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Silly Stimulus

Now that the popping of the housing bubble is beginning to be felt in the broader economy (thanks to last summer's seizing up of credit markets), politicians are falling over themselves to be the loudest proponent of a fiscal stimulus plan.

Right now, President Bush is said to want an income tax rebate that would be generated by eliminating the 10 percent tax bracket, which applies to roughly the first $8,000 of income for single filers and the first $16,000 of income for married couples filing jointly.

That would mean taxpayers could get rebates of up to $800 if single, or $1,600 if married.

But neither President Bush in his statement nor Paulson in a briefing afterwards would confirm that amount. "I don't want to play bigger than a bread box," Paulson told reporters. "The president is focused on broad-based tax relief for those paying taxes." [source]

I want to be absolutely clear that I am completely in favor of this stimulus plan — I want my $800 back. (And if I were emperor, I would get rid of more than just the 10% tax bracket!) At the same time, I know that this stimulus plan won't achieve its stated purpose. This is one of those cases where bad economics makes people support a good thing for the wrong reasons.

The economics of this issue are very confused in the popular media. The great worry of various pundits is that people might not spend their whole tax rebate, and if they don't spend it it won't help the economy. This reasoning is totally backwards. Government spending is pure consumption. If the goal of the stimulus is to see those funds applied to consumption instead of savings, the government should keep the money!

Of course, it's not about consumption in the aggregate. (It never should be. Aggregation is the source of many economic confusions.) Government spends money on different things than individuals do, so the rebates will have a genuine economic effect. They will boost the revenues of companies that sell consumer's goods at the (relative) expense of other companies. Whatever part of the rebates is invested instead of consumed — and it will be a lot — will contribute to future production, which is good for the economy. (Yes, sadly, some of that will prop up malinvested businesses and allow them to avoid liquidation a little while longer. However I do not worry that businesses will mistake this one-time stimulus for a genuine reduction in the rate of originary interest; i.e. it won't reinflate a bubble.)

I'm completely in favor of diverting funds from wasteful government consumption to beneficial individual consumption and especially to productive investment. I specifically believe that individuals using their rebate to pay down debt is a good thing, too.

The economic benefit is that it increases the weight of individuals' spending preferences relative to government's spending preferences. The economic benefit is not that it increases consumption spending.

And it's not going to be enough to avert a recession.

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