Feb 08 2008

Fiscal Stimulus package passes in Congress – here comes $170 billion, America!

Can the stimulus save us? – from CNNMoney

Today the US Congress approved a $170 billion stimulus package that will consist of rebate checks to be mailed to 117 million low and middle-income households. The details of the package are as follows:

Tax rebates to 137 million people. A rebate of up to $600 would go to single filers making less than $75,000. Couples making less than $150,000 would receive rebates of up to $1,200. In addition, parents would receive $300 rebates per child.

Tax filers who do not owe income taxes but have at least $3,000 in income would get a $300 rebate.

The IRS will start sending out checks in early May, said Treasury Secretary Henry Paulson.

“Payments will be largely completed this summer, putting cash in the hands of millions of Americans at a time when our economy is experiencing slower growth,” Paulson said in a statement.

Business tax breaks. The bill would temporarily provide more generous expensing provisions for small businesses in 2008 and let large businesses deduct 50% more of their assets if purchased and put into use this year.

Housing provisions. The bill calls for the caps on the size of loans that may be purchased by Fannie Mae (FNM) and Freddie Mac (FRE, Fortune 500) to be temporarily raised from the current level of $417,000 to nearly $730,000 in the highest cost housing markets.

It also calls for an increase in the size of loans that would be eligible to be insured by the Federal Housing Administration.

Politicians from both parties joined forces on this act of expansionary fiscal policy. The hope, of course, is that with more money in their pockets, Americans will start spending again, firms will start investing, and these increases in expenditures will shift the US economy towards a path of expansion, increasing employment and output.

But what will the impact of this “stimulus package” be? Will Americans spend their rebate checks in the way Congress hopes they do? Some fear that low and middle-income households will take their newfound income right to Wal-Mart and buy Chinese imports, or put a large proportion of it into savings, or pay off existing credit card debt, three actions which would represent “leakages” from the circular flow, leading to no new income or output. Savings and spending on imports would do nothing to stimulate the US economy, therefore, before concluding that the tax rebates will help fend off a US recession, economists must consider the American peoples’ marginal propensities to save and to import. Only new spending on American goods and services will contribute to aggregate demand.

The provision of the stimulus package more likely to result in increased spending in the US is the business tax deduction for spending on new capital. Capital goods such as heavy machinery tend to be made in America by American workers, so encouraging firms to invest in new capital is likely to have a positive demand-side effect on US income and employment. Furthermore, more capital for US businesses is likely to increase productivity of workers in those firms which have invested, leading to greater income and output: this is the desired “supply-side” effect of stimulating business investment. When aggregate demand and aggregate supply increase simultaneously, economic growth is the result.

Unfortunately, the provisions aimed at encouraging business investment represent only around one third of the total stimulus package. Most of the $170 billion will end up in the hands of households, which I suppose should come as no surprise in this election year, when both the Democratic and Republican parties want to appear as the benevolent parties that helped make the average American household a little bit richer in 2008!

For some informative insight from Harvard economist Martin Feldstein, who is president of the National Bureau of Economic Research, click here.

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About the author:  Jason Welker teaches International Baccalaureate and Advanced Placement Economics at Zurich International School in Switzerland. In addition to publishing various online resources for economics students and teachers, Jason developed the online version of the Economics course for the IB and is has authored two Economics textbooks: Pearson Baccalaureate’s Economics for the IB Diploma and REA’s AP Macroeconomics Crash Course. Jason is a native of the Pacific Northwest of the United States, and is a passionate adventurer, who considers himself a skier / mountain biker who teaches Economics in his free time. He and his wife keep a ski chalet in the mountains of Northern Idaho, which now that they live in the Swiss Alps gets far too little use. Read more posts by this author

20 responses so far

20 Responses to “Fiscal Stimulus package passes in Congress – here comes $170 billion, America!”

  1. kevinyehon 10 Feb 2008 at 1:04 am

    Since so many of the goods Americans buy are imported from China, I think it is very likely that there will be significant "leakages" in this rebate plan. However, it is true that money in the hands of household does increase spending, so hopefully it will at least partially stimulate the economy to stay out of recession.

  2. Angel Liuon 10 Feb 2008 at 3:34 pm

    i think part of the business tax breaks should be allocated to producers of American products, or even subsidize their goods. Chinese goods are known to be cheaper, but upon seeing a cheaper American good, households will definitely choose the cheaper one in times of recession

  3. Mike Fladlienon 10 Feb 2008 at 10:28 pm

    i agree that the stimulus package effectiveness depends on what the money is spent on. i would like to submit for peer evaluation that the stimulus will be temporary, increase the deficit, increase taxes later, depreciate the USD. i think the FED should be allowed to do their job independent of politics.

  4. optional.xuon 11 Feb 2008 at 4:09 pm

    I'm wondering where they get all this money for this huge tax break. I thought Bush was spending loads on the war and the debt the government owes is huge. So while the tax break is giving more money to the households and businesses, isn't this going to cause further depreciation of the dollar? The government is spending more than it is bringing in, just like households.

  5. kevinchiuon 11 Feb 2008 at 11:05 pm

    I think they should restrict the tax rebates to certain good that consumers can produce or to be allocated to the producers of U.S. goods, like others have stated; otherwise, it seems that the leakage may hinder the effect of the stimulus package. Also, if America is already in a recession, aren't.. consumers more inclined to not spend the tax rebates?

  6. kevinchiuon 11 Feb 2008 at 11:08 pm

    Typo: ..that consumers can use* (not produce)

  7. Sam Youngon 12 Feb 2008 at 10:10 am

    I don't see how the stimulus can work.

    This stimulus plan is the government saying "we are in a recession" so the rational thing for people to do would be to save the money for the hardships they will face during the recession and economics relies on "fact" that people act rationally.

    However, if people were to spend the money anyway, contrary to rationality, as it has been said, given the amount and availibility of imported products, that money would most likely find its way out of the US economy very quickly.

    Its a good try, but I have low hopes for it.

  8. Alex Goldmanon 12 Feb 2008 at 2:03 pm

    It seems that this stimulus plan will provide a small, but temporal growth in GDP. If the plan works, then consumer spending will boost GDP, which leads to economic growth. The government will be happy, as economic growth has many benefits. However, if the money goes into buying exported goods, paying off credit card debt, and into savings, the GDP will not grow and the government will be out 170 billion dollars. It seems this plan aims to garner support with voters, rather than provide long term economic development.

  9. MichaelChowon 12 Feb 2008 at 3:13 pm

    This stimulus plan, will hopefully add to the spending of consumers therefore increasing GDP of a nation. I think Kevin Chiu has a very good point on how, "if America is already in a recession, aren’t.. consumers more inclined to not spend the tax rebates?" For this to be effective I believe there needs to be an increase in quantity of cheaper goods.

  10. Jack Loon 12 Feb 2008 at 3:59 pm

    I'm pretty sure that there will be some 'leakages'. Rational consumers will always try to maximize utility, and that usually means buying cheap Chinese goods. I highly doubt that consumers will take the time to check where every product on the shelf is produced. It's also very likely that Americans will spend this tax rebate on paying back debts or putting it into savings (if a recession is upon the nation, they will be more inclined to save the money to help them ride through the hard times).

    Although there is little potential for this stimulus package to actually help economic growth, I think this was more of a political move to attract support from the general public.

  11. Christina Huon 12 Feb 2008 at 7:12 pm

    Why couldn't the government, like so many others have stated, just restrict what uses the rebates can be put to? Or, rather, send gift baskets of domestic products to households in place of the rebates? That way, they'd be directly stimulating aggregate demand, and ensuring that the money is not going into savings accounts or being used to purchase imported products.

    However, no matter what the government does, "it should not be forgotten that every period of expansion in every modern market economy in the world has ultimately reached a peak, and then led to a contraction" (Mr. Welker) so the occasional recession is inevitable.

  12. Drew Venkatramanon 13 Feb 2008 at 8:23 pm

    I think this stimulus is just one last ploy to give the people of America a sense that the government is trying to help them. Although the help is somewhat minimal, nothing significant to help with education or what not but i believe that the certain item will help prevent the inevitable recession ( at least in the short term)

  13. Jo Loon 13 Feb 2008 at 9:13 pm

    I think part of the reason for wanting to do this package is because Bush wants to try to save face before he leaves office early next year. He wants the American people to think he and the government are doing something to try to resolve this crisis. Nobody will know before the people actually get the money whether or not the stimulus plan worked. I think this plan will actually work better than many people think. With the declining dollar more people will decide use the money to buy what they can rather than risk losing buying power in the future.

  14. Trevor Sunon 13 Feb 2008 at 9:30 pm

    Well if i was given that much money id just save it and not go out and buy things. Maybe Drew is right and its just a last ditch attempt to gain some favor. Or the government might want them to use that money to go and buy things to help increase GDP but i dont think its likely.

  15. Mondon 13 Feb 2008 at 9:45 pm

    I agree with Trevor, if I was given the money I would save it. Because during a recession, it is a smart strategy to save up and spend money on the nondurable consumer goods such as food that are essential for daily living. It is highly unlikely that people will use and spent this money so that it will increase the GDP of the country.

  16. M R Johnsonon 13 Feb 2008 at 9:53 pm

    The only way I think this package will be effective is if everyone uses their rebates to either pay off some interest-heavy bills (such as credit card debt), or if everyone saves it. The problem seems to be this; will everyone have the discipline to use their rebates in those two ways?

  17. Jason Welkeron 13 Feb 2008 at 10:56 pm

    MR, how will saving or paying of debt help push the economy back towards expansion? Doesn't the economy need more consumption? I don't get it…

  18. Caleb Liaoon 14 Feb 2008 at 12:13 pm

    It seems that this will help the economy, as long as the money stays within the states. These days with mass outsourcing, it would easily leak out. the country should watch out for this.

  19. Chris Seahon 14 Feb 2008 at 2:21 pm

    I am no expert but here is my take on this:

    The economic stimulus plan is weak and ineffective. Given the worsening recession, what incentives do households have to spend this money and inject it back into the economy? A $600 check is no large amount and households would likely save it given the tumultuous times and an impending very rainy day. This seems to be simply pouring much-needed money out of the economy.

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