Somebody wake me up. I have been wrestling with my rational and emotional reactions to the various parts and predictions on the stimulus effort in Washington. Because it is so very big and very broad, I think several minds have simply given up and retreated to ideological redoubts to lob criticism from. The bill(s) as presented certainly offer plenty of targets.
For me the lingering question is the the relative efficiency of government spending compared to tax cuts. Historically, I think the data show tax cuts to give a larger multiplier and hence more GDP per dollar of stimulus. But will those numbers apply this time? Megan McArdle comes closest to my thoughts:
I'm agnostic on the question of tax cuts vs. spending, which makes me an oddity among most econopundits. The complaint that spending is spent while tax cuts are often saved leaves me cold, because I think this focuses too much on that measured GDP figure, and not enough on welfare enhancements. Right now, most households that save $500 by putting it in the bank or paying down debt will gain a big boost in welfare, because they'll worry that much less about credit card payments, or potential emergencies.I tracked down some information that touches on this question. Basically, I think the dispute in my mind concerns the MPC - the marginal propensity to consume.
On the other hand, given that the banks have really cut back on the credit they're willing to extend, it is worth worrying that that stimulus will stop dead with the consumer--it won't provide income to any other consumers who can then breathe a little easier. But that raises two further concerns: will we stay in a liquidity trap (I'm not sure we will), and if we do, will the people the government buys from spend their earnings, or save them? If the latter, the multiplier isn't too high.
What I'm not agnostic about--and neither should any serious proponent of stimulus be--is the difference between stimulus now, and stimulus two years from now. Spending may have a higher multiplier, but if you want an output shock, the immediacy of a tax cut far outweighs any possible benefit of a high speed rail project that's going to be built just as soon as we can design it, and get the EIS, and clear the public hearings . . .
So. It's time to admit what we already know: proponents of the stimulus are in favor of this package in large part because they favor a fairly large transfer of resources to the public sector, and the stimulus is a good way to achieve that. There is, in fact, nothing wrong with this belief, for all that I disagree with it. And most of the opponents of this package are opposed just as reflexively. [More]
Investopedia explains Marginal Propensity To Consume - MPCThe feeling I have is the current of fear among our citizens is much stronger than experienced in previous downturns - and worse still, it is growing with ever layoff announcement. Tax cuts will likely be squirreled into bank accounts, where they could stop circulating as Megan notes above.
Let's illustrate this with an example. Suppose you receive a bonus with your paycheck, and it's $500 on top of your normal annual earnings. You suddenly have $500 more in income than you did before. If you decide to spend $400 of this marginal increase in income on a new business suit, your marginal propensity to consume will be 0.8 ($400 divided by $500).
Part of the question deals with the temporary-or-permanent argument for a tax cut. Temporary cuts are saved, broadly put, and permanent cuts are more likely to be spent and raise consumption according to conventional thinking. This depends of course how forward-thinking consumers are, and my hunch is "not very" at this moment.
Consequently, I can see the case for both spending and tax cuts, especially a payroll tax cut. At least, I can't definitively rule either approach out as ineffective. That said, we may be about to over-politicize the issue, and some scenarios are not inspiring.
But Democrats are ready to assume the worst and play ball with Republicans according to a story in today’s New York Times, despite the fact that the GOP is pretty adament that only major changes, including more tax cuts and reduced spending, could earn their support. All of which points to a scenario eerily similar to that in the House — Democrats water down the stimulus with sops to the GOP, only to find themselves with little to no Republican support when it comes time to vote.It is even possible that inaction is better than a stimulus bill, but I could find few experts who make this case. And it would take more political courage than seems to exist to stand pat while unemployment soars. What you can find, however, are strong cases that serve established political positions. Which suggests to me that even our leadership has little conviction on the correct course of action, and hence is sticking with what they know.
Nobody wants to play chicken with the fate of the economy hanging in the balance, but it may be time to call the opposition’s bluff. An actual defeat for the stimulus would cause havoc on Wall Street that would make the market’s plunge in the wake of the bail-out’s initial defeat look pleasant. A scare like that might shatter GOP solidarity once and for all. The alternative, in any case, is an empowered GOP minority, that will kill or maim legislation for the rest of the Congressional term. [More]
At the very least some bipartisan compromise might steady our confidence in government as capable to do something. But I'm afraid Republicans are worried that any uptick in the American mood will redound to Obama. I think many in the House are genuinely torn between being re-elected and improving the economy, since it will be hard for them to get any share of the credit.
The fact that we have hardened congressional districts into "safe" enclaves of large conservative or liberal majorities only entrenches this thinking, as the folks back home do not reflect the country as a whole. Senators usually rise above this influence, so if compromise is possible, it will have to occur there.
Meanwhile Democrats have not come close to satisfying their hunger for political revenge, which has to be part and parcel of the obviously bloated spending portions of the bill. Indeed, it appears some Democrats are trying to use the stimulus bill the way Republicans used the votes on Iraq funding. The fear - and resultant anger - that surges through America distorts thinking on Capitol Hill as well as Main Street.
I think Matt is right. Another two weeks of bad economic news will pressurize the atmosphere to an extreme, and the political and economic factors at play could be a combustive mixture.