It is the subject of my latest Bloomberg columnhere is an excerpt:
Estimates of the magnitude of the energy price shock vary, but one plausible element Evaluation fluctuates between 6% and 8% of GDP for Europe. One response to this shock would be to let energy prices rise and allow the private sector to adjust. This would mean higher manufacturing costs, higher home heating bills, and less disposable income to spend on other goods and services. Basically, it would be like the energy price shock of 1979 and the recession that followed…
That sounds grim, but it’s important to realize that there is a different but equally grim path: Governments could take this energy price shock and turn it into a fiscal shock instead…
If a government covered all of the additional energy costs, it would cost between 6 and 8% of GDP – and this cost would have to be incurred every year that energy prices remain high. This would require more government borrowing, higher taxes, more money printing, or some combination of these options.
The good news is that turning an energy crisis into a fiscal crisis does not propagate high energy costs throughout the economy. The bad news is twofold: first, keeping energy prices low does nothing to encourage conservation. Second, and more importantly, a fiscal crisis is still a crisis. Even if a government avoids additional borrowing, what is the leeway to raise taxes, given economic and political constraints?
Recommended, and with a nod to Arnold Kling.