The War Over Stimulus Spending—Does it Really Work?
Policy + Politics

The War Over Stimulus Spending—Does it Really Work?

The Fiscal Times/iStockphoto

As Republican presidential contenders vie for voters and campaign dollars, one issue unites them—they think President Obama’s stimulus program was a colossal failure.  Now, the president is planning a new round of stimulus spending—this time to boost jobs and catapult the economy out of the hole.  So who’s right?  According to the Congressional Budget Office and the U.S. Treasury, the program is a winner—mostly because without it, that hole would have been much wider and deeper.

Obama’s much-maligned 2009 economic stimulus package is continuing to provide some modest juice for the lethargic economy and is adding jobs to the labor market, according to a new study by the non-partisan Congressional Budget Office.

The estimated $825 billion legislation, passed in the depths of the recession, has become a popular political punching bag for Republican presidential candidates and congressional leaders who claim it has done little more than add to the $1.3 trillion annual deficit.

But CBO reported on Wednesday that during the second quarter of this year, the so-called American Recovery and Reinvestment Act (ARRA) raised the inflation-adjusted Gross Domestic product by between 0.8 percent and 2.5 percent; lowered the unemployment rate by between 0.5 percentage points and 1.6 percentage points; and increased the number of people who are employed by between one million and 2.9 million, compared with what would have occurred without the law.

Without the program in placereal GDP would have increased by substantially less than the meager 1.3 percent annual rate reported by the government in the second quarter of this year; the 9.1 percent unemployment rate may have gone as high as 10.7 percent; and there might have been as many as 2.9 million fewer employed Americans than the 131.2 million reported by the Labor Department in July.

Even as the stimulus program rapidly winds down, it will produce some residual economic benefits next year as well, the report said, as part of long-term construction projects and other programs. But many states and municipalities, already feeling the effects of those funds drying up, are struggling to fill the resulting gaps in their budgets.

Looking Ahead to Obama’s Post-Labor Day Speech
The CBO’s latest findings on the controversial stimulus package come as President Obama prepares to press Congress for billions of dollars in new spending to reduce unemployment in the short term, while crafting proposals for long-term deficit reduction. Responding to criticism from both parties that he hasn’t done enough to address the unemployment crisis, Obama has promised to offer comprehensive proposals for jumpstarting the economy with a mixture of tax cuts and infrastructure spending in a speech he will deliver shortly after Labor Day.

Most Republican congressional leaders are opposed to another round of major government spending. House Majority Leader Eric Cantor, R-Va., and other congressional GOP leaders insist the key to an economic recovery is cutting spending to reduce the long-term debt, and elimination of government red tape that is discouraging business growth.

J.D. Foster, an economist with the conservative Heritage Foundation and critic of the stimulus program, told The Fiscal Times Thursday that the massive spending program “had an [adverse] impact on the deficit, but it hasn’t had any impact on the economy unless it’s a negative one.” But Federal Reserve Board Chairman Ben Bernanke recently defended the program as beneficial, and Senate Democratic aides cited the latest CBO report as solid evidence that the stimulus package is still working.

Obama’s stimulus legislation provided aid to state and local governments, temporary tax relief for businesses and individuals, and funding for construction and transportation projects. GOP leaders, including presidential frontrunners Rick Perry and Mitt Romney, have dismissed the program as a colossal waste of money that did little to improve the economy or bring down the unemployment rate.

Perry, the Texas governor who recently jumped into the GOP presidential contest and is now leading the pack in a Gallup poll, has declared that the Obama’s stimulus and other job creation efforts haven’t worked. “I think we poured about $4 trillion down that rat hole and government has not created a [single] job,” he said earlier this summer.

Romney, the former Massachusetts governor, once asserted that the stimulus package actually made the economy worse, before later backing off that claim. “There's no question the recession was made deeper and more painful for more Americans by virtue of the President's plans,” Romney told reporters at a July 4 event in New Hampshire. “He made the recession worse and the recovery more anemic.”

Stimulus Effects Peaked in First Half of 2010
But the CBO has repeatedly found that the stimulus spending has made a bad economic situation a little better. The effects of the stimulus on economic output and jobs creation peaked in the first half of 2010, when the full force of the emergency spending was being felt around the country. Throughout 2010, the program boosted real GDP by as much as 4.2 percent, shaved the unemployment rate by as much as 1.8 percentage points and helped create as many as 3.3 million jobs, according to CBO analysis.

“CBO estimates that the employment effects began to wane at the end of 2010 and continue to do so,” Douglas W. Elmendorf, director of CBO, said in a blog post yesterday afternoon. “Still, CBO estimates that, compared with what would have occurred otherwise, ARRA will raise real GDP in 2012 by between 0.3 percent and 0.8 percent and will increase the number of people employed in 2012 by between 0.4 million and 1.1 million.”

Precisely how CBO arrived at its conclusions about the effects of the stimulus package is  a controversial topic, with some conservative critics claiming the agency used faulty models designed to come up with a predetermined finding that the hundreds of billions in spending had a positive effect.

CBO disputes suggestions that the agency is anything but impartial, and says that it used various economic models and historical data to guide its estimate of the way in which output and employment are affected by increases in spending outlays and reductions in revenues under ARRA. The agency’s assessment is that different elements of ARRA – particular types of tax cuts, transfer payments, and government purchases – have had different effects on economic output per dollar of higher spending or lower tax receipts. Multiplying estimates of those per-dollar effects by the dollar amounts of each element of ARRA yields an estimate of the law’s total impact on output, CBO says. To produce estimates of ARRA’s total impact on employment, CBO combined that estimate with estimates of how changes in output affect the unemployment rate and participation in the labor force.

But Foster of the Heritage Foundation insists that CBO’s model is badly flawed, and was devised to reach preordained findings that rampant deficit spending was having positive effects on economic growth. “It doesn’t work that way,” he said. “The one thing these models somehow forget, and Keynesian theory forgot, is that we have this little thing called financial markets. The markets do this odd little thing called intermediation, where they take savings and apply them somewhere.”

“When the government comes in and borrows a lot more money, that money which otherwise would have been used somewhere in the economy isn’t available,” he added. “So you can’t create purchasing power just by government spending and borrowing more. You can’t raise demand; you can only push it around.”

The CBO had no comment on Foster’s claims.