Should the Russian incursion into eastern Ukraine turn into a full-fledged invasion, it is likely that the global and U.S. economies will absorb yet another supply shock.
With a robust economy and tax revenues surging, policymakers can look at measures to mitigate further stress on lower-income households caused by rising inflation.
Energy prices will most likely surge in its aftermath, sending inflation higher than the current 7.5%. At this point, given the links among those geopolitical tensions, energy prices, inflation and the condition of the domestic economy, it is appropriate for the federal government to consider the well-being of the three lower quintiles of income earners.
With a robust economy and tax revenues surging, policymakers can look at measures to mitigate further stress on those households caused by rising food, fuel and goods prices.
Mitigation of energy shocks is mainstream policy in other advanced economies like the United Kingdom. It now makes perfect sense that policymakers consider reviving the recently terminated child tax credit to ease the inflation following a widening of the conflict in Ukraine.
We recently modeled the impact an energy shock would have on the U.S. economy. Such a shock would shave 1% from gross domestic product over the next year and boost inflation by 2.8 percentage points, which would result in a 10% inflation rate on a year-over-year basis.
We realize that many would ask if more federal spending would result in higher inflation. No, the energy shock would cause slower growth. Should energy prices increase more than our baseline expectation of 20% to, say, near 40%, we will be talking about a premature end of the business cycle, which in and of itself will bring down inflation.
During the pandemic, the federal government tried to mitigate the loss of income caused by the pandemic. As a result, we have a ready-made program that could be quickly revived to provide direct cash to stressed households and cushion the adjustment caused by tensions in Ukraine.
As costly as another European war would be in human and economic terms, its economic burden in the United States would fall hardest on the middle and working classes.
It makes sense for the federal government to provide direct relief to beleaguered households so they can purchase food, fuel, clothing and shelter, in addition to defraying child care and school-related expenses.
The child tax credit has been demonstrated to work and will be needed should another supply-induced energy shock hit households.
The takeaway
With the United States is moving toward a complete reopening of the economy amid sharp increase in prices, such a policy would convey to the public that the political authority is doing something about inflation.
