The Wonk Room

Obama Courts Conservatives With Large Tax Cuts In Proposed Stimulus Plan

Today, President-elect Barack Obama is scheduled to meet with the heads of both chambers of Congress “to discuss a massive economic stimulus plan” that could amount to $775 billion over two years.

According to various reports, the legislation will “direct about $300 billion of the stimulus package, or about 40 percent, toward tax breaks.” These cuts would, in part, “serve as a down payment on the ‘Making Work Pay’ proposal Mr. Obama outlined during his election campaign, giving a credit of $500 per individual or $1,000 per family.”

The size and scope of the cuts — particularly a proposed “business tax package” — seems to be a political move aimed at attracting conservative support for the legislation. Sen. Mitch McConnell (R-KY) and Rep. John Boehner (R-OH) have threatened to stall or block the stimulus bill if they are not given time to “dissect it for signs of ‘fraud and waste.’” However, McConnell did signal that a potential area for “quick, bipartisan agreement” is tax cuts.

While tax breaks can be economically stimulative if they are targeted correctly (particularly to lower-income Americans), at the end of the day they are simply not the best way to kick start the economy. As Yves Smith wrote at Naked Capitalism, “the problem with tax cuts is they may not be spent“:

And the degree to which they are saved means the stimulus was ineffective. In other words, reliance on tax cuts runs the risk that greater spending will be required to achieve the same result than via government spending. That is not a theoretical concern. We saw it, big time, with last summer’s tax rebate.

Moody’s Economy.com calculated that the most fiscal stimulus “bang for the buck” comes from spending increases (particularly infrastructure investment, extending unemployment benefits, and temporarily increased funding for food stamps), while tax cuts are much less effective. Furthermore, as Paul Krugman noted, “public investment leaves something of value behind when the stimulus is over” whereas tax cuts do not.

Already, Congressional leaders have conceded that the stimulus package will not be ready until February, instead of being set for Obama’s signature on Jan. 20, which was Rep. Nancy Pelosi’s (D-CA) initial goal. It is important, though, that this package gets sorted out as soon as possible so that the country avoids Krugman’s “nightmare scenario“:

It takes Congress months to pass a stimulus plan, and the legislation that actually emerges is too cautious. As a result, the economy plunges for most of 2009, and when the plan finally starts to kick in, it’s only enough to slow the descent, not stop it.