The Obama administration's plan, which includes $550 billion in spending and $275 billion in tax cuts, will provide a badly needed "shove" to help get the economy moving in the right direction. Trimming the size of the proposal or shifting the emphasis to tax cuts, as some have called for, would reduce its effectiveness.
The current recession is mainly the result of households cutting back on spending because two important sources of wealth, the value of homes and retirement savings, have taken a big hit. Moreover, in the face of uncertainty and rising unemployment, people have become more cautious about spending. While this behavior makes sense on an individual basis, when everybody is cutting back, the entire economy suffers....
Tax cuts only work to the extent that households spend them. This is why a broad-based reduction in income taxes would not be very effective as stimulus - many households would save the additional money. The main tax provision in the proposal, a credit of $500 for individuals and $1,000 for couples, will be more effective than a rate cut because more of the benefits go to lower- and middle-income households. Many of these families are struggling to meet their everyday needs, which means they are more likely to spend additional disposable income.
The spending elements include investments in transportation infrastructure and schools, improvements to the electricity grid and information technology upgrades for our healthcare system. Some in Washington reflexively attach the word "wasteful" to any government spending, and they have begun to attack the proposal. Those criticisms are irrelevant. For the immediate purpose of boosting economic demand, it doesn't much matter exactly how the money is spent - even "bridges to nowhere" work as fiscal stimulus.
The proposals also include federal grants to state governments, which will be a significant, immediate help. Because most states are limited by their constitutions from borrowing, they are forced to cut back when economic downturns reduce tax revenue. We are seeing this already in Ohio. In the absence of federal help, even more cuts in state services will be necessary.
While we must take seriously the need to reduce the deficit after the recovery takes hold, limiting the size of the stimulus now for the sake of "fiscal responsibility" would be self-defeating and might prolong the recession.
Incidentally, responsibility for the lame headline lies with the editors, not me. They also lopped off this point: "much of the proposed spending addresses longstanding needs and will have economic benefits that outlast the recession."