WSJ article reported that stimulus money spent in "2011 or later" would be ineffective -- but CBO head disagrees

››› ››› RAPHAEL SCHWEBER-KOREN

The Wall Street Journal uncritically reported congressional Republicans' criticism of the proposed economic stimulus bill on the grounds "that much of the money in the package wouldn't be spent until 2011 or later, when a recovery is likely to be already under way." The article did not mention that economists, including Congressional Budget Office director Douglas W. Elmendorf, have said that fiscal stimulus in 2011 or later would be effective in the current economic situation, in which economic output is projected to remain below its potential long after the technical beginning of the recovery.

A January 28 Wall Street Journal article uncritically reported congressional Republicans' criticism of the proposed economic stimulus bill on the grounds "that much of the money in the package wouldn't be spent until 2011 or later, when a recovery is likely to be already under way." The article later stated that "[t]op Democrats said early on that the money should be timely, temporary and targeted. But more recently, it is Republicans who have been citing that slogan, while Democrats are arguing that part of what the package must do is set the stage for a healthy economy in the long term, for example by funding science and technology." However, the article did not mention that economists, including Congressional Budget Office director Douglas W. Elmendorf in written congressional testimony submitted the day before, have said that fiscal stimulus in 2011 or later would be effective in the current economic situation, in which economic output is projected to remain below its potential long after the technical beginning of the recovery.

Elmendorf, in his January 27 written testimony before the House Budget Committee, stated that, unlike in ordinary "periods of economic weakness" that "are fairly short-lived," "CBO projects that economic output will remain significantly below its potential for several more years, so policies that provide stimulus for an extended period of time may be appropriate." From Elmendorf's testimony:

Timing. The economic effects of fiscal stimulus should occur during the period of economic weakness, all else being equal. When, as now, a recession is clearly already under way and aggregate demand is declining, it is better if stimulus affects spending quickly in order to mitigate further deterioration in the economy. Different types of policies may differ greatly in how quickly they can be implemented.

Because most periods of economic weakness are fairly short-lived, it is generally preferable that stimulus policies be short-lived. Currently, however, CBO projects that economic output will remain significantly below its potential for several more years, so policies that provide stimulus for an extended period of time may be appropriate. Indeed, a fiscal stimulus that ends before the economy has started to regain its footing runs the risk of exacerbating economic weakness when the stimulus ends.

When committee chairman John Spratt (D-SC) asked Elmendorf to comment on the length of time over which stimulus spending would occur during the January 27 Budget Committee hearing, Elmendorf said that, because the "GDP gap"-- the difference between CBO's estimates of "potential" and actual economic output -- "will persist for a number of years, fiscal stimulus, to try and narrow that gap, would be appropriate, in the minds of a wide majority of economists, for a number of years, not just in 2009 and 2010." From the hearing:

SPRATT: Now, looking at the value of the return over time, the benefit stream that accrues from the plan. Is it proper to look at the flow over time more than one year, not just next year and the following year, but if it's education for example, or if it's infrastructure, it has some lasting economic productivity improvement?

ELMENDORF: Yes. So there are really two issues there. The first thing is to say that because this GDP gap will persist for a number of years, fiscal stimulus to try and narrow that gap would be appropriate, in the minds of a wide majority of economists, for a number of years, not just in 2009 and 2010.

A broader point I think you're making, Mr. Chairman, is that investments that are made in the economy today will reap benefits, potentially, for many years to come. And those investments can be in the form of physical capital -- highways, broadband, water supplies -- or it can be in the form of what economists call human capital, which are the education and skills of the workforce.

Likewise, in a January 27 blog post, New York Times columnist and Nobel laureate Paul Krugman wrote that, because of the particular circumstances of the current economic situation, it would not be a problem even if "some or even most" of stimulus spending occurred after the recession technically ends:

It's not a problem if some or even most of the stimulus arrives after the official recession, as determined by the NBER [National Bureau of Economic Research], is over. Why? Because in modern recessions, unemployment keeps rising long after the NBER has determined, based on things like industrial production, that the recession proper is over. You can see that the need for stimulus doesn't end with the recession by the simple fact that in each of the last two recessions the Fed continued to cut interest rates long after the official cycle trough. if it's good enough for the Fed, it's good enough for fiscal policy.

So what is the right criterion? Actually, I think it's quite straightforward. The reason we're talking about fiscal policy is the fact that monetary policy is up against the zero lower bound. Stimulus will still be valuable as long as we're still up against that bound -- which is likely to be the case for a long time.

Again, I think it's helpful to look at the last two recessions, even though we didn't hit the zero bound either time. The 1990-1991 recession officially ended in March 1991; but the Fed kept cutting rates, and it didn't start raising the target rate until Feb. 1992, 2 years and 11 months later. The 2001 recession officially ended in Nov. 2001; but the Fed kept cutting, and didn't start raising rates until June 2004, 2 years and 7 months later. This suggests a long window, even after the recession officially ends, before the zero bound stops binding, and hence before the current strong case for fiscal expansion goes away.

Suppose, for example, that the recession ends this summer (which seems wildly optimistic). If recent experience is any guide, the Fed will still be keeping rates at zero 2 1/2 years later, that is, at the end of 2011. (emphasis in original)

Krugman later stated that "[g]iven what I've said, any spending that comes in fiscal 2009, 2010, or 2011 is good, and it's no tragedy if some of the spending trails off into the years following. ... 70 percent of the Division A [of the bill] stuff and 91 percent of the Division B spending comes within the fiscal 2009-2011 window. If you go up to the end of calendar 2011, we're probably up to about 77 and 96 percent. That's not at all bad."

From the January 28 Wall Street Journal article, headlined "Republicans Question How Much Stimulus Plan Will Provide":

President Barack Obama's economic-stimulus plan is moving on a fast track through Congress. But Republicans, and some independent economists, are increasingly raising the question: Just how much will it actually boost the economy in the near term?

While the White House says most of the impact will be felt this year or next, and up to four million jobs will be created or saved, congressional Republicans contend that much of the money in the package wouldn't be spent until 2011 or later, when a recovery is likely to be already under way. They add that opening the spigot on government spending has often proven ineffective at softening recessions.

Much of the plan, they add, will simply replace other spending by state governments or the private sector. "It's a stretch to call this a stimulus package,'' said Rep. Tom Price (R., Ga.). "I've dubbed it a nonstimulus package.''

Many Republicans now put quotes around the word stimulus when issuing statements about the plan.

[...]

In the two months since Democrats started to craft a big stimulus plan, the terms of the debate have shifted somewhat. Top Democrats said early on that the money should be timely, temporary and targeted.

But more recently, it is Republicans who have been citing that slogan, while Democrats are arguing that part of what the package must do is set the stage for a healthy economy in the long term, for example by funding science and technology. The Democrats are now less likely to call their package a stimulus and more likely to cast it as an economic-recovery program.

The argument often comes down to the specifics in the Democrats' plan. One provision, for example, would expand the matching funds the federal government provides to states for family planning through Medicaid, the joint state-federal health care program for the poor.

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