Obama’s Stimulus Plan Is Failing, Not because the Solution Is More Tax Cuts (as Claimed by Republicans), but because the Stimulus Is Way INSUFFICIENT!

The American Recovery and Reinvestment Act of 2009 (ARRA), based largely on proposals by President Obama (but weakened by the centrists), was passed by Congress in its conference version on February 13, 2009 and signed into law by the President on February 17, 2009.

Paul Krugman, 2008 Nobel Prize winner in Economic Sciences, wrote on February 8th:

Even if the original Obama plan — around $800 billion in stimulus, with a substantial fraction of that total given over to ineffective tax cuts — had been enacted, it wouldn’t have been enough to fill the looming hole in the U.S. economy, which the Congressional Budget Office estimates will amount to $2.9 trillion over the next three years.

Yet the centrists did their best to make the plan weaker and worse.

One of the best features of the original plan was aid to cash-strapped state governments, which would have provided a quick boost to the economy while preserving essential services. But the centrists insisted on a $40 billion cut in that spending.

On the eve of the House passing the conference version, Krugman summarized ARRA this way:

...In both the House and the Senate, the vast majority of Republicans rallied behind the idea that the appropriate response to the abject failure of the Bush administration’s tax cuts is more Bush-style tax cuts.

And the rhetorical response of conservatives to the stimulus plan — which will, it’s worth bearing in mind, cost substantially less than either the Bush administration’s $2 trillion in tax cuts or the $1 trillion and counting spent in Iraq — has bordered on the deranged.

It’s “generational theft,” said Senator John McCain, just a few days after voting for tax cuts that would, over the next decade, have cost about four times as much.

It’s “destroying my daughters’ future. It is like sitting there watching my house ransacked by a gang of thugs,” said Arnold Kling of the Cato Institute.

And the ugliness of the political debate matters because it raises doubts about the Obama administration’s ability to come back for more if, as seems likely, the stimulus bill proves inadequate.

For while Mr. Obama got more or less what he asked for, he almost certainly didn’t ask for enough. We’re probably facing the worst slump since the Great Depression. The Congressional Budget Office, not usually given to hyperbole, predicts that over the next three years there will be a $2.9 trillion gap between what the economy could produce and what it will actually produce. And $800 billion, while it sounds like a lot of money, isn’t nearly enough to bridge that chasm.

Officially, the administration insists that the plan is adequate to the economy’s need. But few economists agree...

It is becoming more and more apparent every day that the stimulus provided by ARRA is, as Krugman has long predicted, frightfully inadequate. Today’s news that the unemployment rate came down a tic last month doesn’t begin to tell the full story. The graph at the top of this post (taken from the 19 June 2009 issue of Science magazine and modified to show today’s data) shows that since the passage of ARRA the unemployment rate has gotten WORSE relative to the “Projected Without Recovery Plan” ...and worst still when compared with Obama’s “Predicted With Recovery Plan.”

But the unemployment rate is only part of the picture. The other part has to do with the production and spending that comprise the Gross Domestic Product (G.D.P.). Two days ago, a column in the New York Times explained the situation with reference to the second graph at the top of this post:

Chump Change in the Latest G.D.P. Report
by Casey B. Mulligan

On Friday, the Bureau of Economic Analysis released its advance estimate of real G.D.P. for the second quarter of 2009. Although some say it provides some of the first evidence of the stimulus law’s efficacy, a close inspection of the results shows that the government sector’s contribution to real G.D.P. growth so far has been trivial at best.

G.D.P. measures the total amount produced and spent in the nation during a particular time frame, like a year or a quarter of a year, indicating the country’s economic fitness. Real G.D.P. for the first quarter of 2009 was sharply lower than it was in 2008’s last quarter, which was itself sharply lower than the quarter before that. Thus, it came as a bit of a surprise that second-quarter real G.D.P. was not also sharply lower, but rather was pretty close to what it was in the first quarter.

Some advocates were quick to congratulate the stimulus law that was passed in February, claiming that “The marked improvement in this quarter relative to last is largely due to the American Recovery and Reinvestment Act (ARRA).”

A closer inspection of the B.E.A.’s estimates gives no support for this claim. The chart [above] shows the change in the United States’ real G.D.P. from the first to the second quarter, broken into five expenditure categories: private domestic purchases, net exports, defense, federal nondefense purchases and state and local government purchases.

We were told that the stimulus law would invigorate the economy by spending on federal nondefense programs and helping state and local governments maintain and grow their public services. Stimulus advocates point to the fact that these spending categories indeed grew from the first to the second quarter, as shown in the chart by the fact that those two bars point upward. (Perhaps they believe that tax cuts and unemployment insurance have important effects, but these are not separate G.D.P. categories — they are included in whatever category the recipient spends them).

However, the chart also shows that these types of purchases were trivial. Real federal nondefense purchases increased by a mere $4 per American, while state and local government purchases increased by a mere $8 per person. Real defense purchases increased by $17 per person, which seems large when compared to the other government purchase categories, but is trivial by any other measure.

Another reason that we know that the stimulus bill had not yet delivered on its promise: employment plummeted from the first to the second quarter. We can continue to grade the stimulus law as the economy further evolves, but it finds no congratulations in the second quarter’s economic performance as measured.

--- Casey B. Mulligan is an economics professor at the University of Chicago.