Not Much Stimulus from Tax-Cut Deal

By Beacon Staff

The tax deal negotiated by President Obama and the Republican congressional leadership has been called a “stealth stimulus package.” By maintaining all the Bush tax cuts, renewing unemployment insurance benefits, adding a payroll tax cut, and so on, the deal will probably boost the speed of the economic recovery.

But is it enough to reduce unemployment – and raise Mr. Obama’s prospects for reelection in 2012?

If so, it’s by the barest of margins. Several prominent Wall Street economists have raised their US economic growth forecasts for 2011 by half a percentage point or more. So real gross domestic product – the nation’s output of goods and services – might rise by somewhere between 3 to 4 percent. That’s only modest growth. It could leave unemployment unusually high – close to 9 percent – by the end of next year.

Some economists are even more pessimistic. Consumers are still reducing their debts by tightly managing spending, points out A. Gary Shilling, a consulting economist based in Springfield, N.J. He predicts a mere 2 percent GDP growth in 2011.

It’s not that government stimulus doesn’t work. The challenge is that it has to be big enough to really pep up hiring.

How big? In early 2009, Obama and Congress pushed through an $862 billion package of stimulus spending and tax cuts. By mid-summer the economy began to recover at a very slow pace. Most economists in the United States, with the exception of some economists in the conservative Austrian School, figure that without the 2009 stimulus, the economy would be in worse shape today.

How much worse is impossible to prove, partly because you can’t chart the policy course not taken, partly because economics in any case is an inexact science. Then there’s the added complication that consumers don’t always act the way government wants them to.

Instead of spending the money government hands out to give the economy a short-term boost, Americans save much of it or use it to pay down debt. That explains why a consumer survey found that the reduction in income tax withholding in the 2009 package (Making Work Pay) did not have much of a stimulus impact, says Joel Slemrod, an economist at the University of Michigan Business School in Ann Arbor.

Mr. Shilling calculates that Americans spent only about half of their stimulus money.

Today, about $200 billion of the original stimulus remains in the spending pipeline. Compare that with today’s “stealth stimulus.” The Bush tax cuts, though still in place under the new package, do not provide new extra stimulus to the economy, notes Shilling. The other provisions – principally the payroll tax cut – will provide perhaps $100 billion to $200 billion in extra stimulus, he estimates.

That’s not much in a $14.2 trillion economy. “I don’t think it will make a big difference,” he adds.

One weakness seen in the new package is that it provides no extra funding for states. Thus they could keep shedding workers and cutting services.

Also, many households will take some time to become comfortable spending again. A new study by the New America Foundation in Washington finds that a “strikingly large share” of Americans have experienced substantial economic “shocks” through job loss, disruptions of health coverage, a wealth drop, family-needs increase, etc. One in five Americans experienced a 25 percent or greater decline in available household income.

All of this suggests a long, slow recovery.

David R. Francis writes for The Christian Science Monitor.