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Stimulating Consumers?

Wednesday, February 11, 2009

Americans' anticipation of the long-term costs of current policies will offset the effects of the stimulus.

On Wednesday, the Senate voted to approve an $838 billion economic stimulus package, and lawmakers are now working to settle the differences between the Senate- and House-approved versions of the bill. An important question before the country today is: Will the stimulus package stimulate much consumer spending? 

The graph below suggests that the stimulus will do little to stimulate consumption. The red bar is “what you owe,” which is my estimate of each American’s share of the future taxes necessary to pay off the large jump in the deficit that is projected to occur this year. The black bar, “what you get,” indicates the value of the tax break called for in the president’s version of the stimulus bill. Prudent taxpayers will increase their savings today to prepare for those future taxes, undermining the current effects of the stimulus. 

Why would anyone looking at these two bars in the chart ratchet up their consumption today, even if they got a few hundred dollars in cash? As individuals look forward to the long-run costs of current policies, they will likely take actions that will offset the stimulus effects, probably to a good degree.

what_you_get_lrg_final_revised.jpg

Sources: The author’s calculations are based on data from the BrookingsUrban Tax Policy Center and IRS Statistics of Income. Notes: A $1.7 trillion deficit for 2009 is assumed for future tax burden calculations. Red bars indicate the additional tax burden associated with this year’s projected deficit for each income category. The deficit is distributed across taxpayers according to the distribution of 2006 tax liabilities. If the distribution of the income tax is unchanged, and the deficit is ultimately paid for via income taxation, then the table indicates the additional burden associated with this year’s projected deficit. Black bars show the distribution of individual income tax changes from The American Recovery and Reinvestment Tax Act of 2009 combined with the 2009 Alternative Minimum Tax patch as estimated by the BrookingsUrban Tax Policy Center and the author’s calculations. Income categories are based on adjusted gross income for tax year 2006; income tax amounts are based on “income tax before credits.” Incomes below $25,000 are assumed to have zero or negative income tax liability.

Kevin Hassett is director of economic policy studies at the American Enterprise Institute. Hassett was a senior economist at the Board of Governors of the Federal Reserve System and an associate professor of economics and finance at the Graduate School of Business of Columbia University.

Image by Darren Wamboldt/The Bergman Group.

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