Why Bush's Stimulus Package Will Leave the U.S. Weaker
By Laura D'Andrea Tyson
In the wake of the tragic events of September 11 and the ongoing war on terrorism, the American economy finds itself in need of two kinds of insurance: insurance against a severe recession in the short run and insurance against escalating deficits and debt in the long run. A stimulus package consisting of temporary increases in government spending and temporary tax relief can provide the first kind of insurance. Fortunately, both its political and financial price tags are relatively small. A fiscal stimulus in the range of $100 billion to $120 billion is only about 1% of gross domestic product and can be easily covered by the surplus Social Security revenues available next year.
Moreover, at this moment of bipartisanship, the politics of spending more and taxing less is even more attractive than usual, so members of Congress should be able to reach agreement quickly. There's no guarantee, however, that they will fashion a sensible package that is limited to temporary measures to boost demand during the next six to nine months, when the risk of recession is greatest. In fact, the stimulus proposal circulated by the Bush Administration violates these conditions. Most of its components are tax cuts, many of them permanent, and they include accelerating the 1% reduction in income tax rates currently scheduled for 2004 and 2006 to 2002. This acceleration would add little to demand in 2002 but would significantly curtail government revenues in later years. If the 2004 rate reductions were accelerated, about two-thirds of the lost revenues would occur after 2002; if the 2006 reductions were accelerated, nearly four-fifths would occur after 2002. In either case, most of the tax relief would benefit the top one-quarter of all income tax filers, who are likely to save more and spend less from tax cuts than those who have lower incomes and tend to spend whatever extra income they have.
Surely there are more effective and more equitable ways to stimulate demand in the coming months. Temporary spending increases to strengthen homeland defense, a temporary cut in payroll taxes for low-income workers, and an extension of unemployment benefits are three obvious alternatives.
The second kind of insurance needed by the economy--insurance to restore the long-run health of the federal budget--requires a multiyear budget plan that covers the real costs of both the war on terrorism and the country's commitments to current and future retirees. Unfortunately, if the Bush Administration's stimulus proposal is adopted, its permanent toll on government revenues will require even more painful trade-offs among the nation's priorities.
Even before the terrorist attacks, the huge tax cuts scheduled over the next decade had dealt a severe blow to the nation's long-term fiscal outlook. According to both the Office of Management & Budget and the Congressional Budget Office, during the next decade, the federal surplus will be limited to funds earmarked for Social Security and Medicare. The Bush Administration's tax cuts have wiped out the remaining on-budget surplus. Even this sobering conclusion rests on accounting gimmicks, optimistic economic forecasts, and the unrealistic assumption that federal spending on all nondefense programs outside of Social Security will continue to decline in real per capita terms, hitting an all-time low as a percentage of the economy by 2011. Merely holding spending on these programs--including everything from public health to infrastructure to education--constant in per capita terms would cost an additional $250 billion over the next decade. And that's without any new spending on anti-terrorism measures.
LONG-TERM HEALTH. Unlike wishful thinking, realistic budget projections lead to an inescapable conclusion: Unless the tax breaks slated for the next 10 years are rolled back, ensuring the budget's long-term health will require either harmful, economically unwise cuts in other parts of the government budget or a return to escalating budget deficits as soon as next year. If we choose budget cuts over deficits, the Social Security and Medicare surpluses projected over the next decade will have to bear the brunt of the budgetary ax. These are exactly the surpluses that the majority of American voters would rather save to cover outstanding commitments to future retirees than use to fund additional tax cuts.
We must replenish the surpluses we use now to fight recession and the war on terrorism so that we can honor our future obligations to America's workers. Homeland security must not come at the expense of their retirement security. Rescinding the income-tax and estate-tax cuts is the best way to make sure this doesn't happen. It's also the best way to restore the long-term credibility of the federal budget. As many observers--including Alan Greenspan, Robert Rubin, the Concord Coalition, and the Committee for Economic Development--have warned, without such credibility, upward pressure on long-term interest rates will impede the economy's recovery and long-term growth.
Laura D'Andrea Tyson is dean of the Haas School of Business at the University of California at Berkeley.