What if the president of the United States hadn’t proposed an $800 billion stimulus plan back in 2009—but one twice as large? That is the question haunting the intellectual left, led by the economist and columnist Paul Krugman, especially since the economy is mired in what might charitably be considered the doldrums. It slowed to a near-total halt in the first quarter of 2011 with a growth rate of 0.4 percent before climbing to a comatose 1.3 percent rate in the second.
For Krugman’s opposite numbers, the question is the reverse: Might the U.S. economy actually be stronger today if Uncle Sam had done nothing and just let the business cycle play out? And what might have been different had John McCain been elected the 44th president instead of Barack Obama? Would he have acted differently? Would the result have been different?
The what-if debate is not merely an intellectual exercise. It will have some effect on American policy going forward. The American Recovery and Reinvestment Act was Barack Obama’s signature achievement in dealing with the most worrisome set of economic conditions since the Great Depression. It was how Obama, to use a pair of his now seemingly abandoned metaphors, sought to drag the economy out of the ditch while the Republicans were standing around sipping Slurpees.
As Obama said on the first anniversary of signing the bill, “It is largely thanks to the Recovery Act that a second Depression is no longer a possibility.” Economic analysis from the White House credits the Recovery Act with having saved or created between 2.4 million and 3.6 million jobs by the end of March, 2011.
In short: without Obamanomics, it would have been worse. Much worse. You’re welcome, America. Four more years, please.
But Republicans have a competing argument. Instead of saving us from a Greater Depression, the Obama stimulus (together with his health-care plan and financial reforms) was a two-year waste of precious time and money that may actually have impeded economic growth. The evidence for their proposition comes in part from the White House itself; its own economists predicted the stimulus would prevent the unemployment rate from hitting 8 percent. But the rate actually rose as high as 10.1 percent, has settled in above 9 percent now, and even Obama’s own team currently hopes for a rate of, at best, 8.25 percent by the end of 2012—if nothing else goes wrong.
To be sure, the economic disaster that led to the longest recession the United States has ever suffered was something Obama inherited, but there is no question everyone (on all sides of the aisle) believed that natural cyclical forces would have led to recovery long before now. Natural cyclical forces were not given a chance to work themselves out. Far from it. In addition, Republicans can argue that regulatory uncertainty and fear over the rising national debt—debt that Obama’s Recovery Act helped intensify—have chilled American business.
In short: Obama blew it. That accounts for the slogan Wall Street Journal columnist Peggy Noonan proposed for the GOP going into 2012: “He made it worse.”
Did he? Who’s right? Let us examine several potential policy paths not traveled and speculate how the economy might look different if they had been.
What if the stimulus had been larger?
More Americans think the stimulus hurt the economy than helped, just as they think—in percentages that look increasingly like an oncologist’s fatal diagnosis—the economy is on the wrong track. So it should come as no surprise that Obama would rather talk about “winning the future” than make reference to a nearly trillion-dollar plan the public seems to think lost the present. In his State of the Union address earlier this year, Obama obliquely referred to “steps we’ve taken over the last two years [that have] broken the back of this recession,” before immediately pivoting to Sputnik and bullet trains. The president even recently joked at a meeting of his jobs council that “shovel-ready was not as shovel-ready as we expected.”
You will not find any White House policymaker, either current or former, who thinks the stimulus was fundamentally flawed. The only error Obama economists such as Larry Summers or Christina Romer—or Obama himself—will concede is that the stimulus should have been bigger than the dollar figure ($860 billion) that the political reality of 2009 would allow. But would more spending and larger temporary tax cuts have produced a significantly different result?
Before trying to figure that out, we must understand the actual impact of the Recovery Act. We cannot determine that through the White House’s models, which presume that a dollar of government spending produces more than a dollar of economic output—a presumption that is highly controversial, to say the least. But it’s useful for the White House, because even if the economy had completely collapsed after the stimulus kicked in, the White House could still have released report after report showing that GDP and job growth would have been even worse without the Recovery Act.
Better to see what actually happened as gleaned from government statistics. In a recent paper, the Stanford University economist John B. Taylor simply looked at whether, as a result of the stimulus, consumers actually consumed and whether government actually spent in a way that produced real growth and jobs.1 Turns out, they didn’t:
Individuals and families largely saved the transfers and tax rebates. The federal government increased purchases, but by only an immaterial amount. State and local governments used the stimulus grants to reduce their net borrowing (largely by acquiring more financial assets) rather than to increase expenditures, and they shifted expenditures away from purchases toward transfers. Some argue that the economy would have been worse off without these stimulus packages, but the results do not support that view.
Some economists on the left acknowledge the truth of Taylor’s analysis. “Taylor actually has a pretty good point: It’s far from clear that the ARRA actually led to much of a rise in government spending, while the tax cuts that made up much of the stimulus were probably largely saved,” Paul Krugman has written. But Krugman and others of his ilk then use Taylor’s analysis to argue that this proves the stimulus should have been larger, with far more of the money spent on government purchases and infrastructure and far less on temporary tax cuts.
Taylor is skeptical of such reasoning. He questions whether such massive spending could happen quickly or efficiently. Summers, who ran Obama’s National Economic Council, harbors such doubts, too. As he told the Washington Post: “So-called shovel-ready projects often were not in fact ready to go. Almost everyone close to the process feels that Joe Biden and his team did a very good job of moving the stimulus money through the system, and as a consequence, money moved more or less on the schedule we projected in 2009. They would be the first to say that it would not have been possible to move vastly more money into quick trigger infrastructure projects.”
So cranking up the stimulus machine to 11 would have been difficult, if not impossible. But that is not the only argument to be made against the effectiveness of the stimulus. We also know that high levels of government spending crowd out private consumption. And as we learned from the permanent-income hypothesis that won Milton Friedman his Nobel Prize, some Americans realize all the massive deficit-financed spending of today will ultimately require raising their taxes tomorrow. So short-term changes in income tend to have little impact on how people spend. “New Keynesian” models, like one used by the European Central Bank, sought to incorporate such factors and predicted that the Obama stimulus would have just a fraction of the impact estimated by Romer and other White House economists. Instead of creating 3 million jobs, perhaps the actual total was 600,000, or about $1 million a job (assuming approximately 80 percent of the stimulus has been distributed.) That would mean the job growth that has occurred has been mostly a result of the natural recovery of the economy.
Such estimates sure seem to better reflect the miserable reality of the past two and a half years than what the White House is selling. The anti-stimulus models also imply that for the Recovery Act to have had the impact Obama sought, it would have needed to be six times larger, or roughly $5 trillion in borrowed money.
What if the economy had been left alone?
The 2009 Obama stimulus wasn’t the only effort to juice the economy. There was Cash for Clunkers in the summer of that year, offering a one-time subsidy for turning in an old car and buying a new one. Democrats and Republicans agreed on a round of temporary tax cuts and extended jobless benefits in December 2010. And don’t forget, President George W. Bush got his own mini-stimulus passed back in 2008. All that stimuli, not counting interest expense on the borrowed money, amounted to well over $1 trillion (some say as high as $2 trillion) in economic steroid injections.
Of course, it would have been politically difficult for Obama and Bush to sit on their hands, even though the data certainly suggests the economy might be not a whit worse off if they had. But what if a libertarian politician like Ron Paul had been sworn in as 44th president? Imagine his first State of the Union address, the one in which he tells the American public that Washington won’t be coming to their rescue and that the moribund economy will, in time, bloom again and grow strong all on its own:
My fellow Americans, I know times are tough and almost certainly about to get tougher. Yet isn’t it odd how we all welcome the inevitable changing seasons of nature, but we’re upset by the seasons of our economy? You see, in the garden of our economy, growth has its seasons. First comes spring and summer, but then we have fall and winter. And then we get spring and summer again. As long as the roots are not severed, all is well. And all will be well in the garden. So be patient. God bless America.
Those were the words, more or less, of Chance, the simpleton gardener who becomes a presidential adviser in the 1979 political satire, Being There. But in fact, President Warren Harding pretty much adopted that organic approach during the mini-depression of 1920–21. That nasty little downturn has been blamed on a variety of culprits, including rapid demobilization after World War I and overly tight monetary policy by the nascent Federal Reserve. Unemployment surged to nearly 12 percent as the economy shrank by about 3 percent.
Rather than enact a major spending program, Harding responded by slashing government outlays by a fifth during 1921 and 1922, which is just what he had told voters he would do during the 1920 campaign. At the Republican convention that year, he promised to “strike at government borrowing…[and] attack the high cost of government with every energy and facility which attend Republican capacity.”
Mission accomplished. About that period, economist Benjamin Anderson wrote, “We took our losses, we readjusted our financial structure, we endured our depression, and in August 1921, we started up again.” And then we raced right into the Roaring Twenties.
But how would such an approach have worked the past few years? Economist Brian Wesbury of First Trust Portfolios thinks the huge increase in government spending under the Obama and Bush administrations has hurt the economy. Cutting it back would boost growth. His economic model suggests that without the large increase in government spending that occurred in recent years, “real GDP would be 3.2 percent larger today than it is, the unemployment rate would be 7.6 percent, the U.S. would have 2.5 million more jobs, and the stock market would be 24 percent higher.”
The big difference between the White House model and the Wesbury model is that the latter incorporates academic research suggesting long-term increases in government spending hinder growth. If Wesbury and these studies are correct, not only would the economy be on a stronger growth track, it wouldn’t be pulling extra trillions of debt behind it.
What if it had all been tax cuts?
Ron Paul could never have become president. John McCain could have. And while McCain has a reputation as a debt hawk, there’s little doubt he would have taken an active approach to rescuing the sinking economy, even it if would have greatly increased the deficit. He almost certainly would have implemented some sort of stimulus.
The conservative economist Martin Feldstein, for instance, suggested his own version of the Obama spending plan. Instead of trying to prop up spendthrift state governments and boosting “clean energy” investment, Feldstein would have directed dollars at restocking depleted U.S. military hardware after five years of fighting in Iraq and Afghanistan. And whereas shovel-ready infrastructure projects turned out to be more White House spin than substance, “the military can increase its level of procurement very rapidly,” Feldstein said back in 2009.
But that sort of suggestion was the exception rather than the rule on the right. Mostly there were calls for tax cuts, such as reducing the levy on corporations or capital gains. Perhaps the most popular idea was a massive payroll tax cut, reducing the burden on workers of their Social Security and Medicare premium payments. As it so happens, the cost of Obama’s stimulus plan almost exactly matched all the revenue the government takes in each year from payroll taxes. So perhaps McCain would have suggested a one-year payroll tax holiday, reducing both the cost of labor (good for hiring) and giving employees a $1,500 check (good for consumer spending or repairing personal balance sheets).
But tax cuts work best when they are put in place as long-term measures, not temporary fixes of the sort Obama preferred. So for maximum impact back in 2009, any payroll tax cuts would have needed to be permanent. And replacement revenue sources to fund Social Security and Medicare would have been necessary pretty quickly. And so we would have found ourselves in exactly the same kind of debt crisis that consumed Washington throughout the past summer.
These what-ifs suggest a few things. First, that the Obama stimulus does not deserve credit for what little economic growth we’ve seen. Second, that while a more libertarian approach to the crisis might have had a better result, there was no way such an approach would or could have be enacted. Finally, the preferred Republican solution—a temporary payroll tax cut—might have been beneficial in the short term and wildly problematic in the long term.
Did Obama make it worse? It is certainly the case that he only deepened a long-term trend that threatens American prosperity more than any other. The events of 2008–2009 exposed a truth about the U.S. economy from which we had shielded ourselves: economic growth has been slowing in a worrisome way throughout the decade. The nation’s GDP has averaged 3.3 percent annual growth for the past half century. But from 2001 to 2007—before the recession hit—it averaged only 2.6 percent. Going forward, growth might be even slower due to the aftermath of the financial crisis and the aging of the population. The Congressional Budget Office, for instance, pegs long-term growth at just 2 percent or so.
But that downshift isn’t fated. The McKinsey Global Institute thinks a higher retirement age and smarter immigration policy could make the labor force grow more quickly, while smarter tax and regulatory policy could boost worker productivity. Replacing the income tax with a consumption tax, for instance, would likely make the economy grow faster over the long run by increasing investment.
These are the sorts of ideas that are likely to be a central part of the political discussion going forward in a way they never have been. The two-party debacle that was the debt-ceiling debate and the disgusted national reaction to it suggest that the American public is likely to be more open to new remedies for the nation’s ills—remedies that have not been stained by their association with the failed policies of the past four years.
We’re stuck for now with an anemic and debt-laden economy that may muddle along for years. But it didn’t have to be this way. The one thing we can all say for certain is that we could have made it better.
1 Jim Lehrer, Tension City: Inside the Presidential Debates, from Kennedy-Nixon to Obama-McCain (Random House, 2011)