Crash and Burn: the Case for a Third Stimulus Package

We've just about reached the point where we need to add a "gate" to the AIG fat-cats story -- "bonus-gate."

With all this populist anger bubbling up around us, it's an ugly time to discuss another stimulus package. Polls show that the public is sick of bailing out the financial sector, at least, and while there remains strong support for the Obama administration's larger efforts to boost the economy through a mix of policies, including public spending and tax cuts, the unfortunate reality (at least based on my anecdotal experience) is that many people view all of the government's varied efforts as part of the same package, and many see that package as little more than a public ripoff.

And, according to a CNN poll (last link above), two out of three Americans surveyed would oppose another stimulus package if the first one doesn't kick the economy into high-gear.

That's unfortunate -- "Blue Dog" Dems and GOP dead-enders in Congress made sure that the most recent stimulus package was of a size that most economists said would fall short of what was needed to make up for American consumers' sudden lack of appetite for purchasing endless unnecessary crap shiny new consumer goods.

And now, in a new report (PDF) released today, economist Dean Baker, author of Plunder and Blunder: The Rise and Fall of the Bubble Economy, argues that an additional stimulus will indeed be necessary to pull the economy out of its doldrums. Baker calls for the injection in the form of tax credits to encourage businesses to extend insurance coverage to more employees and give their workers more time off. He also points out that trying to stabilize home prices in wildly over-inflated bubble markets is a fool's errand, and urges that efforts to rescue homeowners be focused in areas where prices are more or less in line with their historic levels.

The executive summary after the flip ...

 The overwhelming majority of economists, including all those in top policymaking positions,

completely missed the growth of an $8 trillion housing bubble. Furthermore, even as the collapse of

the bubble began to push the economy into recession, policymakers repeatedly downplayed its

significance, minimizing any negative effects on the economy. As a result, the policy responses last

year were too late and far too small to have much effect countering the downturn.

This paper argues that policymakers are still underestimating the severity of the downturn.

Specifically, it argues that the unemployment rate by the end of 2009 is likely to be far higher than

the most recent projections from the Congressional Budget Office and the Federal Reserve Board.

In this context, it argues for additional stimulus1 in the neighborhood of 2-3 percent of GDP for

two years ($300 billion to $450 billion annually). It suggests two specific mechanisms for getting this

money into the economy quickly:

1) an employer tax credit of $3,000 for extending health insurance coverage to workers not

already covered by health insurance. The tax credit can include an additional $1,000 per

worker to make coverage more generous.

2) an employer tax credit of up to $2,500 per worker for increasing the amount of paid time off

per worker. This paid time off can take the form of paid family leave, paid sick days,

increased vacation, or shorter standard workweeks. This would both boost demand and lead

to more employment at every level of GDP. For example, if the average number of hours

per worker per year were reduced by just 3 percent, this would lead to 4.2 million more jobs

at the same level of GDP. 

The paper also argues for a housing policy that is focused on stabilizing housing prices, but only in

markets where the bubble has deflated. To advance this goal, it should have Fannie Mae and Freddie