The Economic Effects of President Bush's and Senator Daschle's Economic Stimulus Plans
by William W. Beach, D. Mark Wilson, Rea S. Hederman, and Ralph A. Rector
November 9, 2001
On November 6, 2001, Senate Majority Leader Thomas Daschle (D–SD) reaffirmed his intention to introduce a two-component economic stimulus package that would combine the plans of Senators Max Baucus (D–MT) and Robert Byrd (D–WV). It now appears likely that the upcoming Senate debate on economic stimulus legislation will center around Senator Daschle’s plan and a plan proposed by Senator Charles Grassley (R–IA) that is strongly supported by President Bush.
Although both plans are intended to ease the impact of the economic recession and improve the incentives to work, save, and invest (the real catalysts for economic growth), there are substantial fiscal policy differences between them. On the one side are those, led by the President and Senator Grassley, who believe that vigorous tax cuts combined with limited spending increases will do the most to lift the economy out of its current slump. On the other side are those, led by Senator Daschle, who believe that substantial spending increases combined with limited, targeted tax cuts will do the most to remedy the economic problems that have been exacerbated by the September 11 attacks.
This CDA Report addresses the question of which approach—significant tax cuts with limited spending or significant spending with limited tax cuts—would do more to boost the economy. It evaluates both of the Senate stimulus plans, using the same economic model, against the same baseline to determine which approach would produce the best economic results over the next five years.
To address this question, analysts in the Heritage Foundation’s Center for Data Analysis (CDA) used the WEFA U.S. Macroeconomic Model, the Center’s Individual Income Tax Model, and work by the staff of the Joint Committee on Taxation (JCT). Specifically, CDA economists estimated the economic effects of the Bush–Grassley and Daschle plans using the same model of the U.S. economy, one that contains a two-quarter recession beginning in the third quarter of 2001 and ending during the first quarter of 2002. This analysis shows that:
· In fiscal year (FY) 2002, the Bush–Grassley plan produces nearly twice as many jobs as the Daschle plan does (211,000 vs. 108,000). From FY 2002 to FY 2006, on average, the Bush–Grassley plan produces over seven times more jobs than the Daschle plan (283,000 per year vs. 38,000 per year).
· From FY 2002 to FY 2006, the inflation-adjusted disposable income of an average family of four would increase by an average of $1,060 per year under the Bush–Grassley plan and by only $236 per year under the Daschle plan.
· In FY 2002, the Bush–Grassley plan increases inflation-adjusted consumption expenditures by $27.9 billion—28 percent more than the Daschle plan’s $20.0 billion.
· By the end of FY 2002, the average savings for a family of four (adjusted for inflation) would increase by $752 under the Bush–Grassley plan, compared with an increase of $536 under the Daschle plan.
· From FY 2002 to FY 2006, the nation’s inflation-adjusted investments would increase by an average of $13.4 billion per year under the Bush–Grassley plan and by only $1.1 billion per year under the Daschle plan.
Although both plans transfer income to low- and moderate-income taxpayers through rebates, and although both assist the unemployed, the fact that the economic outcomes produced under the Daschle plan fall far short of those produced under the Bush–Grassley plan raises serious questions about the utility of cash payments and increased government spending as the primary tools for boosting economic activity. The better approach would be to lower tax rates and the tax burden on labor and capital to improve incentives for workers and business owners, producing more jobs and generating higher incomes, which in turn translate into higher investment and consumer spending.
SUMMARY OF PLANS
CDA analysts evaluated two economic stimulus plans for this Report: the plan proposed by Senator Charles Grassley and strongly supported by President Bush, and the plan proposed by Senator Majority Leader Thomas Daschle that would combine the plans of Senators Max Baucus and Robert Byrd.
The Bush–Grassley plan consists of five elements: individual income tax reductions, tax policy changes that reduce capital costs, cash relief to low- and middle-income workers, extending and expanding unemployment insurance, and expanding health insurance coverage. The plan is expected to result in static federal revenue reductions and spending increases totaling $248 billion over next five years.[1]
Specifically, Senator Grassley and the President propose:
· Accelerating into 2002 all of the tax rate reductions that are currently scheduled for 2004 and 2006;
· Accelerating the depreciation of capital acquisitions for the next three years by enacting a 30 percent “bonus” depreciation for those years;
· Repealing the corporate alternative minimum tax on a prospective basis;
· Providing supplemental cash payments to taxpayers who were not qualified to receive the full amount of last summer’s tax rebates ($300 for singles, $600 for married taxpayers, and $500 for head-of-household taxpayers);
· Establishing a temporary emergency extended unemployment compensation program to provide an additional 13 weeks of unemployment benefits to workers laid off as a result of the September 11 attacks;
· Providing states with $3 billion in National Emergency Grants to pay for unemployment insurance benefits to laid-off workers not eligible for the temporary extended benefit program, to pay up to 75 percent of health insurance premiums covered by COBRA,[2] and to strengthen job placement assistance; and
· Encouraging states to use $11 billion in unspent State Children’s Health Insurance Program (SCHIP) matching funds to expand health insurance coverage for the uninsured.
The Daschle plan consists of five elements: cash relief to low- and middle-income workers, tax policy changes that reduce capital costs, extending and expanding unemployment insurance, expanding health insurance coverage, and significantly increasing spending for infrastructure and national security projects. The key contrast between the Bush–Grassley plan and the Daschle plan centers on the amount of tax relief vs. the amount of increased spending that each provides.
Specifically, the Daschle plan would consist of:
· Supplemental tax rebate checks for taxpayers who did not receive the full amount during the summer of 2001;
· A 10 percent “bonus” depreciation for investment in capital and software placed in service over the next 12 months;
· Expansion of Section 179 expensing for small businesses;
· Expansion of the carryback period for net operating losses;
· Extension of expiring tax credits;
· Temporarily extending and expanding Unemployment Insurance;
· Subsidized COBRA coverage;
· Expansion of Medicaid to cover the unsubsidized portion of COBRA coverage; and
· Significant spending increases for agriculture, highway projects, transportation security, border security, bioterrorism prevention, and state and local anti-terrorism grants.
The Daschle plan would reduce federal tax revenue and increase spending by a total of $88 billion over the next five years.[3]
COMPARISON OF ECONOMIC EFFECTS
There may be many good political reasons for Congress to pass an economic stimulus package, but there is one overriding economic reason: The intervention should improve the incentives to work, save, and invest—the real catalysts of economic growth. Fiscal policy changes that focus on these economic incentives will lay the foundation for stronger economic growth and both reduce the depth and shorten the duration of the current slowdown. Indeed, the competing stimulus plans should be evaluated with respect to their effects on depth and duration of the recession as much as, or more than, with respect to any other criteria.
To determine how the two plans compare in terms of their effect on the expected depth and duration of the current recession, CDA analysts developed projections of the economic impact of each of the plans. Chart 3 shows how each plan will affect the change in employment between the beginning of the recession (the end of the second quarter of 2001) and the time when total employment returns to the level it would likely have attained had there not been the recession of 2001 (i.e., the first quarter of 2004).
Chart 3 shows that, while both proposals lessen the depth of job loss, only the Bush–Grassley plan significantly shortens the time before employment regains the level it would have attained without a recession. As the chart demonstrates, the Bush–Grassley plan reduces the employment trough by nearly 33 percent and shortens the length of the job slowdown by six months.
Both plans affect economic activity, but the Bush–Grassley plan, which contains significant tax relief and limited spending, produces uniformly better economic results than would a plan based on substantial spending increases combined with limited tax cuts. For example, in FY 2002:
· The Bush–Grassley plan would produce nearly two times as many jobs as the Daschle plan would (211,000 vs. 108,000).
· Under the Bush–Grassley plan, the inflation-adjusted disposable income of an average family of four would increase by $1,176, compared with $844 under the Daschle plan.
· The Bush–Grassley plan increases inflation-adjusted consumption expenditures by $27.9 billion—28 percent more than the Daschle plan’s $20.0 billion.
· The average savings for a family of four (adjusted for inflation) would increase by $752 under the Bush–Grassley plan and by only $536 under the Daschle plan.
· The Bush–Grassley plan would increase inflation-adjusted investment by $7.8 billion, compared with $4.9 billion under the Daschle plan.
Moreover, as Table 1 shows, the differences in the effects of the two plans will be even more pronounced in future years. The Bush–Grassley stimulus package creates more jobs, provides more income to families, and does a better job expanding economic activity than the Daschle plan.
These differences become more dramatic as the pro-growth elements of the Bush–Grassley plan take hold. On average, from FY 2002 to FY 2006:
· The Bush–Grassley plan produces seven times more jobs than the Daschle plan does (283,000 per year vs. 38,000 per year).
· The inflation-adjusted disposable income of an average family of four would increase by $1,060 per year under the Bush–Grassley plan and by only $236 per year under the Daschle plan.
· The Bush–Grassley plan increases inflation-adjusted consumption expenditures by $45.4 billion per year, compared with an increase of only $10.3 billion per year under the Daschle plan.
· Personal savings (adjusted for inflation) would increase by $27.3 billion per year under the Bush–Grassley plan and by only $5.4 billion under the Daschle plan.
· The Bush–Grassley plan would increase inflation-adjusted investment by $13.4 billion per year, while the increase under the Daschle plan would be only $1.1 billion per year.
CONCLUSION
The two economic stimulus plans analyzed in this Report clearly reflect the two major views of government’s role in economic planning. On the one hand, the Bush–Grassley approach relies primarily on changes in the tax rates on capital and labor to boost economic performance. By lowering tax rates and the tax burden on investment and capital assets, this supply-side plan provides incentives for business owners and workers, producing more jobs and generating higher incomes, which translate in turn into greater investment and consumer spending.
On the other hand, Senator Daschle’s demand-side approach relies primarily on cash transfers to displaced workers and distressed businesses to stimulate economic activity. While this plan produces some increase in employment and income and is better than doing nothing, it fails to substantially increase the fundamental incentives for stronger economic activity. In fact, the Daschle plan never creates the large consumer response that would be needed for a demand-side, expenditure-based stimulus proposal to produce the job and income increases that are generated by supply-side proposals.
While both plans transfer income to low- and moderate-income taxpayers through rebates, and while both assist the unemployed, the fact that the economic outcomes produced under the Daschle plan fall far short of those produced under the Bush–Grassley plan raises serious questions about the utility of cash payments and increased government spending as the primary tools for boosting economic activity.
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