-19 pandemic and its economic focus on reopening in-person primary education. The two categories of education relief are funds to address learning loss due to online schooling and virus mitigation efforts in school, particularly improving ventilation.

Once again, disagreements here can be understood as an argument between Laissez-faire capitalism and Keynesian economics. Critics of this provision point out that many states—including California, New Jersey, Texas, and Arizona—ended the fiscal year with surpluses, arguing that this aid is misdirected and that unconditional bailouts for pension funds represent a moral hazard, a fundamentally Laissez-faire argument. Proponents of Keynesian economics largely support the federal aid for state governments, arguing that it is about more than just replacing tax revenue lost during the pandemic, and more importantly represents an attempt at boosting economic growth because state governments typically invest large portions of their budgets into economic drivers like education and infrastructure.

Much of the debate surrounding the remaining provisions of the bill is centered on whether or not this bill was truly a coronavirus relief bill, as the Treasury Department claims. Some say that because only 9% of the American Rescue Plan’s funds are for direct COVID-19 relief, the bill is too broad and more closely resembles broad economic stimulus. Whether the bill is understood as coronavirus relief or broad economic stimulus, disagreements over the inclusion of the remaining provisions are again centered around a fundamental disagreement over whether governments should practice Laissez-faire capitalism or Keynesian economics, with Laissez-faire capitalism advocates arguing that the bill represents the government exceeding their ideally minimal role in regulating the economy. On the other hand, Keynesian economics supporters say that these stopgap measures are necessary to help millions of people who are struggling through no fault of their own.

Reflection Questions

• Is the American Rescue Plan a COVID-19 relief bill or broad economic stimulus?
• Are you more in favor of Laissez-faire capitalism or Keynesian economics?
• What parts of the ARP would you prefer the federal government renew or make permanent?
• What do the details about the funding mechanisms reveal about federalism and its constraints on national policy making?
• Where in your daily life do you observe the ARP’s footprint?

Monetary policy refers to the actions that a nation’s central bank engages in to influence the amount of money and credit in its economy. Such policies directly affect the interest rate, which indirectly affects spending, investment, production, employment, and inflation. Ideally, central banks are an independent government entity. While their operations are accountable to citizens and the government, other branches of government cannot directly control the central bank. 

In the United States, the central bank is the Federal Reserve. Monetary policy consists of the Federal Reserve’s strategies to promote price stability, moderate long-term interest rates, and maximum employment.  The Fed works towards these goals through three primary instruments: open market operations, the discount rate, and reserve requirements. The Federal Open Market Committee (FOMC) is the Fed’s main monetary policymaking body.

Contractionary and expansionary monetary policy are the two primary avenues of monetary policy. Contractionary monetary policy decreases the supply of money while expansionary monetary policy increases the supply of money in an economy. When GDP is high and the inflation rate is climbing, the Fed engages in contractionary monetary policy. Conversely, during periods of low GDP and high unemployment, the Fed utilizes expansionary monetary policy. 

During periods of high unemployment, individuals’ disposable income declines from a lack of stable income. This causes the demand for goods and services to decline. Businesses tend to suffer from this decline in consumption, which is often accompanied by a drop in GDP. The Federal Reserve responds to rising unemployment by boosting aggregate demand, the sum of spending by households, businesses, and the government in an economy. Heightening the demand for goods and services— expanding the economy— increases production of such goods and services; businesses then begin to employ additional workers to meet the supply of goods demanded by consumers. 

The Federal Reserve increases aggregate demand through the federal funds rate. Set by the Fed, the federal funds rate is “the rate that banks pay for overnight borrowing in the federal funds market.” Changes to the federal funds rate triggers changes to other interest rates in the economy. Thus, the Fed can indirectly decrease interest rates. Households and businesses are encouraged to borrow and spend, which promotes overall economic activity and growth. Specifically, the economic position of businesses improves, affording them the opportunity to hire additional workers.

For example, in 2020 the unemployment rate more than tripled and GDP sharply declined. The U.S. economy depressed, entering a period of recession in the business cycle. Accordingly, the federal funds rate greatly declined in 2020 to increase the money supply and encourage household investment and spending. A similar phenomenon occurred during the recession of 2007-2009. The federal funds rate dips as the unemployment rate increases. Conversely, the federal funds rate remains relatively constant and increases only slightly when unemployment rates are declining. 

While the Fed aims to reduce unemployment by increasing the demand for goods and services, a growth in aggregate demand also causes wages and the cost of goods and services to increase. This increase in the price level results in inflation. Thus, there exists a short-run tradeoff between reducing unemployment and experiencing inflation. This tradeoff is called the Phillips curve. 

The inflation rate is determined by three factors: cyclical unemployment (the deviation of unemployment from the natural rate), expected inflation, and supply shocks. The addition of the latter two factors to the curve occurred following the stagflation of the 1970s. The oil crisis of 1973 highlighted the effect of supply shocks and stagflation on the long-run aggregate supply curve. Experts also realized that once inflation is already occurring, the tradeoff between unemployment and inflation disappears.

This process can be seen during Fed Chairman Paul Volcker’s disinflation throughout the 1980s. In early 1980, inflation reached a peak of 11%. The Fed brought down the inflation rate to 4% by the end of 1983. Engineering this reduction in inflation required a loss of twenty percentage points of GDP; the U.S. experienced two recessions, one of which was the largest cumulative business cycle decline of employment and output in the post-World War II period. Disinflation is often not painless. However, the costliness of new policies to reduce inflation are often influenced by their credibility. Forecasting the results of new policies requires predicting how the public will view such policies, which is often difficult. 

Most economists believe that the Phillips curve operates in the short run: fluctuations in aggregate demand only affect unemployment and output in the short run. Over the long-run, unemployment returns to its natural level. However, some experts argue that changing the real interest rate influences not only the actual unemployment rate but also the natural rate of unemployment. The Phillips curve represents a traditional understanding of unemployment and inflation. It continues to guide the Fed’s forecasts and policy decisions. In recent decades, the relationship between the two variables has weakened, flattening the curve. Experts have expressed concerns about the reliability of the curve as an effective tool to direct monetary policy. 

Engaging in expansionary monetary policy for an extended period of time may allow for greater systemic risk in the system, leading to the emergence of an asset bubble. Asset bubbles occur when assets increase over a short period of time, unsupported by the value of the asset. During these periods of instability, some Fed’s decisions may increase economic vulnerability. Such was the case in the 2000s, when the Fed cut interest rates to historically low levels during the recession of 2001. While low interest rates helped the economy recover, they also played a role in easing the process of getting a mortgage and buying a home. Housing demand and home prices drove up, creating the housing bubble which ultimately burst. 

Critics claim there needs to be stronger regulatory responses by the Fed to combat instability caused by monetary policy decisions. However, the effectiveness of monetary decisions on economic stability are hindered by the presence of lags on policy. Implementation lags are short term, influenced by the open-market operations required by policy changes to be put into immediate effect. Impact lags are more long term and are influenced by multiple factors, such as the deposit expansion process delaying, firms and businesses needing time to adjust to interest rates, and delaying effects of changes to exchange rates and net exports.

Another long-term concern of expansionary monetary policy is that countries are increasingly susceptible to falling into the liquidity trap. This trap occurs when low interest rates align with low investment spending. To combat the possibility of a liquidity trap, the Fed utilizes expansionary monetary policies. 

Other economists believe that central banks can further expand the economy when the interest rate hits the lower bound of zero. Lowering longer-term interest rates, for example, through forward guidance and quantitative easing can stimulate the economy. 

Some experts argue that monetary policy affects not only the actual rate of unemployment but also the natural rate of unemployment. A clear instance of this phenomenon can be seen during recessions, which may also leave permanent scars on the economy. For example, the job search may become permanently inhibited as skills or motivation to find employment diminishes; thus, the amount of frictional unemployment increases. Moreover, real wages may be pushed above equilibrium level, leading to an increase in the amount of structural unemployment. 

Reflection Questions:

1. Do you agree or disagree with critics that there needs to be stronger regulatory responses by the Federal Reserve to combat instability caused by monetary policy decisions? 

2. Would you say the Phillips Curve is a reliable tool to direct monetary policy? 

3. Are you in favor of lowering longer-term interest rates, such as through quantitative easing, to stimulate the economy? 

4. How would you like to see changes in monetary policy of the Federal Reserve, specifically for an indirect effect on unemployment rate?