The Economy Needs More Big Government--Now

By Robert Kuttner

September 11 suddenly shook America out of its complacency about terrorism--and also reversed two decades of bipartisan contempt for government. Now, with a gathering economic storm, government again has an enlarged economic role as well as a military one.

The economy was in trouble well before the attacks because of a rare collision of forces. The stock market bubble had burst, not just because of the tech collapse but because of weak earnings across the board. A huge amount of excess production capacity weighed down the economy, and investment imploded.

By July, consumer borrowing, which had kept the economy out of recession, also was pulling back. Unemployment abruptly spiked to 4.9%, with manufacturing taking the worst hit. Repeated rate cuts by the Fed were achieving little.

Then came the attack--and with it a real danger of economic free fall. All the forces in play before September 11 have now been intensified. Beyond the sectors most directly affected--hotels, restaurants, airlines, insurance--consumers are deferring optional purchases, triggering a cycle of wider layoffs and further cuts in spending and investing. And today's plunging stock market produces not just paper losses. For the 401(k) generation, who bet their retirement income on rising stock prices, these losses to consumption are genuine.

This could also be the rare war economy with little wartime stimulus. The initial federal outlay--relief for New York, a downpayment on military and antiterrorism spending, and the airline bailout--totals only $65 billion, not much in a $10 trillion economy.

PUBLIC HEROES. With consumers and investors both pulling back, there is one reliable tool of economic stimulus--government spending. Since the attack, government has become almost fashionable again. The airport rent-a-cops who failed America on September 11 embodied the policy of privatizing security. The investors who ignored patriotic advice not to dump stocks were doing just what free-market theory counsels--saving their own assets. But the public heroes of New York's ground zero--cops, firefighters, medics--were public employees. And those banners flying everywhere are not the flags of Microsoft (MSFT ) or Citicorp (C ), but Old Glory.

In a time like this we rally round the one institution that unites us as Americans, that can wage war on terrorists, repair a broken transportation system, assure our public health, and also stimulate a sagging economy. We did it in past wars and in the New Deal, and we need to rely on government now.

In this kind of economic crisis, monetary policy can only do so much because even very low interest rates will not make anxious consumers spend or entrepreneurs invest. Even tax relief has its limits, if consumers are nervous about spending. What's left is public outlay.

As it happens, two decades of government-bashing have left a number of public systems in disrepair. Hence there are plenty of worthy candidates for public outlay. Fortunately, too, the obsession with accumulating a surplus for a rainy day has left plenty of capacity for public spending. The rainy day has arrived.

PUBLIC HEALTH. Begin by repealing a trillion dollars of the tax relief scheduled to take effect for the upper tax brackets after 2004 and instead spend at least $300 billion of that money this year and next. Beyond money for military and civil defense, Washington should increase general revenue-sharing outlays, so that hard-pressed states don't have to raise taxes in a recession. We also need a supplemental welfare outlay as well as a federal infusion to underfunded state unemployment compensation systems to finance extended benefits.

With heightened airport security delaying air travel, rail should be the preferred mode for trips of under 300 miles. Amtrak has new fast trains. What's lacking is billions of dollars in track-upgrading to make our rail system effectively high-speed, such as Europe's and Japan's.

Another high priority is rebuilding America's public health system, which has been left to deteriorate to a dangerous level of preparedness. And while we are protecting citizens against bio-terror, we might as well inoculate all kids against childhood diseases.

During World War II, we had surtaxes, not tax cuts. In this very different national mobilization, if we do tax cuts at all they should be in the form of temporary payroll tax relief. That puts relief where it's needed and stimulates hiring.

Few people in official Washington are talking this talk--yet. Both the 50-member House Progressive Caucus and the Economic Policy Institute have called for $200 billion to $300 billion in emergency spending for unemployment, infrastructure, health benefits, and tax rebates. Business groups are also lining up, but we need to distinguish investment from bailout. The economy needs a big spending stimulus now. The longer we wait, the deeper will be the hole.

Robert Kuttner is co-editor of The American Prospect and author of Everything for Sale.

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