Bernanke's Stimulus Embrace Isn't Stimulating

Federal Reserve Chairman Ben Bernanke's statement before the House Budget Committee [1] that it was "appropriate" for Congress to consider an economic stimulus package when it returns after the elections is welcome in some respects, but far more dangerous in others. Taken too close to heart by Congress, his words could in fact take the nation's economy backwards. We need, as our latest Making Sense alert says, the kind of bold plan to rebuild America [2] that Bernanke would not endorse.

The potential positive effect of Bernanke's comments is already reflected in a comment from White House press secretary Dana Perino that President Bush, who had opposed Congress moving a second stimulus bill, is now rethinking his position. His support now depends on the details, Perino is quoted as saying in The Washington Post. If the fight in Congress moves from whether there should be a stimulus to what the stimulus should consist of, that is a significant step forward.

But it would be a mistake to think in terms of the stimulus package Congress passed earlier this year, which had at best a fleeting effect on consumer spending, quickly overwhelmed by record gasoline prices and the consumer debt that, in the absence of rising middle-class incomes over the past eight years, fueled spending. That was the point made by two other witnesses at the budget committee hearing whose testimony generally went unreported by the major news media.

Martin N. Baily, a senior economics fellow at the Brookings Institution, said that Congress should consider a stimulus package of as much as $300 billion a year. A $150 billion package, roughly the size being considered by Democratic congressional leadership, is based on a too-optimistic economic forecast for the next six months, he said.

Baily endorses the basic principles of progressives who have been trying to shape the stimulus package, including spending for infrastructure projects. The argument against including infrastructure spending in a stimulus package is that the finds for such spending would move through the economy too slowly. But Baily said that issue can be addressed. From his written testimony [3]:

First, there is great need for improved maintenance of the infrastructure, including crumbling roads that need repair and bridges that may age prematurely or even collapse because they have not been looked after. Looking after the existing infrastructure is not as exciting as cutting ribbons on new projects, but it could generate jobs quickly and meet an important need. Second, there are state and local projects that are being canceled because of the short-term budget pressures. Sustaining such projects would avoid layoffs that would otherwise take place.

The case for a robust stimulus package was also made by Iris J. Lav, deputy director of the Center for Budget and Policy Priorities, who pointed out [4] that states face a shortfall in the coming months that could total $100 billion, and closing that gap could require the kind of budget cuts that would deepen a recession unless the federal government acted quickly to provide state aid.

States already have begun cutting their budgets; about half of the states have made cuts in public health programs, services for the elderly and disabled, K-12 education, or universities and colleges. At least 18 states have cut their workforce. And states are on the verge of making far more drastic cuts as they deal with their mid-year deficits and begin to enact fiscal year 2010 budgets.

There is the opportunity to prevent many of these damaging actions through providing fiscal relief. Preventing these pro-cyclical state actions is among the best forms of stimulus you could provide, because it both prevents budget cuts to programs that are needed by people who are losing jobs and incomes in this recession, and prevents state actions from worsening the economy.

Lav recommended $50 billion in state aid. About $30 billion should be used for Medicaid costs now being borne by the states. The remainder could be made available to prevent cuts in education and other critical state programs, as well as to lower the likelihood that states will cut aid to localities.

Bernanke apparently is unwilling to say so plainly, if at all, but the reality is that the scale of our economic crisis requires bold thinking that recognizes that the size of any short-term deficits must take a back seat to getting the real economy—the Main Street economy—back on track. The pundits who are urging Congress to approach this in a centrist or conservative way are losing the argument [5] factually and politically. We should remind members of Congress that if $700 billion for Wall Street was acceptable, $300 billion for Main Street is not too much to ask.