Stimulus Requires More Than Taking Your Foot Off the Brakes

Last week I discussed how I think the President’s jobs proposal, the American Jobs Act, will be less than stimulating.  I updated it here.  I based my analysis on what economists call “back of the envelope” calculations – quick simple estimates of the key variables using rounded numbers.  Now the folks at Goldman Sachs research have put the proposal through their more sophisticated and complex econometric models.  And they come to … roughly the same conclusion.  Paul Krugman at the NY Times observes:

Goldman Sachs (no link) has a nice chart showing just how much fiscal policy has been a drag on the economy since the second half of last year, and also shows that the Obama jobs plan, even if enacted in full, would only be enough to put it in neutral:

Just worth bearing in mind.

The graph (the line) shows the effect that total government fiscal policy, including federal, state, and local, has had / will have on GDP growth rate.  In 2009, Q1-Q3, governments were having a very positive effect on GDP growth, adding up to 2.5 percentage points to the GDP growth rate.  By 2009 Q4, though, this stimulus effort had deteriorated and was starting to have a negative effect, slowing GDP.  Initially this was because state and local spending cuts were overwhelming the federal increases in spending.  But the 2009 stimulus bill ran it’s course and the feds joined the austerity party and started cutting spending along with state and locals in late 2010.  In 2011, our problems have been the austerity programs, the spending cuts at state, local, and federal level. Government has had it’s foot on the brakes trying to slow an already weak economy.  It’s worked. The economy is coming to a halt.

Unfortunately, the proposed jobs program isn’t really much of a stimulus. It’s too weak. It’s too small. And it’s focused too much on tax cuts that won’t be spent instead of spending.  The blue line above shows the likely effects.  Even if passed (a near impossibility given the Republican majority in the House), it will only reverse the contractionary effects of spending cuts without adding any new stimulus to grow GDP further.

Stimulus is supposed to be about speeding up GDP growth – hitting the accelerator.  Simply taking your foot of the brakes isn’t the same thing as hitting the gas.