The economy is in recession. There's no end in sight. The number of unemployed continues to rise. Equities markets are in the dumps. The real estate sector hasn't hit bottom. The banks are drowning in a sludge of toxic assets. Excuse us while we break out the Prozac.
Washington's response? Pathetic. House Speaker Nancy Pelosi let her appropriators out of their cages and had them draft the American Recovery and Reinvestment Act of 2009. This is the economic stimulus package that everyone has been waiting for. And it's a clunker. The more you learn about the economic stimulus plan, the less you like it. Charles Krauthammer called it the "worst bill in galactic history." This is only a slight exaggeration.
What the Democrats have done is write down every single item on their liberal wish list, append dollar amounts next to the items seemingly at random, and call it "stimulus." The president wanted the bill to be free of pet projects and include business tax cuts. But no one told Pelosi's appopriators. They are using the current troubles to push through a decades-old domestic policy agenda. The spending--$50 million for the National Endowment for the Arts, $400 million for global warming studies--demonstrates that the bill has no overarching logic.
Which makes it a major disappointment. Almost everybody agrees that the economy is a mess and that fiscal policy might help tidy things up. But $6.2 billion for "home weatherization"?
The problem with the House plan is that it is ineffective even on Keynesian grounds. Keynes said that, once monetary policy has reached its limit, fiscal policy must take priority. In other words, when interest rates have effectively reached zero, governments must lower taxes and increase spending to rebalance the economy. But the House bill is half-baked Keynes. And it will fail.
It will fail because it is imperfectly designed. A well-designed stimulus meets three criteria. It's large. It's fast. You like what you get out of it. But the Democratic plan is none of these. When you look closely at the House bill, you realize that it's not so big after all. Nor will the money be spent quickly. And the things we get out of it? Small fry.
The Congressional Budget Office projects that the House bill will cost $816 billion. Of that, $248 billion is in aid to states for Medicare and Medicaid, unemployment insurance, and so on. Another $212 billion is in tax cuts. This leaves $356 billion in discretionary spending.
It's hard to argue that the $248 billion in transfers to the states will stimulate the economy. The money is being taken from one pot and put in another so that the states can balance their books and ensure the proper treatment of beneficiaries. It doesn't prime the pump. It just keeps the pump from falling apart.
Then there are the tax cuts. The bulk of them go to the "Making Work Pay" refundable payroll tax credit of $500 per worker. It's unclear whether the credit will be reflected immediately in your paycheck. The government may send out checks as it did in 2001 and 2008. But a change in withholding would be preferable. It wouldn't take long to implement. The taxpayers would have the money quickly. Voilà! An instant raise.
Except that the raise will be peanuts. You'll hardly notice it. If you do, experience suggests that you probably won't spend it. Washington has cut taxes in this manner twice in the last decade. Both times, taxpayers saved the money or used it to pay down personal debt. There was hardly any stimulating effect. The refund doesn't seem to have worked then. Why would another work now?
That leaves the roughly $356 billion in discretionary spending. But not all of it will be spent quickly. The CBO estimates that only $29 billion will be spent by the end of fiscal year 2009. About $116 billion will be spent in fiscal year 2010. This gives us a total of $145 billion in infrastructure and other spending over the next fiscal year and a half. Too little, too late. And therefore unlikely to have much of an impact.
Republicans, then, had every reason to vote against the stimulus bill. And so they did. Unanimously. But that doesn't mean their alternative is much better. The House GOP plan calls for a cut in marginal tax rates, making permanent the Bush capital gains tax cuts, and lowering the corporate tax rate. But marginal tax rates are already low. Cutting them further isn't likely to have a major impact.
Still, the moment is ripe for the right stimulus. There's a market for a thoughtful alternative to the Pelosi-Obama bill. The Democrats want Americans to use deficit spending to reshape society along liberal lines. A Republican stimulus should promote conservative goals.
The plan might start with a payroll tax holiday. Lawrence Lindsey and John H. Makin have done a ton of work outlining why a payroll tax cut or temporary suspension would be good for the economy. Makin writes that a 12- to 18-month suspension in the payroll tax would immediately increase personal disposable income by 3.5 percent. Workers would have an instant raise that would be larger, and last longer, than the "Making Work Pay" tax credit in the Democratic plan.
Just as important, the payroll tax holiday would lower the cost of labor. Freed of the tax, employers would have an easier time hiring workers and paying them well. Yes, cutting or suspending the payroll tax would increase the deficit. So would the Democratic plan. But, if we are going to run deficits, we might as well do so in a way that increases the chances the economy will improve. The payroll tax holiday passes that test.
President Obama should find it hard to resist such a proposal. The payroll tax hits 60 percent of Americans, so a holiday would benefit a large majority of the president's constituents. Furthermore, since the payroll tax is regressive, cutting or suspending it would help the poor the most. Obama could be bipartisan, pro-labor, and pro-business all at once. Catnip to a politician who likes to avoid division.
Republicans also have to overcome some of their aversion to government spending. The flaw in the House stimulus bill is not that it spends money. It's that it spends money too slowly, and what money the bill does spend hardly goes to durable public goods. Thus the GOP's job: Shift the direct spending from useless liberal appropriations to constructive and long-lasting conservative projects.
First, Republicans could propose a more generous unemployment benefit than the one the Democrats are offering. The Republicans want to be the pro-family party. That should include families whose breadwinners are out of work. The money could come from eliminating the endless tax loopholes and subsidies for alternative energy in the current plan. Put the Democrats on the spot. Who do they care about more? Greens or the unemployed?
House minority leader John Boehner scored a victory when he attacked the millions of dollars in subsidies for contraceptives in the original House plan. Boehner put Obama on the defensive. The subsidies were stricken from the bill. Good start. Now up the ante. Why not ask that the contraceptive money go to suburban commuters instead? Send it to state and local governments to help them implement innovative programs like congestion pricing and private-public toll roads.
More than 55 million people live in the Northeast Corridor. They spend most of their lives stuck in traffic. They will be grateful to the political party that stops spending on refurbishing government office buildings and instead uses that money to construct bridges, roads, tunnels, and overpasses. Why? Because they recognize that more pavement shortens commutes, improves productivity, and lets them have dinner with the kids.
Ideally, a conservative stimulus would split direct spending between infrastructure and defense. The American Enterprise Institute's Tom Donnelly has crunched the numbers and made the case for defense stimulus at length (you can find his report on AEI's website). A plan like Donnelly's would build on President Obama's promise to expand the size of the Army and Marine Corps. It would give soldiers a raise and better health care, replenish U.S. weapons inventories, and create American jobs through defense contracting. It would spur investment and job creation in spin-off industries such as aerospace and the IT sector. It would promote the most important public good: security. And economic recovery is more likely in a secure world than in one where American interests are at risk.
The Democrats' stimulus proposals are weak. Those plans barely meet the Democrats' own Keynesian standards for successful fiscal policy. But times are tough. Republicans needn't simply play defense. They can help the unemployed. Cut the payroll tax. Lay pavement. Rebuild our defenses. Watch the economy recover. And reap the political rewards.