Friday, October 31, 2008

"In light of the most recent data another fiscal boost is needed, and it had better be big."

Clive Crook also supports a stimulus:

"How big a boost? One leading policy economist -- also a noted scholar of the Depression and a level-headed man not given to exaggeration -- is Barry Eichengreen of the University of California (Berkeley). He has called for a further stimulus of 5 percent of national income: in other words, another $700 billion. "This means that the [budget] deficit may be closer to $2 trillion than $1 trillion next year," he points out. A $700 billion stimulus is at the high end of the numbers currently being suggested. Among economists, packages of $300 billion to $500 billion are more the norm, and proposals circulating on Capitol Hill are at the lower end of that range. A year ago, even these smaller sums would have been regarded as staggering.

I agree with Eichengreen. The economy is no longer on the edge of the precipice but tipping over into free fall. A second stimulus package of $500 billion or more -- to include spending on infrastructure and unemployment assistance as well as tax cuts -- is necessary. If you are going to do this, there is no point in half-measures. The government has to fill the space that terrified consumers are now vacating, and it is a very big space."

I agree. Here's my comment:

"If European governments and other countries introduce big fiscal plans of their own (as they should, in their own interests), the chances of a flight from the dollar would come down. Second, the package should ideally include commitments -- including postdated tax increases and reform of the budget process -- that would reassure investors that Washington will bring the deficit back under control once the crisis is over."

But this:

http://stumblingandmumbling.typepad.com/stumbling_and_mumbling/2008/10/the-benefit-of-inequality.html?cid=137119795#comments

"Stumbling and Mumbling on a stimulus plan:

"This raises an obvious question. If government borrowing today merely means lower state spending or higher taxes tomorrow, why should it boost aggregate economic activity at all? Won’t it just cause tax-payers to save in anticipation of higher future taxes, or public sector workers to save in anticipation of redundancy?
This is, of course, the challenge of the Ricardian equivalence hypothesis. This says that fiscal policy is impotent, because people should save in anticipation of higher future taxes, which is what borrowing is."

Will people save in preparation of tax increases? Or losing a job?

"the UK is one of the few countries in which Ricardian equivalence is wrong. So perhaps fiscal policy might work.
How can this be?
It‘s not necessarily because people are short-sighted. It‘s because they are liquidity-constrained - they can’t save or borrow enough.
Put yourself in the shoes of a poorly-paid person. You might anticipate higher taxes in five years’ time. But what can you do about it? You’re struggling to pay rent and leccy bills today. You just can’t save as a precaution against future problems - you’ve enough on your plate making ends meet now."

Well, if people are poor enough, No. They can't. They need to live.

"But what if we had a more progressive tax system, with taxes only levied upon those of us who can afford to save? We might well trim spending on fripperies to save more. We would then be in the world of Ricardian equivalence, in which public borrowing was offset by private saving."

So, people who can save will.

Conclusion:

"My point is simple. What allows Darling’s fiscal policy to work is the fact that taxes fall upon people who can‘t save. If the poor were better off - and so able to save - or if taxes were more progressive, fiscal policy would be less powerful.
Personally, I’d prefer a world of greater equality and less powerful fiscal policy. But not everyone shares my preference."

I agree, but I'm not sure I accept the reasoning. For one thing, oddly, if the rich will save in anticipation of future taxes, why not tax them now, and obviate that problem. Another possibility would be to raise taxes until they don't want to save. One could also tax their savings. I'm not advocating any of these things, but there do seem possibilities to counter this effect where it exists."

And this:

"You might be interested in this about the Japanese stimulus plan from the FT:

http://www.ft.com/cms/s/0/00df00ae-a63c-11dd-9d26-000077b07658.html

"Although the handouts would increase household disposable income, given that there could be a consumption tax rise in three years, the plan was structured in a way that would encourage people to save, Mr Morita said."

Now, are we more like Britain or Japan? Easy, where saving is concerned. But you've already mentioned the tax cuts earlier this year, and the fact that a lot of it was saved. Now this, from the WSJ:

http://blogs.wsj.com/economics/2008/10/31/good-news-for-stability-bad-news-for-growth/

"Part of the reason that consumer cut back on spending in September is that Americans were putting more of their money into savings. That may not be good news for GDP growth in the short-term, but it’s a positive sign for the long-term stability of the economy.

In September, personal saving — disposable personal income less spending — was $140.3 billion, compared with $82.5 billion in August. That raised the savings rate to 1.3% from 0.8% in the previous month. The savings rate spiked from May to July on the back of the government’s stimulus payments, but averaged below 1% for a number of years. It was just 0.2% in April before the stimulus payments went out, and has been nearly flat for years, not rising more than 1.5% in any month since 2004. The rate was in double digits in the 1970s and early 80s, but began a steady decline to the historic lows reached in recent years."

So, I'm with you on the stimulus, and we should eventually work on the deficit and debt, but, for God's sake, don't announce that now.

As the WSJ reports:

http://blogs.wsj.com/economics/2008/10/31/ecb-to-governments-spend-more/

"In a currency bloc governed by strict rules about how much debt national governments are supposed to hold, it doesn’t happen often that a central banker encourages governments to up spending. But radical times call for radical measures."

Let's be radical now, and conservative later.

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