So President Bush, at long last, is finally acknowledging that the United States faces "economic challenges." The news was the lead story in the New York Times on Tuesday, and rightly so. Our straits are dire indeed if even this president can't ignore them.
But as discussed here yesterday, putting into place a fiscal stimulus "rescue package" to ward off the oncoming recession is no easy task in an election year.
The New York Times article aptly summarizes the difficulties. But the Times fails to mention how the hands of both Republicans and Democrats are tied by what, for better or worse, we can call the Bush legacy. For that we must turn to yet another broadside from the prolific Nouriel Roubini, who reminds us that the last time the U.S. was sliding into recession, in 2001, the country was sitting on a fiscal surplus of about $300 billion -- a war chest equal to about 2.5 percent of the gross national product.
By 2004 -- after two large and unsustainable tax cuts and massive defense and national security spending increases -- that surplus had evaporated into a 3.5 percent GDP deficit. And while the overall deficit shrank after 2004, on a cyclically adjusted basis the structural deficit is very large now. So, unlike 2001 the U.S. cannot afford now a massive -- 6 percent of GDP -- fiscal stimulus like the 2001-2004 one.
The package of safety net boosts and targeted tax breaks proposed by Lawrence Summers on Monday is a modest proposal, expected to cost about 1 percent of U.S. GDP. While Roubini calls it a "sensible" approach he notes that at best all it will achieve is to make the "coming unavoidable recession" milder. But whether sensible or not, the Summers approach is the limit of what is currently possible, because, argues Roubini, when you have large structural fiscal deficits, it is no longer so easy to buy yourself out of trouble, whether by enacting huge tax cuts, or flooding the economy with cheap money by lowering interest rates.
By cutting taxes for those who least needed a break while simultaneously boosting government spending, the Bush administration ensured that it would be powerless to do anything meaningful when the moment inevitably arrived when the country really needed help.
Now that all the fiscal stimulus bullets have been spent -- in the most reckless and unsustainable tax cut in U.S. history -- the administration is left with very limited room for a fiscal stimulus in bad times (as the hope that Congress will make unsustainable tax cuts permanent is delusional): you need to run surpluses in the fat years to be able to provide temporary fiscal stimulus in bad and lean recessionary years.... We are now stuck in a situation where the room for any meaningful fiscal stimulus -- apart from a modest and temporary one like the one proposed by Summers -- is gone.