Signing of the Transportation Bill 2005

There is a global slowdown in manufacturing according to the Financial Times:

US manufacturing activity contracted at its sharpest pace for nearly 30 years in December, a closely watched survey suggested on Friday, underscoring the downward momentum in the economy at the turn of the year.

The Institute for Supply Managers survey index declined from 36.2 in November to 32.4, much worse than expected, while new orders and production measures hit their lowest level since the survey began in 1948.

South Korean and People’s Republic of China PMI’s also showed continued contraction – South Korea by double digits for the second month in a row.

The signs of a deflationary spiral are now in flashing neon that would shame the famed Las Vegas strip. A deflationary spiral is when economic contraction feeds on itself. No one spends, because they fear they won’t have money coming in, or because they hope prices will fall further. No one invests or hires, because they reason that anyone who is going to buy something, is going to buy something, and any investment will lose money. So there it is: people don’t spend because businesses aren’t expanding, and business don’t expand, because people aren’t spending.

This is why economists worship equilibrium: that state where each an every economic action has an equal and opposite reaction. In equilibrium, falling prices mean people buy more, so the economy begins to right itself, with a push from lower interest rates. However, when disequilibrium sets in, one damn thing leads to another.

Now Republicans have two answers for everything: tax cuts and bombs. If they like it, they give it a tax break, if they don’t they try and break it’s legs. We’ve been running on stimulus for some time: Bush’s tax program and the Iraq War, plus the low interest rates to finance all of that. The reality isn’t whether stimulus or not, we’ve been stimulating an economy which had the problem of deflation of its basic capital, and inflation of the things that it imported. The one thing you can say for depression economics, is that the second problem has gone away for the moment.

The reality is, however, that broad based tax cuts, don’t generate much actual demand, and occupying Iraq as an industrial policy has meant that Americans ended up buying goods from other countries, because our best and brightest were, and are, figuring out better ways to bomb people. You can do anything with cruise missiles, except watch the NFL on them.

The first problem is that, contra to what right wing radio and the Wall Street Journal Editorial Page keep telling us, broad based tax cuts don’t generate much in the way of incremental demand. Most of the benefit goes to people who were going to buy anyway. Even in a recession, 98% of what happened last year, happens this year.

The second problem is that a great deal of that money gets saved, and all that means is that the government is indirectly loaning money. It could do that directly more efficiently.

The third problem is that tax cutting generates financial activity, and bombs generate more military manufacturing. These don’t create more economic activity in themselves, but, instead less.

The key to getting stimulus to work, is first to make sure that people will spend it, and that the people they give it to will spend it. The second is to make sure that as much of the money goes to do things that would not have been done otherwise. The third is to make sure that it generates some long term economic activity. The fourth is to make sure that it doesn’t just get sucked up by price increases. Tax cuts fail on four for four. Defense spending fails for much of the same reason. When your taxes go down, every one who charges you money knows it, and raises prices accordingly. Last time we made minor reductions in taxes on wages, employers just cut back on wage increases. Chances are your boss and your gas station, not you, got your last tax cut. It’s not your money unless you get the benefits.

For these reasons direct fiscal stimulus is better than reducing taxes, especially when we are already running large deficits, and tax rates are low, and taxes have become more regressive. Regressive taxes come out of spending.

Last year’s stimulus bill was too small and badly designed. Basically, it amounted to a partial rebate on the inflation tax. And in the fall, congress was too busy protecting Goldman Sachs to pull the trigger on needed stimulus.

So where does the Obama plan rate? Well, better than the alternatives proposed by places like the Heritage Foundation, which is an intensive campaign of paralysis. But over all, it is weaker than it needs to be, which means that any watering down could be fatal. Remember: stimulus has to be enough to get people to spend, business to hire. Less than that, and the economy falls back into a rut.

The critics do have one point: relying on transportation stimulus – that is to say, pork – isn’t going to produce much in the way of long term growth. The US is infrastructure rich. While now is a great time to be doing transportation work: fewer commuters, lower prices on materials and labor, surplus capacity, need for jobs – this is what we should be doing any way. Obama is going to have to fight to do something that Congress does anyway. The amount in the Stimulus package for transportation is roughly the same amount, adjusted for inflation, as was in the 2005 transportation bill, which was passed without any need to rationalize it.

This is why the real fight is going to be on two fronts: one is to prevent the Republicans from watering this bill down with more tax cuts that do nothing, the other is to push up the visionary elements of the plan, such as the projects for sustainable energy. One of the areas which has been pushed from many quarters is broadband. This is because while the US will save money long term by repairing broken old bridges, new employment will come from building fast new ones. 

The mistake then is to simply defend the existing plan; instead, it is time to go on the attack, and outline everything that we weren’t doing to build America, while we were busy tearing apart Iraq.

Related posts:

  1. Biden to Smack Boehner Around on Stimulus
  2. Why Can’t a Better Health Care Plan be the Next Stimulus?
  3. White House Calls Kyl’s Bluff on Canceling Stimulus, Republicans Whine About It
  4. Eric Cantor Says Stimulus Bill Failed, Except That Whole Creating Jobs in His Home State Part
  5. Fox News Slags Stimulus Bill for Being Too Republican