January 27, 2008
How Much Stimulus? Dollar Amounts versus Efficacy
The stimulus package seems near a done deal, and the critiques are abounding -- as they should be. Greg Mankiw says no fiscal stimulus package is necessary, given the current state of the economy. Andrew Samwick says implementing a stimulus package ill conceived given that excessive deficits are what got us into this mess (a view I have some sympathy with). Jim Hamilton argues that a properly constructed fiscal stimulus is unlikely to be implemented in time, and may additionally further erode the dollar's role as a safe haven. Paul Krugman argues that the structure of the package leaves much to be desired.
Let me present my views, in the context of where the economy seems to currently be, and what we know about what measures would be most effective in stimulating aggregate demand.
First, to Mankiw's view that the economy does not now need stimulus (above and beyond what has been provided by monetary policy). I think this is a plausible perspective. Deutsche Bank forecasts 1.7% SAAR growth for the US in 2008Q1, and 2.2% for the entire year (Jan 21). Moreover, in their forecasts, no other major industrial economy (Euroland, Japan, UK) experiences negative GDP growth.
While it is plausible, I'm dubious. In particular, I suspect that the rest-of-the-world will not sustain US growth. Figure 1 reprises the cross-country picture of yield curves presented in this post.
Figure 1: Ten year minus 3 month spreads, for 10/11/06 (blue), 10/10/07 (red), and 1/24/08 (green). Source: Economist, various issues, and author's calculations.
These spreads continue to indicate a slowdown in the Euro area, Australia, Sweden and the UK. (See this post for why other spreads might not be indicative of future economic activity in Japan; on the other hand other indicators suggest a slowdown there as well.)
This is important because of the role of external demand in supporting US GDP growth up until now. In 2007Q3, exports accounted for 40% of growth.
Figure 2: Real GDP growth, SAAR (blue bars), contributions from Net Exports (red line), and from Exports (green line), in percentage points. Source: BEA, NIPA release of 20 December 2007.
It remains to be seen if this support persists; we will know more on Wednesday when the advance 2007Q4 figures are released (Bloomberg consensus is for 1.2% SAAR growth). However, we have an inkling that the positive impetus from exports will be diminished in Q4. This can be seen from the real goods export growth recorded through November.
Figure 3: Monthly Log Real Goods Exports in million Ch.2000$ (blue line), and three month trailing moving average (red line). Source: BEA/Census, trade release of 11 January 2008.
Note that this is just real goods exports. Services are around 29% of total exports in nominal terms in 2007; however, I suspect services will follow goods exports. Hence, I have to confess to be less sanguine than Mankiw. I think we are in for a long, persistent period of near zero growth, unless the financial markets should free themselves up from their current logjam (current indications are not comforting ).
Given that this is my perspective, what about the size and composition of fiscal policy. As I've noted before, the profligacy of previous fiscal policy constrains our actions today, knzn's arguments notwithstanding. I think that incipient Federal liabilities combined with the rest-of-the-world's disillusionment with dollar assets is going to mean that discretionary expansions in fiscal policy will be ill-advised.
Still, I think a fiscal stimulus of 1 percentage point of GDP to soften the slowdown makes sense -- as long as we get the maximum "bang for the buck" of deficit spending, and the stimulus is not open-ended. In other words, I share Andy Samwick's (and Jim Hamilton's) queasiness about letting the Bush-ian deficit spending/debt building tendencies persist (plenty of documentation here, here and here). In addition, the deficit spending should be aimed at increasing aggregate demand, as opposed to providing a windfall to households and businesses that will only enhance wealth or profits.
In this latter respect, my views are in congruence with Krugman's views , ,  that the package agreed to between the Administration and the House (description here) leaves something (okay, a lot) to be desired. The main idea should have been to enhance the automatic stabilizers in the system. One has to ask: Where is the extension of unemployment benefits (as apparently mooted by Senate leaders )? Where is the increase in food stamp payments? (These are two of the four points I mentioned as ideal components in this post.) What is the point of the 1/3 of the package ($50 billion) that will be devoted to accelerating capital depreciation expenses (critiqued here)?
So, I think some serious thought has to be done -- do we want a flawed stimulus package, or should we forego the stimulus if we think that most of the resulting deficit spending will not actually do any stimulating of aggregate demand? At the moment, I think we can -- and should -- try to do better.
Posted by Menzie Chinn at January 27, 2008 10:20 PMdigg this | reddit
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Tracked on January 31, 2008 03:48 PM
Lay all the worlds economists end to end and you won't reach a conclusion.
Posted by: js at January 27, 2008 10:24 PM
Unfortunately I think it's a little late to restructure the stimulus. The horse is already out of the barn. The White House has advertised the $800 per person and $1600 per household and that's what it will be. Talking to people I know they have already figured out how they are going to spend it as if the check is already on the way. There is no way that Congress is going to back down now in an election year. The real disappointment is the Democrats. The Republican plan was to give the rebate only to income tax payers, leaving out the lower quintile entirely. The Democrats caved entirely, giving up both the unemployment extensions and food stamp boost just to get a small $300 bone for the poorest.
Posted by: Joseph at January 27, 2008 11:28 PM
Besides bang-for-the-buck you need to look at bucks. U,food stamps, and low-income energy assistance are just too small to use as stimulus. Increasing each of these by 10 percent would generate $2.5 billion, $3 billion and $0.2 billion over the course of a year. So even a 20% increase in these programs would be miniscule. I would also not that the Pelosi plan, looks a lot like expanding EITC and child credits at the low end and should be applauded.
Posted by: rana at January 28, 2008 06:23 AM
The value of the dollar has nothing to do with the deficit. Interest rates have nothing to do with the deficit. The dollar's value is determined by the future potential of the economy. If foriegners want to invest in that potential, they need dollars to buy dollar denominated assets. The demand for those dollars will determine the value. The deficit increased through he 1980s, yet the dollar strenghtened and interest rates dropped. The deficit has increased since 2001, but this time the dollar lost value and interest rate (long term) have dropped. Conclusion: there is no link between the deficit and the dollar's value or interest rates. How high is Japan's debt/gdp ratio? My guess is the stimulus needs to be as high as 5% of gdp to turn things around. It took Japan over 10 years of stimulus, do we really want to wait that long?
Posted by: markg at January 28, 2008 06:30 AM
Having returned from Davos dazed and confused let me share the one major takeaway that I simply cannot shake.
There is a near universal contempt for the political leadership of the USA.
There is a near universal contempt for the economic policies of the USA.
There is a near universal contempt for the structural design of monetary policy making in the USA, focused "like a lazer beam" on the internally contradictory "dual mandate."
The takeaway is the relenteless expression of contempt, not veiled, not thinly-veiled, just spat out into the face ... impolite critics, no defenders.
This is something that I have never experienced before, not from this collection of people.
I suspect that what blew it wide open was the Bernanke fiasco last week, coming right at the start of the events.
The entire experience has worn me out and wrung me out.
Posted by: esb at January 28, 2008 06:59 AM
Well said! I noted Greg's Coalition Against the Fiscal Stimulus and how some of my Angrybear posts are in partial agreement with some of the posts he links to. Many of them are also arguing that if we need fiscal stimulus, let's maximize the bang for the buck so we can have less deficit financing. Your post is a very compelling case for a more effective fiscal stimulus.
Posted by: pgl at January 28, 2008 07:49 AM
Menzie, if you're looking for "Bang for the Buck" why are you proposing one of the least? Increasing food stamps, unemployment benefits, and even uel allowances, as Rana said:
are just too small to use as stimulus. Increasing each of these by 10 percent would generate $2.5 billion, $3 billion and $0.2 billion over the course of a year. So even a 20% increase in these programs would be miniscule.
$600 for @ 60-70% of the households seems to get more $ into the economy. Bang for the buck? Definitely! The tax allowances for small business is also the better approach to stimulate aggregate demand via small business investments.
To me it seems to be a combination of the 2001 and 2003 packages without the major tax cuts. Supply sider's concessions to the demand side? Maybe.
It should be an interesting case study for future classes, if we can track the effects of various components.
Posted by: CoRev at January 28, 2008 09:38 AM
How about just having the government butt out? How about have the Fed stop pretending they know where interest rates should be (clearly they don't)and leave it to the markets. In fact, why DO we have a Fed? (Oh, I know it's so we can have dollar that's worth 7 cents since it was created - some dual mandate!) It's clear that no one will acknowledge the 800# gorilla in the room and that is that we (Americans? Europeans? Everyone?)all love the free markets when it's going well but love the government more when it's not. Sheesh, what bunch of hypocrits we are!
Posted by: Footwedge at January 28, 2008 11:03 AM
Excellent work, but most analysis seem to miss the point. The business tax incentives and tax payer rebate checks are a diversion.
Lets mail the working stiff a one time $300 check, while we give $150K and a hall pass to the buyers and banks that got us into the mess.
Where's the beef? The pea is under the pod called the GSE loan limit increase from $417K to $729K.
The more stringent FNMA, FHLMC limits are raised for one year, while the less stringent FHA limits are raised, permanently.
According to California Sen. Barbara Boxer's office:
On the average $650,000 jumbo loan balance, a 30-year fixed rate mortgage, the lower rate (-1%) on the "conforming" GSE jumbo would result in an average $417 per month savings, every month for 30 years!
Thats a $150K subsidy which amounts to white collar welfare for rich homeowners and speculators.
Millions of 1, 2, 3 & 5 year interest only & teaser jumbos will be reset this year. Calculations estimate if only 1 million default after a FHA refi, this will result in a $260 billion cost to the taxpayer within 2 years.
There is nothing preventing Countrywide and other lenders from refinancing their delinquent and defaulting "liar loans" with the GSE's under this program.
In effect tax payers will be subsidizing the banks and borrowers with non conforming jumbo loans: California 35%, New York 19.5%, New Jersey 13,5% & DC 21.5%
This stimulus package is despicable, digusting, a disaster and a disgrace. Should it pass and be signed into law as currently drafted, its constitutional legality needs to be tested.
At a minimum, it is a violation of the GSE charters infringing into the "primary" mortgage markets. I urge you to contact your House & Senate reps to have the loan limit increase provision stricken from the bill.
Posted by: The Nattering Naybob at January 28, 2008 11:38 AM
ESB, did you try "I'm Canadian!"?
Posted by: odograph at January 28, 2008 02:16 PM
I'd also suggest taking a big knife to the bloated military budget and reallocating it to peaceful activities (education, health, energy efficiency) that could generate more jobs, better social outcomes, and contribute to real security in the longer term.
Posted by: Barry at January 28, 2008 02:39 PM
The stimulus package is nothing more than an excuse for politicians to give people a check right before the election so that the incumbents can go home and strut around like ugly roosters in a hen house.
And what irks me is that it will be called a Supply Side tax cut and then Supply Side Economics will be criticized and blamed when this foolish Keynesian fantasy doesn't work.
Posted by: DickF at January 28, 2008 02:52 PM
The rebates are a useless except to make the politicians feel good. There seems to be some debate as to how stimulating the last rebate was but with todays debt-ridden households the rebate will do no good. The wealthy households (if they receive any) will invest it, the middle class will pay down debt - many will probably be paying down some of their late mortgage payments, and the modest amount that lower income households receive (if any at all) will be spent but not enough to stimulate anything. These rebates may assist some households from defaulting on their mortgages but only temporarily. Soon their credit cards will be tapped out and widespread credit card defaults will overlap with the mortgage defaults.
Posted by: jhollo at January 28, 2008 08:12 PM
"Having returned from Davos dazed and confused let me share the one major takeaway that I simply cannot shake."
Well, it _is_ all America's fault. If we'd just decline into oblivion and let the Asians and Europeans assume their rightful position atop the heap like we're supposed to, everyone would be a lot happier.
Posted by: Michael at January 29, 2008 12:41 AM
Michael is so-o-o-o 2000!
Posted by: prostratedragon at January 29, 2008 03:06 AM
I have some difficulty with the discussion about what form of stimulus will have the most impact. Surely, any tax cut or spending increase will be spent - even money saved is effectively being spent on a financial asset, and that asset will presumably only be created and sold if the seller has some productive use for the funds which enables them to make interest and redemption payments. I would be grateful if someone can explain why it matters.
Posted by: RebelEconomist at January 29, 2008 04:14 AM
mark g says: "There is a near universal contempt for the political leadership of the USA.
There is a near universal contempt for the economic policies of the USA. yada, yada, yada"
Hmmm, did you expect more from socialist libtards?
Posted by: juandos at January 29, 2008 04:19 AM
You got the wrong author for your quote. ESB made that statement.
I am the one who occasionally post the fact that when it comes to financial wealth (not to be confused with real wealth) tha following applies:
govt debt = private sector surplus - trade deficit.
So if the U.S. govt debt is smaller than the trade deficit, U.S. households or business must run a debt to cover the difference. Sound familiar to the last few years?
There is nothing wrong with govt debt. It represents the desired net savings of financial wealth of the private sector (including foriegners). When the public has enough savings, spending will result in increased employment causing increased tax revenue and the deficit will level off. Same with foriegners and the trade deficit.
Posted by: markg at January 29, 2008 04:45 AM
Well, since the stimulus plan solidified and the fed emergency rate cut, the rate on the 10 year has been up every day.
So the bond market must think that recession is less likely or is being remediated, or that stagflation is coming.
It's funny how a cut in short term rates results in rising longer term rates.
In any case, since the Fed cut, mortgage rates are up a bit. Is that really what the Fed wanted to do?
Posted by: Buzzcut at January 29, 2008 06:28 AM
"Bang for the buck" as it is typically used, has to do with efficiency, not size. You have misquoted Rana, who did not condemn jobless benefits and food stamps for lacking "bang" but rather for insufficient size. I would argue that "too small" is not a serious problem. Any initiative that fits into the overall budget and generates lots of demand for dollar of budgetary impact is a good idea, all else equal. No need to worry about too small, and thre is plenty of impact from jobless benefits and food stamps. Bernanke made the point that, since we don't have perfect knowledge of the workings of stimulus efforts (despite the pretense from many quarters that we do), it is probably a good idea to do many different things, rather than any one thing. That makes high-efficiency, low-cost options high on the list of things we ought to do.
You misuse the expression "bang for the buck" again when refering to tax rebates. You are refering to size, not efficiency - the number of bucks out of the Treasury, not the amount of activity they will generate.
Let us not forget that, even if it is only incidental to generating economic activity, the stimulus package is going to provide an advantage to those who get stimulated. Those 116 mln tax payers (or whatever the number is) who will receive checks will be better off than anyone who doesn't, relative to their respective starting points. If we are in the business of handing out benefits, and there is no negative to small programs, why would anyone object to the benefits of the stimulus package going to those most in need? In providing for those most in need and generating spending, we serve two valuable functions with the same money.
Posted by: kharris at January 29, 2008 07:45 AM
By the way, that distinction between size and efficiency was the whole point of our host's comment. It must take real effort to pick it up and stand it on its head.
Posted by: kharris at January 29, 2008 07:47 AM
We all know how good the banks' forecasts were for the housing bubble and the credit bubble (remember "it's contained to subprime"?). So why would we rely on DB's forecast for economic growth this year?
Posted by: foo at January 29, 2008 08:20 AM
kharris, this is the Menzie comment to which I was responding.
In addition, the deficit spending should be aimed at increasing aggregate demand, as opposed to providing a windfall to households and businesses that will only enhance wealth or profits.
And this one:
What is the point of the 1/3 of the package ($50 billion) that will be devoted to accelerating capital depreciation expenses (critiqued here)?
He is measuring "bang for the buck" in terms of increasing aggregate demand. For me it means that the stimulus package rebates are fractionally (small) efficient as the unemployment, food stamps and fuel incentives. If rebates don't increase aggregate demand more than the smaller incentives, the points Rana and I were trying to make, then I stand corrected.
Moreover if Menzie's conclusion:
So, I think some serious thought has to be done -- do we want a flawed stimulus package, or should we forego the stimulus if we think that most of the resulting deficit spending will not actually do any stimulating of aggregate demand? At the moment, I think we can -- and should -- try to do better.means to you
...distinction between size and efficiency was the whole point...then I find it hard to agree with you. To me it appears to be a call for a more perfect stimulus package. Could that mean ONLY size and efficiency, maybe, but I find several points not just one in his article.
Menzie, you are up.
Posted by: CoRev at January 29, 2008 08:39 AM
So your argument is that small is bad? Something that has a very good chance of producing a dollar of activity for a dollar of outlay is bad, and not worth doing, simply because we would also need other stuff?
Now, unless we are talking to the Queen of Hearts, words have actual meaning and groups of words have actual meaning. I realize that in political discussion and high-school debate, hijacking words for personal advantage is pretty common, but words and groups of words still have their own meaning. You don't get to decide that "bang for the buck" means size and efficiency because it allows you to accuse our host of having missed in the "bang for the buck" category. Unemployment benefits get spent. Food stamps get spent. As a result, a dollar of budget cost leads to very close to a dollar of spending, unlike tax cuts and rebate checks. That is what is meant by getting bang for the buck. Disagree all you like, but in doing so, you are delving into the realm of political and high-school debate schenanigans, rather than honest discussion.
Posted by: kharris at January 29, 2008 10:53 AM
Sorry to all to be absent from the debate. The new semester is upon me.
One way to look at my argument is as follows. Stipulate that $150 billion is the size of the package to be implemented. Then, for each dollar, what provisions have the largest multiplier (in the Keynesian sense). So my criticism is not of investment incentives per se consituting 1/3 of the package, but rather that each dollar devoted to accelerated depreciation will lead to small impetus to aggregate demand. If those investment incentives were in the form of investment tax credits, I would be less critical.
So in this sense, kharris has perhaps said it better than I did.
Posted by: Menzie Chinn at January 29, 2008 02:01 PM
Menzie, kharris, I stand corrected. Now, I really disagree with your approach.
Posted by: CoRev at January 29, 2008 04:17 PM
You disagree with spending money efficiently? With accomplishing public goals with the smallest outlay of public money? I need help getting past the shock, 'cause that seems to be the gist of what you've written here, all in.
Posted by: Anonymous at January 30, 2008 09:25 AM