Once, when John Maynard Keynes, the great British economist, was rebuked for changing his mind on some issue, he turned the tables on his accuser with a sharp retort: "Sir, when I learn new facts, I sometimes change my opinion. What do you do?"
Last winter, there was a rising chorus of calls for fiscal stimulus: new spending or tax cuts designed to give the economy a swift kick upward. I refused to join those calls, arguing in this column that:
-- The deficit was already too large.
-- The recession had been unusually mild.
-- Interest-rate cutting by the Federal Reserve should and would power the recovery.
As a good Keynesian, I hereby change my mind. Several new facts lead me to conclude that the time for fiscal stimulus has come.
First, we now know that the recession has been neither shallow nor short. A year ago, the data showed it was a two-quarter recession that had pulled the gross national product down a mere 1.2%--about half as much as an average recession. Then, the national accounts were extensively revised, shifting the focus from gnp to gross domestic product, and the Commerce Dept. estimated that gdp had actually declined 1.6%. Now, the most recent data revisions tell us the recession lasted three quarters and brought gdp down 2.1%. In short, it was an average recession, not a midget.
Second, we now know that this is the recovery that wouldn't. While the U.S. economy has experienced five consecutive "up" quarters, the average annual growth rate during this period has been a paltry 1.6%. That's a far cry from the historical norm of 4% to 6% growth during the 18 months following a recession bottom. The "double dip" we all feared actually happened, and the economy is now sputtering again. We can ill afford a third dip.
DOING WORSE. It is easy to understand why 1.6% growth does not look like recovery to most Americans. Because both population and productivity increase each year, we need gdp growth of 2% to 2.5% just to keep a stable rate of employment. If we do worse, unemployment rises. And we have done worse: Only one of the five quarters of "recovery" so far has reached even the 2% to 2.5% benchmark of mediocrity. So here we are, 15 months after the recession trough, stuck with an unemployment rate higher than at the bottom. Fewer Americans have jobs now than before the recession began, even though our labor force has grown by about 2 million workers. That is not a recovery worthy of the name.
Third, the interest-rate elixir that was supposed to invigorate economic activity has failed to do so. Not that it hasn't been tried. Although the Federal Reserve was a bit slow getting started, it has cut short-term interest rates repeatedly and vigorously--driving short rates down to levels not seen in this country in almost 30 years. But the results have been meager. Six months ago, many economists (including me) counseled patience: Give the medicine a chance to work. But now, the time for patience has passed.
Simply put, we must fire both engines. While the Fed continues its campaign of monetary ease, the government should open the fiscal throttle: Damn the deficit and full steam ahead--at least for a while. But what, in concrete terms, does that mean? Virtually any sort of tax cut or expenditure increase will stimulate the economy. But I would advocate two in particular.
FAST ACTION. First, enact a sizable but temporary investment tax credit (ITC). I would suggest a credit of at least 10%, lasting at most 12 months. The idea is to get private businesses to kick-start the economy by bringing their investment plans forward in time. If Congress and the President can manage the legislative subtlety--a dubious proposition, to be sure--it would be better to make the credit "marginal," that is, to apply it only to spending that is above some specified base amount. But the important thing is that we get it--and fast. Relative to many other proposed tax cuts, a temporary ITC has two important virtues: It does not worsen the long-run budget deficit because the revenue loss is transitory. And it builds for the future by promoting investment, not consumption.
Second, provide emergency fiscal relief for beleaguered cities and states whose budget crises are now forcing them to cut spending and raise taxes--precisely the wrong things to do in a weak economy. This part of the program can share the same two virtues, if aid is given as explicitly temporary grants or interest-free loans and if the formula is especially generous to states that earmark funds for public investment. In apportioning aid, it is vital not to penalize states that have already bit the fiscal bullet. That is, assistance should be based on per capita income, unemployment, or some such thing--not on the state's current budget deficit.
It is no coincidence that this plan bears a family resemblance to proposals advanced months ago by Senators Paul S. Sarbanes (D-Md.) and Jim Sasser (D-Tenn.), and by Nobel laureates Robert M. Solow and James Tobin. Had we listened to them months ago, the nation would be in less dire straits today.
Better late than never.