CBO on Fiscal Stimulus: A Strange Menu
Some of the proposals on the table strike me as particularly odd. For example: a temporary increase in food stamp benefits.
In standard macroeconomic theory, the business cycle is symmetric. That is, stimulating an economy that is suffering from insufficient aggregate demand should be the opposite of cooling off an overheated economy to reduce inflationary pressures. Would anyone seriously propose a temporary cut in food stamp benefits in an overheated economy? I don't think so. Food stamps seem the wrong tool to address the business cycle.
By contrast, the first line of defense against short-run economic fluctuations--monetary policy--is applied symmetrically. You cut money growth and raise interest rates in an overheated economy, and you increase money growth and lower interest rates in a lackluster one.
Update: Jason Furman emails me:
Greg again: Marty Feldstein may well be right that those on food stamps have a higher-than-average marginal propensity to consume. Nonetheless, I wonder if we really want to target such cyclical measures on the poorest members of society. That is, for any mean level of food stamps, wouldn't the poor be better off with a constant stream of benefits than with a benefit that fluctuates over the business cycle? Using food stamps as a cyclical tool seems to risk destabilizing some families' food consumption in an attempt to stabilize the overall business cycle.
As always, thanks for using your blog as a means to educate your readers through discussion and debate. I was surprised to see you single out food stamps as an example of what is wrong with fiscal stimulus. At a minimum the same logic would apply to every other fiscal stimulus option. You are correct that policymakers do not cut food stamps in order to restrain an overheated economy. Then again, policymakers do not generally raise taxes during booms either—if anything it is the opposite and the transitory revenue boost associated with an overheated economy is often employed as an argument for more tax cuts.
The Congressional Budget Office menu is responsive to the question policymakers from both parties are asking today: if we want to increase aggregate demand in the short run, what is the best way to do it. And a temporary increase in food stamps is, appropriately, high up on this list. Food Stamp administrators could simply press a button and everyone’s electronic debit cards would have, say, an additional 20 percent more money starting almost immediately and ending whenever policymakers want. Plus as Marty Feldstein explained: “Food stamps strikes me as a pure cash transfer to people with a high propensity to spend and people who would not benefit from a tax cut.” Tax rebates are administratively more difficult and have somewhat lower bang-for-the-buck, but have the big benefit of being scalable to the size policymakers desire – which is why Doug Elmendorf and I recently included them in our list of more effective stimulus options.
You might be convinced that food stamps are no worse than any of the other options and, from a purely technocratic point of view, even somewhat better. But what about the case for fiscal stimulus in general? An economist king would use both fiscal and monetary policy to stabilize aggregate demand. In particular, because monetary policy takes about a year to significantly impact the economy, the economist king would well-designed fiscal policies like tax rebates and food stamps to affect aggregate demand over three to six month horizons.
I have not written down the model, but I suspect that even if the economist king was constrained to use asymmetric fiscal policy (i.e., fiscal expansions timed to downturns but no fiscal contractions timed to booms) it would still be better to use a combination of fiscal and monetary policy to stabilize the economy than to eschew fiscal policy altogether.
Of course, reality falls a considerable amount short of even the asymmetric economist king. Just how far short is a difficult judgment and entails weighing the benefits of fiscal stimulus done right against the costs of fiscal stimulus done wrong. But given that policymakers have now chosen to undertake fiscal stimulus, one important task for economists is to help them sort through their options so that the end result is at least a little bit closer to what an economist king would do.
If we are going to use fiscal policy to smooth out the business cycle on a regular basis, then we should think harder about improving the economy's automatic stabilizers. For example, imagine we enacted an investment tax credit, the size of which was a function of the unemployment rate. Firms would have an incentive to time their investment projects toward those periods when the economy was weakest and most needed a shot in the arm.
I can more easily imagine, when the economy starts to overheat, telling corporations that their investment credit has shrunk or disappeared than telling poor families that their food budget has been cut.