Needed: A Fiscal Framework–Not a Stimulus

“America ranks 22nd out of 23 high-income countries in public social outlays as a percent of national income (ahead only of Ireland), for health, pensions, income support, and other social services. “

The economic debate in the U.S. regarding the fiscal stimulus package has revealed, once again, the soft underbelly of modern economics. It’s perhaps inevitable that a public debate over the allocation of trillions of dollars of taxes and spending should be cacophonous and confused, but the poor quality of the scientific discussion about the fiscal stimulus plan is unjustified. Economists have not helped the public to sort out crucial issues in the debate, leaving public policy to a hurried mish-mash of conflicting interests.

The stimulus debate has centered heavily around the question of “bang for the buck,” that is, whether tax cuts or spending increases would produce more jobs. This perspective is very limited and misleading, however: the implications of tax cuts, for example, depend importantly on whether they are perceived to be temporary or permanent. A temporary tax cut is more likely to be saved, or used to pay down credit-card debt, than consumed, a lesson demonstrated by the failed $100 billion tax-rebate stimulus last spring.

There is a far more important point, however. The choice of spending versus taxes should turn first and foremost on the purposes of government, or on what economists quaintly call “the allocation of resources.” It’s silly to debate whether investing in a $100 million bridge creates more jobs than a $100 million tax cut if we really need the bridge! The American Society of Civil Engineers has credibly documented for years the crumbling state of U.S. infrastructure—roads, bridges, water supply, waste treatment, mass transit, toxic waste cleanup, dams and levees—and the urgent need for more than $2.2 trillion of investments for our wellbeing and competitiveness.

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