January 11, 2009 |
|President-elect Barack Obama on Friday in Washington. Mr. Obama’s stimulus package is being shaped by political as well as economic imperatives.|
WASHINGTON — The fresh evidence on Friday of the economy’s downward spiral focused even more attention on two questions: Is the stimulus package being pushed by President-elect Barack Obama big enough? And will the component parts being assembled by Congress provide the most bang for the buck?
With the Federal Reserve having just about reached the limit of how much it can help the economy with cuts in the interest rate, Washington’s ability to end or at least limit the recession depends in large part on the effectiveness of the big package of additional spending and tax cuts that Mr. Obama has made the centerpiece of his agenda.
And with the economy facing what now seems sure to be the sharpest downturn since the 1930s, the financial system balky and the government facing towering budget deficits, economists and policy makers acknowledge that there is no playbook.
“We have very few good examples to guide us,” said William G. Gale, a senior fellow at the Brookings Institution, the liberal-leaning research organization. “I don’t know of any convincing evidence that what has been proposed is going to be enough.”
In part because Mr. Obama wants and needs bipartisan support, the package is being shaped by political as well as economic imperatives, complicating the process by putting competing ideological approaches into the mix.
It includes $300 billion in temporary tax cuts for individuals and businesses, in part to attract Republican support. It includes a big expansion of safety-net programs like unemployment insurance, which Democrats say makes both economic and social sense. It includes more money for highways, schools and other public infrastructure; more money for “green” energy projects; and more money to help state governments pay for health care and education.
Republicans, as always, are advocating for more and broader tax cuts. But the evidence is ambiguous about whether tax cuts will really spur economic activity at a time when consumers and businesses alike are frozen in fear and reluctant to let go of their money.
The risk is that Mr. Obama and the Congress will weigh down their effort with measures that cost many billions of dollars but may not have much impact on economic activity.
Tax breaks, for example, usually produce less than $1 of stimulus for every dollar they cost, economists say. Spending on public construction projects, like highways and bridges, produces the most economic activity — but there is a limit to how many projects are “shovel-ready,” and even those take time to generate jobs and ripple through the economy.
Christina Romer, whom Mr. Obama has designated to be his chief economist, concluded in research she helped write in 1994 that interest-rate policy is the most powerful force in economic recoveries and that fiscal stimulus generally acts too slowly to be of much help in pulling the economy out of recessions, though associates said she now supports a big stimulus package if policy makers roll it out early enough in the recession.
The goal behind all those ideas is to jump-start economic activity by getting as much money as possible as quickly as possible into the hands of consumers and businesses, trying to make up for the falling demand in the private sector that is leading to higher unemployment. And although the package includes a big dose of tax cuts, it represents a big departure from President Bush’s playbook by relying heavily on direct government spending.
“This is not an intellectual exercise, and there’s no pride of authorship,” Mr. Obama told a news conference in Washington on Friday. “If members of Congress have good ideas, if they can identify a project for me that will create jobs in an efficient way — that does not hamper our ability to, over the long term, get control of our deficit; that is good for the economy — then I’m going to accept it.”
Mr. Obama’s aides said he did not intend to unveil a detailed formal proposal but rather to allow Congress to fill in the outline that he has proposed.
Given the recent scale of the downturn — the nation lost 1.5 million jobs in the last three months of 2008, and economic output during those months shrank by 6 percent compared with same period in 2007 — economists were highly uncertain about whether the economic plan would provide enough firepower.
Adam Posen, the deputy director of the Peterson Institute for International Economics in Washington, said Mr. Obama’s plan could provide just the right boost — if it was carried out properly.
But as the Federal Reserve has been learning for months now, the biggest obstacle to economic activity right now is not a shortage of money. The real obstacle is pervasive fear, which has made banks reluctant to lend and companies reluctant to invest in expansion.
Alan J. Auerbach, an economist at the University of California, Berkeley, said the overall scale of the program looked “reasonable” at $800 billion over two years.
“It’s much bigger than anything that’s been tried in my lifetime, but this is scarier than anything we’ve seen in my lifetime,” Professor Auerbach said.
Left to their own devices, many Congressional Democrats would prefer to focus almost entirely on spending projects and avoid tax incentives.
“One thing we learned from the Depression is marginal, incentive changes don’t work very well when the economy is falling away from you very rapidly,” said Senator Kent Conrad, Democrat of North Dakota and chairman of the Senate Budget Committee. “And that’s what’s occurring here.”
But Republicans have been adamant about the need for tax breaks, and Mr. Obama has made it clear he would like to bring as many members on board as possible.
Representative Paul D. Ryan, Republican of Wisconsin, said in an interview, “I really do believe that if you combine the evidence of history along with the psychological concerns about making investments in the economy today, the better bang for your buck is lower taxes that are certain and permanent and lasting.”
The Democratic plan would direct much of the stimulus money to low-income and middle-income families. That reflects both traditional Democratic concerns about helping lower-income households, as well as the view of economists who say that people with lower incomes are more likely to spend rather than save any money they receive from the government.
Mark M. Zandi, chief economist at Moody’s Economy.com, a forecasting firm, told a forum of House Democrats this week that the “bang for the buck” — the additional economic activity generated by each dollar of fiscal stimulus — was highest for increases in food and unemployment benefits. Each dollar of additional money for food stamps yields $1.73 in additional economic activity, Mr. Zandi estimated, and each extra dollar in unemployment benefits yields about $1.63.
By contrast, Mr. Zandi estimated, most tax cuts produce less than a dollar for each dollar of stimulus, especially if the tax cuts are temporary, because people save at least some of their extra money.
One of the few tax cuts that economists say can generate a positive bang for the buck is a reduction in payroll taxes for Social Security and Medicare.
Mr. Obama wants to offer a tax credit of $500 for individuals, and up to $1,000 for families, which they would receive through a temporary reduction in payroll tax withholdings. The idea, known as the Making Work Pay credit, was part of Mr. Obama’s economic platform during the presidential campaign. As originally envisioned, it would have been available to households with annual incomes as high as $200,000.
But economists said the tax credit could have drawbacks as an economic stimulus measure, mainly because people usually save part of the money or use it to pay down debt. That makes good sense from an individual’s standpoint but does nothing to increase economic activity.
Joel Slemrod, a professor of tax policy at the University of Michigan, said, “The research I’ve done on the 2001 and 2008 tax rebates suggests that the proportion of the rebates that went to spending was rather small, about one-third.”
After Congress approved Mr. Bush’s tax rebate to individuals and families last spring, economic activity jumped fleetingly during the summer, and then stalled out again in the fall.
Some Democratic officials were also skeptical.
“It’s not that rebates don’t work under normal conditions,” said one senior Democratic aide in the Senate. “It’s that current conditions are not normal and are not favorable to rebates or broad tax relief.”
By EDMUND L. ANDREWS and DAVID M. HERSZENHORN