CHINO HILLS, California – In addressing the current economic malaise that we find ourselves in, people focus a lot of attention on the expected tangible effect of the economic stimulus plan on the economy. Less, if any, attention is given to the psychological impact of having a plan in place.
Let me comment on the tangible effects first. The passage of the stimulus bill in the House of Representatives was notable for the absence of even one Republican vote. This reflects the philosophical and ideological differences that divide the left and the right. Both sides of the aisle agree that something needs to be done. The manner and priorities within the stimulus package is where the differences lie.
These differences are rooted in the continued debate over the level of involvement of government in the day to day lives of its citizens. Republicans, in general, cling to the mantra that less is better.
It is probably fair to say that both Republicans and Democrats agree that a combination of both direct spending by government and tax cuts is necessary within the stimulus bill. The proportion by which the pie is divided between these two is where the bickering starts.
Putting money in people’s pockets via tax cuts is the Republican way of conforming to the less government is better mantra. Direct spending via the likes of infrastructure investment and social/entitlement programs is what Democrats have focused on.
Each approach will have their stimulative effects. It is the effectiveness of these effects that are the bone of contention. In a sense, each involves a certain leap of faith given the severity of the current crisis as well as the size of the proposed stimulus package. In Part 1 of this missive, I had mentioned the inexact nature of economics. This reality lends itself to all the manner of seemingly reasonable justifications for the various approaches to attacking the crisis. Another reality is that even economists agree that no one really knows the final outcome coming out of this stimulus package.
So, in spite of all the noise we hear, no one can persuasively argue that there is the one perfect solution to resolving this crisis because no one really knows what it is or even if there is one. This takes us back to square one where everyone knows that something needs to be done and we can’t agree on how to go about doing it.
This brings me to the area that has not been the focus of much discussion – the psychological impact of having an economic stimulus plan.
To those of you who have followed my notes, I have always contended that uncertainty is Kryptonite to the markets. Uncertainty does not allow the formation of reasonable expectations upon which we can base some future action. This leaves us stuck in place going nowhere fast.
At the end of the day, it is the psychology of confidence (or the lack thereof) that will determine how fast we can get out of this rut. For decision makers (yes – that includes you, the individual consumer) to finally make decisions which will have the effect of driving the economy forward, they need to have some level of confidence that their decisions now will not negatively impact their financial well-being in the future. A prerequisite (conscious or unconscious) for making these decisions is an underlying confidence that things are being done to address the current problems and move us all forward.
That things are being done…
We will never end up with the perfect solution even if we are to divine that there is one. Thus, I sincerely believe that any stimulus plan (in whatever form we finally end up with) is better than not having one. The naysayers will probably come up with something along the lines of – “what if this is all totally wrong and even after all this spending we come back to where we are right now?” I would say that – well, how would we ever find out if this was the wrong (or the right, for that matter) approach if we didn’t try it.
In all likelihood, the implementation of a stimulus package of this size will involve a lot of trial and error on the part of those mandated to carry out this task. There will be a lot of mistakes that will be made along the way. There will also be a lot of things that will be done just right. I believe that we will get more things right, learn from the mistakes and get them right.
Let me end by saying this – something needs to be done and done quickly. When the final accounting is done, we will look back and see that getting things moving at this time was the right decision after all.
WEST COVINA, California – As I write this, the Bureau of Economic Accounts has just released its fourth quarter Gross Domestic Product (GDP) report showing that the US economy contracted by 3.8% over that period. Now that I’ve gotten that sentence out of the way, let me assure you that I try to keep my notes as “user-friendly” as possible so some people actually keep on reading.
The focus on this note is to try to provide a simple (hopefully not simplistic) guide to relate what’s going on in our economy and what the current economic stimulus plan aims to do to address this slumping economy. This stimulus plan has just been passed by the House of Representatives and will be taken up by the Senate next week.
To those of us who have taken Economics 101, the next few paragraphs will be basic. To those who haven’t please bear with me as I try to provide some simple explanations.
GDP is the over-all measure of what was produced by a country’s economy over a specific period of time. The GDP is arrived at by the total of Consumer Spending (C), Business Investment (I), Government Expenditures (G) and Net Exports (Exports (X) less Imports (M)).
Consumer spending has generally accounted for 2/3 of the US economy. This fell 3.5% in the 4th quarter of last year. Business investments fell by 12.3%. Government expenditures rose 1.9%. Exports were down 19.7% while imports were down 15.7% with the over-all effect being that the US made slightly more money from exporting goods and services than what it made from importing goods and services.
I hope I haven’t lost you so far (or maybe I have but hey it’s a tough subject – economics).
The bottom line is that consumers are not spending as much money because they don’t have it (or if they do, they’re stashing it under the mattress), businesses are cutting costs like crazy and the government is trying it’s best to keep the economy afloat (by design or accident – I leave that for you to decipher).
Okay, now that we know that the numbers have confirmed what we already know, let us go back to the stimulus bill.
Essentially, what the stimulus bill is meant to do is to try to dump a boatload of dollars into the economy in a bid to re-inflate it. There are many ways by which they are trying to do this and I won’t bore you by trying to go into too much detail.
In general, there are 2 ways. The first is by directly spending the money, an example of which would be infrastructure investment in building roads, bridges, and schools – that kind of thing. The second method is by reducing taxes on both individuals and businesses with the hope that individuals and businesses would then have more money to spend.
Now, let’s have some perspective here. The size of the US economy is $14.26 trillion. If that figure represents a drop of 3.5%, then the value that has been lost by this economy would be a little over $500 billion. The economic stimulus bill in its current form calls for $819 billion in new spending and tax cuts. It would seem that the math says we are going to fix this in no time. Unfortunately, the real world is the real world.
First, the economy continues to slide with a slew of new lay-offs, a continued tightness in lending and just an over-all decline in production. As such, the value lost in the economy will continue to grow at least until the third quarter of this year (my guesstimate, don’t hold your breath). Second, assuming the Senate passes the bill next week and President Obama signs it into law, the bulk of the spending anticipated by this stimulus package will not happen overnight. Finally, no one can say with any degree of certainty what the over-all impact of this stimulus package will be as to its effectiveness and as to a time frame for when it actually makes a difference.
Economics is an inexact science (to say the least). Arguments, one way or another, for and against this stimulus package is underpinned by this lack of clarity. By the time, all of this is said and done and President Obama finally signs some stimulus package into law, all of us amateurs who deign to pay too much attention will end up being dazed and confused (whaaaaat?).
(To be continued – Part 2: The Economic Stimulus Plan: What I really think)