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STRENGTHENING AMERICA’S ECONOMY:

STIMULUS THAT MAKES SENSE

HEARINGS

BEFORE THE

COMMITTEE ON FINANCE

UNITED STATES SENATE

ONE HUNDRED TENTH CONGRESS

SECOND SESSION

JANUARY 22 AND 24, 2008

(

Printed for the use of the Committee on Finance

COMMITTEE ON FINANCE

MAX BAUCUS, Montana, Chairman

JOHN D. ROCKEFELLER IV, West Virginia

KENT CONRAD, North Dakota

JEFF BINGAMAN, New Mexico

JOHN F. KERRY, Massachusetts

BLANCHE L. LINCOLN, Arkansas

RON WYDEN, Oregon

CHARLES E. SCHUMER, New York

DEBBIE STABENOW, Michigan

MARIA CANTWELL, Washington

KEN SALAZAR, Colorado

CHUCK GRASSLEY, Iowa

ORRIN G. HATCH, Utah

OLYMPIA J. SNOWE, Maine

JON KYL, Arizona

GORDON SMITH, Oregon

JIM BUNNING, Kentucky

MIKE CRAPO, Idaho

PAT ROBERTS, Kansas

JOHN ENSIGN, Nevada

JOHN E. SUNUNU, New Hampshire

RUSSELL SULLIVAN, Staff Director

KOLAN DAVIS, Republican Staff Director and Chief Counsel

(II)

(III)

C O N T E N T S

JANUARY 22, 2008

OPENING STATEMENTS

Page

Baucus, Hon. Max, a U.S. Senator from Montana, chairman, Committee

on Finance ............................................................................................................ 1

Grassley, Hon. Chuck, a U.S. Senator from Iowa ................................................. 2

ADMINISTRATION WITNESS

Orszag, Dr. Peter, Director, Congressional Budget Office, Washington, DC ...... 5

JANUARY 24, 2008

OPENING STATEMENT

Baucus, Hon. Max, a U.S. Senator from Montana, chairman, Committee

on Finance ............................................................................................................ 35

WITNESSES

Feldstein, Dr. Martin, Baker professor of economics, Harvard University,

Cambridge, MA; and president and CEO, National Bureau of Economic

Research (NBER), Cambridge, MA ..................................................................... 36

Furman, Dr. Jason, director, the Hamilton Project, Washington, DC ................ 39

ALPHABETICAL LISTING AND APPENDIX MATERIAL

Baucus, Hon. Max:

Opening statements ......................................................................................... 1, 35

Bunning, Hon. Jim:

Prepared statement .......................................................................................... 65

Feldstein, Dr. Martin:

Testimony .......................................................................................................... 36

Prepared statement .......................................................................................... 66

Furman, Dr. Jason:

Testimony .......................................................................................................... 39

Prepared statement .......................................................................................... 70

Grassley, Hon. Chuck:

Opening statement ........................................................................................... 2

Prepared statement with attachment ............................................................. 83

Orszag, Dr. Peter:

Testimony .......................................................................................................... 5

Prepared statement .......................................................................................... 86

Salazar, Hon. Ken:

Prepared statements..................................................................................... 114, 116

COMMUNICATIONS

American Hospital Association ............................................................................... 119

Association of Fundraising Professionals (AFP) ................................................... 122

Independent Sector .................................................................................................. 126

National Committee to Preserve Social Security and Medicare .......................... 130

United Jewish Communities ................................................................................... 132

(1)

STRENGTHENING AMERICA’S ECONOMY:

STIMULUS THAT MAKES SENSE

TUESDAY, JANUARY 22, 2008

U.S. SENATE,

COMMITTEE ON FINANCE,

Washington, DC.

The hearing was convened, pursuant to notice, at 10:01 a.m., in

room SD–215, Dirksen Senate Office Building, Hon. Max Baucus

(chairman of the committee) presiding.

Present: Senators Conrad, Bingaman, Lincoln, Wyden, Stabenow,

Salazar, Grassley, Hatch, Snowe, Bunning, and Roberts.

OPENING STATEMENT OF HON. MAX BAUCUS, A U.S. SENATOR

FROM MONTANA, CHAIRMAN, COMMITTEE ON FINANCE

The CHAIRMAN. The hearing will come to order.

First, I want to wish everybody a Happy New Year.

Vaclev Havel once defined hope to mean ‘‘the certainty that

something makes sense.’’ We meet today to evaluate what economic

policy can give Americans hope. We meet to discuss what economic

stimulus makes sense.

As we meet today, the economy is weak, the housing sector is in

a slump, a larger credit crunch looms on the horizon, and stock

markets are falling. Retail sales dropped in December. In the latest

report, the unemployment rate jumped from 4.7 to 5 percent. Some

States are already in a recession, and consumer expectations for a

better economy are at a 16-year low.

Today we will consider the arguments for why the economy

needs fiscal stimulus, and, assuming that it does, we will consider

what kinds of stimulus make the most sense. To help us understand these questions and to get the answers, we have Peter

Orszag, who is Director of the Congressional Budget Office, before

us today. We are very honored to have you here, Peter, and thank

you for coming.

CBO just issued a report on fiscal stimulus, and that report

states ‘‘there is a strong possibility of at least a few quarters of

very slow growth’’ in calendar year 2008. The Federal Reserve

Board appears to believe that the economy is weak enough to need

monetary stimulus.

With its three-quarter-point reduction today, the Fed has already

lowered its target for interest rates by a total of one and threequarters percentage points over the last couple of months. Last

week, the chairman of the Federal Reserve Board said the Fed

would ‘‘stand ready to take substantive additional action as needed

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to support growth and to provide adequate insurance against downside risks.’’

But will monetary stimulus be enough? There are reasons to believe that it might not. There are reasons why Congress might do

well to provide fiscal stimulus, i.e., cutting Federal taxes or raising

Federal spending.

For one thing, a lot of houses on the market right now might prevent lower interest rates from having their usual punch. For another, skittish lenders who have suffered losses as a result of the

subprime mortgage crisis may remain reluctant to make loans, no

matter how low interest rates go.

Fiscal policy, if enacted quickly, can work faster than monetary

policy. We need to consider that the economy may be weak enough

that we may need fiscal stimulus to augment monetary stimulus.

Economists differ on the odds of a recession, but either way fiscal

stimulus could be valuable to improve otherwise weak economic

growth, even if we are not technically in a recession.

If fiscal stimulus is needed, what kind of fiscal stimulus should

we enact? The consensus is growing that it must be three things:

timely, targeted, and temporary. Stimulus occurs when households

and businesses spend any additional income that they receive rather than save it. To get households and businesses to spend more

money, the government can do two things: cut taxes or increase

spending.

Fiscal stimulus must be timely. That means that, once enacted,

the stimulus must take effect quickly. It needs to be out of the door

quickly so that the intended recipient can spend it quickly. Spending in 2011 will not avert a recession in 2008.

Fiscal stimulus should be well-targeted. Stimulus should be targeted to those who most need the help. Stimulus should be targeted to those who will spend the money quickest. Lower and

middle-income households are the ones most likely to need additional income during a recession. Because the financial resources of

these households are more limited, they are also the ones who

would be likely to spend the money quickly.

And fiscal stimulus must be temporary. If fiscal stimulus extends

beyond the end of the recession, it could overheat an expanding

economy, causing inflation. Moreover, permanent fiscal stimulus

would increase Federal budget deficits.

So let us think through what sort of economic stimulus makes

sense. Let us see what stimulus can be timely, targeted, and temporary, and let us imagine what sort of economic stimulus can help

to give Americans renewed hope.

Now I would like to turn to my colleague, Senator Grassley.

Senator GRASSLEY. Happy New Year, Senator Baucus.

The CHAIRMAN. And to you, Senator. Thank you.

OPENING STATEMENT OF HON. CHUCK GRASSLEY,

A U.S. SENATOR FROM IOWA

Senator GRASSLEY. There are two opposing points of view on the

economy. Some people say that consumption is the key to economic

growth. When people go shopping, business is good. When people

stay home, business is bad. Now, according to this view, we need

to spend more. Other people would say investment is the key.

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When people invest, business is good. When people do not invest,

business is bad. According to this view, then we need to save more.

Some economists try to reconcile these opposing views by suggesting that the correct view depends on the circumstances. When

workers are fully employed and factories are fully utilized, they say

we need to save more and increase supply. But when workers are

unemployed and factories are idle, they say we need to spend more

and increase demand. While this explanation is appealing, it does

not withstand careful scrutiny.

As a family farmer, I would like to consider a barnyard example.

I am talking about the proverbial chicken and egg. In the first example, we have five chickens that each lay five eggs a week. But

people want more eggs. The solution is to save some eggs, let them

hatch, and then you have more chickens to lay more eggs. In the

second example, you have five chickens that lay five eggs a week,

but people want fewer eggs. The solution cannot possibly be to buy

more eggs, because that is a problem. There is a surplus of unwanted eggs.

Now, when economists talk about stimulating consumer demand,

they give the impression that we can grow our economy by getting

people to go shopping and it does not matter what they buy. But

such talk obscures the fact that, at any given point in time, our

economy is comprised of a specific set of goods, a specific set of

services, each with its own unique factors of supply and demand.

When market conditions change, either because of fickle consumers, maybe foreign competition, maybe rising oil prices, or a

stock market bubble or housing bubble, and maybe a lot of other

things, the goods and services that existed before the change are

no longer suitable to meet the market conditions that exist after

the change.

For example, if consumers decide they want more milk and fewer

eggs, no amount of consumer demand is going to magically turn

our eggs into milk. Farmers are going to have to raise fewer chickens and get more cows, and that of course takes time.

When workers are unemployed and factories are idled because of

changing market conditions, those workers and those resources

must often be reemployed or redeployed in a new occupation or industry. Economist Joseph Sumter refers to this process as, in his

words, ‘‘creative destruction.’’

This process, as we know, is ongoing. Millions of jobs are created

and destroyed each year. Most of the time we end up with more

jobs than we started with at the beginning of the year; regardless

of how many were created or destroyed, more are created. But

whenever our economy falters and millions of Americans are out of

work, it is only natural to want to help.

As the President said during the last economic downturn which

occurred earlier in his first term, ‘‘Everyone who wants a job ought

to be able to get a job.’’ Thankfully, we have had several years of

robust economic growth since. The question is, how do we get the

desirable level of economic growth? How do we put in place policies

to ensure the economy provides enough jobs for workers? How do

we respond to the near-term economic problem without doing longterm damage?

4

The last question is really a critical question for today’s hearing.

Chairman Bernanke has said there should be fiscal stimulus, and

we found out this morning that he is trying in that direction. Leading economic thinkers on the Democratic side, such as former Secretary of Treasury Summers, have agreed, as has Dr. Martin Feldstein, a leading economic thinker on our side of the aisle. So, turning to another farm analogy, the fiscal stimulus horse has left the

barn, and I would prefer that horse to be a thoroughbred rather

than a swayback.

So with the die cast that we need some kind of fiscal stimulus

again, how do we best respond to the immediate situation and not

damage the economic growth over the long term? We are told that

in order to stimulate the economy, all the government has to do is

put money into the hands of consumers and they will spend it, and

in the process spend us back to prosperity.

The problem with this approach is that, the only way the government can put money in somebody’s hands is by taking it from

somebody else’s pockets. That power is exercised either in the form

of higher taxes or more borrowing. Over the long term, this can be

a zero sum game in which one person’s loss is another person’s

gain.

Some economists tried to obscure this fact by introducing a concept known as the ‘‘marginal propensity to consume.’’ That is a

fancy way of saying some people spend more of their money than

others spend. According to this concept, low-income people are

more likely to spend the extra dollar than high-income people;

thus, taking money from the rich and giving it to the poor will

stimulate consumer demand and boost the overall economy.

They will point, then, to the multiplier effect. This concept is

flawed because it ignores the role of saving. Money that is saved

does not disappear. It flows back into the economy in the form of

investment. Investment is just another form of spending, specifically spending on capital goods like factories and equipment. Thus,

money spent on capital goods adds to the overall economy, just not

like money on consumer goods.

Designing an effective policy requires a clear understanding of

why the economy is slowing and unemployment is rising. The idle

workers and resources that exist today are the result of changing

market conditions, primarily rising oil prices and falling home

prices. Government efforts to stimulate consumer demand can neither force people to buy things they no longer want, nor transform

unwanted items into things that they do want.

I do not think that we will find many folks who feel that, currently over the long term, Americans are saving too much. Realigning our economy in a manner consistent with the changing market

conditions will take time. Efforts to stimulate more consumption

will only come at the expense of investments needed to bring about

necessary realignment. Everyone agrees, investment is the key to

higher productivity and a rising standard of living. We should not

let our desire for a quick fix divert our attention from this fact.

Thank you, Mr. Chairman.

The CHAIRMAN. Thank you, Senator, very much.

I would like to now introduce our witness, Dr. Peter Orszag, Director of the Congressional Budget Office. Thank you, Dr. Orszag,

5

for being here today. As you know, customarily witnesses get 5

minutes for oral presentation, and we will put your printed remarks in the record.

Why don’t you proceed?

STATEMENT OF DR. PETER ORSZAG, DIRECTOR,

CONGRESSIONAL BUDGET OFFICE, WASHINGTON, DC

Dr. ORSZAG. Thank you very much, Mr. Chairman, Mr. Grassley,

members of the committee.

The risk of recession is significantly elevated relative to normal

economic conditions. This morning the Federal Reserve took aggressive action to address what it called appreciable downside risk

to growth. Especially in light of this most recent Federal Reserve

action, many professional forecasters suggest continued, albeit

sluggish, economic growth in 2008 rather than an outright recession. In any case, several quarters of unusually weak growth are

likely. This type of situation is relatively rare.

I did not grow up on a farm, so I am not sure whether it makes

me a chicken or an egg, but I would note that the type of policies

appropriate to address this type of unusual situation are not necessarily appropriate to more normal economic conditions.

In particular, when the economy is weak the key constraint on

short-term economic growth is demand for the goods and services

that firms could produce with existing resources. In most circumstances, by contrast, and certainly over the long term, the key

constraint on economic growth is the rate at which that capacity

to produce is expanded through forces like increases in capital and

labor, and improvements in productivity.

One of the constraints on short-term growth is aggregate demand, as appears to be the case today. Both monetary and fiscal

policies can help by boosting spending. On the fiscal policy side, the

automatic stabilizers built into the budget will help to attenuate

any economy downturn by providing a cushion to after-tax income.

The question is whether additional fiscal action would be a useful

complement to the monetary policy actions already taken and the

automatic stabilizers built into the budget. One way to think about

that is that fiscal stimulus can help provide insurance against the

risk and severity of a possible recession. Our estimates suggest

that stimulus of somewhere between a half and 1 percent of GDP

would reduce the elevated risk of recession to more normal levels,

as long as the stimulus were well-designed.

The stimulus need not be targeted at what caused economic

weakness in the first place. Instead, the key is that it bolsters aggregate demand and thereby helps to jump-start a positive cycle of

increased demand, leading to increased production, until the constraint once again becomes how much we can produce rather than

how much we are willing to spend.

So what would work? A well-designed fiscal stimulus would have

several central principles.

First, it would be delivered relatively rapidly so that it took effect

in a matter of months, not years, when the economy was expected

to be weak.

Second, it would be temporary. As CBO highlighted in our longterm budget outlook released last month, the Nation faces a severe

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1See, ‘‘Overview of Past Tax Legislation Providing Fiscal Stimulus and Issues in Designing

and Delivering a Cash Rebate to Individuals,’’ Joint Committee on Taxation staff report, January 21, 2008 (JCX–4–08), http://www.jct.gov/publications.html?func=startdown&id=1337.

long-term fiscal gap. Stimulus that exacerbates that long-term

budget imbalance could impose greater economic costs than benefits.

Finally, it would be cost-effective in the sense of boosting aggregate demand as much as possible at a given budgetary cost.

With those principles in mind, we can briefly examine some of

the leading proposals under discussion on both the tax and spending sides of the budget.

First, on the tax side, with regard to individual tax changes, the

key is to get money quickly to people who will spend most of it, if

the objective is short-term economic stimulus. On that note, the experience with the 2001 tax rebates was more auspicious than studies of earlier rebates would have suggested. Roughly one-third of

the rebates were spent within 3 months, and roughly two-thirds of

the rebate amounts were spent within 6 months.

To boost cost-effectiveness further, policymakers would need to

focus on lower-income households and those with difficulty borrowing. The studies of the 2001 tax rebate suggested that lower incomes and credit-constrained recipients increased their spending

substantially more than the typical recipient did.

Those low-income and credit-constrained households most likely

expend money quickly; however, they typically do not owe income

tax liability. According to the Joint Committee on Taxation, of the

154 million tax units in the United States, about 66 million do not

owe income tax liability, and about half of those, or about 30 million, have wage income and file an income tax return.

Regardless of whether such households are included, a knee-jerk

administrative issue with rebates involves when the checks could

go out, given that the IRS is busy with tax filing season. It will be

a major challenge to issue checks before May or June, at the very

earliest.

The Joint Committee on Taxation explores this and other crucial

administrative questions in a document prepared for today’s hearing.1

On the business side, economic theory suggests that temporary

investment incentives can lead firms to shift investments into the

short run, which is helpful as stimulus. The experience with the

bonus depreciation provisions enacted in 2002 and 2003, however,

was somewhat disappointing. So this approach holds promise, but

the most recent results suggest some caution in our expectations

about their effectiveness.

Finally, on the spending side, we can divide spending into three

categories. First, activities like infrastructure do deliver effective

short-term stimulus for any dollar that is actually out the door, but

the problem is that the projects typically involve such long lags

that, in aggregate, they are not effective stimulus because of the

low spend-out rates in the short run.

A second category of spending involves relief to State and local

governments, and there the effectiveness depends on how well it is

targeted to States in distress, and what the States then do. To the

extent that the relief precludes or obviates the need for States to

7

raise taxes or cut spending, it, too, can be effective short-term stimulus.

A final category involves transfer payments, like unemployment

insurance and food stamps. These payments should be evaluated

much like individual tax rebates, and they rank relatively high on

cost effectiveness from a short-term stimulus perspective because

they tend to get money quickly to people who will spend most of

it. They may also be attractive administratively because it is possible to get the money out the door perhaps even faster than for

tax rebates.

On the other hand, some of these proposals underscore the tension between what is best in the short term and what is best in

the long term. During periods of economic strength, for example,

expanding unemployment insurance benefits or durations has been

shown to increase unemployment levels somewhat. Such expansions may thus be effective stimulus in the short run but, if they

were perpetuated over the long term, raise economic efficiency concerns that warrant attention.

Thank you very much, Mr. Chairman.

[The prepared statement of Dr. Orszag appears in the appendix.]

The CHAIRMAN. Thank you, Dr. Orszag.

My first question is, have your views changed one way or another in view of today’s stock market drop?

Dr. ORSZAG. I think it is important to keep our eyes on the real

economy and not respond too dramatically to short-term movements in financial markets. In terms of the risk to the real economy, again, what I would say is, the risk of recession is significantly elevated compared to normal economic conditions. Monetary

policy is acting aggressively to try to counter that. There are, however, lags typically involved in the impact of monetary policy

changes on the real economy.

The CHAIRMAN. So even though the Fed is lowering, or trying to

lower, interest rates by three-quarters of a percent in addition to

the last month, or the last several months, still, do you think fiscal

stimulus is necessary?

Dr. ORSZAG. The traditional lag involved in the transmission of

Federal Reserve policy changes onto the real economy has a peak

after, say, a year or so, so between a year and a year and a half.

That would deliver most of the impact out in 2009. It may be the

case that in current conditions the primary effect of the Federal

Reserve’s action is to calm financial market turmoil, and so the effects may be felt more quickly than normal. That having been the

case, there is likely to be some time lag between the maximum impact of the Federal Reserve’s actions, during which time, if you delivered fiscal stimulus quickly, you could have an appreciable effect

on short-term economic conditions.

The CHAIRMAN. Going back to the earlier point, you feel that it

is more appropriate that Congress focus on economic fundamentals

and trying to decide whether or not to enact a stimulus rather

than, in your words, sort of temporary or short-term changes in the

stock market.

Dr. ORSZAG. I think it probably would not be a wise course of action for policymakers to try to target fiscal stimulus to short-term

movements in the stock market, no.

8

The CHAIRMAN. The President has not given a proposal yet but,

in the press, has hinted at something of the nature of eliminating

the 10-percent bracket, which in effect is a rebate of $800 for individual taxpayers and $1,600 for families. That would be for income

tax payers. It is my understanding that that would affect, what,

maybe two-thirds, or even a lower percentage than that, of Americans?

That is, are there many Americans who pay payroll taxes but do

not pay income taxes? Any Americans who file tax returns, even

though they do not have significant income tax liability—for example, senior citizens, sometimes other people whose employers withhold even though they, the employees, just do not have any tax liability?

So my question is, do you have data which shows how much

more stimulus there would be to the economy if the rebate were

given to all tax filers? That would include not just those who pay

income taxes, but those who also pay payroll taxes and the other

Americans that I mentioned.

Dr. ORSZAG. The most recent evidence we have is from the 2001

tax rebate. Again, that, similarly, did not go to individuals who did

not owe income tax liability.

The CHAIRMAN. Correct.

Dr. ORSZAG. However, if you look among those recipients, the

further down the income distribution you go, the bigger the impact

was from the rebate on spending. So if you extrapolate that a bit

out to even lower-income households, you can get appreciable effects. The effect for lower-income recipients of the 2001 rebate was

substantially more than for the typical household.

The CHAIRMAN. The President’s proposal—again, he has not

given one, but it is implied that there will be no limits on the income that an American would pay. That is, it would apply to all

taxpayers, whether they make a million bucks or $100,000. For

those taxpayers at the very upper end, say $500,000 and above,

what effect does an $800 or $1,600 rebate have on their propensity

to spend versus someone whose income is much lower? Can you

quantify that at all?

Dr. ORSZAG. It is difficult to quantify, but I would again say, the

higher up the income distribution you go, the more likely it is that

you do not face borrowing constraints and that you are less likely

to spend any additional increments of money.

I would note one thing, which is that some of those upper-income

taxpayers would not benefit on the type of proposal under discussion unless there were corresponding changes made to the Alternative Minimum Tax, because, if you are on the AMT, changing the

regular income tax does not affect you.

The CHAIRMAN. Right.

This may not be a fair question because you have not had time

to analyze it, but what would the effect be if, instead of the $800/

$1,600, it was $400/$800, but an additional, say, $400 bonus given

to families for each child? My initial analysis of that is 2-fold. One,

you would get a significant number of dollars to families who are

more likely to spend. Second, it does not cost as much as, say, $800/$1,600 only to persons who pay income taxes, which leaves some dollars available for

9

other purposes, maybe UI, Unemployment Insurance, extension or

food stamps, without raising the total aggregate amount of, say,

$145 billion.

Dr. ORSZAG. And under your proposal, or under that proposal,

would benefits be available to households with children who do not

owe income tax liability?

The CHAIRMAN. Yes.

Dr. ORSZAG. That would likely have a higher cost effectiveness

in terms of the budgetary effect. That would, as you know, be the

responsibility of the Joint Committee on Taxation, and I will not

hazard a guess in this setting.

The CHAIRMAN. Right. But my question is more on the stimulative effect.

Dr. ORSZAG. Yes.

The CHAIRMAN. Would that have an equal stimulative effect or

greater stimulative effect than, say, the $800/$1,600?

Dr. ORSZAG. For any given pot of money, the more you target

lower-income and credit-constrained households, the bigger the

bang you get for your buck. The facts from the 2001 rebates, within

the pool of recipients, were very substantial. For example, in the

first quarter, the lowest third of the income population that received the rebate spent something like 67 percentage points more

than the typical household. The effects were pretty large.

The CHAIRMAN. Thank you.

Senator Grassley?

Senator GRASSLEY. Thank you, Mr. Chairman.

I appreciate your testimony very much. We are gathered here because we may not know the exact answers, but we know that everybody is nervous and that the sooner we do something the better,

if it needs to be done.

Question number one deals with this. CBO’s economic and budget outlook is scheduled for release tomorrow, so obviously I do not

expect you to reveal any of its contents this morning. However, the

consensus among economists appears to be that it is still too early

to tell whether we will have a recession this year.

On page 1 of your current testimony it says ‘‘A stimulus package

could provide insurance against a recession or reduce its severity.’’

However, on page 5 your testimony says that ‘‘poorly timed policies

may do harm by aggravating inflation and increasing the debt.’’

Given the level of uncertainty, how do we know we need a stimulus

and how do we know that it will not do more harm than good?

Dr. ORSZAG. First, on the risk of recession, and without commenting on the outlook that we are going to be putting out tomorrow, various market participants have suggested that the risk of

recession is elevated. If you look at the blue chip economic indicators, for example, that suggests probabilities of perhaps even a little north of 40 percent.

A thinly-traded contract that pays off if the economy does enter

recession has an even higher probability than that, and that contract’s price jumped substantially over the past several months,

suggesting at least one indication of a perceived increased risk of

recession.

In terms of timing, I said months, not years. I think the sooner

in 2008 any stimulus were delivered the more likely it is that it

10

would have greater benefits than costs. But the further out into

2008, and certainly into 2009 you go, the more risk you are running that you will deliver additional demand stimulus when the

economy is already back on its feet, and all you succeed in doing

is adding to inflationary pressures.

That brings back the point about some of the administrative

challenges. On rebates, for example, if the earliest that the checks

can go out is, say, May or June and a significant impact comes, especially after two quarters, a lot of the impact will be felt in the

latter half of 2008, not in the first half of 2008.

Senator GRASSLEY. On page 5 of your testimony it says that a

spending increase or tax cut of a dollar, if it is well-timed and directs the money to people who will spend it quickly, adds about a

dollar to GDP in the short term in times of economic weakness. So

this raises a number of questions.

First, where does the dollar increase in GDP come from, since we

are talking about fiscal policy, not monetary policy? The Fed is not

going to create it out of thin air. Since we are talking about stimulus, as your testimony says on page 8, we cannot assume it is paid

for with tax increases or spending cuts. Thus, it would appear that

the government would have to borrow the dollar from the credit

markets. How does the government borrow a dollar then without

reducing investment or net exports by that dollar?

Dr. ORSZAG. I think that is a very important question. During

normal economic conditions, when the government borrows an additional dollar there is a substantial degree of crowding out of private investment. During periods of economic weakness, however,

the situation can be significantly different.

Let us consider two possible sources of that borrowing. The Federal Government could either borrow from abroad, in which case I

think it may be easier to see that the domestic offset is not as salient, or it borrows from individuals or other domestic lenders.

In that case, the domestic lenders who are shifting, say, a dollar

in cash into government bonds do not necessarily restrict their ability to spend; they are shifting their assets from one kind of asset

to another. So in periods of economic weakness, the fact that the

government is borrowing more does not necessarily have the same

crowding out effects as it does in normal economic conditions.

Another perspective on the same point is that, during these unusual—and I need to emphasize how unusual these kinds of periods are—periods of economic weakness, the constraint is really that

firms and households do not want to borrow that much, so there

is room for the government to borrow more and thereby promote

an overall level of economic activity, and put us back on a growth

path, where those normal economic laws apply.

So again, I would just say that during these unusual periods the

tension is that, what may work best is not what typically works

best. The normal concerns about government borrowing crowding

out private investment and other economic activity are much less

salient during these unusual periods of economic weakness.

Senator GRASSLEY. I will continue on the second round. Thank

you.

The CHAIRMAN. Senator Bingaman?

11

Senator BINGAMAN. Thank you very much for the testimony. Just

to reemphasize the points you are making about tax rebates, as I

understand it, your calculation and the calculation of the Joint

Committee on Taxation is that it is not practical to complete distributing cash rebates until the peak filing season is completed,

which in past years has been in the very end of May. So we are

not going to do any cash rebates until the very end of May, at the

earliest.

So you are talking about mid- to late summer at the earliest for

people to actually receive funds through a tax rebate. Is that correct?

Dr. ORSZAG. That is right. That is when the process starts. It

would also take, perhaps, 8 to 10 weeks to distribute the checks,

as occurred last time.

Senator BINGAMAN. So, if we look at the spending options, those

could happen much more quickly, at least if you did something like

you are suggesting with unemployment benefits, which we have

done in the past, or increased food stamp payments. How quickly

do you expect that money would actually be expended in those

cases?

Dr. ORSZAG. That is obviously dependent on the details, but

based on our preliminary analyses, those could be implemented, in

the sense of cash actually being received by a beneficiary, perhaps

in a matter of 2 months or so after enactment.

Senator BINGAMAN. Well, one other suggestion that several of us

have made is that the government significantly increase the payments per household for LIHEAP, the Low-Income Home Energy

Assistance Program. My understanding is, there are about 6 million households receiving LIHEAP benefits now. I have also been

advised that those are funds that could be distributed quickly. Do

you have any thoughts on that?

Dr. ORSZAG. It really depends on the magnitude. I have seen

some proposals for LIHEAP funding, numbers that almost seem

like they are off by a decimal point. If you are talking about putting, perhaps, one or two or a couple billion dollars more into

LIHEAP, it is possible that that could spend out rapidly.

But anything beyond that likely would not—and we also need to

remember that we are at a point in the LIHEAP season where you

may not get the money out as quickly as possible because you are

later in the season, at least for the heating part of the program,

than would be optimal. So there may be some possibility. It is not

ideal from the stimulus perspective because it is difficult to put significant amounts of money to that in a timely and cost-effective

manner, although obviously anything that you do would help the

households affected.

Senator BINGAMAN. Let me ask about another aspect of this issue

that you deal with in your report. That is what the funds are spent

on once they are received. I mean, as I see it here there are sort

of three questions: how quickly can you get the money to people,

how quickly will they spend it, and then what will they spend it

on?

You say in here, the degree of stimulus that a policy can provide

to the economy will depend on how much of the resultant spending

goes to purchase domestically produced goods, and then go on to

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talk about how it is possible for the stimulus essentially to be exported if the funds that are provided are spent on imports rather

than on domestically produced goods. Could you elaborate on that

idea and tell us how we deal with that?

Dr. ORSZAG. Well, I do not know that there would be any specific

policies that ‘‘deal’’ with it. But to the extent that any additional

spending came exclusively through higher imports, the stimulus to

production is eliminated because the additional production occurs

abroad rather than domestically.

You should expect that, to some degree, this will occur. In fact,

one of the consequences of an effective stimulus will likely be some

slight expansion in the current account deficit relative to what it

otherwise would be, precisely because we boost our spending here

relative to income temporarily. In a sense, that is one of the objectives.

Senator BINGAMAN. But I gather, or at least I would assume,

that expenditures that are in the nature of increased unemployment benefits, increased food stamp benefits, those kinds of things

would be more likely to be expected to be spent on domestically

produced products than perhaps a tax rebate.

Dr. ORSZAG. I think it is difficult to reach that kind of judgment,

but I would say that it is unlikely that this consideration, which

we know is going to be a paramount one—in other words, most of

the funds that will be spent will be spent on domestically produced

goods, almost regardless of who receives the funds, on average.

Senator BINGAMAN. All right.

My time is up, Mr. Chairman.

The CHAIRMAN. Thank you, Senator.

Senator Wyden?

Senator WYDEN. Thank you, Mr. Chairman.

Thank you, Dr. Orszag, for a very useful presentation. I just

came from home and discussed these issues with people, and I have

found that, with this kind of economic situation, people, in effect,

were saying that handing them $800 was something like putting

a Band-Aid on arterial bleeding. I would like to explore with you

a little bit of a different way to approach it.

My sense is, working people save income that is temporary and

then working people spend income that is permanent, so what I

have been interested in is a policy that will raise incomes permanently. So as I looked around at the options and read the good

work you all did, I came, first, to infrastructure and transportation,

because that is a huge economic multiplier and the need is so

great, with bridges falling down, Katrina, and all of these problems.

Senator Thune and I have introduced a bipartisan proposal to let $50 billion worth of Build America bonds, and I wondered about

the applicability of that to this situation. So I went to your very

good report, and you all seem to feel that transportation funding,

infrastructure, takes a while to get out. It takes a while to kick in.

That seems to be the conclusion of your people.

So we did some research at that point, having looked at your report, and we found that some areas of infrastructure spending

could be utilized very quickly, such as road resurfacing. There is

an enormous need for those kinds of projects. So what would be

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wrong with the idea of doing something like that very quickly—

very quickly, especially since you have just given the chairman the

information about the third quarter for the tax rebates—and start

with that?

Dr. ORSZAG. Well, it is funny. Actually, in our internal discussions, road resurfacing was also held up as perhaps the one example of infrastructure spending that actually would spend out relatively rapidly. I think the challenge is, in a broad-based infrastructure package, targeting those things that would spend out

quickly because, in general, these projects do spend out very slowly, and that substantially attenuates their stimulative impact in

the short term.

Senator WYDEN. Because it seems to me you are spot-on in terms

of the longer term, so what Senator Thune and I are interested in

will take a bit longer to kick in. But I noticed you also did an analysis forecast on the 36-percent cut in highway funding next year

because of a short-term drop in highway trust fund income.

So the combination of that crunch that we already have, rebates

taking longer to get out based on your current analysis, if the Congress can—and there is an association of these officials—find

projects that would kick in quickly, say in the next 3 months,

would that not be something worth looking at?

Dr. ORSZAG. Again, I think the challenge is ‘‘that kick in within

the next 3 months.’’ Limiting an infrastructure package to that

kind of thing, and also deciding quickly on exactly what those

things are, is the challenge. So, if it were possible to do that and

get money out the door fast, yes. As I said, any dollar that is actually spent is relatively effective. The question is limiting the package to those things. I think that is complicated.

Senator WYDEN. I thank you for your analysis. I am going to follow up with you. If you could ask the CBO staff to see if there are

additional areas besides road resurfacing, which I think your folks

have already seen has some potential. I have had some independent analysts look at that. We did an assessment of this and

found that each billion dollars of transportation funding creates an

estimated 47,500 jobs. Of course, the multiplier is everywhere. It

is all over these local communities, and it is something that can

kick in quickly.

So, if we could follow that up with you further, Dr. Orszag, I

would appreciate it, and I appreciate the good work that you have

done.

Thank you, Mr. Chairman.

The CHAIRMAN. Senator Conrad?

Senator CONRAD. Thank you, Mr. Chairman. Thanks to the

chairman for holding this hearing, and thanks to you, Dr. Orszag,

for your appearance here.

Chairman Spratt, chairman of the Budget Committee, and I had

asked you for this analysis of the various stimulus options. Where

would we get the biggest bang for the buck? Just for a moment, I

would like to direct your attention to the question of how much we

do in relationship to the size of the economy. We have about a $14

trillion Gross Domestic Product. As I understand it, the President’s

package would be somewhere in the range of $140 billion. That is

roughly 1 percent of GDP.

14

As I read your report, it indicates that you get about a 1 for 1

return in terms of increase to GDP for what you put into stimulus.

Is that a correct reading of the analysis?

Dr. ORSZAG. If it were well-designed. It is very possible to design

packages where you get a lot less than that.

Senator CONRAD. So it is critically important. So let us just put this in context. If we put in $140 billion, roughly 1 percent of GDP,

you could get on the order of a three-quarters of 1 percent to 1 percent boost in GDP if it were well-designed?

Dr. ORSZAG. That is correct.

Senator CONRAD. So that is pretty modest in terms of a slowdown, going from 3 to 4 percent growth down to potentially negative growth. But nonetheless, it softens the blow. That is the concept.

Dr. ORSZAG. That is correct.

Senator CONRAD. If I could just go to the graph. When we look

at what has happened, this is what has happened to housing

starts, a very dramatic reduction there. That is contributing to economic weakness. We have workers being laid off who are in the

construction trades.

Go to the next one. We have Chairman Bernanke telling us, with

respect to temporary stimulus, any program should be explicitly

temporary, both to avoid unwanted stimulus beyond the near-term

horizon and, importantly, to preclude an increase in the Federal

Government’s structural budget deficit. Do you agree with that assessment?

Dr. ORSZAG. Yes. As I emphasized, and as we reported to you in

December, the Nation faces a very severe long-term budget imbalance, and significantly exacerbating that would be a serious mistake.

Senator CONRAD. All right.

Let us go to the next one. This is also from Chairman Bernanke’s

testimony before the House Budget Committee. There is good evidence that cash that goes to low- and moderate-income people is

more likely to be spent in the near term. Getting money to people

quickly is good. Getting money to low- and moderate-income people

is good in the sense of getting bang for the buck. Your assessment

tracks with what the chairman of the Federal Reserve is saying

there as well.

Dr. ORSZAG. Both theory and evidence suggests that conclusion,

yes.

Senator CONRAD. So when we are talking about, if we put $140

billion of stimulus, roughly 1 percent of GDP on the table here, it

has to get out quickly and it has to go into the hands of people who

will actually spend it if there is to be a stimulative effect. Is that

correct?

Dr. ORSZAG. Yes, sir.

Senator CONRAD. Let me ask one other question. That is, what

would be things we should avoid here? What would be things that

could actually be counterproductive? I take it one would be to put

measures in place that would not have a near-term effect. Things

that would have a longer-term effect, that could actually come as

the economy is in recovery and create an inflationary effect. Is that

correct?

15

Dr. ORSZAG. That is the risk of mistimed fiscal stimulus.

Senator CONRAD. What, in terms of timing, would your assessment be? When should we try to get money in the hands of people?

What would be the range of time that we should design a fiscal

stimulus package for?

Dr. ORSZAG. The sooner the better, and the more that can be delivered during the first half of 2008, the better. The more that is

delivered into 2009 and thereafter, the greater the risk is that you

are exacerbating fiscal outcomes and exacerbating inflationary

pressures without addressing the short-term economic weakness.

Senator CONRAD. And which of the options that you analyzed

most closely fit those requirements?

Dr. ORSZAG. Well, in a table that was included in the report to

you and Mr. Spratt, we rank various proposals according to their

bang for their buck and their timing, so one can go down the list

and try to combine large bangs for the buck with short time

elapsed to delivery to how things rank.

Senator CONRAD. And what would your conclusion be as the single best thing we could do?

Dr. ORSZAG. I do not think I should name a single best thing.

Senator CONRAD. What would be the top options, as you analyze

them?

Dr. ORSZAG. The things that we ranked as having a large bang

for the buck had to do with getting cash to households that would

spend the money quickly, including things like a rebate geared towards such households and including things like expanded unemployment insurance benefits and food stamps.

Senator CONRAD. Thank you.

The CHAIRMAN. Thank you, Senator.

Senator Salazar?

Senator SALAZAR. Thank you very much, Chairman Baucus and

Ranking Member Grassley. Thank you for putting the spotlight on

this issue which is so important to the people of America.

I, like the rest of us, back home, think there is a debate going

on, frankly, among economists as to whether or not we are in a recession and how bad these times are economically for us, but I

would imagine that for most Americans, including the 5 million

people whom I serve in Colorado, their view is that things are bad.

They believe that they are paying higher energy costs than we

ever have before, whether it is for heating their homes or whether

it is for the gasoline they are putting in their cars. They believe

that their major assets, the value of their homes, are declining.

They see their neighbors who are having their homes foreclosed

upon. They see the rising costs of education, and so on and so forth.

So we debate, from an expert’s point of view, as to whether or

not we are in a recession already. My question to you, Dr. Orszag,

is whether or not we already are in one. This is just the debate

going on among the experts. How bad are the economic times that

we are facing as a country as of today?

I would imagine that when you look at what the Federal Reserve

did this morning by doing its cut of three-quarters of a percentage

point, which seemed to surprise the world that it would go with

that kind of a cut, that the signals are out there that we have some

great danger on the immediate horizon.

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Dr. ORSZAG. I think it is clear that many households are experiencing significant economic distress, and financial markets have

also been subject to a significant amount of turmoil recently. That

is often a distinct question from, as you know, whether the macro

economy is in recession. There, there is a lot more ambiguity.

Senator SALAZAR. I very much agree with what Chairman Baucus is doing here, and other leaders, in terms of trying to stimulate

the economy in the short term. As I went through your policy recommendations, Peter, from the Congressional Budget Office, I was

going through these policy recommendations that you had provided.

It seems that, if you look at the major recommendations, what

we really ought to be trying to do is to match up from your charts

those that would fit in the category of cost effectiveness, which

would be wanting to make sure that cost effectiveness is large,

with a category then that says uncertainty about the effects minimal with respect to that policy choice.

So when you look at the direct transfer payments to households

on extending or expanding unemployment benefits and increasing

food stamp benefits, for example, you have cost effectiveness, large,

and the uncertainty about the effect, small. So would those be good

policy choices relative to some of the others in terms of your rating

of these policy choices, given the history of what the Congress has

done before?

Dr. ORSZAG. Senator, let me just immediately say CBO does not

make recommendations. We try to help you analyze options. In

analyzing those options, those proposals rank relatively highly

from the perspective of short-term cost effectiveness. Money that

you get out the door in those programs is going to be spent very

rapidly by the recipient families. In terms of how quickly we get

money out the door and in terms of confidence in that cost effectiveness—in other words, we are relatively certain that families receiving those funds will spend them quickly.

Senator SALAZAR. All right. So, if we have expanding unemployment benefits as one and increasing food stamp benefits as another, what else would you rate in terms of that category of effectiveness in terms of these policy choices that you have here? What

comes after that?

Dr. ORSZAG. Again, tax rebates that are directed, especially directed towards households that are lower-income and creditconstrained, will also have a large cost effectiveness that is a relatively high bang for the buck.

As I noted before, there is more concern about the timing delay

involved in getting checks out the door there. There is somewhat

more uncertainty about the exact impact of that kind of approach

because the results from the 2001 rebate were somewhat different

than the results from earlier studies of past rebates.

Senator SALAZAR. When you talk about providing general aid to

State and local governments, you say cost effectiveness, medium,

uncertainty about effects, large. Does that mean that based on past

experience that we do not know what that would do in terms of

jump-starting the economy?

Dr. ORSZAG. The effects are really going to depend on what

States do, and in particular on the extent that giving an extra dollar to a State obviates the need for a State to cut spending by a

17

dollar or raise taxes by a dollar. You can get an effective stimulative effect from foregoing those harmful steps.

But the response of the States will likely depend on their own

fiscal condition, and right now there is a significant variation

across the States in those that are experiencing fiscal distress and

those that are not, thereby raising the question of, can you target

any fiscal relief to the States and local governments, which are also

experiencing difficulty, to those that are experiencing distress?

The Government Accountability Office, a year or two ago, came

out with a study evaluating different ways of trying to accomplish

that kind of objective, and I would refer you to that study for some

specifics about different ways of allocating a given pot of State and

local fiscal relief to the State and local governments experiencing

the most difficulty, which would raise the bang for the buck that

you get.

Senator SALAZAR. Thank you, Dr. Orszag.

The CHAIRMAN. Thank you, Senator.

Senator Stabenow?

Senator STABENOW. Thank you, Mr. Chairman. It is great to be

back with everyone. This is a very, very important topic. I said, as

someone who comes from the State with the highest unemployment

rate in the country, when Senator Salazar speaks about recession,

people in Michigan, at 7.6-percent unemployment as of December,

would say yes, certainly in Michigan. When we have looked at

what we can do and we look at the headlines, even reading this

morning with the Fed cut of 75 basis points, the big question is,

what will consumers do?

Over the Christmas holiday, consumer spending was down. Basically, the bottom line is: how well are middle-class people doing?

Do people have jobs? Do they have confidence? Do they have the

ability to spend in the economy?

Unfortunately, too many of our tax policies, our focuses, have not

been on making sure those middle-class families really do have

money in their pockets. So, when we look at this chart, it makes

sense to me that we should be focused on, as you indicated, Doctor,

those things that would most quickly get money directly into people’s pockets.

You indicated, and we have talked a lot about unemployment

compensation, that you think, on the unemployment side as well as

food stamps, that we could have, within 2 months after enactment,

something in that range. It sounds like that is one of the quickest

turn-arounds that we could make in terms of getting money directly to people. Is that what you are suggesting at this point?

Dr. ORSZAG. That is my understanding at this point. Given

where we are in the tax filing season, those types of approaches

likely would get money out the door somewhat faster than a tax

rebate.

Senator STABENOW. And that makes sense. I mean, if you are unemployed and do not have a job and have not been able to find a

job, certainly you are going to spend whatever money comes in the

door to be able to pay your costs. So, that makes sense to me. Food

stamps. You are going to go in the grocery store and buy what you

need for your kids, so that makes sense to me as well.

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On the rebate side, it is concerning to me. I certainly like the idea of putting $800 or $1,600 into consumers’ pockets. I think the

chairman has a really good idea of focusing that on the more children you have, being able to somehow target that to larger families

whom I assume are in greater need.

But if we cannot see that happen until June or July, something

like that, is the payroll tax, when you are looking at a withholding

holiday, the quicker way? It certainly would address more taxpayers, those who pay not only income tax, but withholding. Is that

a quicker way in your mind to be able to deal with what would be

a rebate?

Dr. ORSZAG. That type of approach—which, by the way, I should

note probably would have somewhat larger bang for the buck, even

for the same households—evidence suggests that you are more likely to save a little bit more of a lump sum amount than of extra

income each week or each month. But it is not a simple undertaking to change withholding, and that involves lags and complexities for payroll administrators and other things also.

We could work with the Joint Committee on Taxation to get you

an answer on what would be faster, but you should not expect that

approach to have a very short time lag either. And again, I want

to emphasize the lags involved here: the evidence from 2001 suggests that the rebates were effective, but they had their largest impact in the 6-month range. So, if the checks go out the door in June

and July, you are most affecting Christmas spending in 2008, not

spending in February or March.

Senator STABENOW. As opposed to directly affecting people who

are unemployed, without a job right now, who are trying to put

food on the table for their children, it appears that that is the

quickest way to be able to stimulate the economy.

We have not talked about Medicaid, FMAP, and the fact that

more people who are unemployed or under-employed, the more

States will have people needing to get their health care from Medicaid. Have you looked at what the stimulus effect is of targeting

support rather than an across-the-board health issue? You have indicated you have concerns about it in terms of State and local governments. If we were to target that to States for the additional

health care spending for those who are unemployed/underemployed, what is your analysis in terms of the stimulus effect of

that?

Dr. ORSZAG. Coming back to that GAO report I mentioned earlier, the GAO examined tying changes in the FMAP, or the fixed

share of Medicaid spending paid for by the Federal Government, to

changes in State-level unemployment rates, for example. One could

also imagine actually tying changes in FMAP to changes in Statelevel food stamp beneficiary rolls.

But that kind of approach does better target the States that are

experiencing difficulty, albeit not perfectly. There are States that

are experiencing disproportionate declines in revenue because of recent events that have not experienced as large unemployment rate

increases as other States. It is not perfectly correlated, but it is

better-targeted than just an across-the-board increase.

Senator STABENOW. Thank you.

Thank you, Mr. Chairman.

19

The CHAIRMAN. Thanks, Senator.

Senator Bunning?

Senator BUNNING. Thank you, Mr. Chairman, for holding this

hearing.

Thank you, Dr. Orszag, for being here. I assume you are familiar

with the fallacy of the broken window. Economist Fre ́de ́ric Bastiat

pointed out that when someone’s window is broken, the money

spent to repair the window is seen. But what is not seen is how

the money would have been spent if the window had not been broken. Please explain what is seen and what is not seen when the

government spends a dollar on economic stimulus.

Dr. ORSZAG. During normal economic conditions, when the government spends an extra dollar, one needs to be very concerned

about the displaced economic activity that the government is sort

of crowding out. So, fixing that window precludes some other activity. During these unusual periods of economic weakness, though,

that logic does not necessarily apply. It is possible, by stoking or

jump-starting aggregate demand, to lead to an overall increase in

income rather than just staying within a fixed amount of total income.

Senator BUNNING. Then it is CBO’s opinion that we are at that

point?

Dr. ORSZAG. I think it is the view of Chairman Bernanke and

many economists that the risk of being at that point is substantially elevated relative to normal conditions.

Senator BUNNING. Well, please do not bring Chairman Bernanke

into this, because he has been wrong so many times I do not want

him quoted by anybody on this panel. They are going to do it anyway.

The CHAIRMAN. I was going to say, Senator, the Senators are

going to say what they want to say.

Senator BUNNING. Well, I want to say what I want to say, too.

The CHAIRMAN. You should. You should.

Senator BUNNING. And I will.

The CHAIRMAN. I know you will.

Senator BUNNING. The problem I am having with that is that

Chairman Bernanke and his predecessor put the U.S. economy in

this situation by their monetary policy, and now they are getting

into the business, the Federal Reserve, of advising the Congress on

fiscal policy, which is none of their darned business. So, I get a little upset sometimes when our Federal Reserve gets into our job. It

is our job to try to stimulate the economy if we think it is in dire

straits.

If you get 50 economists in this room and ask them where we

are as far as recession or non-recession, you will get 25 saying that

we have a chance to be in a recession and you will have 25 who

will say that we have a chance of not being in a recession. So,

Chairman Bernanke happens to be one of the 25 who says that we

possibly could be.

Dr. ORSZAG. And we can leave him out of it.

Senator BUNNING. Thank you.

Dr. ORSZAG. I would say that, if you got 50 economists in the

room at this point—I do not know if I want to say 50, but—almost

20

all of them would say that the prospect of economic weakness—at

least sluggish growth for several quarters—was very likely.

Senator BUNNING. There is no doubt in my mind about that.

That is absolutely true, so we have no disagreement there.

Dr. Orszag, in your testimony you cited studies that showed very

well that the President’s 2001 tax cuts helped to moderate the economic downturn that followed the collapse of the Internet stock

bubble in 2000, but you attributed the economic boost almost entirely to the rebate checks delivered in 2001 and you discounted the

effect of the tax rate reductions.

When taxpayers experience an increase in lifetime wealth, after

a significant tax cut, for example, are they not more likely to spend

with confidence whatever money they have?

Dr. ORSZAG. Two comments. First, economic theory does suggest

that a permanent tax reduction can have an important effect on

spending because it can affect lifetime after-tax income. However,

the Nation does face a severe long-term fiscal imbalance, and in

that situation, widening the long-term fiscal imbalance has unclear

effects on perceived after-tax lifetime income.

Senator BUNNING. The last question I am going to ask you, because it is very important, if we do a stimulus package—and I

think we should—it should be temporary. Is that accurate or not?

Dr. ORSZAG. I believe that that would be beneficial, yes.

Senator BUNNING. Thank you very much.

The CHAIRMAN. Thank you, Senator.

Senator Hatch?

Senator HATCH. Well, thank you, Mr. Chairman. I appreciate

this hearing, and I certainly appreciate you, Dr. Orszag.

Now, your testimony indicates that there would be a significant

lag time, perhaps until late June or July, maybe as early as May,

before we could get tax rebate checks into the hands of taxpayers,

if this is the way Congress decides to resolve this situation by delivering the so-called stimulus.

Do you think that this would be too late to stave off what might

be in the eyes of some an entrance into the recession?

Dr. ORSZAG. It would be desirable if it could happen faster. It is

remarkable that the world’s leading economic power cannot get

checks out the door faster than that, but it is a reflection of the

fact that the IRS’s IT infrastructure is still in a state that is under

pressure and consumed again with the normal tax filing season

that is currently under way.

Senator HATCH. Well, what do you think would be the stimulative effect of a proposal that gave electing employers a 100-percent

credit against their payroll tax deposits for extra payments they

give to their employees, say up to $500 each, with the Social Security Trust Fund being made whole by a transfer from the General

Fund, which is what we have been doing around here? While I can

see potential promise with such an idea, would it not be a faster

way to potentially get cash into the hands of millions of workers

in a very short period of time?

Dr. ORSZAG. I was a little unclear about the employee versus the

employer part of that.

21

Senator HATCH. Well, you give the employers a 100-percent credit against their payroll tax deposits for extra payments that they

give to their employees.

Dr. ORSZAG. Right. Oh, for the extra payment.

Senator HATCH. Yes.

Dr. ORSZAG. Again, the key thing is translating——

Senator HATCH. Let us say it is $500.

Dr. ORSZAG. Yes. If you just provide a payroll tax holiday for employers, it probably would not have that big of an impact in terms

of short-term stimulus. That is somewhat similar to many of the

corporate tax proposals in terms of increasing cash flow for corporations that are not getting a very big kick. If it were translated

into higher take-home pay for workers, and that part is key, it

could have a more substantial impact, and that is basically the

kind of withholding holiday option that we analyzed.

There is still some delay in administering that kind of proposal,

and we would have to, in collaboration with the Joint Committee

on Taxation, get back to you on exactly how quickly that kind of

proposal could be implemented.

Senator HATCH. It would certainly be less time than the rebate

check system.

Dr. ORSZAG. It may be. It may be.

Senator HATCH. I do not see any reason why it needs to be a long

time.

My understanding is, certain sections of this Nation are seeing

the effect of a slow-down more than others. Is this unusual or do

economic slow-downs often affect certain regions, while leaving others relatively unscathed? You heard the Senator from Michigan citing her State. Is there any way to target stimulus to those places

where it may be most needed?

Dr. ORSZAG. Well, a couple of things. First, for example, on State

fiscal relief, we have already had a discussion about how that could

be done. Expanding unemployment benefits and food stamp benefits does tend to target the areas that are hardest hit, because that

is where you tend to get the biggest increase in beneficiaries. Beyond that, nothing is coming to mind. I would say, though, that it

is a feature of many past economic downturns and economic booms

that we have a variation in economic performance across different

parts of the United States. That is not abnormal.

Senator HATCH. Yes. Unemployment is about 5 percent. Would it

be beneficial if we decided to reduce corporate taxes dramatically?

It has certainly helped nations like Ireland, and it certainly has

stimulated employment and all kinds of investment and opportunities. Would it not be better for us to maybe consider something like

that, even though it is more of a long-term stimulus?

Dr. ORSZAG. Well, yes. I think that is the key issue. There are

important long-term issues involving the continued viability of our

corporate income tax. We have experienced a very rapid increase

between 2003 and 2006 or 2007 in corporate income tax receipts,

but that follows a secular decline in the share of corporate income

tax receipts relative to GDP.

There are important issues there, but those really have to do

with long-term economic performance. From the perspective of

22

short-term economic weakness, those proposals usually do not rank

as highly as other options, as we lay out in our analysis.

Senator HATCH. Thanks, Mr. Chairman.

The CHAIRMAN. Thank you, Senator.

Senator Snowe?

Senator SNOWE. Thank you, Mr. Chairman. Thank you, as well,

for holding this first hearing in the second session on a most urgent issue facing the Nation’s economy with respect to the erosion

that we are all experiencing across this country.

In fact, I was talking to one of my constituents in Maine who told

me that she holds three jobs, one to pay for the mortgage, one to

pay for the oil, and the third to pay for gasoline to get to her other

two jobs. I mean, I think that illustrates the drastic impact that

this eroding economy has had on average Americans in this country.

Dr. Orszag, thank you very much for being here to help us shape

the conversation and focus on the size and the composition of the

stimulus package. One of the overriding issues, of course, is to

whom we give this tax rebate. Obviously, the greatest dynamic, the

greatest influence is on those who are in the low-income categories,

low- to middle-income.

I noticed that in the Hamilton Project report and your assessment of the past as well, and CBO, that the temporary tax rebates,

assuming 50 percent is spent, that has the greatest impact in the

second quarter in 2008.

How do we craft that tax rebate? I think that is the essence of

this debate. You have 22 million Americans who do not have income tax liability. They pay payroll tax but not income tax. You

have another more than 20 million Americans, seniors who live on

Social Security and so on, who do not pay any income tax. So, that

is more than 40 million Americans who might not benefit, or will

not benefit, from the tax rebate. This is going to be the essence and

the underpinning of any effective stimulus that needs to happen.

Dr. ORSZAG. The Joint Committee on Taxation, in the documents

that they prepared for today’s hearing, goes through some of the

ways of designing or the administrative issues surrounding a refundable rebate or refundable tax credit.

An important issue involved there is, if you create a refundable

tax credit for those who do not owe income tax liability, if you base

it on 2007 returns, you could create a significant incentive for new,

additional filers. That is, there are currently almost 30 million tax

units that do not file a return.

One way of mitigating that incentive is to limit the refundable

tax credit to wage earners, most of whom already do file tax returns. If you were not to do that, you probably would have to rely

on 2006 returns, and that involves a different set of complexities

involving people who move, and outdated addresses, and inability

to use electronic funds transfer, and a whole series of other questions, all of which is to suggest that—the Joint Committee on Taxation actually lays out quite nicely many of the administrative

issues. It is possible to do. You need to be careful about creating

an incentive for very significant increases in filing. If you limited

it to wage earners, some of the tensions would be attenuated.

23

Senator SNOWE. Senator Lincoln and I have introduced legislation once again on the refundable Child Tax Credit, for example,

because now it is indexed to inflation, eroding the base of the

$10,000 income in which it is triggered. That is obviously a model

that could be used that was passed in 2001 originally as well. So,

that could obviously be more targeted to those categories and could

be useful in designing this package, could it not?

Dr. ORSZAG. That is one model. Sure.

Senator SNOWE. Well, obviously the income level becomes key

here in terms of who benefits from the tax rebate, and the sooner

the better, I would gather. So, I mean, you could design an income

limit, could you not, in a tax rebate?

Dr. ORSZAG. You mean, an upper limit?

Senator SNOWE. Yes. Yes.

Dr. ORSZAG. One could do that.

Senator SNOWE. Yes.

Dr. ORSZAG. You could do that.

Senator SNOWE. All right.

First, from what has been indicated, there will be another reset

of more than $600 billion in adjustable rate mortgages, perhaps as

early as this spring. What would be the impact again in terms of

the size of this package? Second, is it important for us to pass a

stimulus package so that we could also blunt the impact before

that is implemented?

Dr. ORSZAG. One of the things leading many analysts—and I will

just leave it at that—to conclude that we are faced with a period

of economic weakness has to do with the burden imposed on homeowners from resets. The aggregate impact, though, is not as large

as you would think in terms of impact on spending. But, nonetheless, it is one of the forces, along with financial market turmoil,

high oil prices, and other things that raises concerns.

Senator SNOWE. So it could be critical to pass this package in advance of any expected resets of mortgages to help blunt it even further in addition to the rate cuts that occurred today.

Dr. ORSZAG. Again, the resets and other housing market problems are one of the forces leading to this elevated risk of recession.

Senator SNOWE. Thank you.

Thank you, Mr. Chairman.

The CHAIRMAN. Thank you, Senator, very much.

Senator Lincoln?

Senator LINCOLN. Thank you, Mr. Chairman. We especially

thank you and our ranking member, Senator Grassley, for bringing

us together and beginning this discussion.

Dr. Orszag, we really appreciate your counsel in coming up with

the appropriate solution in what we have to do. So in my home

State of Arkansas, the impact of the economic slow-down is very

evident. Just as Senator Stabenow mentioned the unemployment

rate rising in Michigan, it is in Arkansas as well, well above the

national average. So, we are anxious. People are very nervous at

this juncture. They are worried about how they are going to pay

their gasoline, as Senator Snowe mentioned.

Having been home for several weeks now, listening to folks talk

about not only issues of getting to work and is their job going to

be there, all the talk is of the recession. They are worried about

24

interest rates, mortgages going through the roof. They do have tremendous concerns about what we are going to do and how swift our

action will be. So, I think your counsel in terms of moving in a

timely way is critical, and also focusing what we are going to do.

Focus being on the largest component of our GDP, the consumers,

I think is critical.

Kind of building on what Senator Snowe mentioned, making sure

that we are getting those resources to people who are going to put

them back into the economy. There is no doubt that when you have

people who are working one job, two jobs, three jobs, with children,

particularly, that they are going to be the critical element, I think,

in revitalizing some of the economy.

I guess one of my questions would be, one of the issues of doing

it in a timely way and getting those resources into a place that

they will be spent and put back into the economy means that we

need a model, we need a delivery tool that is going to work.

We talked about a lot of those, whether it is the EITC, whether

it is the Child Tax Credit, whether it is refundability in the tax

code, whether it is payroll taxes, or what have you. From what I

have gathered that you have answered here, it is really using some

of those tools. Is there any one that you think, in terms of a delivery model, is the best in place, the most timely, and the most efficient in targeting those resources in a place that are going to make

the biggest effect quickly?

Dr. ORSZAG. Again, to the extent that you can piggy-back off of

existing delivery mechanisms, as you put it, you are more likely to

get money out the door faster. As I mentioned previously, it is likely that some of the transfer payment options—unemployment insurance benefits and food stamps changes—could take effect and

deliver cash to people faster, or cash for benefits to people faster,

than other options. Changes in State fiscal relief could have an immediate impact to the extent they cause Governors to change their

policies immediately. Then, as you work down the list, tax rebates

start to become feasible in the kind of May/June range.

Senator LINCOLN. Well, I certainly agree with Senator Snowe. I

hope that as we look, that we will be looking at tax filers and really focusing on families, working families with children in the lowincome/middle-income category, who I think are going to be the

best vehicle for us as a Nation to rejuvenate our economy, because

I think they are going to use it and put it to good use as quickly

as possible.

You also mentioned, just kind of as a follow-up from your report,

the idea of a triggered stimulus. Have you talked about that yet

today?

Dr. ORSZAG. I have not talked about it today yet, no.

Senator LINCOLN. Maybe you will. Is that something we should

be considering? What is the direction you are going in there?

Dr. ORSZAG. I think it depends on what you do. The longer you

wait and the longer the lead time until things take effect, the more

beneficial a trigger might be. If something were to take effect tomorrow, almost all of the triggers that people have in mind would

be triggered, so the trigger becomes kind of superfluous or unnecessary. But the further out in time you go, and again the more posVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00028 Fmt 6633 Sfmt 6633 53865.000 SFIN1 PsN: SFIN1
25

sible it is that the economy will be back on its feet, the more salient a trigger might be. That raises an important point.

I mentioned the automatic stabilizers that are already built into

the budget. One could, not in an immediate situation but on a

longer-term basis, consider changes that strengthen those automatic stabilizers, and a triggered stimulus package that sort of is

in place ahead of time is like that. It bolsters the automatic response to an economic downturn. But you could do that in lots of

different ways.

Senator LINCOLN. Well, I was certainly keen on Senator Wyden’s

issue of infrastructure investment. Could that be some type of a

triggered solution in terms of—I do not know. There has always

been talk of an operating budget and dealing with an operating

budget in our Nation for infrastructure investment. I think the

chairman and the ranking member are planning some further

hearings on infrastructure investment down the road in the coming

months.

Dr. ORSZAG. Again, I would say, most of the discussion about infrastructure really has to do with long-term economic issues and

long-term economic performance. In general, infrastructure spending does not rank that well as short-term economic stimulus because the money does not spend out that quickly. Senator Wyden

pointed out there are some subcategories and some specific projects

where that may not be the case.

Senator LINCOLN. Right.

Dr. ORSZAG. The challenge is sort of narrowing the short-term activity to those activities.

Senator LINCOLN. Thank you very much, Mr. Chairman.

The CHAIRMAN. Thank you very much, Senator.

Senator Roberts, you are next.

Senator ROBERTS. Well, thank you, Mr. Chairman. I hope you

had a nice break. I guess you did.

I want to thank you for giving us all these options. I must admit,

I am reminded of the intelligence reports that we get in the Intelligence Committee, and the analytic product that has four larges,

three mediums, and five smalls. Although I will say, on the intelligence side, mostly it is moderate and low, very few highs. It just

seems to me that we have to move in an expeditious fashion.

I just came back from my hometown of Dodge City, KS, spending

a couple of days in talking to the Chamber there, talking to, oh,

all the education folks and all of the service folks and everybody.

There is an obvious need to provide short-term economic growth.

My concern is that we not do anything that would be counterproductive to long-term tax relief, which I still think is an advisable goal. So I hope that, whatever we do, one does not work at

odds against the other.

I think this question has been asked before, but what types of

tax relief would be most beneficial to encourage businesses to make

investments and create jobs? Because that is really what I heard

as we had our legislative breakfast, which we have once every

month. That was replicated all throughout the State, and will be

again as of this January when we have a big meeting statewide.

So how can we encourage businesses to make investments and

to create jobs as part of an economic stimulus package, which I

26

think, both short-term and long-term, would be helpful more especially from the small business standpoint?

Dr. ORSZAG. Well, let me first say that many businesses make

decisions not just based purely on tax considerations, but on their

expected cash flow and expected prospects.

Senator ROBERTS. Exactly.

Dr. ORSZAG. So boosting overall economic activity could have the

most important effect on business investments. But if you focus

specifically on tax incentives for new investment, economic theory

suggests that temporary investment incentives like the bonus depreciation that was adopted, or like an investment tax credit, can

shift investments that firms were planning to make in 2 or 3 years

into the near term, and thereby boost the economy in the short

term. As I mentioned previously, the experience with the 2002 and

2003 bonus depreciation was somewhat disappointing. We did not

get as much kick from that as had been expected or hoped for.

There are ways of designing investment incentives for businesses

that make them more effective. For example, providing incentives

only for investment above some threshold, based on historical investment levels, for example, would better target new investment,

but it may also create administrative complexity.

So I think in the area of business investment incentives, we have

good theory. We have ways of trying to kind of super-charge the

incentives by focusing on incremental investment. But the most recent experience should suggest some caution in relying just on kind

of a tax incentive as opposed to prospects for stronger economic activity in substantially boosting investment levels.

Senator ROBERTS. I note here in one of your suggestions on cost

effectiveness—that is in the large category, the lag short, the uncertainty small—temporarily increasing food stamp benefits, as one

who allegedly helped save the food stamp program back about 10

years ago, maybe 11 or 12, simply gave that to the States. The

States wanted the money, but they did not want to operate a food

stamp program. So, there was considerable reform at that time.

This latest farm bill, there is a House version, a Senate version.

We hope to go to conference and work it out.

There is a considerable increase. You have down here temporarily increasing food stamp benefits. I can tell you, as a long-term

observer of that program and many other programs, there is not

such a thing as temporary. Once you do it, you do it. I am not saying that is either bad or good. It is just something that I wanted

to point out. That would, of course, have an immediate effect.

The other thing I wanted to ask you, and this has been touched

on, I think Senator Salazar touched on it, at any rate, was in regards to the assistance that we would provide to the States, about

$10 billion, as I recall, back in 2003.

Has there ever been some kind of an accountability as to how the

States used these programs and whether or not it was effective? I

am assuming most of them went to Medicaid, although they do

have options. They are somewhat limited, but they are also pretty

flexible. Has there ever been any kind of a look-back to see just

how effective that was?

Dr. ORSZAG. There has been some. The Kaiser Family Foundation and others have examined the impact of the Medicaid compoVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00030 Fmt 6633 Sfmt 6633 53865.000 SFIN1 PsN: SFIN1
27

nent of the State fiscal relief that was provided in 2003. In general,

the evidence does suggest that when you provide money to States,

there is the so-called flypaper effect, that where you put the money,

say in Medicaid, it tends to stick there.

Senator ROBERTS. Exactly.

Dr. ORSZAG. Even though money is fungible. It does not stick

there perfectly, but it sticks there to a significant degree.

The CHAIRMAN. Thank you, Senator, very much.

Senator ROBERTS. I appreciate that. Thank you.

The CHAIRMAN. Dr. Orszag, we have not discussed business stimulus options very much yet. That is roughly one-third of what I

think the President has in mind. I am looking at your report here.

In Table 1, the varying corporate rate, tax cuts, investments, new

investment, and also standing and operating loss carry-back, I am

surprised that you think that those have either small or medium

effects.

You mentioned in the comments that sometimes businesses, with

respect to the corporate tax rate, make their capital decisions significantly in advance of when they might get the cut. Also, the period of the stimulus might be a bit short and harder for businesses

to actually make the capital expenditures.

But could you just kind of comment briefly on the stimulative effects of those various business stimulus options?

Dr. ORSZAG. And before I do, you were surprised because you

thought they should be bigger or smaller?

The CHAIRMAN. I thought they would be a little bigger.

Dr. ORSZAG. All right. Let me try to explain. The way that you

can affect business investment decision is through the after-tax

cost of making an investment, and possibly also through cash flow

effects. Especially for smaller firms and those that have difficulty

borrowing, having more cash available can have some effect on investment decisions.

With regard to that first category, which tends to be the one that

scholars have examined more carefully, a corporate tax cut reduction today, if it is permanent, has some effect on incentives for new

investments, but its biggest impact is on the pay-off for the investments that have already been made.

The CHAIRMAN. What about the accelerated depreciation?

Dr. ORSZAG. Again, there, the theory is stronger that if you temporarily provide bonus depreciation or an investment tax credit,

you can accelerate investment into the qualifying period. However,

the experience from 2002 and 2003 was disappointing. Some studies have suggested that we did not even get the predicted impact

on the type of investment; that is, you would expect a larger effect

on longer-lived assets, those in the, say, 20-year category. There is

at least some ambiguity about whether even that investment mix

effect occurred, let alone whether there was a significant aggregate

impact.

The CHAIRMAN. Senator Grassley is not here.

Senator Wyden, you are next.

Senator WYDEN. Thank you.

The CHAIRMAN. Thank you. Thank you very much.

Senator WYDEN. Thank you, Mr. Chairman.

28

I want to come back to this question of infrastructure and the

short term versus the long term. It seems as if the stimulus debate

really comes down to whether you ought to focus on immediate

help, and of course that is critical because there is this world of

hurt in the country, or, as I would like us to look at it, immediate

help plus some long-term benefit.

Now, we are going to work with you on these studies from the

transportation officials indicating that they think that they could

hire workers within weeks, and shortly after that individuals could

be getting paychecks.

But I think I want to ask this from an economic standpoint. If

Dr. Orszag has one dollar for stimulus, just one dollar, should the

search not initially be for the double benefit that I am talking

about here, the immediate help plus the prospect that that can lead

to longer-term, sustainable benefits such as employment in infrastructure? I am talking just from an economic standpoint. We are

going to have to work with you on trying to find these categories,

like road resurfacing, that I think can be done quickly.

But just from an economic standpoint, if Dr. Orszag has one dollar for stimulus, should the search not be for what I think is the

two-shot benefit?

Dr. ORSZAG. I would think that any long-term benefit should be

just an auxiliary kind of complement or benefit and the focus

should really be on what works best during this unusual period of

weakness. There are options that work really well in the short

term that do not work well in the long term, and I am not sure

that we should rule them off the table if the immediate concern is

boosting the economy in the short run.

Senator WYDEN. I share that view. If the choice is between getting the immediate benefit, as we all know exists when you help

people, for example, with unemployment compensation, or frittering away money in terms of these longer-term projects that people are not going to see, then I think that is a no-brainer, you

ought to go with the immediate help.

But what I want to do is to find a way we can get the two-for,

we can get the immediate help to people so that folks who are suffering see that there is some effort on the part of the Congress to

put a tourniquet on this. I have compared the $800 as sort of like

a Band-Aid on arterial bleeding. People want the immediate help.

But I also think, when you look at the crisis in infrastructure,

which you all have correctly pointed out is going to get worse because of the short-term decline in funds, here is a chance, if we get

good counsel from folks like you, to get both the short-term help

and the long-term help. I just look forward to working with you on

that.

Dr. ORSZAG. I would just say, you have given me an opportunity

to use a really big word, lexicographic. I think the best way of proceeding at this point is to rank short-term stimulus by their bang

for the buck, and then there are other considerations that U.S. policymakers can take into account once that has been accomplished.

Senator WYDEN. Fair enough.

Thank you, Mr. Chairman.

Senator Grassley is here now.

Senator GRASSLEY. For a little while.

29

My next question deals with savings versus expenditures. Everyone agrees investment is the key to higher productivity and a rise

of standard of living. However, some economists say that during a

recession we have idle resources and non-use capacity, so the

money that people save will not be invested. Presumably they

think that it just sits around gathering dust. I do not think there

is evidence to back that up. This argument is used to support the

claim that additional consumer spending will provide a boost to the

economy, whereas additional savings will not.

However, in America we have a very diverse and dynamic economy. There are always opportunities for new investment. While

some sectors are shrinking, others are expanding. Financial markets are designed to direct savings to those areas that need it. In

addition, many consumers finance major purchases—and I would

use autos and appliances as a couple of examples—through consumer loans, savings that are not invested or available to consumers.

So, my question to you, are you aware of any evidence—any evidence—to support the view that, during a recession, a dollar of savings does not boost business investment or consumer credit by a

dollar?

Dr. ORSZAG. I guess the way I would put it is, it is true it is an

identity—it is a mathematical accounting identity—that the total

amount that we save will equal the total amount that we invest,

plus our transactions with the rest of the world. But it is also true

that, during these unusual periods of economic weakness, that one

can move the overall level of savings and investment to a higher

level, and the way to do that tends not to be to increase savings

rates.

There is an unfortunate tension between these unusual periods

of economic weakness when higher consumption rates and lower

savings rates can be beneficial in leading to a higher overall level

of income, which is exactly the opposite of what is beneficial in the

long term, where higher savings leads to higher rates of investment

and higher rates of economic growth.

That tension, I would note, is very awkward. The policies that

are appropriate to accomplish one objective are typically the opposite of the policies appropriate to another. That is, unfortunately,

the situation in which we sometimes find ourselves.

Senator GRASSLEY. Yes.

On another point, you commented in your statement that extending the AMT patch for individuals would have a near-term effect

on demand. Is it your recommendation that a stimulus package

should either extend an AMT patch, or even possibly repeal it altogether? With more emphasis upon the patch than the repeal.

Dr. ORSZAG. Yes. The way I would see it, it is failure to enact

an additional patch for the 2008 tax year that would likely have

a significant effect, albeit probably more in 2009 than in 2008,

where taxpayers who may have been expecting another patch all

of a sudden realize that it has not happened, and you would likely

have a noticeable impact on behavior in 2009 if a patch that was

expected was not actually enacted.

Senator GRASSLEY. All right.

30

Your written statement indicated that the corporate AMT could

effectively undo investment stimulus. How would you recommend

that the corporate AMT be modified to make other business incentives more effective?

Dr. ORSZAG. Well, there are important questions about the short

term and the long term. Over the long term, again, on the structure of the corporate income tax, I would just come back to saying

there are important issues that need to be addressed that we and

the Joint Committee on Taxation can help the Congress evaluate

in terms of the structure of both the regular corporate income tax

and the corporate AMT.

In the short term, there are targeted fixes that can be made to

the AMT to try to boost the carry-through or the effectiveness of

changes made in the regular corporate income tax, just like there

could often be changes on the individual AMT made to extend the

impact, if you chose to. I am not saying one should, but if you chose

to, you could extend an individual rebate to those taxpayers on the

individual AMT.

Senator GRASSLEY. You mentioned that the 2002 and 2003 bonus

depreciation provisions had a modest impact on business activity.

However, do you not think that the partial expensing, coupled with

other business tax reliefs, such as extending the net operating loss

carry-back period, would result in a more substantial impact overall on investment and the economy? Then I will follow with this

question. Moreover, are we not dealing with apples and oranges

here, since there is such a huge overhang in investment back in

2002 and 2003?

Dr. ORSZAG. First, let me answer that question. Yes, economic

conditions are different, and it may be the case that the response

to additional tax incentives on the corporate side will be stronger

than it was at that time. We also do point out that it is correct that

the combination of, for example, a net operating loss carry-back

provision, with things like bonus depreciation, could be stronger

than the two pieces individually.

Senator GRASSLEY. Senator Salazar?

Senator SALAZAR. Thank you, Senator Grassley.

Dr. Orszag, my own sense, just from the people that I represent,

is that our economy is more in the ditch than Washington realizes.

When you are in the ditch, if you are a farmer, you have to figure

out what kind of power you need to get out of the ditch. I think

that is what we are trying to figure out here, how we get out of

the ditch. My question has to do with respect to the housing market and what is happening there. I think, if you look at the pain

index in tough economic times, you see it is from people who lose

their homes. You see that pain in foreclosure.

In my State today, 1 out of 326 homes is in foreclosure. We are

6th in the Nation in terms of the housing foreclosure rate. You see

the pain also with respect to families whose housing prices have

spiraled downward significantly in the last year, and you see it

with the construction industry and workers in the housing and construction industry. There is a lot of pain going on in housing.

My question for you is, given this major sector of our economy,

to what extent should the economic stimulus package that we are

31

working on here in the Congress, and we will be working on with

the President, address the issue of the housing crisis in America?

Dr. ORSZAG. I would go back to the point that, to be effective, fiscal stimulus need not target the source of economic weakness. So

the housing markets clearly are one of the major forces leading to

this period of economic weakness, but that does not then mean that

effective fiscal stimulus has to target that sector. Instead, what one

wants to do is boost aggregate demand as effectively as possible for

a given budgetary cost.

In our report, we do go through some measures that would affect

the housing markets. In general—not exclusively, but in general—

those proposals usually do not rise to the sort of macroeconomic

level by themselves. They may have important effects on a dynamic

that could ensue involving increased foreclosures leading to reduced economic activity, leading to increased foreclosures. But their

direct impact tends not to be sort of big enough on a macro scale

to rank close to other types of proposals that we are discussing, despite the fact that they would be beneficial to the households involved.

Senator SALAZAR. So your view, Dr. Orszag, is then that we

ought to deal with the housing crisis that we have in the country

separate from the stimulus package that we are dealing with here?

Dr. ORSZAG. That is obviously up to you, but you should probably

be evaluating those housing proposals, primarily in terms of the

trade-offs involved in the housing market and future credit transactions, and probably not primarily in terms of fiscal stimulus.

Senator SALAZAR. In terms of the policy options that you evaluated in the report that you have provided to this committee, what

would the impact of any of those policies be ultimately in terms of

the housing pain that we are seeing across the country?

Dr. ORSZAG. It depends on which ones you adopted. I should also

note, one of the unfortunate things about getting into a mess like

this is that there is pain that is involved, and working that pain

out is part of the unfortunate and difficult adjustment processes,

as difficult as that is for me to say.

So there are some policies and proposals that would try to sort

of take away all the pain, and that can create longer-term problems. There have been other examples where trying to step in after

the fact and alleviate all of the difficulties that arose from an imbalance that occurred just prolonged difficulties in general.

So, I guess I would come back and say there are options that we

evaluate that would clearly provide benefits for homeowners. There

are other options that one should be cautious about because of

their impact on both future credit market transactions and the risk

that they merely prolong an adjustment that has to occur.

Senator SALAZAR. One more quick question. That is, the debt.

Whatever proposal is adopted here—the President’s proposal is

$145 billion. In terms of it adding on to our already huge deficit

spending and debt that we have been in for the last 6 years, what

impact would the additional debt cause, long-term, on the economy?

Dr. ORSZAG. Well, that depends on whether it was offset in the

back years. There is nothing in terms of short-term economic stimVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00035 Fmt 6633 Sfmt 6633 53865.000 SFIN1 PsN: SFIN1
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ulus that would preclude you from offsetting the cost in years 5,

6, 7, 8, 9, 10 if you wanted to.

If you didn’t do that, then obviously you would be adding some

amount to the long-term fiscal imbalance that we are facing, although in the scale of that large fiscal imbalance, the types of magnitudes that are being discussed are relatively modest, again, as

long as it is kept to that and kept temporary.

Senator SALAZAR. Thank you very much.

Senator GRASSLEY. Senator Lincoln?

Senator LINCOLN. Thank you, Mr. Chairman.

I would like to follow up, because that was one of my questions,

the long-term impact in terms of the deficits we create. You are

saying that what is being talked about is not offset, and could be

offset in the out-years. But if it is not, or even if we did offset it

in the out-years, what we spend in the most recent years is modest.

But when you put that on top of the incredible debt that we have

incurred, particularly with the war and other things in these past

6 years, does that not magnify what we would be doing in terms

of that debt?

Dr. ORSZAG. I guess the way I would put it is, some increase in

the Federal Government’s budget deficit during unusual periods of

economic weakness is beneficial because it adds demand to an

economy that needs it. And as long as it is limited to that period,

the impact on the Nation’s long-term fiscal imbalance is likely to

be modest because that fiscal imbalance arises over a very long period of time in which deficits are growing and growing and growing. If the intervention is limited to 1 year, it is not that large a

share of the overall long-term imbalance.

Senator LINCOLN. Then do I understand you to mean that the

current deficits that we have now are not large enough that, when

we add $150 billion to that, unpaid for, that it is just not going to

make that big of a difference? Is that what you are saying?

Dr. ORSZAG. We are in an unusual situation where the shortterm deficit—the deficit last year was 1.2 percent of GDP—is relatively modest, but we are on a path where the long-term fiscal imbalance is daunting.

Senator LINCOLN. Right.

Dr. ORSZAG. And in that context, anything we do that significantly exacerbates those long-term fiscal pressures is a bad idea.

But if there is an intervention that is limited to the very short

term that does not have a market effect on that long-term fiscal

imbalance, those considerations are much attenuated.

If fiscal stimulus were limited to this year or to next year, or

some short period of time and limited in size relative to the massive deficits that we are projecting over the long term, it does not

change the picture all that much.

Senator LINCOLN. So it does not have that much impact on interest rates or other things?

Dr. ORSZAG. The key to our fiscal future is that we face a massive increase in especially health care spending and the imbalance

between projected spending and projected revenue, and $150 billion

this year may slightly exacerbate that long-term imbalance, but

does not have a very large effect.

33

Senator LINCOLN. The last thing I just wanted to touch on was,

one of the things that has resonated here today is the timeliness

of what we do and how critical that is. Enacting the right policy

is important, but obviously at the right time. We do not move at

breakneck speeds up here. That is certainly not new, I do not

guess. I wonder about the timing and how we fit into that timing.

Could we be doing something too soon? Could we be doing something too late? How critical is that? I mean, how much of a role

does that play?

Dr. ORSZAG. I think at this point it would be difficult for you to

do anything too soon. It is possible for you to do something too late.

Indeed, the history of attempts at fiscal stimulus in the past have

highlighted examples in which the lags involved in the constitutional and other decision-making process have been so extended,

that additional fuel was added to an economy that was already, by

that time, growing rapidly. That is something that one would want

to avoid.

Senator LINCOLN. Well, that is a nature we have to change up

here, I suppose. But I just look at my own State, and when I was

home, the fear in people’s faces. We have had 13 mill closures in

the last year. If we just enacted some of our trade policies, an

agreement that we have, the way that we approach things could

have such an impact on our economy in terms of keeping jobs

going, keeping mills open, and a whole host of other things. It

would make a big difference, I would think, in how we operate,

both in a timely fashion and actually doing, implementing, and requiring what it is that we agree to. Does that have any impact? I

guess it is certainly long-term.

Dr. ORSZAG. Again, it probably is not a good idea for me to comment on the speed of your decision-making, but I will just say that

the sooner fiscal stimulus is delivered, the more likely it is to have

larger benefits than costs in the current environment.

Senator LINCOLN. Thank you so much, Dr. Orszag. We appreciate

it.

Senator GRASSLEY. I have no further questions. For Senator Baucus, me, and the rest of the committee, we appreciate very much

your helping us get started on one of the most important things we

have to work on this year, a stimulus package. Thank you very

much.

The hearing is adjourned.

[Whereupon, at 11:49 a.m., the hearing was concluded.]

(35)

STRENGTHENING AMERICA’S ECONOMY:

STIMULUS THAT MAKES SENSE

THURSDAY, JANUARY 24, 2008

U.S. SENATE,

COMMITTEE ON FINANCE,

Washington, DC.

The hearing was convened, pursuant to notice, at 10:05 a.m., in

room SD–215, Dirksen Senate Office Building, Hon. Max Baucus

(chairman of the committee) presiding.

Present: Senators Wyden, Schumer, Stabenow, Salazar, Hatch,

Snowe, Kyl, Smith, Bunning, and Crapo.

OPENING STATEMENT OF HON. MAX BAUCUS, A U.S. SENATOR

FROM MONTANA, CHAIRMAN, COMMITTEE ON FINANCE

The CHAIRMAN. The hearing will come to order.

Willa Cather once wrote, ‘‘Religion and art spring from the same

root and are close kin. Economics and art,’’ she wrote, ‘‘are strangers.’’

Today, despite Cather’s admonition, we will seek common ground

between economics and art. We will continue our examination of

economic stimulus, and we will consider whether we can find any

artful solutions for the American economy.

Tuesday, we discussed the criteria for what makes sense for fiscal stimulus. The consensus is developing that stimulus needs to

be timely, targeted, and temporary. Today, we discuss specific proposals with two prominent economists.

There are reports that a deal on a stimulus package may be close

on the House side. The Senate will want to speak as well. We may

well want to change the House package to ensure that Congress

does its utmost for the American people. I have spoken with Senator Grassley, and we have agreed that we will hold a mark-up in

the Finance Committee on economic stimulus next week.

For example, tax rebate checks for middle-income and lowerincome Americans could provide an immediate stimulus for the

economy. Middle- and lower-income Americans could spend those

rebates quickly. That would provide income to businesses across

America, and those businesses could then spend that money. Last

week, CBO said that tax rebate checks could be very cost-effective.

Another example would be expanding Unemployment Insurance

benefits. In recent recessions, Congress has extended the number

of weeks that unemployed workers could receive benefits. We could

do that again. We could provide a further extension for recipients

in high unemployment States, and we could also temporarily inVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00039 Fmt 6601 Sfmt 6601 53865.000 SFIN1 PsN: SFIN1
36

crease the dollar amount of benefits to help unemployed workers

pay their bills.

Unfortunately, under current law, fewer than 4 in 10 unemployed workers receive Unemployment Insurance benefits. To address this problem, we could extend eligibility. For example, we

could extend benefits to part-time workers. I understand there may

not be anything on unemployment insurance in the House deal. I

believe that is a mistake, and I hope that we can improve on that

when we consider the tax bill here in the Senate.

Another example would be tax incentives for businesses. Businesses are employers. Keeping Americans employed is an important way to fight economic decline. We could allow companies experiencing losses in the current economic downturn to deduct those

losses against income from prior tax returns and get an immediate

tax refund. The refund could inject cash that could allow a company to survive, retain workers, and maybe even expand.

Another option would be to temporarily allow businesses to deduct from their taxable income more of the money they spend on

investment. This would encourage businesses to spend now on

buildings, equipment, and other fiscal capital. Others are suggesting stimulus proposals related to the housing sector. Still others advocate fiscal relief to State governments that are struggling

to comply with balanced-budget requirements.

So let us see whether there is any art in economic stimulus, let

us press to find that common ground between the two disciplines

and between the two parties, and let us try to find those artful solutions for the American economy.

Senator Grassley, unfortunately, cannot be here this morning. I

spoke with him earlier today. He is ill. But he certainly will participate fully and aggressively when he returns, maybe even later

today, in getting ready for the mark-up.

Senator BUNNING. Can I suggest we do the mark-up now?

The CHAIRMAN. We could have a mark-up now, yes. [Laughter.]

We would want Senator Grassley to participate, I think. Right?

So, thank you very much, Dr. Feldstein and Dr. Furman, for attending here. The first witness is Dr. Martin Feldstein, who is the

Baker professor of economics at Harvard, and the president and

CEO of the National Bureau of Economic Research. He was formerly chairman of the Council of Economic Advisors in the Reagan

administration.

The next witness is Dr. Jason Furman, the director of the Hamilton Project of The Brookings Institution, formerly an economist

with the National Economic Council in the Clinton administration.

Thank you both for coming. As you know, we are allotting witnesses 5 minutes for their oral remarks, and then their prepared

statements are automatically included.

So, Dr. Feldstein, why don’t you begin?

STATEMENT OF DR. MARTIN FELDSTEIN, BAKER PROFESSOR

OF ECONOMICS, HARVARD UNIVERSITY, CAMBRIDGE, MA;

AND PRESIDENT AND CEO, NATIONAL BUREAU OF ECONOMIC RESEARCH (NBER), CAMBRIDGE, MA

Dr. FELDSTEIN. Thank you very much. Thank you for your invitation to appear before this committee.

37

Because of the limited time and because I am eager to hear your

questions, let me just hit the highlights of the first part of my written testimony and then turn to some of the more specific points.

First, I think it is generally agreed that the economy is weak and

that it could get substantially weaker. But I think it is worth

stressing that a recession is not inevitable. Indeed, most private

forecasters are still not calling for a recession, but rather for a

slow-down, thanks to the fact that services like health and education play a large part in our economy, that the Fed has cut aggressively, and, perhaps most importantly, that the dollar is down

significantly and that has given a very big boost to our Nation’s exports.

But I think the risk of a serious downturn remains, and therefore what the Federal Reserve did earlier this week was a very

good thing. I think the 75 basis-point reduction in interest rates

was helpful. I think they should do a further 50 basis-point reduction when they meet next week.

But I think they have to be careful about going below 3 percent

because of the continuing inflation pressures that we see, and because, in fact, the actual inflation is now up significantly, as I point

out in the written testimony.

But having said all of that, I think monetary policy is potentially

of limited effectiveness this time because of the problems that we

see in the credit markets. Simply cutting interest rates will not

overcome the lack of confidence that causes financial firms to be

very reluctant to lend and makes it difficult to get prices for financial assets. I think that is the real case for a fiscal stimulus.

When I testified to the House Budget Committee on December 5,

I suggested that Congress should move very quickly to put in place

legislation to have a fiscal stimulus, but that that stimulus should

only be triggered if we see an actual downturn in economic activity.

I suggested, as an automatic trigger, 3 months of declining employment. So, pass it quickly, but have it take effect only if we see 3

months of declining employment.

I thought that such a delayed triggered fiscal stimulus would

provide confidence because individuals would know that, if the

economy turned down, that fiscal package would be there. Then, of

course, if there is an actual decline, we would have that stimulus

taking effect without the long legislative lags that normally slow

down achieving a fiscal stimulus.

Well, we have not seen that decline in employment, and we may

never see that decline in employment. Yet, as I outline in the written testimony, there have been a number of further deteriorations

in various economic indicators, the most obvious of which was the

increase in the unemployment rate, but also declines in disposable

personal income and a more rapid decline in housing construction.

Nevertheless, I still favor a triggered fiscal package, one that the

Congress would pass now that would only take effect if we see clear

evidence of a sustained economic downturn, or perhaps a 2-part fiscal package in which a smaller part takes effect as quickly as possible, and a second part is written into legislation to be triggered

if we actually see the downturn in employment in the economy. But

if triggering is not in the cards, then I would say it would be better

38

to have an immediate fiscal package than to wait and see whether

in fact the economy is turning down.

With respect to the specifics of it, I think that the things that

we have been hearing in the last 48 hours from the congressional

and White House negotiators make a good deal of sense. A flat tax

rebate to all who——

The CHAIRMAN. Dr. Feldstein, even though your 5 minutes are

up, you are starting to get into substance here, so why don’t you

continue for another 5?

Dr. FELDSTEIN. Sorry.

The CHAIRMAN. No. Continue for another 5. Go ahead.

Dr. FELDSTEIN. Thank you very much.

The CHAIRMAN. Yes. Yes.

Dr. FELDSTEIN. I think that the things we have heard in the last

couple of days make a good deal of sense. What I favor is a flat

tax rebate to all who pay taxes, plus an increased cash transfer to

low-income groups who are not taxpayers, done by increasing Federal Government payments for food stamps, for TANF, and/or for

Supplemental Security Income, where the choice among those

would depend on what you hear about the speed with which those

things could be done.

I think too much is made of the fact that lower-income households may eventually spend a higher portion of their tax rebates

as a case for slanting the tax rebates toward those who are not currently taxpayers. Those with higher incomes may actually respond

more rapidly, using credit cards or available savings, to spend their

tax rebates even before they receive the cash.

It is clearly important to have a significant-enough-sized tax rebate to catch people’s attention. I think what is being discussed,

numbers like $500 and $1,000, makes a good deal of sense. That

means adding up to a total package of $100 to $150 billion in onetime stimulus.

Let me conclude with a few other specific points. First, I think

that an investment incentive of the sort that we saw in 2003, and

that I gather the negotiators are talking about again now, would

be a good thing. Even before the actual tax payments are made,

businesses would respond to the change in legislation. So, we do

not have any IRS administrative lag in that process. I think what

we saw in 2003 showed that that could work.

What about unemployment benefits? It is clear that raising unemployment benefits or extending the duration would help some individuals who might otherwise face financial hardship, but I think

it would also create undesirable incentives for individuals to delay

returning to work. Moreover, it is not a program targeted at the

poor. I think it is better to use food stamps, SSI payments, or

TANF as a way of increasing transfers.

I also think that transfers to State and local governments or Federal spending on infrastructure would be a slow and complex process. It really does not belong in a proposal aimed at what we hope

is a relatively short-term downturn.

Finally, and I think this is widely agreed, the pay-go rules ought

to be waived in this context, not only because you would not want

to do it on a concurrent basis for stimulative reasons, but also because trying to agree on what should be done to raise revenue to

39

offset this tax cut would probably prevent enacting any stimulus

package at all.

So let me stop there. I look forward to your questions, and those

from other members of the committee.

The CHAIRMAN. Thank you, Dr. Feldstein, very much. That was

very interesting.

[The prepared statement of Dr. Feldstein appears in the appendix.]

The CHAIRMAN. Dr. Furman, why don’t you take 10 minutes?

STATEMENT OF DR. JASON FURMAN, DIRECTOR,

THE HAMILTON PROJECT, WASHINGTON, DC

Dr. FURMAN. Well, given that I agree with about 90 percent of

what Dr. Feldstein said, I will not need the full 10 minutes.

So, Mr. Chairman and other members of the committee, thank

you for inviting me to testify today. I am very glad to hear that

your committee is going to be playing a major role in designing the

fiscal stimulus legislation.

Tuesday’s cut in the Federal funds rate will have a major effect

on output and jobs, but given the historical performance of monetary policy we will probably not see the full impact on the aggregate economy until 2009. So, well-designed fiscal stimulus has an

important supporting role to play. A diverse set of economists agree

that any stimulus package should be timely, temporary, and targeted.

The economic logic that motivates this tripartheid test is simple.

First, the rapidly evolving downturn provides a motivation for

timely fiscal stimulus which, if well designed, could raise economic

output and create jobs by the middle of 2008, adding to growth before monetary policy is fully effective.

Second, any tax or spending changes should be temporary. Based

on current forecasts, the economy will not need a boost in 2009. If

Congress and the President give it one, then the Fed is likely to

offset the fiscal stimulus by not cutting interest rates as much as

it otherwise would have. Plus, permanent policy shifts would unnecessarily swell our long-term budget deficit.

Third, to achieve maximum bang for the buck, as well as to help

those who are most hurt, stimulus should be targeted. Research

demonstrates that these goals are complementary. The households

most in need of money are the families most likely to spend it.

In my view, the three measures that best meet the timely, temporary, and targeted tests are: (1) a temporary increase in food

stamps, a step that could be administered quickly through electronic debit cards and would go to families likely to spend much,

or all, of the money; (2) a temporary extension, and possibly expansion, of Unemployment Insurance benefits, reflecting the fact that

the long-term unemployment rate is already nearly double what it

was going into the last recession and the unemployed will spend

a very large fraction of these benefits; (3) the largest step I urge

is a temporary, one-time refundable rebate aimed at working

households. I will discuss this in greater detail in a moment, but

I would like to outline my opinion on three other stimulus options

under consideration.

40

State fiscal relief is worth serious consideration if it is directed

at State operating budgets, which, unlike capital budgets, generally

face balanced budget rules. Temporarily increasing the FMAP for

States that agree to maintenance of effort rules for Medicaid and

SCHIP would be one way to accomplish this.

Temporary investment tax incentives could induce businesses to

undertake investment they would not otherwise have done. In fact,

in 2001 and 2002, I was somewhat optimistic that bonus depreciation would make an important contribution to our economy.

What I have seen in the data, and what three academic studies

have found, however, is that the effect of the 2002 and 2003 bonus

depreciation was small at best, and much of the tax benefit was a

windfall for companies that would have undertaken the investment

decisions anyway. As a result, today I am considerably less optimistic about business tax incentives than I once was.

Increased infrastructure investments, in theory, could have a significant positive effect on the economy. In practice, the majority of

the ways in which we increase infrastructure might contribute to

long-term productivity but do not contribute to short-term stimulus. There may be some ways to design infrastructure to get

around that problem, but it would be difficult.

Finally, I would like to go into a little bit more detail about the

tax rebates. The canonical consideration in designing tax policies

are efficiency, equity, and simplicity. Because rebates would be a

function of decisions made in 2007 that can no longer be unmade,

the classic efficiency concern with distorted incentives does not

apply.

Instead, the key efficiency consideration is how much of any rebate households would spend, and, thus, how much it would stimulate aggregate demand and overall economic performance. These

considerations motivate my three recommendations.

First, ensure that rebates go to lower-income households. There

is broad agreement and numerous academic studies, including one

published most recently in December, 2006 in the premier economic

journal, The American Economic Review, that find that, from a

macroeconomic perspective, a tax rebate would be more efficient if

it includes the lower-income households who are most likely to

spend the money.

As Chairman Bernanke testified, if you are somebody who lives

paycheck to paycheck, you are probably more likely to spend that

extra dollar. A study by moodyseconomy.com estimates that a refundable credit which goes to low-income households will have 24

percent more bang for the buck than a non-refundable credit. Equity also suggests that lower-income households should receive rebates. A refundable credit would benefit the more than 25 million

wage-earning households that pay payroll, but not income, taxes.

Second, the rebates should be phased out for higher-income

households. As Chairman Bernanke put it, if you are somebody

who has lots of financial assets and you receive an extra dollar, you

may not change your spending much. Phasing out a rebate for

higher-income households would increase the overall cost effectiveness of a stimulus package.

Third, and this is something you have discussed, Mr. Chairman,

and been a leader on, the rebates should be adjusted for family

41

size. Such adjustments could make the rebates correspond more

closely to family needs, thus increasing the likelihood that rebates

will be needed and spent. One $104-billion option consistent with these recommendations would be to provide a maximum rebate of $550 for a single filer,

$1,100 for a married couple, and $275 for each additional dependent. In total, a family of four would get $1,650. The rebate would

be partially refundable for low-wage workers, and phased out for

higher-income households. In my written testimony I discuss this

and two other options in more detail.

In closing, I would like to thank this committee for paying attention to the economic lessons of past slow-downs and wish you good

luck in turning the agreement that stimulus should be timely, temporary, and targeted into a specific plan.

I look forward to your questions.

The CHAIRMAN. Thank you, Dr. Furman.

[The prepared statement of Dr. Furman appears in the appendix.]

The CHAIRMAN. I thank both of you.

Senator Grassley has a prepared statement for this hearing.

Without objection, it will be included in the record.

[The prepared statement of Senator Grassley appears in the appendix.]

The CHAIRMAN. Essentially as I understand what the agreement

may be in the House, it will be rebates to taxpayers, that is, based

on taxable income. There is no provision, as I understand it—the

announcement has not been made—that amounts to lower-income

Americans would be half that. They would be, in a certain sense,

refundable. But let us say $600 per individual/$1,200 for a couple

for taxable income for people who have tax liability, and then half

that, that is $300/$600 for individuals who do not have income tax

liability.

So my question is, is there any economic difference between one’s

propensity to spend between the first category and the second category? I will ask you first, Dr. Feldstein. From an economic perspective, does it make sense for lower-income people to get half?

By lower-income, I mean the cut-off might be $5,000 or something

of taxable income.

Dr. FELDSTEIN. How is that proposed to be done, through transfer payments?

The CHAIRMAN. No, no.

Dr. FELDSTEIN. Or in an explicit refundable——

The CHAIRMAN. Explicit, refundable. It is a rebate check. That is

correct. No transfer payments.

Dr. FELDSTEIN. Yes. The economic evidence on differences in

spending is really quite weak. I think what you heard in my colleague’s testimony is that the case that is put forward for doing a

refundable, rather than giving it just to those who pay taxes,

amounts to a difference that I would say is within the measurement error that economists bring to that.

The CHAIRMAN. That is negligible.

Dr. FELDSTEIN. It is negligible. The difference between what he

calls an efficiency measure of 1 or 1.25, I think, is not something

that economic analysis is good enough to carry.

42

Moreover, there is a question of the speed with which the money

can be spent. We hear that getting the checks out will take a matter of months, surprisingly. Individuals with somewhat higher income, with credit cards, with some cash in the bank, may say, well,

our family is going to get another $1,000, what should we spend

it on, or what should we spend most of it on? They may start that

spending before the check actually arrives, since they know that

that is money that is coming.

So, in fact, even if the cumulative, the eventual impact is higher

for the lowest-income groups, for those with a little bit of cushion,

they may find themselves contributing more rapidly when we need

it.

The CHAIRMAN. Dr. Furman, your view?

Dr. FURMAN. I would say two things. First of all, there is absolutely no evidence that low-income households would spend less of

that money, so I think a certain amount of fairness would suggest

that everyone, at the very least, would get the same amount of

money.

The economic evidence, though, I think is a little bit stronger—

in fact, a lot stronger—than the way I think Dr. Feldstein characterized it. Certainly the Congressional Budget Office, in their assessment, said making the rebate refundable would further boost

the cost-effectiveness of the stimulus. Chairman Bernanke testified

to this effect to the House Budget Committee last week.

Finally, what economists do to figure out whether something is

truly a difference is, they assess in a statistical model whether the

difference is so small that it is statistically indistinguishable within

the margin of error or whether this is a statistically significant difference.

The study of the rebate experience in 2002 that was published

in the premier economics journal did perform precisely this statistical test and found that it was outside the margin of error, the difference between low and high——

The CHAIRMAN. I appreciate that. My time is close to expiring,

but when I get back in the second round I am going to ask both

of you about the desirability of cash transfer payments, the degree

to which that should be part of this, and what the compensation

of those cash transfer payments should be. But I have only 18 seconds left, so we will not get into that right now.

Senator Kyl?

Senator KYL. Thank you very much.

Dr. Feldstein, just, first of all, two things from your testimony I

just want to make sure I understand. With regard to the statements to State and local governments which some have proposed,

I do not think that is a part of the House proposal, but it could

be something that is proposed over here.

You state in your testimony, ‘‘Transfers to State and local governments would be a slow and complex process. So too would Federal spending on infrastructure. These would weaken the effectiveness of any size stimulus package.’’ So I gather what you are implying there is, that would not be a good idea to include in the

stimulus package. Is that correct?

Dr. FELDSTEIN. That is correct.

43

Senator KYL. And, second, you said, ‘‘Its purpose,’’ the stimulus

package, ‘‘is to increase household and business spending in order

to raise total GDP. It should not be taken as an occasion to build

infrastructure, to reduce poverty, or to strengthen economic incentives.’’ I mean, all of those may be worthwhile policy provisions, I

am sure you would agree. ‘‘It should not be taken as occasion to

redistribute the burden of taxes.’’ That leads me to favor a flat tax

rebate to all who pay taxes, plus an increased cash transfer to the

low-income groups who are not taxpayers. Is that correct?

Dr. FELDSTEIN. That is correct.

Senator KYL. So if there were a proposal, as I understand it, to

cap the income at, say, $75,000 of adjusted gross income for receiving the rebate, that would be inconsistent with the proposal as you

would like to see it evolve?

Dr. FELDSTEIN. Yes, that is correct.

Senator KYL. Now, is part of the reason for that—and I will address this question, Dr. Furman, to you as well. There are a lot of

different ways to ask the question, but let me just frame it as I understand fiscal policy. Fiscal policy does not work because the government gives people money to spend, it is because there is money

available for investment.

Therefore, it really does not make much difference, does it,

whether one buys something, spends money, and then indirectly

that money can go into investment into more capital goods, employment, or the like, or an individual ‘‘saves’’ money, and of course

when one saves money it is being invested by someone, so either

directly or indirectly the money, likewise, is made available for the

same capital investment and the like. Is there any real difference

between the two, except that direct investment might be a little

more quick than consumer spending?

Dr. FELDSTEIN. I would say, in the current context, in an economy where there is extra slack in the economy, where there is unemployment, we really do want to increase consumer spending.

This is not an indirect way——

Senator KYL. For what purpose?

Dr. FELDSTEIN. To increase the demand for goods and services.

Senator KYL. For what purpose?

Dr. FELDSTEIN. And thereby create jobs, to move the economy to

a higher level of economic activity.

Senator KYL. Right.

Dr. FELDSTEIN. To get us out of a recession, if we are sliding into

one.

Senator KYL. And it takes money to create jobs.

Dr. FELDSTEIN. It creates demand for goods and services, to create production and employment. So, in the long run there is no

question, we need more investment, we need better incentives. But

what we are focusing on, what I think the legislation should focus

on, is creating spending. The best way to do that is to give people

back some of their tax dollars so they can spend them.

Senator KYL. All right.

Before I call on you, Dr. Furman, Mr. Chairman, I wish we had

a witness—I mean, I have been reading a lot and watching a lot

on TV. With all due respect, I do not think this panel is balanced,

44

in that it does not represent a significant point of view that would

argue with the proposition that this is simply a demand problem.

I turn on the finance channels on TV, and the things I read talk

about the need for capital investment, more liquidity, and the like,

and suggest that it is not just a matter of demand, but it is very

much a matter also of liquidity, and in this case investment would

be as useful, if not more useful directly than consumer spending.

So, I posit that as a concern.

The CHAIRMAN. I appreciate that, Senator.

Senator KYL. Not that both of these witnesses are not

eminent——

The CHAIRMAN. Senator? Senator, I might say, Dr. Feldstein was

chairman of the Economic Advisors in the Reagan administration.

Senator KYL. I understood that.

The CHAIRMAN. And Dr. Furman——

Senator KYL. There are a lot of Republicans with whom I disagree.

The CHAIRMAN. Right. So we are trying to get——

Senator KYL. What I am saying is that there is——

The CHAIRMAN. We are trying to get a balanced panel here.

Senator KYL. I understand.

The CHAIRMAN. I think it is pretty balanced.

Senator KYL. Give me an extra 10 seconds here, Mr. Chairman.

The CHAIRMAN. Absolutely.

Senator KYL. A significant point of view with respect to fiscal

and monetary policy is not represented here, is my point.

Dr. Furman, I have just a little bit of time left. Please comment

on that.

Dr. FURMAN. Sure. I would say there are a lot of areas of economics that are very controversial. That stimulating aggregate demand can raise economic growth during a downturn is something

I think 98 percent of economists would agree on.

Senator KYL. So we are all Keynesians now, is that it?

Dr. FURMAN. They might disagree on the details of what exactly

is the most cost-effective element to include in that, but I do think

98 percent of economists, when the economy is turning down, believe in the Keynesian remedy because you essentially—one way to

picture it is, you have empty factories, workers not working, people

not buying things. If you can get people to buy things, the factories

will start working, it will employ the people, and all of that will

become like a virtuous cycle.

The CHAIRMAN. Thank you, Senator.

Senator Wyden?

Senator WYDEN. Thank you, Mr. Chairman.

Thank you both for excellent testimony. I come to this by way of

saying that working people save their income that is temporary

and they spend their income that is permanent. So what I have

been interested in is approaches that raise people’s incomes permanently. So on this infrastructure issue, Senator Thune and I, on a

bipartisan basis, introduced a comprehensive proposal to let Build

America bonds.

But as we looked at this whole issue of stimulus, it became very

clear that you needed to drill down into only those areas that you

could spend out quickly. I was very pleased that Dr. Orszag yesterVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00048 Fmt 6601 Sfmt 6601 53865.000 SFIN1 PsN: SFIN1
45

day, the CBO Director, said that especially road resurfacing was

something that could be spent very quickly.

So my question to you is, and I want to unpack this infrastructure debate in a different way. Senator Reid, to his credit, yesterday said he wanted to pass this legislation February 15. By my calculation, we could get transportation projects out, a number of

them, faster than you could get out the rebate checks, because we

were told that the rebate checks were not going to get out, perhaps,

until June. So you look, for example, and these transportation officials, they did not exactly fall off the turnip truck. They sent me

the projects from Montana and Iowa. I guess that is not exactly by

accident.

The CHAIRMAN. That is very wise of you, Senator.

Senator WYDEN. I thought they were very wise. They said that

there were projects that were on the shelf that could begin within

90 days—so they would be faster than the rebate checks—that

would include areas like resurfacing and some of these other areas

that were related to what Dr. Orszag was talking about yesterday.

Give me your assessment about whether that particularly, Dr.

Furman, Dr. Feldstein, might at least open the door here to the

possibility that some areas of infrastructure, given what Dr. Orszag

has talked about, might be eligible for the kind of criteria that we

all agree ought to be looked at for stimulus.

Dr. Furman?

Dr. FURMAN. I do think, as I testified, that you should apply a

very high degree of skepticism to infrastructure proposals. Proposals that do not spend out until, for example, 2009 are not going

to help the economy when it is needed, might destabilize it when

it is not needed, and will be offset by the Federal Reserve.

My understanding is, there are some infrastructure projects that

can be identified—and I have learned never to argue or disagree

with Dr. Orszag when he says anything. So if road surfacing is one

of those, then it would certainly help the economy if you could do

it more quickly, but you would want to be very, very careful and

very, very sure that it actually would be done quickly.

Senator WYDEN. Dr. Feldstein, I want to let you add and then

I want to ask a question about health care. I think you are right.

I mean, this is something that has to be done with considerable

focus on speed. I know you have made comments on infrastructure.

Does something like this, in terms of the timetable where rebates

would actually take longer, cause you to say that perhaps this

ought to be thought through more?

Dr. FELDSTEIN. First, with respect to the rebates, I think we

might find that people are spending those rebates before the checks

arrive.

Senator WYDEN. Fair enough.

Dr. FELDSTEIN. I do not know enough about the budget processes

of State and local governments to know how representative those

3-month lags would be.

Senator WYDEN. Fair enough.

Dr. FELDSTEIN. So I think there is a real risk that we would start

down what looks like a helpful road, and then folks would say, but

what about mass transit, et cetera?

Senator WYDEN. Fair enough.

46

Dr. FELDSTEIN. So I worry about that.

Senator WYDEN. Let me get one other question in for you, Dr.

Furman. A number of us now, Democrats and Republicans—in fact,

four on this committee—have come together to advance a universal

coverage health bill. It is very clear that medical costs are gobbling

up everything in sight, and this is taking a huge toll, both in terms

of the short term and the long term.

Give us your assessment of how health care ought to be approached, both from the standpoint of the short term, the stimulus,

and in the long term. I am very grateful to my colleagues, Senator

Stabenow, Senator Crapo who is here, Senator Grassley. We want

to approach this in a bipartisan way. We want to make it different

than 1993 and 1994. So, your thoughts on health care.

Dr. FURMAN. In zero seconds.

The CHAIRMAN. Minus 7 seconds.

Dr. FURMAN. Minus 7 seconds. In the context of the stimulus bill,

the only health provision I could see making sense there would be

temporarily increasing Medicaid payments to States, so that they

do not cut back their eligibility, which would be unfortunate. In

terms of longer term, I think this is an opportunity, right after the

stimulus debate, to look at how we can help better protect people

from risk, so in an economic downturn, you lose your health insurance when you lose your job.

So, making health insurance portable, making it so you do not

lose your health insurance when you lose a job, these types of

things would better help protect people from risk and circumstances like this and would have an ancillary benefit of potentially

even being counter-cyclical and helping stabilize the economy.

The CHAIRMAN. Thank you, Senator, very much. Thank you.

Senator Bunning?

Senator BUNNING. Thank you very much, Mr. Chairman. Thank

you both for coming and testifying.

Senator Grassley began these hearings with a comment that the

package we are discussing should be a racehorse and not a swayback horse. I agree wholeheartedly, but I would add that I would

want it to be a winning horse. While I will not say that a racehorse

raised in Washington and trained on the White House lawn could

ever not win a race, I certainly would prefer a racehorse raised and

bred in Kentucky.

In all seriousness, Drs. Furman and Feldstein, you have talked

a great deal about the need to act quickly and the 3 ‘‘Ts’’ principles.

But what about the ‘‘R’’ of representative government? The need for

nearly immediate actions seem to conflict with our need to fully

evaluate tax policies developed behind closed doors, with perhaps

a bit more concern for politics than the long-term health of our

economy.

I would suggest to you that markets around the world understand better than we do the risks associated with a policy of writing checks equal to 1 percent of our GDP whenever recession

threatens.

As you know, they reacted by destroying hundreds of billions of

dollars in paper wealth. If we really want to win the global economic horse race, would it not make more sense to invest this $150

billion on permanent tax changes that lay the foundation for future

47

economic growth? To win in the long run, should we not focus more

on raising the horse instead of recklessly injecting it with

stimuluses, with the knowledge that it could injure the horse?

Dr. FELDSTEIN. I very much favor the long-term incentives that

you are talking about. I favor keeping the tax changes that were

enacted and that are scheduled to phase out. But I think that we

face a potential short-term downturn for which that is not the answer.

Senator BUNNING. Is politics the answer then?

Dr. FELDSTEIN. I would not call it politics. I would say that there

is a surprising amount of bipartisan agreement among professional

economists that what can reduce the risk of a significant downturn,

that can reduce the magnitude of the downturn if the economy

starts to slide, is the kind of clean bill fiscal stimulus package that

the administration and members of the House seem to be talking

about.

Senator BUNNING. Dr. Furman?

Dr. FURMAN. I think tax reform is in our country’s long-term economic interest, and I would love to see the committee continue its

work on it. But it is a very complicated question, and it is not the

most efficacious way to increase economic growth in the year 2008

when it is most immediately needed. So, I think the stimulus route

is devoted to a simple task to temporarily increase growth in 2008,

but over the long term the more important tasks are the types of

long-term reforms to our tax code, health care, infrastructure, and

other areas of our economy.

Senator BUNNING. Instead of a cash rebate, what is your opinion

of using the $150 billion to make changes to tax policy that have

the potential to worsen the business cycle, such as extending the

carry-back for net operating loss to keep firms out of bankruptcy,

or repealing the 1986 tax on unemployment payments to increase

their purchasing power?

Dr. FELDSTEIN. I think providing some of that, if the number is

$150 billion, for business would be a good thing. I think it would

be better to do it in terms of strengthening incentives for businesses to invest, both small businesses and large businesses, as the

bonus depreciation legislation did earlier in the decade. I would not

oppose changing the loss carry-back rules.

I think taxing unemployment benefits is important, was a real

improvement in incentives, because we previously had an anomalous situation. Before taxation, unemployment benefits replaced, at

the margin, 50 percent of lost wages. If you do not subject benefits

to tax, then the level of benefits relative to net of tax wages becomes very high, to a point where the incentive to go back to work

is essentially so small that individuals would have a very strong

temptation to extend their period of unemployment. I think we saw

the favorable effects of that when benefits were taxed. So, I favor

the taxation of unemployment benefits.

The CHAIRMAN. Thank you, Doctor, very much. I appreciate that.

Senator Schumer?

Senator SCHUMER. Thank you. I want to thank you, Mr. Chairman and Ranking Member Grassley, for scheduling these hearings

so early in the session on an issue that is so important.

48

As the press is reporting this morning, it appears progress is

being made on a bipartisan stimulus package. While I may not

agree with every element of the package, the agreement is a very

positive development, for it is most important to move a package

quickly with, as its centerpiece, a tax cut for average families. The

reported agreement in the House meets that test.

But I want to outline some outstanding issues I believe should

be critical components of effective stimulus legislation. First, I believe that any effective stimulus spending should be a combination

of tax cuts and spending. As Dr. Furman notes in his testimony,

spending programs like extended unemployment benefits are

among the most effective stimulus ideas, while business tax cuts

are the least effective in terms of the speed of getting money into

the economy, which is our number-one criteria. Of course, the political reality is that there will probably be a need for business tax

relief as part of the final package.

I am not opposed to including it if it helps the package get done

quickly, but I think there has to be balance. In my view, at least,

and I think in the view of many of my colleagues, the centerpiece

should be stimulus checks. I believe it should make up about twothirds of the total, with the remaining one-third divided between

spending programs and business tax cuts.

The spending programs and temporary tax cuts should be as

bookends of the package, so I was disappointed to hear this morning that the purported agreement does not recognize the effectiveness of spending programs like unemployment extensions and

jump-starting our economy and puts almost half of the package, at

least in the news reports, on business tax cuts.

I would strongly encourage the administration to heed the advice

of the experts. For every dollar spent on UI, Unemployment Insurance, the economy benefits $1.73, even more than the $1.17 of the

tax stimulus tax cut.

Second, the housing crisis has been the bull’s-eye of this potential recession. The President’s hands-off approach to the housing

crisis clearly has not worked. Each foreclosure has costly ripple effects through neighborhoods. Analysts predict 2 million more foreclosures over the next 2 years.

I think you get the best bang for the buck in stimulus when you

deal directly with the worst problems. I think there are two proposals that ought to be in there. One is money for nonprofit foreclosure prevention counselors. The administration’s Secretary Paulson has told me the administration agrees with this. I am going to

work hard to see that that is added as we move along in the Senate.

Second, the conforming loan limits should be raised. That would

provide, temporarily, a much-needed shot in the arm in the struggling mortgage market. I think that—we have been getting reports—may be in the House package, and again could reach broad

bipartisan agreement.

The American people know in their guts that the housing and

mortgage crisis has gotten into this mess and we are going to have

to deal with that problem to both give some confidence in the markets and deal with the core of the problem.

49

The final difference I would have, or not difference, but in addition, after we get this package done, I agree with you, Dr. Furman,

we have to start getting to work on a longer-term package that includes some of the broader reforms and spending needs that everyone knows are necessary: reform of the unemployment system,

modernization of trade adjustment assistance, extension of tax incentives for alternative fuels, spending on infrastructure, and State

fiscal relief, and a broader housing package. So I hope, after passing this immediately needed short-term package, we get to work on

a longer-term package that looks at the structural problems in the

economy.

I would like, just my one question to both of you, first to Dr.

Furman, then to Dr. Feldstein. What do you think of the two points

of, (A) including some things that will alleviate the foreclosure crisis in this package; and (B) you have talked a little about it, Dr.

Furman, so maybe Dr. Feldstein, a longer-term structural package?

Dr. FURMAN. I think those two ideas you have would be very

sound ideas to deal with the housing situation, and ones that could

be usefully included in the stimulus bill.

Dr. FELDSTEIN. I think on the housing, the idea of providing

funds for foreclosure prevention counseling may make sense. I really have not thought about it before, but I do not see any reason

why that would be a bad thing. How it would be done administratively, you have thought about more than I.

About increasing the conforming loan limits: the current limit of

$417,000 does not buy you a lot of housing in New York or California. But remember, nationally the average home purchase is

around $230,000. So, we are talking about putting taxpayer money

at risk for a relatively small part, a relatively concentrated geographic part. I would rather not see an expansion of Freddie and

Fannie. I think they have lots of problems.

As far as the longer term, I am very glad that you emphasized

splitting between what needs to be done in this legislation and

coming back to more fundamental issues on the spending side, the

transfer side, and on the tax side. There is certainly a lot of work

to be done on those.

The CHAIRMAN. Thank you, Senator.

Next, is Senator Stabenow. I might say, though, before you proceed, Senator, that it is my hope that we can move as you suggested, Senator Schumer, with trade adjustment assistance fairly

quickly, because that will help, too. Also, I very much agree that

we should be, right now, working on that second package that will

come along a little bit later. I do not think there is much disagreement that, in addition to the immediate stimulus now, that we

need something a little more long-term. Thanks.

Senator Stabenow?

Senator STABENOW. Thank you, Mr. Chairman. Thank you for

this hearing.

This is actually, I think, a very hopeful hearing in that we are

hearing a consensus forming that I think is very important for us

in terms of guiding us. We are hearing that we should focus on demand. I think that we are hearing that from people who come from

very different perspectives, which I think is very interesting. I

would agree with that. We have seen over the last 7 years, really,

50

a focus on the supply side as we talk about supply and demand all

of the time. We have seen that focus for the last 7 years on tax

policy and other policies.

What has happened, in fact, is we have seen more and more people, middle-income people, low-income people, stretched farther and

farther, losing income, losing jobs. Unfortunately, not all of the investment we have tried to stimulate is in American jobs. It has

gone, in a global economy, around the world. So now we find ourselves in a situation where Americans here need us to be focused

on their needs, and therefore helping our economy. So, I appreciate

the consensus.

I also appreciate, after having the CBO, Congressional Budget

Office, come before us and talk about food stamps and unemployment compensation, that certainly both of our witnesses today

agree on food stamps. There is a disagreement on Unemployment

Insurance, but on food stamps I am hearing an agreement that it

is an immediate stimulus. Someone gets additional help for food

and they are going to go immediately to the grocery store and buy

food for their family. So, I think that is an important part of the

testimony today.

Mr. Chairman, I want to thank you for raising Unemployment

Insurance. Coming from the State right now with the highest unemployment in the country, 7.6 percent, I appreciate the fact that

we are looking at what was done in 2002 in terms of this stimulus

package, and including that.

When you mentioned that 4 out of 10 people who are currently

unemployed are receiving Unemployment Insurance, that means 6

people are not. They are looking for jobs, as are the 4. I can testify,

from a very different perspective, that the small amount of people

receiving Unemployment Insurance is not stopping them from looking for a good-paying job that will allow them to keep their house

and to be able to support their family. So I am hopeful we will take

the recommendations of CBO and include Unemployment Insurance and food stamps as a part of the stimulus.

I did want to speak to something else, though, that we have not

directly talked about. We are talking about business incentives as

well, and I know those will be part of the package. When we look

at bonus depreciation or other kinds of business relief, it unfortunately translates into less revenue for States right at a time when

they are cash-strapped, with more people going onto Medicaid because of losing their insurance, and so on.

So I am hopeful that we will do what we did in 2003, what the

Congress did, what the White House supported, which is to include

some State fiscal relief of some kind. I would personally focus that

on Medicaid and insurance to at least allow an offset so we do not

put States in a worse situation by the business tax relief that is

being contemplated.

So we have not specifically talked about that, but, Dr. Furman,

I wondered if you might speak to the impact of the 2003 fiscal relief provisions on State behavior and access to health insurance

coverage for low-income families, the same people we are talking

about helping be able to stay in their home, be able to look for a

job, be able to get food stamps, and so on.

51

Dr. FURMAN. Right. By the time that passed in 2003, States had

already cut a substantial number of people from the Medicaid and

SCHIP rolls in response to their mounting deficits. I do not remember the exact number, but it was quite substantial. This time

around we have seen a number of States have already floated proposals to lower the income eligibility limits for those programs, but

we have not seen a substantial movement in that direction.

So, this time around, if you were able to act earlier, you could

actually prevent States from reducing the number of people who

are eligible for those programs before it actually happened as opposed to the experience in 2003, when I think it prevented a bad

situation from getting worse.

Senator STABENOW. Thank you very much.

Mr. Chairman, I hope we can have that on the table for discussion as we look at a balanced package. I see my time is up. Thank

you.

The CHAIRMAN. Thank you. Thank you, Senator, very much.

Senator Smith, you are next.

Senator SMITH. Thank you, Mr. Chairman.

Dr. Feldstein, Dr. Furman, thank you for being here. We appreciate your insights and your expertise and the time you are taking

to be with us.

Obviously the economy, for a number of years, has been running

along very well, but we have slowed to a jog and we may be walking soon, and hopefully we do not stop. As you look at this package

that we are developing, I suppose the reason for my support is, fundamentally, as one who registers on this side of the aisle, I think

this is an implicit, if not an explicit, admission that Washington

takes too much, and money left at home is better spent by people.

The economy works more efficiently when that is the case.

I guess the question I would have for both of you, and, Dr. Feldstein, you mentioned there is broad bipartisan agreement among

economists about the value of this injection of cash into the economy, it is 1 percent. Is that enough?

Dr. FELDSTEIN. We do not know. Remember, while there is a lot

of concern—and I share it—about the possibility of an economic

downturn, and perhaps a serious or deep one, it has not happened

yet. We are not sure that it is going to happen. We have a significant easing of monetary policy working to offset that. So, we do not

know how much of a fiscal stimulus we need, and that is one of

the reasons why I have talked about triggering it, or splitting it

and triggering the second phase of it. With good luck, the combination of things that I have referred to will mean that we do not have

that downturn and that 1 percent will be enough to do the job.

Senator SMITH. Do you have a thought about 1 percent, Dr.

Furman?

Dr. FURMAN. It would hit in the middle of the year, so it would

raise the annualized growth rate, what is typically reported, by

perhaps something on the order of 3 percentage points in the third

quarter. So, that would take a quarter that might have been negative 1 percent annualized growth and turn it to 2 percent annualized growth.

I agree, we do not know the precise number for a package, but

given the limited bad data we have seen so far, the uncertainty

52

about the future and the large amount of Federal Reserve easing

that is already in the system, I think it would be premature to go

higher than $145 billion.

Senator SMITH. Dr. Furman, you talked about FMAP. In the last

recession that we had in the late part of the Clinton administration, early part of the Bush administration, the States were crying

for FMAP. And we were in a recession. Senator Rockefeller and I,

in particular, were the authors of that and heled to broker that. We

are not in a recession yet. Is it too soon to pull the trigger on

FMAP?

Dr. FURMAN. As I said last time, I think it helped prevent a bad

situation from getting worse.

Senator SMITH. Then. But how about now?

Dr. FURMAN. Correct. I think now you have an opportunity

to——

Senator SMITH. To get ahead of it?

Dr. FURMAN. To get ahead of the curve, yes.

Senator SMITH. And so you think we will go into a recession?

Dr. FURMAN. We will go into a growth slow-down.

Senator SMITH. Slow-down.

Dr. FURMAN. And we have already seen State budget deficits

start to emerge, and States are already starting to make their

budgetary decisions under their balanced budget rules, and Medicaid cuts are——

Senator SMITH. Is that because a lot of States have really added

to baseline budgets with tremendous amounts of new spending in

the last 6 years?

Dr. FURMAN. I am not an expert on what has gone on with State

budgets, but my understanding is, there have also been tax cuts

over that period of time.

Senator SMITH. Another thing we did last time, we were about

cutting taxes, leaving more money in the American economy than

we were bringing in to the Beltway. I was the author of repatriation. As you gentlemen know, many of the companies that have

developed in the 1980s and 1990s now have foreign subsidiaries. In

2003, we did a repatriation so that they could bring those dollars

back at a 5.5-percent rate.

That produced, I think, conservatively, an infusion of cash into

those companies, into those employees, into research and development, the capital equipment investment of $350 billion. It also was

not a cost to the Federal Treasury. In fact, it probably accounted

for perhaps up to $2 billion of tax revenue to the Treasury.

Is that something that it is time to consider again, or would we

be better served to just simply lower the corporate tax rate, as Europe has now done? We are only exceeded in corporate tax rates by

the nation of Japan.

Dr. FELDSTEIN. Well, I favor lowering corporate tax rates in a

permanent way. I think that is not for this piece of legislation,

which focuses on the short run.

Senator SMITH. Of course.

Dr. FELDSTEIN. But the proposal to have one-time relief to bring

funds back from the rest of the world, as you did a few years ago,

does fit within the notion of a one-time change. As you say, this

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deed, it is worth saying also that the bonus depreciation, while it

costs Treasury money in the short run, any dollar of depreciation

that is taken now cannot be taken later.

So over the course of the life of that equipment, the investor gets

the same amount, same total amount, of depreciation and therefore

has the same total cost. It is delayed. That has a present value.

But in terms of the actual budget amounts, there is no net cost to

that bonus depreciation. That is also true at the State level.

The CHAIRMAN. Thank you, Senator, very much.

Dr. FELDSTEIN. But they lose in the short run.

The CHAIRMAN. Thank you.

Senator SMITH. May I ask one other, please?

The CHAIRMAN. We are really stretching things here, Senator.

Senator SMITH. I just have a question I am dying to ask you, Dr.

Feldstein. I was a great admirer of Milton Friedman. I thought his

contribution to economics was, frankly, remarkable. You worked

with him in the Reagan administration, perhaps unofficially.

Would he have supported this idea of a stimulus package?

Dr. FELDSTEIN. The last thing I want to do is to try to speak for

Milton Friedman. [Laughter.]

The CHAIRMAN. Senator Hatch?

Senator HATCH. Well, thank you, Mr. Chairman. We appreciate

both of you. Dr. Feldstein, it is great to have one of the world’s

greatest econometricians here trying to help us, and we have appreciated how Dr. Furman has helped during the Clinton administration.

Dr. Feldstein, I find your conditional stimulus tax cut with a

trigger concept pretty interesting. As far as I know, this idea has

never been passed through Congress, although there have been

some discussions on tax cut triggers in connection with meeting

deficits.

Now, do you see any down side risk to such a plan if we were

to do it? You mentioned that such a mechanism would serve as another automatic stabilizer to our economy. Given this, shall we consider putting such a plan in place on a permanent basis, both to

lend confidence and to speed up economic relief whenever it is

needed?

Dr. FELDSTEIN. I do not see a downside risk. I do not see a disadvantage to it. It seems to me it would increase confidence and

it would eliminate the long legislative lags that so often have made

it difficult to get a fiscal stimulus package in time.

Senator HATCH. Which we are dealing with here.

Dr. FELDSTEIN. Exactly.

Senator HATCH. Everybody has been testifying.

Dr. Furman, what do you think of that idea, Dr. Feldstein’s idea

for a conditional stimulus package triggered by a 3-month decline

in payroll employment as the triggering event?

Dr. FURMAN. Yes. My colleague, Doug Elmendorf, and I studied

this and wrote about it in a recent paper, which we can make

available to you. I think it is a good idea. I think if you look back

at the history of business cycles, it would have delivered very welltimed stimulus in most of our previous experiences.

I think right now the situation in the economy is unusual and

deteriorating rapidly enough that I would at least make the first

54

tranche of this stimulus unconditional and as fast as you could do

it as possible, maybe teeing up a second tranche of stimulus that

you would pass today and would only go into effect if something

like Dr. Feldstein’s triggers were reached.

Senator HATCH. That is interesting.

Dr. Feldstein, you mentioned in your testimony that the size of

the stimulus package should be large enough to cause a change in

spending behavior and that $50 is too small, but $500 should not

be ignored, or would not be ignored.

Now, I have heard other economists say that generally only permanent changes in income will change consumers’ behavior, and

that one-time tax rebates, by their nature, will mostly be saved and

not spent. Will a tax rebate be effective in stimulating the economy?

Dr. FELDSTEIN. There is a lot of economic theory that says a onetime rebate does not get spent and there is a lot of empirical evidence that says that is wrong, that a one-time rebate does get

spent. It may not get spent as much as a permanent increase in

income. If I know I am going to get another $100 a month in income for many years, I will probably end up spending $90 out of

that, or maybe even more.

But a one-time $500 rebate, the statistical evidence suggests

probably half, or slightly more than half of that will get spent and

get spent pretty quickly. So I think that the worry that only permanent changes add to demand is more a theoretical than an actual worry.

Senator HATCH. You mentioned that bonus depreciation has been

helpful in the past in stimulating the economy. If you were writing

a stimulus bill now, how strong a bonus depreciation incentive

would you put in that bill? Would you make it applicable to both

large and small businesses?

Dr. FELDSTEIN. I would certainly do something for small businesses. I am not sure that I would do it in the form of bonus depreciation as opposed to just raising the cap on the amount that they

can completely write off immediately. But what was in the legislation in, was it 2002 or 2003, I think 50 percent could be written

off in the first year and then the rest depreciated in the normal

schedule. I thought that captured the interest of businesses and it

did lead to a speeding up of investment.

It is very important that there has to be a time table on it, so

you say investment that is done in the next 12 months will get

bonus depreciation, after that you do not qualify for it. So, a lot of

firms will say, ‘‘Well, you know, we have these projects that we

were thinking of doing, let us get them done fast, put that extra

spending in.’’ That puts demand of a different sort into the economy than the demand that comes from households who get extra

cash.

Senator HATCH. Thank you.

Thank you, Mr. Chairman.

The CHAIRMAN. Thank you very much, Senator.

Senator Snowe, you are next.

Senator SNOWE. Thank you, Mr. Chairman.

55

I want to thank both you, Dr. Feldstein and Dr. Furman, for

being here today and giving us your thoughts and the benefit of

your longstanding and outstanding experience.

Dr. Feldstein, on the business side, as the ranking member of the

Small Business Committee, I have been a strong advocate of including the small business expensing, as well as the net operating

carry-back. Dr. Orszag, the other day, the Director of CBO, indicated that they could have a good effect integrated because, it

would be expensing focusing on those businesses that have some

income to make investment, and the net operating carry-back on

those that do not that can reach back further. Would you agree

with that in terms of the short term and having an impact in that

respect?

Dr. FELDSTEIN. I would agree with it, but I would put more emphasis on the forward-looking part, on the bonus depreciation rather than on the carry-back.

Senator SNOWE. You think the carry-back would have less effect

in that respect?

Dr. FELDSTEIN. Yes, because a lot of it presumably would go to

businesses that are basically healthy, that have experienced a loss,

but that fortunately are not about to become bankrupt, not about

to go out of business. So for them, it is just putting some more

money in the bank, improving their balance sheet. It does not

change their incentives. While the bonus depreciation says, get

your act together, figure out how you can do some of that investment spending that you are otherwise putting off, because it will

be cheaper for you to do it now.

Senator SNOWE. Well, I think the emphasis on small businesses

is critical because they create two-thirds of all jobs in America and

they represent 99 percent of employer firms. So it is, I think, essential to have that focus.

Dr. FELDSTEIN. And I think for them, simplicity is important.

Senator SNOWE. Yes.

Dr. FELDSTEIN. Complicated rules that they have to go and ask

their accountant to explain, that is not very helpful. Something

that says, you can now get a much larger one-time complete writeoff, they can understand and move quickly to take advantage of.

Senator SNOWE. Absolutely.

Dr. Furman, in the report that you co-authored, you talked about

the net effect of the past rebates—I do not know if it was the

2003—in terms of the impact they had on growth in our economy

and the GDP. And using it hypothetically, the 1 percent of the

GDP, which is about $140 billion, would have an increase in several consecutive quarters with a 1-percent increase in GDP. Is that

right?

Dr. FURMAN. That would be a 1-percent increase in the level.

Senator SNOWE. In the level.

Dr. FURMAN. It would actually show up as an even higher increase in the annualized growth rate in the first quarter that it hit.

Senator SNOWE. So making the assumption—we obviously have

not heard all the details of the package that might have been

agreed to between the President and the leadership—if you are

using $70 billion of that $140 billion for tax rebates, do you think

56

it could still have that impact? Or how much of an impact would

it have on growth?

Dr. FURMAN. Well, $70 billion would have half the impact that $140 billion would have.

Senator SNOWE. Half. Yes.

Dr. FURMAN. Then the question is whether the business tax incentives have an impact. I think, in theory, they could. I think in

practice, when you look at, for example, surveys of people, the business decision-makers in 2002 and 2003 said it did not actually affect their decisions about investment.

Dr. FELDSTEIN. Businesses always say that. They say, I do things

for sound business reasons and I am not drawn by mere taxes to

do things.

Senator SNOWE. Right.

Dr. FURMAN. Right.

Dr. FELDSTEIN. I think confidence is very important. Economists

do not have a variable for confidence to put into the models.

Changes in the rules that cause people to think the government is

taking it seriously, the Fed is taking it seriously, I think, can bring

about an increase in confidence which leads to more spending by

households and more spending by businesses, and we should not

forget that.

Senator SNOWE. All right. I think that is right, and especially the

combination between the interest rate cuts, as well as a stimulus

package. The question on affecting growth and tax rebates, I was

a strong believer in the refundability. Senator Lincoln and I have

been advancing in the Child Tax Credit, to extend that, because it

is now indexed to inflation and it has undermined the income

threshold. The fact is, if we had passed it last year, that money

would have been in the hands of the low income, ironically. Unfortunately, it did not happen.

But in this case, if it was more directed to low-income, the balance of that rebate, in your opinion does it make a difference or

not in terms of affecting the economy and behavior?

Dr. FURMAN. I think it would have a better effect on the economy

for any given dollar you spend on rebates if you direct it to lowincome households, and there is a substantial amount of economic

evidence agreed to by a broad spectrum, but not every single economist would say that.

Dr. FELDSTEIN. Remember the numbers in your written testimony, in Dr. Furman’s written testimony, are that instead of getting a $1 increase in GDP by having this broader distribution, the

best estimate might be $1.25. So, it is not a big difference. Despite

the statistical precision that the published article that he referred

to talks about, I think the uncertainty about it is really very substantial.

So I think a cleaner bill that says if you pay taxes you get your

money back, but there are also poor people whom we can reach

with food stamps, or with TANF, or with SSI, is a better way to

go. Extending unemployment benefits—the number of people who

are at 26 weeks or higher is about 1 percent of the labor force. The

number of people who get food stamps is in the tens of millions.

So you are really talking about being able to reach a much broader

group, and indeed the long-term unemployed are not necessarily

57

poor. Not that they are well-off, but that is not a way of targeting

the money at those who are poorest.

Senator SNOWE. Well, I will tell you, in speaking to that point,

a woman in Maine told me recently that she had three jobs: one

to pay for the mortgage, one to pay for the oil, and the third to pay

for gasoline to get to the other two jobs. I think that underscores

the dramatic and dire situations that so many people are facing

today.

Thank you.

The CHAIRMAN. Thank you, Senator, very much.

I would like to go back to an earlier question that I said I was

going to ask, namely about cash transfer payments and the degree

to which you think that should be part of this package.

An earlier question is, what is the high and low in the total

amount you think should be in this package? The President starts

at $145 billion. Some suggest maybe a little more, given the greater expectation of maybe a deeper problem in the market, in the

economy, maybe it should be slightly higher. But what is the low

and the high? Just very, very quickly, because I have lots of questions.

Dr. Feldstein?

Dr. FELDSTEIN. We do not know how deep the hole is going to be and we do not know how much $100 billion would do to fill a

given-sized hole.

The CHAIRMAN. Your best guess.

Dr. FELDSTEIN. We do not know what the fiscal multiplier is.

The CHAIRMAN. Your best guess.

Dr. FELDSTEIN. I am happy with a round number on the $100 to $150 billion order.

The CHAIRMAN. All right.

Dr. Furman?

Dr. FURMAN. I am happy with the $145 billion, and I would be

worried about going higher because, if the situation is less bad

than we think, Congress is not going to ever undo that fiscal stimulus in the way that the Fed would actually undo their monetary

stimulus.

The CHAIRMAN. All right.

Now, what portion should be cash transfer payments? What percent, roughly?

Dr. FURMAN. I think I would say about $100 billion of that total.

The CHAIRMAN. One hundred out of the total of $145 billion?

Dr. FURMAN. Yes.

The CHAIRMAN. In cash? I am talking about cash.

Dr. FURMAN. This is tax rebates.

The CHAIRMAN. No, I am not talking about rebates.

Dr. Furman. Oh.

The CHAIRMAN. Other than rebates.

Dr. FURMAN. Oh. You mean food stamps and things, like unemployment?

The CHAIRMAN. Food stamps, SSI, and all of that.

Dr. FURMAN. Oh, maybe about $20 billion.

The CHAIRMAN. Twenty out of roughly $145 billion?

Dr. FURMAN. One hundred and forty-five. Yes.

The CHAIRMAN. All right.

58

Dr. Feldstein?

Dr. FELDSTEIN. That is a distributional call. It is a political call.

I do not think, as an economist, that is going to make a significant

difference in terms of the stimulus of this. So, I think it is a decision of how that works out on a per-person basis for the groups

that you are going to be able to reach through transfer payments

that you are not reaching through the tax rebates.

The CHAIRMAN. All right.

But you did say that there should be some transfer payments.

Dr. FELDSTEIN. Yes, I think there should be.

The CHAIRMAN. From an economic perspective.

Dr. FELDSTEIN. From an economic perspective—I think more

from a fairness perspective, perhaps, than from a straight macroeconomic stimulus perspective. I do not think that there is that

much of a difference between what you will get if you put $140 billion into across-the-board tax rebates and what if you put, to take

Dr. Berman’s number, $120 billion into tax rebates and $20 billion

into food stamps and increases in SSI. But I would still favor that

broader distribution.

The CHAIRMAN. All right.

Dr. Furman, Dr. Feldstein throws a little cold water on UI. I will

give you a chance to comment on that.

Dr. FURMAN. I am happy to do that. I think he is right that you

always need to strike a balance between protecting people from the

hardships in life and making sure you are not taking away an incentive for them to get back up on their feet and find another job.

The optimal place to strike that balance depends on the situation

in the economy. If the economy is performing really well, then 26

weeks might be the right place to strike that balance. If the economy is performing less well, you want to change the place that you

strike that balance. Right now, the best indicator of how the economy is doing for this question is the long-term unemployment rate,

and that is nearly twice as high as what it was going into the last

recession.

Historically, as you know, in virtually every recession, Unemployment Insurance has been extended. It was something the

President himself proposed on a more limited basis in the wake of

9/11, and on a larger basis in September of 2002.

Finally, I think a very important consideration in thinking about

it is to understand what would happen if you did not do it. The

Disability Insurance program is becoming the de facto long-term

Unemployment Insurance program. When people get on Disability

Insurance they tend to stay on Disability Insurance. If you do not

extend Unemployment Insurance, you will end up with larger Disability Insurance rolls and a long-term impact on the economy in

terms of incentives to work that could potentially be far worse than

anything one might worry about.

The CHAIRMAN. Well, getting on Disability Insurance takes a

long time, too, these days.

Dr. FURMAN. It takes a long time.

The CHAIRMAN. Is there any area where the two of you agree on

Unemployment Insurance? If you were to get together and say, all

right, let us compromise on something that makes some sense,

what might that be?

59

Dr. FELDSTEIN. I do not think it would be on extending the duration, even though I know that has been the traditional policy, because there is a lot of evidence now that, as people get close to the

26th week, suddenly the job finding goes up pretty dramatically.

People settle for the less-than-perfect job than what they were

holding out for.

The CHAIRMAN. What about the amount, increasing the amount?

Dr. FELDSTEIN. The question is, could you increase the amount

without increasing—I think you could increase the amount in a

way that would be helpful, but I would worry that it not be done

so that it increases the ratio of UI benefits to past wages. So, I

would take up the ceiling.

The CHAIRMAN. All right. My time has virtually expired.

Senator Wyden?

Senator WYDEN. Thank you, Mr. Chairman. This has been an excellent hearing, and I thank you for it.

Both of you have made a number of interesting comments today

with respect to the psychology of consumers and confidence. I was

struck by your comment, Dr. Feldstein, and I think I largely share

it, that, if a rebate program is passed, people might actually start

spending before the check arrived. You can debate that, but I think

you are on solid ground there.

I want to relate this to the health care issues. My sense, particularly if you look at what people on these talk shows are saying,

they say that Congress cannot run a two-car parade, let alone do

anything significant like fix health care.

We have now a bipartisan group of Senators, 12, 6 Republicans,

6 Democrats, who have in effect said the Democrats have been

right on the coverage issue, you have to cover people because otherwise the uninsured people shift their bills to the insured people,

and Republicans have been right about markets, the tax code, and

private sector choices, things that Republicans have felt strongly

about.

My question to you is, when the country and the markets see

that Congress is getting serious about major issues like health

care, which we all know is going to gobble up everything in sight,

is there a sense that the markets are going to start reacting favorably to something like that?

I have been talking to people in the financial community and

they think, because health care is so important, that, if the markets really see that for the first time in decades there is unprecedented effort to be bipartisan, that is going to start rippling

through the financial community. I would be interested in both of

your thoughts on it. Dr. Furman, do you want to start? Dr. Feldstein? Either one.

Dr. FURMAN. It is actually interesting. One of the things that

your proposal does is change the tax treatment for health insurance along the lines of what Dr. Feldstein’s research, I think, 35

years ago, was talking about and proposing. I think there are a

number of health reforms that could improve the functioning of the

economy, making it more dynamic, people more able to shift between jobs, have the type of security they need to take risks.

I think a certain amount of that is inhibited by what we have

today, either failures in the market or active failures in governVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00063 Fmt 6601 Sfmt 6601 53865.000 SFIN1 PsN: SFIN1
60

ment policy, like the way we structure the tax treatment for health

insurance today, which gets in the way of some of that happening.

So, I think it is a very fruitful avenue for——

Senator WYDEN. Dr. Feldstein, the markets. Dr. Furman is right,

we have really cribbed on some of your thinking from decades ago.

I mean, you started arguing that the system that was created in

the 1940s by accident, because we had wage and price controls,

really has not kept up with the times either for the employer or

for the employee. What our group is trying to do is see if we can

modernize that relationship, have a more portable product, more

choices for workers, and get some relief to the employers. We thank

you for your previous scholarship. Dr. Furman sort of set me up a

little bit in terms of his comments.

Do you not think, though, by way of psychology, that the markets

are going to start reacting and reacting positively when they see

a serious bipartisan effort on this?

Dr. FELDSTEIN. It sounds like I would like a lot of the substance

of your proposal, but frankly I do not know the details.

Senator WYDEN. Apart from that.

Dr. FELDSTEIN. I would love to know more.

Senator WYDEN. Yes. Yes.

Dr. FELDSTEIN. There are a lot of good reasons to do it. The market’s reaction, if you get a favorable reaction from the markets,

that would be a bonus. I do not know how seriously the markets

will respond to it, but it cannot be bad news for the markets.

Senator WYDEN. I am going to be consulting with both of you,

and the chairman has been very gracious in terms of his time. I

am very pleased you are going to be holding these hearings as well.

Senator Baucus and Senator Grassley will be leading us on it.

I think that, clearly, the country is waiting for leadership on the

big issues, on health care, on the question of energy policy. Fortunately, Senator Baucus and Senator Grassley work in a bipartisan

way on it. What I have been picking up relates to the psychology

that you talked about, Dr. Feldstein, that people want to have

some certainty and predictability that there are going to be some

positive developments. When they think that is coming, they go out

and make a bunch of investment decisions that are positive for

marketplace economics. So, you all have been a very good panel.

Mr. Chairman, there was some back-and-forth, I guess, about

whether you had chosen two good witnesses. But I want to commend you for your selection, because I think it was a very good

panel.

The CHAIRMAN. Well, thank you, Senator. I would agree. I was

about to say how much I appreciate, and I know the country appreciates, your service, in addition to just very, very highly competent,

intelligent, independent objective analysis of our Nation’s economy

and the ideas you have as to what should be done about it. I thank

you very, very much for your testimony here today.

Senator Snowe?

Senator SNOWE. Thank you.

Just very quickly, Dr. Feldstein, some of us who have been

around long enough to remember the old counter-cyclical program

that provided assistance to State and local governments back in

1981, 1982, and 1983, and you were chairman of the Economic AdVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00064 Fmt 6601 Sfmt 6601 53865.000 SFIN1 PsN: SFIN1
61

visors for President Reagan then. Did that have any impact? Because that had a trigger mechanism of a different kind. I am intrigued by what you are proposing, to have it in place so it——

Dr. FELDSTEIN. I would have to go back and look at the evidence

on that.

Senator SNOWE. Yes.

Dr. FELDSTEIN. It is, as you say, 25 years ago, and I honestly

cannot remember.

Senator SNOWE. It was providing, I think, $1 billion each of those

3 years. I think there were two consecutive quarters of negative

growth. So I do not know if it was late or not to help State and

local governments to stabilize their own fiscal situation because of

their balanced budget requirements and providing more liquidity.

I would be interested in that because I think it is interesting

about, what could we put in place that is limited and targeted, but

again has the effect of moving quickly without hesitation if it is

structured appropriately?

Finally, on the timing, what is the outside in terms of enacting

this and having an impact on the economy? What would you consider the outside time limit here when we are talking about getting

this completed by the President’s Day recess in February? I know

Chairman Bernanke indicated that, to have the maximum aggregate impact on the aggregate spending within the next 12 months.

Do you think that that is the right time frame?

Dr. FELDSTEIN. Certainly the sooner the better.

Senator SNOWE. Yes.

Dr. FELDSTEIN. We do not even know that the economy is going

to slide into recession. If it does, we do not know how deep and how

long. But the sooner you have a fiscal stimulus enacted, changing

psychology as well as changing cash flow, the sooner it can start

to work to either prevent or dampen an economic downturn.

Senator SNOWE. Dr. Furman?

Dr. FURMAN. I think the sooner, the better. I think the motivation for this year is that the Federal Reserve has a lot of monetary

easing that will take its time to work its way through the economy,

but by 2009 there will be substantial stimulus from what the Federal Reserve has already done. The concern we have is more towards the middle of this year. I also agree that we have talked a

lot about confidence, and seeing something happen that was effective and quick would, I think, inspire confidence in financial markets for the business community and consumers more broadly.

Senator SNOWE. All right.

Dr. FELDSTEIN. We agree on so much that I hate to spoil that by

disagreeing on a technical issue. But I think we cannot be sure

about how effective the monetary policy is going to be, and that is

why I came to the conclusion 6, 7 weeks ago and testified then that

we ought to move in a fiscal direction. Because the credit markets

are so clogged because of these confidence factors, it is just not

clear that lower interest rates by the Fed are going to have the

same kind of traction that they have in the past.

Moreover, the way in which easing monetary policy has often

worked is by stimulating housing. It is not clear we are going to

do a lot of stimulating of housing in the next 6 or 12 months. So

62

I think finding other ways of putting aggregate demand into the

economy through the fiscal route becomes more important.

Senator SNOWE. Speaking of policy——

Dr. FURMAN. I think that is probably a more academic disagreement that does not lend itself to different views on the policy questions this committee is dealing with.

Senator SNOWE. On the policy.

Finally, speaking of housing, there is going to be another major reset of adjustable rate mortgages of approximately $680 billion,

perhaps in early spring if not sooner. What impact do you think

that would have, or do you think it has already been calculated

into the equation in terms of the economic situation?

Dr. FELDSTEIN. It is going to be a negative.

Senator SNOWE. It is going to be a big jolt.

Dr. FELDSTEIN. For the people who can afford to pay those higher

interest rates, that is going to be cash out of their pockets. For the

people who cannot afford it, that is going to increase the number

of defaults. And again, this situation is unusual because house

prices nationally are declining, and so the temptation to take the

keys back to the bank and say, keep your mortgage, keep the

house, I am going to go buy myself another one at a lower price,

will be very great. Or I am going to go rent an apartment until this

housing market becomes more affordable.

Senator SNOWE. Thank you.

Thank you, Mr. Chairman.

The CHAIRMAN. Thank you. Thank you, Senator, very much.

The Dow Jones, I think, is up about 38 at this moment. It was

up 300 yesterday, even though it was supposed to be Black Tuesday, with the Fed’s announcement prior to the opening market yesterday. That clearly had a salutary effect.

So the basic question is the degree to which we should proceed

here, somewhat independent of the market. That is, how deep are

the potential economic problems, or how important is it to have a

fiscal stimulus here is somewhat independent of the gyrations of

the market. That is my question.

Dr. FELDSTEIN. I would say yes. I mean, until the market sold

off the other day, the big puzzle was, why is the market so strong

when there is growing evidence of weakness in the economy? So

you cannot let the stock market make your macroeconomic policy.

The CHAIRMAN. Thank you.

Dr. FURMAN. I agree. The Federal Reserve, to some degree, needs

to factor that in. That is because they can move very quickly, and

then un-move very quickly, for example, what they did with longterm capital in 1998. Your fiscal policy is much less frequent, and

as a result should be entirely focused—and theirs should still be

mostly focused—on the real underlying economy statistics like jobs,

the unemployment rate, GDP, consumer spending, all of which

were quite negative in December but have not been negative for a

very long period of time.

The CHAIRMAN. While I have you here, I would just like your

thoughts on a related subject. It is my understanding that in 1991,

the bank deposits in the U.S. were about $10 trillion. Today, it is

about $10 trillion. The difference is, the structured financial products’ value is about $20 trillion, where there are no capital requireVerDate 11-MAY-2000 16:02 Feb 01, 2010 Jkt 000000 PO 00000 Frm 00066 Fmt 6601 Sfmt 6601 53865.000 SFIN1 PsN: SFIN1
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ments, no margin requirements, et cetera. The total amount of

credit default swaps is in the trillions.

I am just curious about your thoughts on whether we should be

nervous about all of that, or looking at that, or what do we do

about all of that? Is that a factor, and so forth, or not?

Dr. FELDSTEIN. You should be nervous about it. Somebody should

be holding hearings about it, whether it is this committee or others. Some of it has been generated by the kind of regulatory framework that was put in place that encouraged banks to put things offbalance sheet because the capital requirements associated with it

were low, the so-called SIVs.

There was a lot of talk about how the banks were well-capitalized. That ignored the fact that there was this potential need to

take these off-balance sheet items onto the balance sheet. So I

think that we have created some serious problems, and somebody

ought to be asking. It is not that all this happened outside the normally regulated sector of the financial institutions. These are the

major money center banks that were creators and holders of SIVs.

So, I think it is a serious problem, and I think it is something that

needs some further thought.

The CHAIRMAN. I appreciate it.

Dr. Furman?

Dr. FURMAN. I think no one understands the full extent of it, and

anything that could help move us closer to that would be particularly helpful. It is still my hope that the losses in the financial system are lower than what we saw, for example, in the 1980s and

in some previous banking crises that we have experienced. But one

of the problems we have is, no one knows what the magnitude of

those losses is.

The CHAIRMAN. All right. This has been a very constructive,

fruitful hearing. Thank you very, very much, both of you.

Dr. FELDSTEIN. Thank you very much.

Dr. FURMAN. Thank you.

The CHAIRMAN. I again repeat, this committee will be holding a

markup on our own stimulus package bill next week. Thank you

very much.

[Whereupon, at 11:41 a.m., the hearing was concluded.]

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