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Don'ts and Do’s for a Fragile Recovery

June 14, 2011 at 9:15 AM

With the recent slowing of an already fragile U.S. economic recovery, an increasing number of experts are becoming convinced that the economy needs help.  Economists, columnists, and policymakers have joined a drumbeat stressing ideas that could strengthen the recovery, while warning against policies that risk pushing us back into recession.

What We Shouldn’t Do: Policymakers should adopt a balanced plan—one involving both spending cuts and revenues increases—to rein in medium- and long-term deficits.  But with over 20 million people un- and underemployed, now is not the time to institute large budget cuts or tax hikes.

Aggressive spending cuts this year or next wouldn’t just hurt those most exposed to the tough economy.  By taking money and services away from those who need them most, such cuts would hurt the macroeconomy as well.  Independent research has consistently found that the benefits from safety net programs like unemployment insurance and food assistance and entitlements like Social Security go disproportionately to people who spend the money fairly quickly to meet basic needs.  That, in turn, leads to more economic activity, amplifying the impact.

We should also avoid creating any additional economic “air pockets” in the short term.  That is, as federal stimulus fades and states continue to face budget constraints, we mustn’t allow policies that are boosting demand to fade too soon, as explained below.

Another bad idea right now would be to allow multinational corporations to bring their overseas profits back to the United States at a sharply reduced tax rate.  Instead of generating jobs, the evidence is that this type of tax holiday results in windfall profits for shareholders of a few large companies.

What We Should Do: Clearly, the politics of pivoting to job creation are very tough right now (though if the Mavericks can beat the Heat, anything’s possible!).  But the realities of the tough economy may have created an opening.  Thus, it makes sense to have a ready agenda of ideas that could help:

  • State Fiscal Relief: One of the 2009 Recovery Act’s most effective programs was fiscal relief to help states meet their balanced-budget requirements despite a historic revenue decline.  Over the past three years, states and towns have been aggressively cutting jobs — more than 530,000 since August 2008 — but these job losses would have been much, much worse without the state fiscal relief.  Since most states still face significant budget gaps, another round of fiscal relief would preserve important jobs and services in our communities, like teachers and police.
  • Unemployment Benefits and Payroll Tax Cut: Federal benefits for the long-term unemployed and the current payroll tax cut both expire at the end of this year.  Policymakers should extend both.  In fact, we’ve never failed to extend UI benefits with the unemployment rate as high as it is likely to be at the end of this year.  And while another round of the payroll tax cut would benefit the economy, the federal Treasury must continue to replace any losses to the Social Security Trust Fund, and the tax cut should eventually expire so it doesn’t become a drain on Social Security finances.

Beyond this, ideas have been floated to add to the current payroll tax cut for workers and extend it to employers as well, thus lowering the cost of hiring.  Increasing the payroll tax cut for workers could be particularly important if energy prices remain high, as it has been instrumental in offsetting the negative impact of higher oil prices.

  • Infrastructure: We have deep infrastructure needs and, given the low cost of borrowing and high unemployment among construction workers and builders, infrastructure investment makes a lot of sense right now.  Though it takes a while to get these programs up and running, virtually every economic forecast has unemployment highly elevated for a number of years to come.  So, unfortunately, we have the time to get some traction from an infrastructure program.
  • Manufacturing: President Obama visited an LED lighting factory yesterday that benefited from a smart tax credit (the Advanced Energy Manufacturing Tax Credit) that incentivizes the building of clean energy equipment here in the United States, leveraging about $2 of private capital for every $1 of the credit.  Many in Congress want to renew it, and the Administration has been supportive in the past.
  • Housing: The protracted weakness in the housing market continues to drive foreclosures and falling home prices, and to act as weight on the recovery.  While some “underwater” homeowners would be better off getting out from under a loan they’ll never be able to service, others, with some principal reduction or other modification, could “resurface” and hang onto their home.  An important part of the solution here is for market participants, including the government-sponsored entities (Fannie Mae and Freddie Mac), to do more mortgage modifications, particularly those that provide principal reduction.  Their reluctance to do so is one reason the current “correction” in the housing market is taking so long.

We will continue to stress more ideas like these in days to come.  But the key point is that all the economic signals are pointing to the need to:  a) pivot towards doing more to help the many working families still struggling with the tough job market; and b) pivot away from short-term spending cuts that will hurt those families more while threatening to further slow the fragile recovery.


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