Consensus Emerges – Cut Payroll Taxes

In our efforts to spot a consensus, please read the excerpt below from economist Edward Glaeser below. His views are endorsed by Tyler Cowen and Greg Mankiw, the most prominent free market economists still breathing.

While the mechanics of a payroll tax cut are simple, spending hundreds of billions wisely on infrastructure is hard. Currently, the federal government spends about $40 billion a year in transportation, and another $20 billion on other forms of infrastructure. There is a case for significantly increasing this amount. Our roads do need repairing, and it makes sense to invest more in a downturn when unemployment is high. But even doubling the current federal infrastructure expenditure, a vast increase, would represent only 8 percent of a $750 billion package.

Article referenced is copied in full at end of post.

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Who should get the federal stimulus funds

By Edward L. Glaeser | January 5, 2009

BUFFETED by recession, our nation has elected a president determined to act. President-elect Obama’s advisers have called for a vast stimulus package of $750 billion or more. But macroeconomic events should never lead us to toss out the first rule of prudent policy: fund projects only when benefits exceed costs. The Obama administration, therefore, faces the challenge of spending at least three quarters of $1 trillion at breakneck speed on sensible stimulus projects.

The difficulties inherent in this challenge explain why Keynesian fiscal policy has been out of fashion for decades. Until last year, the economic consensus was that monetary policy could smooth the business cycle with greater speed and less waste than countercyclical taxes or spending. Fiscal policy has made a comeback, not because its flaws have disappeared, but because the alternatives don’t seem to be working. Yet, any macroeconomic benefits of the stimulus package will be easily undermined if stimulus funds are spent building bridges to nowhere.

What will minimize the risks of a fiscal fiasco? There are three plausible plans: new tax cuts for middle-income Americans; investing in infrastructure; and providing aid to states. Tax cuts can be implemented quickly and entail minimal waste, since the money shows up directly in people’s pockets. The big problem with using the tax system to fight recession is that consumers don’t necessarily spend the money. At least some may save, recognizing that current federal largesse will be offset by future taxes.

Perhaps the best way to avoid this problem is to target tax cuts toward lower-income Americans who are most likely to spend anything they get. The bulk of the fiscal stimulus could be used to radically reduce the Social Security and Medicare taxes paid by lower- and middle-income Americans over the next 18 months. A payroll tax cut should boost the economy by getting money in the hands of people who will spend it. The tax cut would also make work pay more for poorer Americans, and that should increase employment. Even if the tax cut doesn’t end the recession, it would at least ease the downturn’s burden on poorer Americans.

While the mechanics of a payroll tax cut are simple, spending hundreds of billions wisely on infrastructure is hard. Currently, the federal government spends about $40 billion a year in transportation, and another $20 billion on other forms of infrastructure. There is a case for significantly increasing this amount. Our roads do need repairing, and it makes sense to invest more in a downturn when unemployment is high. But even doubling the current federal infrastructure expenditure, a vast increase, would represent only 8 percent of a $750 billion package.

The country needs to invest steadily and wisely on infrastructure, not rush hundreds of billions of dollars out the door. Really expensive projects, like the Big Dig, can take many years to plan, permit, and build. Our roads require ongoing maintenance, not a big push. Moreover, fairness and economic efficiency dictate that infrastructure should generally be paid for by users, not general tax revenue. It is appropriate that gas taxes pay for federal highway aid. Using general revenues to build highways means more subsidies for carbon-emitting cars. The country should take infrastructure investment seriously, but infrastructure spending is unlikely to be sound stimulus.

There is a better case for direct aid to state and local governments. Many states, like Massachusetts, face balanced-budget rules that force spending to contract during a recession, just when that spending is most needed. Federal aid can offset the drops in local revenue and maintain spending levels on vital services like schools and police. Our children are an even more important investment than our roads.

The best way to make sure that a vast stimulus package doesn’t turn into a federal boondoggle bonanza is for that money to go directly to private citizens and local governments. Reducing payroll taxes for middle- and lower-income people harkens back to the Jacksonian idea of small-government egalitarianism. Shoring up the balance sheets of state and local governments would help ensure that those governments don’t make the downturn worse by cutting spending during a recession.

Edward L. Glaeser, a professor of economics at Harvard, is director of the Rappaport Institute for Greater Boston.
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About Jorge Costales

- Cuban Exile [veni] - Raised in Miami [vidi] - American Citizen [vici]
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