The three biggest economic policy problems of our time

As I see it, governments and central banks are currently facing three major economic policy problems.  First, there is the problem of how to manage the economy when interest rates are stuck at zero.  Second, there is the problem of how to deal with rapidly rising debt levels.  Third, there is the problem of how to deal with rising income inequality.  What is interesting is that in each of these problems, public finance economists are likely to play a key role in finding the solution.

When interest rates are stuck at zero, central banks can no longer manage the ebbs and flows of the business cycle by changing interest rates, so they will need a new policy tool to fulfill that role, and one likely candidate is to give central banks some control over fiscal policy.  Central banks can probably muddle through if interest rates remain at zero temporarily, but if this is a permanent problem, then it does probably make sense to start figuring out how the central bank might gain some control over government finances by sending out direct payments to individuals.  This is one key example where public finance economists are going to have to work together with macroeconomists to build a whole new policy framework that gives the central bank the ability to fulfill one of their primary functions over the long term going forward into the future by incorporating tools that come from fiscal policy.

Over the next several decades, governments are also going to have to worry about rising levels of debt whether this is due to dramatic new economic shocks like the housing bubble or the pandemic, or because interest rates are stuck at zero and governments need to run persistent budget deficits just to keep the economy performing at potential.  If the first problem had the public finance economists bailing out the macroeconomists by giving central banks some control over fiscal policy, the second problem has the macroeconomists bailing out the public finance economists by having central banks buy up lots of government debt through quantitative easing.  If interest rates remain stuck at zero as debt levels continue to rise, central banks will likely be doing a whole lot of QE during that time as well, so that even if debt levels go up, much of that debt will be held by central banks.  If central banks continue to roll over that debt in perpetuity and promise to buy more debt if there threatens to be a run on government debt, than it could be the central banks that keep governments from experiencing a debt crisis.  That means on both of these first two problems, public finance economists and macroeconomists are going to have to work together so that both of these highly critical economic problems can successfully get resolved.

In many rich countries (especially the English speaking ones), there has also been a persistent trend of growing income inequality, and public finance economists will likely play a key role in resolving this problem too.  Tax policy will clearly play a big role, as declining marginal tax rates on the rich is likely one of the causes, and increasing marginal tax rates on the rich is one of the likely solutions as well.  Figuring out how to make sure the rich pay their fair share in taxes will likely be left to the tax policy experts, and they might play a key role in deciding how that tax money gets distributed as well, since that could involve expanding tax refunds for low and middle income people.  

That puts public finance economists at the heart of all three of the major economic problems governments and central banks currently face, and I remember the time when I was beginning my career in public policy and had to decide on my application for a research assistant position at Brookings what field I wanted to go into.  I chose budget and tax policy as my preferred field and after I started working on the topic I was always struck how important those issues really were, since tax policy experts routinely dealt with proposals with costs in the trillions and even a billion dollars was just considered a rounding error.  What was especially surprising to me was how few people there were working on tax policy issues at the time, and now public finance economists are even more important than ever.  If people are trying to figure out how to have a big impact on the world, public finance as a field is a good place to start, and tax policy should be one key aspect that young public finance economists should also give special attention to learning.