The Politics Versus Common Sense of Sending Checks to the Middle Class

Saturday, November 8, 2008

This is another (the first, actually) in my series on “Just because you know how to run for President doesn’t mean you’ll know what to do when you get there.” President-Elect Obama continues to like the idea of sending checks to everyone in the so-called “Middle Class” as a means of encouraging an economic recovery. I’ve heard mention of amounts as high as $100 billion.

Wait… Before I go any further, it’s important that you understand that this isn’t a partisan piece. Party affiliation and whether or not you’re liberal or conservative have nothing to do with it. What it’s about is the practical, common sense need for us to spend money where it does the most good – notwithstanding the political implications. The objective is, or should be after all, to use as little as possible to accomplish as much as you can to help the economy do what it does best by itself, but faster and with less adverse consequences.

Economics has always been the science of the allocation of scarce resources. Government attempts to influence the economy are no different. And if, in the process, you can affect its character, if you can change the economy, not to make it into something it isn’t per se, but to make adjustments which a lack of competition and other anomalies might have prevented, well then, this is your chance. Use the opportunity, but use it wisely or you’ll be screwing up royally. The prospect of saving our auto industry is a good example of just such a situation – but this piece is about the simplest use of fiscal policy.

What’s wrong with sending a check to everyone in the Middle Class? By “Middle Class,” let’s assume they mean “most of us,” and not quibble over precise definitions. The point I’m about to make is powerful enough on its own. Sending everybody money is easy, but does it accomplish our objective?

Personal income, according to the government, is running at about $12.25 trillion. That, according to the BEA (Bureau of Economic Analysis) is the “seasonally adjusted annual rate” for September 2008. For every $100 billion we send out, in gross terms that’s only 8.16 tenths of one percent of total personal income. It’s the proverbial “drop in the bucket.”

Good news, though, there are what are called “multiplier effects” that amplify the impact of any money we hand out. You buy something at the mall or on-line, the people who get paid as a result of what you purchased buy something, and so on until the ripples of the splash you made finally dissipate. Let’s assume the multiplier is, I don’t know, 5. I suspect that’s wildly high, and varies dramatically depending upon the specific spending stream we generate, but it’ll do for the sake of discussion. Five times 8.16 tenths of a percent is only is 4.08 percent of total Personal Income, but is it enough to slow the pace of the down turn, let alone turn the economy around and speed up the recovery. Remember Newton’s law about how an object at rest tends to stay at rest, while an object in motion tends to stay in motion? (Who said physics had nothing to do with economics?) Well, just how much force do you think it will take to affect the course of a huge and highly complex economic organism that is producing a Gross Domestic Product of $11.7 trillion? Will $100 or even $500 billion do it? Not likely, and only if it’s perfectly positioned, a point which I’ll explain in moment.

Even worse, a multiplier effect only happens if the first people who receive the incentive spend the money. There are more than 100 million household in the United States according to the Census Bureau. Per $100 billion we send them, that’s $1,000 a piece. Now, a thousand dollars is, well, a thousand dollars and I’m not turning it down, but what, precisely, am I going to do with it? I’m scared. The economy is tanking. I don’t have any savings, and too much credit card debt, student loans and a mortgage. Yikes! The point is, not to make the least bit fun of what is a very serious situation, it’s not at all clear that Americans receiving this incentive money won’t either just save it and/or use it to pay down some of the debt they’re carrying – and there goes your multiplier effect. In fact, there goes any effect at all.

Maybe you think that just the act of sending out all those checks will encourage business people to rehire, that the program’s impact on consumer and entrepreneurial confidence is really the objective – to which I say, “You’ve never had to make a payroll, have you?” If anything, rehiring and increases in consumer spending based on consumer confidence tend to lag behind the dollars and sense facts of the recovery. They help most when the fundamentals of recovery are already in place, but consumers and businesses are still a bit skittish about getting back to where they were before the recession.

Here’s the deal. If you’re going to attempt to affect the US economy by spending only a few hundred billion dollars for direct cash payments to consumers, it’s got to be entirely about leverage, about focusing your limited dollars where they are likely to do the most good. However much easier, you can’t just spread it around. You’ve got to give it to the people, to the specific households who are most likely to spend it – who have what used to be called the highest “marginal propensity to consume.” Equally important, you need to give them the money in a way which encourages them to spend those dollars in a manner which will have the greatest, most immediate impact on the economy – the highest multiplier effect.

What does that mean? It means, quite simply, that we need to give the money – not just a $1,000 per household – but much more, to concentrate the money we do spend on those households who, because they’re unemployed or otherwise under-spending for lack of income, are most likely to spend what we give them. And it also means that we need to give people – but not necessarily the same households – the direct support they need to buy the goods produced by sectors of the economy which are struggling, such as housing and automobiles, for example. (It’s certainly smarter and a whole lot cheaper than trying to bail out the corporate giants in those industries.)

Okay, you read what I wrote. Does it still make sense to you to disperse $100 billion or more of your tax dollars, to increase our national debt by giving every household some relatively small amount of money, across the board? No, at least I hope not. It’s almost the last thing you want to do, however easy and politically popular. Is it the best our economic advisers, Congress and the new President-Elect can do?

Unfortunately, it still makes politically good sense. It may be a useless, wasteful program, but it still makes good sense in the context of bad government. Giving some money to everyone quickly makes it look like they’re doing something. If the economy recovers, then President Obama and the Democrats in Congress will take credit for it. If the economy doesn’t recover soon enough, well then, it was obviously in worse shape than anyone anticipated. At least they tried, albeit not hard enough. And what is the only real analytical tool we have to determine the effect of such a program? Simple coincidence. We (our government) did something and the economy recovered. What we did must have been the reason. Did you know that, every morning I get up, the sun rises? Don’t worry. I promise I won’t let it go to my head.

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