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Obama: Economy "bad and getting worse"

January 06, 2009 | AP via .Newsday.com

THE ASSOCIATED PRESS

President-elect Barack Obama is betting that a combination of hefty tax cuts and government spending on big public works projects will snap the country out of a painful recession that's left millions of Americans unemployed and their nest eggs in tatters.

Obama, who met Monday with congressional leaders on Capitol Hill, is crafting an economic recovery plan that could cost $775 billion to $800 billion over two years. In the stimulus package's current form, about $300 billion would be spent on tax cuts for individuals and companies.

The president-elect has insisted a bold package is needed.

Given the depth of the economy's troubles, most economists believe that bigger is better. "It's worth pulling out all the stops," said Janet Yellen, president of the Federal Reserve Bank of San Francisco.

Here are some questions and answers about the evolving stimulus plan:

Q: Why have a combination of tax cuts and government spending?

A: Obama is looking to deliver a powerful dose of both short- and long-term medicine to help the economy, which has been mired in a recession since December 2007.

Tax cuts can be implemented fairly quickly -- in weeks or months. Government spending on repairing roads, bridges and other public works projects typically takes longer to roll out. If timed right, though, such spending could give a critical lift to the economy later on. That's important because the economy is likely to remain weak well into next year and possibly into 2011.

Q: How would the tax cuts for individuals work?

A: Although details are still being worked out, Obama envisions withholding less from workers' paychecks, versus cutting people rebate checks. It would cost about $140 billion to $150 billion over two years.

During the campaign, Obama promised a $500 tax cut per worker and $1,000 for working couples.

Q: Why go this route?

A: Supporters believe this approach, which will result in fatter paychecks, is more likely to spur consumers to spend, and thus help revive the economy, than a one-time cash rebate.

President George W. Bush opted for massive tax cuts, including rebate checks, as part of efforts to turn the economy around after the 2001 recession. When the economy got into trouble again last year, Bush turned to a quick cash infusion through rebates. But the impact of last year's rebates of up to $600 a person was limited. It was blunted by high energy and food prices -- and decisions by skittish Americans not to spend all of the cash, but rather sock it into bank accounts or use it to pay down bills.

"A permanent tax cut is much more effective at changing the behavior of consumers than a temporary rebate," said Brian Bethune, economist at IHS Global Insight. "People are better able to plan for the future when they can count on bigger paychecks. It's a totally different ball game," he said. It's likely people will feel more inclined to "get rid of the old clunker" and buy a new car or make other big-ticket purchases if they know their taxes will go down and stay down, Bethune said.

Administratively, experts said tax relief via adjusting withholding formulas can be provided faster -- perhaps in a matter of weeks -- than through a rebate system.

Q: How about tax breaks for companies?

A: More than $100 billion in tax cuts would be given to businesses. One provision Obama is weighing is a one-year tax credit to companies that hire new workers or forgo laying off existing workers. Economists and others, however, think this provision would be difficult to implement and could have unintended consequences.

"You could end up subsidizing growing industries and penalizing shrinking ones. It may not be what you want to do," said tax expert William Gale, co-director of the Tax Policy Center at the Brookings Institution.

Since the start of the recession, the economy has shed 1.9 million jobs. And the number of unemployed people has risen to 10.3 million. The nation's unemployment rate zoomed to a 15-year high of 6.7 percent in November and is expected to rise to 7 percent in December when the government releases that report on Friday. If that proves correct, it would be the highest level since June 1993.

Another tax break under consideration would allow businesses suffering losses to go back as far as five years -- versus the current two years -- to recoup some of the taxes paid. Other provisions, including one to bolster investment in new equipment, also are being studied.

Bruce Josten, executive vice president for government affairs at the U.S. Chamber of Commerce, said of Obama's plan: "The tax cuts are large enough to make a difference and will benefit individuals and businesses, both of which are hurting." That said, he urged Obama and Congress to include more tax measures in the package.

Q: We've heard a lot about Obama's plans to ramp up spending on big public works projects. Why is the Obama camp talking about tax cuts now?

A: Tax cuts always were envisioned as a crucial element to Obama total recovery package. The $300 billion worth of tax cuts being discussed -- much more than many economists and lawmakers were anticipating -- could help make the overall package more attractive to Republicans, who are skeptical about ramping up government spending.

Q: What's the timing for possible congressional action?

A: House Majority Leader Steny Hoyer of Maryland said he wants the House to approve the plan by the end of the month, sending it to the Senate in time for action before Congress leaves on its mid-February break.

That's a slower -- but perhaps more realistic time frame -- than had been initially promoted by House Speaker Nancy Pelosi of California. She had hoped to have a bill ready for Obama's signature on Inauguration Day, Jan. 20.

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