I think Paul Krugman nails the problem:
... we've got all of Washington, all of Brussels, all of Frankfurt saying debt, deficits, this is the big problem. And what we actually have in reality is markets are terrified of prolonged stagnation, maybe another recession. They still see U.S. government debt as the safest thing out there, and are saying, if this was a reaction of the S&P downgrade, it was the market's saying, "We're afraid that that downgrade is going to lead to even more contractionary policy, more austerity, pushing us deeper into the hole."
So it's a reality test, right? So we just had a wake-up call that said, "Hey, you guys have been worrying about the entirely wrong things. The really scary thing here is the prospect of what amounts to a somewhat reduced version of the Great Depression in the Western world."
I would say things have already gone from bad to worse. I mean, this is a terrible, terrible situation out there. You know, we talk about it, we look at GDP, whatever. We have nine percent unemployment and, more to the point, we have long-term unemployment at levels not seen since the Great Depression. Just an incredibly large number of people trapped in basically permanent unemployment.
This is something that desperately needs addressing. And I would be saying we should not be trying one tool after another from the toolkit a little bit at a time. At this point, we really want to be throwing everything we can get mobilized at it.
I don't think fiscal stimulus is – is a magic bullet. I'm not sure that inflation is a magic bullet in the sense that it's kind of hard to get, unless you're doing a bunch of other things. So we should be trying all of these things.
How did the Great Depression end? It ended, actually, of course, with World War II, which was a massive fiscal expansion, but also involved a substantial amount of inflation, which eroded the debt. What we need - hopefully we don't need a world war to get there - but we need this kind of all-out effort which we're not going to get.
But the main thing to say is, look, think about the costs versus benefits right now. Basically, the U.S. government can borrow money and repay in constant dollars less than it borrowed. Are we really saying that there are no projects that the federal government can undertake that have an even slightly positive rate of return? Especially when you bear in mind that many of the workers and resources that you employ on those projects would be otherwise be unemployed.
The world wants to buy U.S. bonds. Let's supply some more, and let's use those bonds to do something useful which might, among other things, help to get us out of this terrible, terrible slump.