| February 9, 2009 Stimulus by the Skin of Our Teeth Economies run on spending. The bursting of the housing bubble, the fall in stock prices, and the credit crisis have caused a massive fall in spending on U.S output. And there’s no source of private spending on the horizon poised to take up the slack. Not consumers (too indebted); not businesses (too few profitable investment opportunities); and not foreigners (the recession is global). So it’s left to the government. A fiscal stimulus should be good politics. As potentially the difference between working and starving for many people, a stimulus package should be a no-brainer for the American public, just like the New Deal. Yet Americans are being suckered into an uninformed skepticism about the idea, with 54 percent now believing, according to a Gallup poll, that the stimulus bill should either undergo “major changes” or be rejected altogether. For a time it even appeared the bill wouldn't get the 60 votes needed in the Senate to overcome a filibuster. This is a seriously dysfunctional state of affairs. First point to understand: every bit of government spending is “stimulus” by definition. The government can hire people to dig holes in the ground and fill them up and that would be stimulus. Why? Because spending is always income. And the recipients of that income will spend a portion of it, which in turn will be income for other people. Those people will spend a portion of that income, etc. Every bit of the accumulated spending occasioned by the initial stimulus adds to GDP. That’s the multiplier process on which the idea of a fiscal stimulus is based. It means that however large is the stimulus, GDP will rise by a still larger amount. We can debate about what is the best use of stimulus money. Undoubtedly repairing a bridge is better than digging holes in the ground. But if there really is a dearth of “shovel-ready” projects, digging holes in the ground is a lot better than nothing. Politicians, pundits, and glib television commentators, who know little or nothing about macroeconomics, should stop telling us what is and isn’t “stimulus.” There are two ways for the government to put stimulus money into the economy: spending and tax cuts. Targeted tax cuts, which people receive for spending, make sense. So do cuts in payroll taxes, since these primarily affect lower income people who spend larger portions of their income than wealthier people. The virtue of tax cuts is that they can be enacted quickly, while spending often takes time. Other sorts of tax cuts, however—general income tax cuts, corporate tax cuts, and capital gains tax cuts—make no sense whatsoever. They all suffer from the same drawback: people save a portion of their tax cuts. So rather than going directly into the economy, as government spending would, tax cuts generally go into bank accounts where a hefty portion of them—witness last year’s tax rebate—will remain, neither raising GDP nor creating jobs. All that shifting the mix of the stimulus from spending to tax cuts accomplishes is to make it harder than it would otherwise be to get out of this mess. Responsible economic policy unfortunately suffers a political handicap. A stimulus bill—basically a list of spending items—is an easy target for demagoguery. Republicans can merely recite lists of items from the bill in a mocking tone to portray it as “pork”: “$20 million for the removal of small to medium-sized fish passage barriers,” says Senator Thune. “$1 billion for the 2010 census,” says Senator Brownback. “$150 million for honey bee insurance,” says Senator McCain. “$208 million for disconnected youth.” Senator Thune again. And Senator Brownback managed this non sequitur: “$50 million for the National Endowment for the Arts. That all may be fine. But that’s not a stimulus package. That’s a spending package.” Rhetorically this packs a punch. But economically it’s senseless. Few of the items listed by the Republicans are particularly ideological. But they are, of course, spending, and the point of a stimulus bill is to spend. The main worry of many economists is not that the package is larded with “fat,” but that it isn’t big enough—that there aren’t enough things to spend money on. One item I would suggest adding: Econ. 101 classes for Republican lawmakers. This is not to say that government spending is always good. If government borrowing competes with private investment for finite savings, that could push interest rates up, “crowding out” private investment. But this is a problem that arises when the economy is near full capacity, not when there’s lots of idle capital and labor, as now. The point of a stimulus is to set idle resources in motion, hopefully closing the gap between potential and actual output and employment. If the crowding-out effect bites, it will bite in the long run, when taxation to cover the debt incurred by the stimulus competes with private investment for savings that will be more scarce when the economy returns to form. How to limit this effect? Include in the stimulus package long-term investments in infrastructure, education and technology. These will improve productivity growth, laying the basis for future economic growth and expansion of the tax base needed to finance the emergency measures needed now. Ironically, conservatives, who talk about “crowding out” more than liberals do, are inviting the crowding-out effect by eliminating from the bill precisely the long-term investments that could mitigate the effect. History also suggests that advanced industrialized economies crucially depend on periodic infusions of government investment in technology and infrastructure. Computers, key aspects of airplane technology, the highway system, the public education system,the Internet, etc., have all contributed massively to productivity, but couldn’t have been built or developed by private industry for lack of a financial return. The silver lining in our current situation is that these types of long-term investment are at a discount. With savings idle, their opportunity cost, in terms of lost private sector investment, is dramatically reduced. So if we are to lay a basis for future economic growth through government investment in infrastructure and technology, now's the time. For this reason and to mitigate the crowding-out effect, such investments should be an integral part of a well-designed stimulus bill. “Well-designed,” however, is just not in the cards, given the hands that are in the pie. One can disagree with specific items in the bill and propose others. But to cut the bill simply because it’s “too large,” to shift the mix of items from spending to ineffective tax cuts, and to remove long-term investments needed to mitigate the “crowding-out” effect only show that the Republicans don’t understand the bill or don’t share its objective (which is essentially to prevent Great Depression II). It’s hard not to be cynical. In narrow political terms, the Republicans have little interest in seeing Obama succeed. The last time a Democratic president successfully met the challenges of an economic meltdown, 20 years would pass before another Republican would win the White House. Meanwhile, the immediate situation is dire. The paradox of thrift—a self-propelling spiral in which indebtedness causes consumers to cut spending, which causes incomes to fall, which causes indebtedness to rise further, etc.—may be bearing down on us. This is judging from the December Bureau of Economic Analysis report on consumer incomes, spending, and savings, that shows personal income declining for the third month in a row and consumption declining for the fifth month in a row. In other words, people may be becoming more indebted because they’re saving more. If we are indeed in a paradox of thrift situation, jobs will be wiped out on an even more massive scale than they have already. This is scary. Thankfully, it looks like, with the help of three Republicans, a bowdlerized and probably inadequate version of the bill will squeak through, with one vote to spare. Had there been two less votes in the Senate, or had the Republicans had more time to practice their demagoguery, we may not have stepped back from the abyss. What’s dispiriting is how easily Americans were led right to the edge. |
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