Brad Delong on the Stimulus

A good read, I tell you.

BERKELEY - Of all the strange things that have happened this winter, perhaps the strangest has been the emergence of large-scale Republican Party opposition to the Obama administration's effort to keep American unemployment from jumping to 10% or higher. There is no doubt that had John McCain won the presidential election last November, a very similar deficit-spending stimulus package to the Obama plan - perhaps with more tax cuts and fewer spending increases would have moved through Congress with unanimous Republican support.

As N. Gregory Mankiw said of a stimulus package back in 2003, when he was President George W. Bush's chief economic advisor, this is not rocket science. Deficit spending in a recession, he said, "help[s] maintain the aggregate demand for goods and services. There is nothing novel about this. It is very conventional short-run stabilization policy: you can find it in all of the leading textbooks..."

I can understand (though I disagree with) opponents of the stimulus plan who believe that the situation is not that dire; that the government spending will be slow and wasteful (whereas properly targeted tax cuts would provide a more effective stimulus); and thus that it would have been better to defeat Obama's stimulus bill and try again in a couple of months.

I can also understand (though I disagree with) opponents who believe that the short-run stimulus effect of the plan will be small, while America's weak fiscal position implies a large long-run drag on the economy from the costs of servicing the resulting debt.

What I do not understand is opposition based on the claim that the stimulus package simply will not work: the government will spend its money, households will receive their tax rebates, and nothing will happen afterwards to boost employment and production. In fact, there is a surprisingly large current of thought that maintains that stimulus packages simply do not work, ever.

This opposition is not coming only from politicians who are calculating that opposition to whatever is proposed may yield electoral benefits; indeed, it does not even reflect any coherent right-wing or indeed left-wing political position. Root-and-branch stimulus opponents whose work has crossed my desk recently include efficient-markets fundamentalists like the University of Chicago's Eugene Fama, Marxists like CUNY's David Harvey, classical economists like Harvard's Robert Barro, gold bugs like the Council on Foreign Relation's Benn Steil, and a host of others.

I simply do not understand their arguments that government spending cannot boost the economy. As far as I can tell, they are simply burying their heads in the sand.

At the start of 1996, the US unemployment rate was 5.6%. Then America's businesses and investors discovered the Internet. Over the next four years, annual US spending on information technology equipment and software roared upward, from $281 billion to $446 billion, the US unemployment rate dropped from 5.6% to 4%, and the economy grew at a 4.3% real annual rate as the high-tech spending boom pulled extra workers out of unemployment and into jobs.

Back at the start of 2004, America's banks discovered that they could borrow money cheaply from Asia and lend it out in higher-yielding domestic mortgages while using sophisticated financial engineering to wall off and strictly control their risks - or so they thought. Over the next two years, annual US spending on residential construction roared upward, from $624 billion to $798 billion, the US unemployment rate dropped from 5.7% to 4.6%, and the economy grew at a 3.1% real annual rate.

In both of these cases, large groups of people in America decided to increase their spending. You can argue that neither group should have boosted its spending to such a degree that both were subject to "irrational exuberance" - and that someone should have taken away the punchbowl earlier. But you cannot argue that these groups did not increase their spending, and that their increased spending did not pull large numbers of Americans - roughly two million in each case - into productive and valued employment.

The government's money is as good as anybody else's. If businesses' enthusiasm for spending on high-tech gadgetry and new homeowners' enthusiasm for spending on three-bedroom houses can boost employment and production, then what argument can Harvey, Fama, Barro, Steil, and company make that government spending will not? I simply do not see it.

Robert Reich on Economic Recovery

Robert Reich says that the economy should see an economic upswing, if even a mild one, by the 2nd quarter of 2010. What's interesting is that his reasoning is predicated more on political cycles rather than economic theory. For example:

A president's party tends to lose seats in the first midterm elections, but Obama knows he can hold on to his majorities if he handles the economy well. Voters respond to economic trends more than to current levels -- to where the economy is heading rather than to where it is. Regardless of how the economy is doing in the months leading up to the midterm election in November 2010, voters will keep Democratic majorities in the House and Senate if they think the economy is on the mend.

That's why the $787 billion stimulus package was designed like a timed-release cold capsule. Stimulus spending will increase through to the end of 2009 and continue full blast in 2010. Although it's too small to restore the economy to full health by Election Day, the stimulus needs only to give the economy enough momentum by then to convince voters it's on the way to being restored.

Remember that Reich was one of those economists that actually warned us last March of recession. Can he do it again?

Let the betting begin. Where is the Intrade commodity market for this?

Will the Stimulus Work?

I have no idea. However, there are two very interesting columns today over at Vox. One is by Richard Clarida of Columbia University, who argues that Obama's stimulus might not achieve its desired effect:

What is the source of this concern that the US fiscal package will not deliver a lot of ‘bang’ for the ‘bucks’ committed? Because of the severe damage to the system of credit intermediation through banks and securitisation, policy multipliers are likely to be disappointingly small compared with historical estimates of their importance. Recall the Econ 101 idea of the Keynesian multiplier – the impact traditional macro policies are ‘multiplied’ by boosting private consumption by households and capital investment by firms as they receive income from the initial round of stimulus. It important to remember why and how policy multipliers actually come about. Policy multipliers are greater than 1 to the extent the direct impact of the policy on GDP is multiplied as households and companies increase their spending from the increased income flow they earn from the debt-financed purchase of goods and services sold to meet the demand from the initial round of stimulus.

There is a second reason while the bang of the fiscal package will likely lag behind the bucks. Even if the global financial system soon restores some semblance of order and function, the collapse in global equity and housing market values has so impaired household wealth that private consumption (which represents 60% to 70% of GDP in G7 countries) is likely to lag – not lead – economic growth for some time, as households rebuild their balance sheets the old-fashioned way – by boosting their saving rates. Just in 2008 alone, I estimate that the net worth of US households fell by some 10 trillion dollars, with much of this concentrated in older demographic groups who, in our defined contribution world, must now be focused on building back up their wealth to finance retirement, which is not that far away. This means more saving, less consumption, and smaller multipliers.

Then there is Brad Delong of the University of California, Berkley, who posits that Americans need not fear greater stimulus measures to ease us out of recession:

If the stimulus is going to be ineffective because it generates bottleneck-driven inflation, we can identify that problem as the price or wage of the bottleneck good or service spikes. If the stimulus is going to fail because of capital flight-driven inflation, we will see the value of the dollar collapse as foreign-exchange speculators front-run the capital flight – and then we will see import prices spike and put upward pressure on prices in the rest of the economy. If the stimulus is going to fail by crowding out private investment, we first will see the medium-term corporate interest rates relevant to financing plant expansion spike. And if it is going to impose a crushing debt repayment burden, we will see long-term Treasury bond interest rates spike instead.

Right now, however, we see none of these things. No signs of bottleneck-driven or wage-push inflation gathering force. No signs of approaching rapid dollar depreciation. No signs that the stimulus is pushing up medium-term interest rates on corporate borrowing. No signs that the stimulus is pushing up long-term interest rates on government bonds.

If any of these start to materialise, expect me and a number of other stimulus advocates to start backpedalling rapidly. But so far, so good.

Both these columns are worth reading in full.

Obama's Budget

Via Laura D'Andrea Tyson, writing for the WSJ:

Critics charge that President Obama's tax rates for high-income earners will strangle small business and stifle economic growth. Such claims are misguided or disingenuous. A full 97% of small businesses will see their rates unchanged or enjoy additional tax benefits under the Obama plan. And the strong expansion of the 1900s proves that the tax rates on income, capital gains and dividends in the Obama budget will support rapid economic growth and substantial income gains at the top. Moreover, the higher tax revenues resulting from these rates will reduce the deficit by about $750 billion, bringing it down to an average of 3.9% of GDP over the next 10 years and to 3.1% of GDP by the end of the decade. This compares to an average deficit of 3.6% of GDP between 1982 and 1997, when the Dow Jones Industrial Average increased by 835%.

In addition, the president proposes to limit the deductions for dependents, charitable contributions and other expenses to 28%, the top rate for such deductions under Ronald Reagan. Some critics claim this is class warfare. But why should a family in a higher tax bracket get a bigger break on expenses than a middle-class family? And restoring this limit to its Reagan level will raise enough revenue to cover about half of the $634 billion reserve President Obama needs to finance health-care reform with the other half coming from savings in health spending. These savings include competitive bidding in order to reduce Medicare payments to private insurance plans, increasing the Medicaid rebate for brand-name drugs, and strengthening Medicare pay-for-performance incentives for hospitals.

[...]

The president's budget is progressive and ambitious. It will not, however, explode the size of government as some critics warn. If the economy recovers as projected, over the next decade taxes as a share of GDP at around 19% will be lower than they were during the second half of the 1990s, government spending as a share of GDP at around 22.5% will be about where it was under Reagan, and nondefense discretionary spending at around 3.6% of GDP will fall to its lowest level since that data was first collected in 1962.

O Canada

From today's Economix:

If unemployment continues to rise over the next few months in the United States, as predicted, many families will lose their health insurance coverage or struggle to pay premiums they can ill afford. By contrast, increased unemployment won’t reduce Canadian access to health care.

As the economist (and fellow Economix blogger) Uwe Reinhardt explains, the single-payer Canadian health care system delivers very good results for about half the per-person cost of ours — with huge savings from reduced paperwork. Economic disparities in access to health care are significantly lower there.

and...

According to latest estimates from the Organization for Economic Cooperation and Development, a married worker earning the average wage, with two children, could expect 78 percent wage replacement in Canada, compared to 52 percent in the United States. The differences are even greater for those earning higher than average wages, because of low benefit ceilings.

The recently passed Economic Stimulus and Recovery Act offers incentives to states to expand unemployment provision to part-time workers and to those leaving jobs for “compelling family reasons.” The Canadian unemployment insurance system offers more comprehensive family benefits, including paid sick leave, paid compassionate care leave, and paid maternal and parental leaves of up to 50 weeks. Many American workers aren’t even eligible for the 12 weeks of unpaid family leave guaranteed by the Family and Medical Leave Act — although President Obama promises to change that.

Finally...

There’s no evidence that Canada’s public provision of health care and social benefits has reduced its economic growth, and the federal budget just presented is the first to show a deficit in 11 years.

What explains more support for public spending there? Slightly lower income inequality may encourage slightly more solidaristic policies. Such policies, in turn, reduce income inequality. The French social-democratic traditions of the province of Quebec exert a distinct influence. The Canadian political scientist Keith Banting argues that explicit efforts to develop a strong but multicultural national identity have strengthened norms of mutual support.

Stimulus Agreement

The House and the Senate reached an agreement on the stimulus bill. I think the Economist's Free Exchange put it best:

The total is now down to about $789 billion. Coverage of the negotiations again suggests that getting the headline figure below $800 billion was a high priority and again offers nothing in the way of explanation as to just why that's the case.

I'm about as stumped as any of you.

Increase Government Spending

Justin Wolfers thinks that a stimulus package should be more oriented on government spending, rather than tax cuts. He presents a clear explanation as to why.

Our current problem is deficient aggregate demand. The government can raise total spending either by buying more stuff, or it can lower taxes and hope that consumers take their tax breaks to the mall. If consumers do indeed spend their full tax cuts (a big if), you might think that either approach stimulates aggregate demand in roughly equal measure.

But that’s not the whole story. Tax cuts stimulate both aggregate demand and aggregate supply. If taxes are temporarily lower, they make working today more attractive than working tomorrow, and thus increase labor supply. This boost to the nation’s productive capacity means that a tax-cut-based stimulus doesn’t do as much to narrow the gap between output and what we can produce.

Under normal circumstances, this doesn’t present a problem, because the Fed can lower interest rates to close this output gap. But right now, the Fed has set interest rates as low as they can go, and so different principles apply. Eggertsson’s concern is that a big output gap will lead inflation to fall, leading real interest rates to rise in the middle of the recession. These higher real interest rates further dampen economic activity, and with the Fed powerless to offset this, there’s the very real risk of a deflationary spiral. And so a tax-cut-based fiscal stimulus might actually backfire.

Oops! Michael Steele DOES think fish are important!

Matt Yglesias points us to this interesting nugget of info:

For example, Nyhan reveals that back when Steele was Lieutenant Governor of Maryland serving under Republican Governor Bob Ehrlich, the Steele-Ehrlich administration touted removal of fish passage barriers as an important policy priority. They explained that “migration barriers are anything in the stream that significantly interferes with the upstream movement of fish” and “unimpeded fish passage is especially important for anadromous fish which live much of their lives in tidal waters but must move into non-tidal rivers and streams to spawn.” They warn that fish passage barriers, if unaddressed, create a situation in which “the diversity of the fish community in an area will be reduced and the remaining biological community may be out of natural balance.” They even set up a hotline you could call to report a fish passage barrier so that the state could remove it.

What? No, that can't be true. The removal of fish passage barriers is one of them useless stimulus provisions that those liberals are trying to frivolously waste government money on. Right?

Summers on the Stimulus

Via Calculated Risk.

STEPHANOPOULOS: Let me start out by putting up a little chart that shows the House and Senate versions of this stimulus package. Let me show our viewers that right now. The overall cost is about the same, the House $820 billion, Senate $827 billion, but the composition different. The Senate has about $100 billion more in tax cuts, but $40 billion less in state aid, $20 billion less in education, $15 billion less in payments to individuals, some other differences.

I know that, when the president was meeting with these moderate Republican senators this week, including Senator Susan Collins of Maine, he told them he endorsed their efforts to scrub the bill of what they called excessive spending. Does that mean the president prefers the Senate version to the House version?

SUMMERS: No, the president feels that, above all, we need a major program enacted very quickly that will create 3 million to 4 million jobs. He believes we need to perfect it in every way we can.

If there are programs that aren't going to serve important purposes, they should be -- they should be eliminated. He certainly believes that. He's open to good ideas from both -- from both sides.

But we're going to have to look at both these bills, assuming the Senate bill passes, as most people expect at this juncture, and craft the best possible approach going forward.
...
STEPHANOPOULOS: Some of the critics of the Senate bill say that the most important elements have been -- have been brought down. Paul Krugman, writing on his blog this morning, said, "Some of the most effective and most needed parts of the plan have been cut." He's citing especially that $40 billion in state aid.

And he goes on to say that, "My first cut says that the changes to the Senate bill will ensure that we have at least 600,000 fewer Americans employed over the next two years."

SUMMERS: There's no question we need -- we need a large, forthright approach here. There are crucial areas, support for higher education, that are things that are in the House bill that are very, very important to the president.

STEPHANOPOULOS: But will the Senate bill produce fewer jobs?

SUMMERS: There's no question -- no question what we've got to do is go after support for education. And there are huge problems facing state and local governments, and that could lead to a vicious cycle of layoffs, falling home values, lower property taxes, more layoffs. And we've got to prevent that.

So we're going to have to try to come together in the conference. And the president is certainly going to be active in sharing his views as that process -- as that process...

Ugh! It looks like my initial optimism on the Obama administration was naive. I'm slowly getting scared that our economy will not rebound. I am so sick of hearing about eliminating the programs that "serve no purpose." All of them serve a purpose. The purpose is creating jobs and boosting aggregate demand. But rather than focusing on cutting the fat of the bill, we should be worried about including things that will help state and local governments. And unfortunately, aside from adding tax cuts, the Senate version of the stimulus bill eliminated that sort of aid.How many more concessions will the Obama administration make before realizing that he is not a Republican? When will this stop???

Good Idea for Improving the Stimulus

Increase pork.

Here's how things stand: the stimulus bill is way too small, it's floundering in the Senate, and we stand possibly on the edge of a deflationary abyss.

Solution: find, say, the 5 most wavering Republican senators and offer them each $100 billion worth of pork. (2 isn't enough because 1 or 2 might defect and some Democrats might defect also -- although it's kind of hard to imagine a Democrat joining a Republican filibuster under the circumstances),

That solves both problems: the stimulus bill will be big enough (if perhaps less evenly distributed in its impact than one might hope -- but multiplier effects will spread out over space), and it will survive a cloture vote.

Problem solved. No depression. Happy days are here again.

Probably one of the best ideas I've ever heard. In all seriousness though, I don't exactly see the problem with including a large amount of pork spending in the stimulus package. The point, as I see it, is to combat deflation by investing money in projects that could create jobs, raise aggregate demand, and prices. In fact, some argue that useless pork projects is where we should be putting our money. Let me outsource this:

All alliteration aside (but apparently now actively assonant), the general purpose of stimulus packages is to mobilize the economy's unused resources, and, in this particular case, to (sorry, I can't help it) prevent prices from plummeting. Does the presence of pork in a package (really, I'm sorry, but I give up) in any way hinder the pursuit of such purposes? As far as the deflation issue is concerned, useless projects are precisely the place we should be putting our power. Useful projects will augment aggregate supply and thus push against the attempt to arrest falling prices. Instead of one bridge to Nowhere, let's have two! Just so the builders of those bridges can use up labor and make it harder for others to hire, thus halting the hemorrhage of wages and helping stabilize the price level.

My other point is that, in any case, pork projects actually will be useful to someone. Somebody wants to drive to Nowhere, and that's why they want to have the bridge built. It might be pointless to divert resources toward such projects when the economy is already using most of its resources, but today (and in a few months, when there will be even more slack resources), the pointless thing would be to let those resources be wasted. Pork may not be the best use of those resources, but it's better than nothing.

And there is also the secondary effect, the Keynesian multiplier. The people hired to build bridges to Nowhere will spend some of their new wages on things that they want. When those things are produced, the resources involved are clearly being put to good use, because they create something that somebody wants and is willing to pay for.

Update: Matt Yglesias weighs in on the issue of pork spending regarding the removal of fish barriers:

With everything in this debate, though, if you understand what’s happening you understand that the point isn’t that a reduction in the number of fish passage barriers will stimulate the economy. The point is that to stimulate the economy you need to identify projects that will employ people and materials. But ideally we don’t want to employ people and materials doing something totally pointless. Removing fish passage barriers will, I assume, have environmental benefits and ensure the long-term viability of fish populations. That’s good for the fish, probably good for water quality, and probably beneficial to people whose livelihoods depend on fishing or the viability of the tourism and recreation industries.

More Republican Opposition

Oy. Via Mark Thoma, here is a snippet of another Andrew Leonard post:

[Richard] Shelby said he wants to "shelve" the existing bill and "start all over and look at it in a bipartisan way." But all that means is that he wants the bill to be written as if the Republicans were still in power, ladling out tax cuts to all and sundry. Meanwhile, he says the real focus should be on fixing the bank system.

"What will turn the economy around is us finding some solution to the financial frozen assets and banks not making loans because that's what will create jobs."

But as the interviewer astutely noted, that's precisely what the Troubled Assets Relief Program (TARP), currently being rejiggered by the Obama team, is for. And Shelby voted against TARP -- even though the initiative was cooked up by his own party. I guess when the choice is between bailing out banks, and bailing out the general public, the Republican option is a no-brainer: help the rich!

Bipartisan Politics

I more or less agree with what Paul Krugman is saying here:

You see, this isn’t a brainstorming session — it’s a collision of fundamentally incompatible world views. If one thing is clear from the stimulus debate, it’s that the two parties have utterly different economic doctrines. Democrats believe in something more or less like standard textbook macroeconomics; Republicans believe in a doctrine under which tax cuts are the universal elixir, and government spending is almost always bad.

Obama may be able to get a few Republican Senators to go along with his plan; or he can get a lot of Republican votes by, in effect, becoming a Republican. There is no middle ground.

I agree that it's true that Obama has made way too many concessions in the current stimulus plan to pave the way for his doctrine of bipartisan cooperation. As it stands, I believe, the Senate bill contains some $300 billion in tax cuts, which I'm sure is more than Obama had initially wanted. I think on the one hand that it is admirable that he is geniunely attempting to commit to his word / his lofty ideal / his political platform during the election of ending the era of partisan politics (or at least ushering in an era of cooperation). Yet, after all the concessions, we know what happened in the Assembly. If Obama is going to water down the stimulus in favor of an ideal -- if he's going to include big business tax cuts, remove provisions for family planning, etc, it would be nice if there would be some actual, noticeable political results at the very least. I think it's time for Obama to break out the big guns.

Is it too much to expect out political leaders to work together?