'Stimulus' Package Won't Jolt Economy

There is a lot of hysteria about the economy. Politicians worried about a voter backlash want to show voters that they are willing to do something.

Yet, the White House and Congressional proposal last week to send $100 billion in checks to Americans will not stimulate the economy, only waste of taxpayers’ money. Instead of growing the economy as claimed, the expanded unemployment benefits being pushed by Senate Democrats will only shrink it.

Senator Hillary Clinton and other prominent politicians talk about us already being in a recession. Sunday’s New York Times editorializes about “the current slowdown.” President Bush talks about heading off a slowdown and urges congress to pass legislation as quickly as possible.

Yet, it is hard to take the current doom about the economy seriously. A recession is defined as two consecutive quarters of negative growth. But we haven’t even seen one quarter of negative growth. In fact, the last two quarters have shown nothing short of phenomenal growth. During the third quarter of last year, GDP grew at an annual rate of 4.9 percent, twice the normal growth rate. The second quarter last year saw a growth of 3.8 percent. The new numbers for the very end of last year will be released on January 30th, but they are unlikely to show negative growth.

The notion that sending people $300 to $600 checks will increase spending is based on an old Keynesian notion. The reason why this won’t work is that the money has to come from someplace. Two options are open: either the government raises taxes or borrows. Everyone understands how taxes merely redistributes the money. But borrowing is no different. Borrowing takes money from those who otherwise would have used it to do everything from investing to buying houses or cars.

The common justification is that we have to get money to poor people because they are the ones who will spend it. The only way this idea makes any sense if you think of savings as equivalent to digging a hole in your backyard and burying the money there. But, if you leave the deposits in the bank, what do people think that the banks do with it? They lend it out. Banks lose interest if they just let deposits sit there.

All the “stimulus package” will do is take wealth from some people and give it to others. It will not increase total expenditures.

Senator Charles Schumer and other senate Democrats are threatening to hold up the legislation unless it includes extended unemployment benefits. They claim that this is the most important part of the stimulus package precisely because it will help those who are neediest, who are most likely to spend their money because they are the neediest. But this has even less to do with “stimulus” than the $300 checks.

The Democrats may convince some that they are pushing for this out of “compassion,” though they never once advocated longer or greater unemployment insurance benefits during Clinton’s administration despite an average unemployment rate that was higher than the 5 percent rate that we face now. The most likely reason is simply politics. They know that extending unemployment benefits will increase the unemployment rate, thus making it easier for Democrats to use the economy as an election issue.

Dozens of economic research papers indicate that when you extend or increase unemployment benefits, you lengthen unemployment, because recipients wait until their benefits have been exhausted to take their next job. Even the economists who advise the Democrats know this. Larry Katz, the chief economist at the Labor Department during the Clinton administration, coauthored a study that found that workers are almost three times more successful in finding jobs when benefits are just about to run out.

So what will increased unemployment do? It will reduce production. Exactly the opposite of what the “stimulus” package claims to do.

If you really want to expand the economy, don’t just give people money, give them an incentive to work and invest. The best way to do that is to cut marginal tax rates on individuals and companies. The more people get to keep of what they are making, the more they will work. That is the way to grow the economy.

* John Lott is the author of Freedomnomics and a senior research scientist at the University of Maryland.