Thursday, July 09, 2009

A Second Stimulus

I have yet to hear a discussion from our leaders about how a fiscal (spending) stimulus will work now when similar policies failed during the great depression under Roosevelt and Hoover. The first $787 stimulus was passed despite numerous warnings from some of the worlds best and most prominent economists, including Cole & Ohanion, Prescott, Barro, Becker, Rizzo, Mankiw, Sargent, and almost 200 more. When the Michael Jordans and Tiger Woods of the field are stating that the stimulus package flies in the face of over 60 years of macroeconomic research, the supporters of the policy, or the media, or someone needs to be discussing this as a debatable idea.

Current evidence indicates that the first stimulus has not worked as it appears to have had no influence on unemployment - see graph below or link here.

Source here via Greg Mankiw

So now, supporters of a second stimulus have to explain, after the New Deal stimulus spending failed in the 30's, and the first $787 stimulus failed , why do we expect a 2nd stimulus will work? I aknowledge that there is a lag time for stimulus spending, but that only strengthens the argument AGAINST a second stimulus. If we have not had enough time for this to work, then we don't know if we truly need a second stimulus or not. If we need more spending now on infrastructure to create more jobs as Pennsylvania Governor Rendell says ( from , then why didn't we spend more of the $787 billion on things that would create jobs the first time. Why not reallocate what we have already committed in the $787 billion to these ends?
Instead of ‘returning to the failed policies that got us where we are today’ perhaps we should consider other policies that have shown success in the past. I’m referring to lowering marginal tax rates and reducing the corporate tax rate.

The basic argument for cuts in marginal taxes is that lower tax rates provide an incentive for increased economic activity. In addition, lower taxes reduce the incentive for the wealthiest Americans to engage in activities to avoid paying taxes . Why pay high management fees, and risk lower returns if a reduction in taxes will lead to higher after tax returns than what you will get in a tax shelter?

Is there any evidence for these supply side effects? Do we actually see increases in economic activity and increases in revenue in the face of cuts in marginal tax rates?

In his book 'Vision of the Annointed,' Thomas Sowell provides data from the US Budget Historical tables ( I checked these ) indicating that with the Regan tax cuts, we saw revenue increases.

This is corroborated by Lawrence Lindsey ( 1987) who found that for those earning > $200K per year, we saw the following increases in collections:

1982 – 3%
1983 – 9%
1984 – 23%

( see Lindsey, Lawrence B. 1987. “Individual Taxpayer Response to Taxcuts, 1982-1984.” J. of Public Economics 33 (July) 173-206 , also noted in: Robert Barrow. Macroeconomics- 5th Edition MIT Press 1997 )

And for the recent Bush tax cuts: ( see this from the Wall Street Journal )

"Taxes paid by millionaire households more than doubled to $274 billion in 2006 from $136 billion in 2003. No President has ever plied more money from the rich than George W. Bush did with his 2003 tax cuts. These tax payments from the rich explain the very rapid reduction in the budget deficit to 1.9% of GDP in 2006 from 3.5% in 2003." ( see historical tables link above )

Also, straight from the historical tables provided by the office of management and budget you will see that from 2004-2007 there was a 25% surge in tax revenues, ( in face of tax cuts) which was the largest 3 yr surge since 1966.

Further evidence is given by President Obama's chief of the council of economic advisers, Christina Romer. She finds that a dollar of tax cuts raises the G.D.P. by about $3. According to this research the benefit from tax cuts is more than twice what other researchers say we get from spending increases.

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