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Obama stimulus plan no sure fix for economy

Barack Obama and his congressional allies are gambling that the largest public spending program since World War II and a new round of tax cuts will pry the U.S. economy from the recession's iron grip and avert another Depression.
/ Source: The Associated Press

Barack Obama and his congressional allies are gambling that the largest public spending program since World War II and a new round of tax cuts will pry the U.S. economy from the recession's iron grip and avert another Depression.

But what if they're wrong?

Some conservative economists say that additional stimulus may only prolong the grief at best, triggering runaway inflation down the road and resulting in an even more bloated federal bureaucracy.

"I think the economy will recover regardless of what Washington does. But the long-term effect here will be to reduce the standard of living of the next generation because they will be saddled with all this debt," said Chris Edwards of the libertarian-leaning Cato Institute.

Even without the new spending proposed by Obama, the U.S. has a $1.2 trillion budget deficit this year, he noted. "If that isn't already enough of a Keynesian stimulus, what is?"

Early 20th-century British economist John Maynard Keynes argued that the government should intervene to avoid depressions by increasing its own spending and controlling interest rates. President Franklin D. Roosevelt based many of his New Deal spending initiatives on Keynesian theory.

But not all economists and politicians subscribe to that world view.

While there is broad support for some kind of major stimulus, the skeptics offer this as Exhibit A: The trillions hurled at the problem last year by Congress, the Bush administration and the Federal Reserve have yet to yield many tangible results.

Unemployment continues to climb, reaching a 16-year high of 7.2 percent in December and is expected to keep on rising through 2009. U.S. manufacturing remains in a serious slump. The decline in consumer spending in late 2008 is expected to continue.

Home values keep eroding
For many people, loans are hard or impossible to obtain. Millions of retirement accounts have been slammed by sharp stock market losses. Financial collapses, bailouts, rescue plans, foreclosures and profit reversals litter the landscape.

"What in September began as an emergency response to stabilize our financial markets has morphed before our very eyes into a string of taxpayer funded bailouts," said Rep. Spencer Bachus of Alabama, the senior Republican on the House Financial Services Committee. "Trillions of dollars in taxpayer backed guarantees and loans have been extended."

In short order last week, Congress cleared the way for a new $350 billion installment of bailout cash for the financial industry while House Democrats rolled out details of a $825 billion two-year stimulus package incorporating most of Obama's priorities. About one-third of it would go to tax breaks, with the rest to government spending. The plan could reach $1 trillion by the time Congress sends it to Obama's desk.

Allen Sinai, president of Decision Economics, a Boston-area financial consulting firm, said that even with Obama's aggressive spending program, the economy seems unlikely to show a true recovery this year in terms of sustainable gains by consumers and businesses.

"There are forces going on that are 1930s-like," Sinai said. "There is incredible asset deflation, a huge loss in wealth by households. In the '30s, even when funds became available from the financial system to borrow, the pessimism by consumers and businesses was so great that no one wanted to spend." Sinai wouldn't rule out a repeat of that mind-set.

'It's not too late'
Some economists who are not fans of Keynesian economics or stimulus packages argue that President Franklin D. Roosevelt's vaunted New Deal programs, highly touted today as a model for job creation, did little to spur a U.S. recovery.

"It was finally World War II that finally ended the Great Depression," said Bruce Bartlett, a White House economist in the Reagan administration and a top Treasury official in the first Bush administration. Bartlett is author of a study showing that nearly all postwar stimulus packages passed by Congress came too late to be of much help, and just increased the deficit and fueled inflation.

Obama shrugs off expressions of skepticism and casts his stimulus package as the right formula for creating long-lasting, well-paying jobs, despite its big cost.

"It's not too late to change course — but only if we take dramatic action as soon as possible," Obama said in Ohio on Friday just days before taking office.

Mark Zandi, chief economist of Moody's, said the economy could stabilize by year's end under a big stimulus package, government steps to reduce the number of foreclosures and continued monetary easing by the Fed.

"But many things could go wrong," Zandi added. "The financial system is still obviously under extreme pressure. It's not hard to paint a dark picture. Global investors could panic and stop buying the bonds we issue and send interest rates higher. Oil prices could spike again for whatever reason. It's not hard at all to be pessimistic."