“What is to be done?” asked Lenin in 1902. He couldn’t have been thinking of capitalism’s problems circa 2008, but he was asking a question that is on the lips of America’s policymakers as the U.S. economy slows.
More than slows if economists at Goldman Sachs, Morgan Stanley and Merrill Lynch, predicting a recession, are to be believed. Indeed, like 60 percent of Americans, Merrill Lynch’s economy watchers believe a recession has already started.
Proposed solutions range from a cut in interest rates to a fiscal stimulus. Wall Street wants the Federal Reserve’s monetary policy committee to cut interest rates, now and not by a measly quarter-point.
Last week, Fed Chairman Ben Bernanke signaled that he is now prepared to give the baying investment bankers what they want. Food and energy prices might be driving the inflation rate a bit above the Fed’s comfort zone, but that is nowhere near as terrifying as the prospect of a major, protracted recession.
That prospect now looms larger than even a few months ago. The unemployment rate has jumped to 5 percent, the manufacturing sector is slowing, foreclosure and delinquency rates are rising, profits are falling, and banks are being forced to write off more billions in bad loans than even pessimists had anticipated and to cut back on lending.
Bernanke promised Congress and the markets that he would do his part to stave off a recession. But more is needed, according to two famous economists, one from each side of the political aisle. They are calling for the president and Congress to deploy another weapon: fiscal policy.
Larry Summers, who served as Treasury secretary in the Clinton administration, favors a $50 billion to $75 billion stimulus, lest a recession and its “adverse impacts … be felt for the rest of the decade and beyond.”
Marty Feldstein, the Harvard professor who served as chairman of President Reagan’s Council of Economic Advisers, agrees: “What’s really needed is a fiscal stimulus, enacted now and triggered to take effect if … [there is] a three-month decline in payroll employment.”
The president will propose some sort of stimulus package. Watch the “State of the Union” message. The last time Bush faced a sluggish economy, he did what Republicans love: He cut taxes. He lowered the highest marginal income tax rate from 39.6 percent to 33 percent, reduced taxes on the lowest earners from 15 percent to 10 percent, increased the child tax credit from $500 to $1,000, and mailed checks of $300 to every single taxpayer, and $600 to couples. It is generally agreed that the cut in marginal rates and taxes on dividends and capital gains had the desired effect: Every economic indicator headed up shortly after the last of the cuts.
But for some observers, that was then and this is now. Alice Rivlin, who served as Clinton’s budget director, said, “It is not clear that we need the stimulus yet.” Others note that the decline in tax receipts incident to the current slowdown will naturally increase the budget deficit, providing an automatic stimulus that makes further action unnecessary.
And still others, mostly in the business community, worry that raising the issue of taxes in a Democratic Congress and an election year will unleash a torrent of unwanted changes in the tax law having nothing to do with stimulating the economy.
If a package is to be put in place, the president again will call for immediate rebates to taxpayers, to which the Democrats will want to add checks for low-income non-taxpayers, and increases in unemployment compensation and food stamp allowances. Congress will also try to tilt the benefits of any reductions toward low earners, whom they deem more likely to spend these windfalls than richer folks.
The president can be expected to use the excuse of a stimulus to try for a permanent cut in personal and corporate income taxes, neither of which he is likely to get. But he might manage to wring a temporary increase in depreciation allowances from a reluctant Congress if he gives ground on tilting the personal tax rebates away from what one Democrat calls “those hedge fund managers.”
Serious analysts, such as Larry Lindsey and Marc Sumerlin, who fashioned the original Bush tax cuts and have just published the intriguingly titled “What a president should know but most learn too late,” are hoping that the need for a short-term stimulus does not cause Bush and the Congress to lose sight of the need for a tax regime that positions America to meet the long-term challenges it faces in an increasingly competitive globalized economy.
Examiner Columnist Irwin Stelzer is a senior fellow and director of The Hudson’s Institute’s Center for Economic Policy.
