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The familiar tools of economic stimulation have run out of gas. Fiscal policy will contract when a political compromise is reached to raise the debt ceiling (probably by $2 trillion) and simultaneously cut spending (again by $2 trillion, spread over 10 years). The Fed can't lower short term interest rate below zero, and if it were to boldly launch a new monetary stimulus, a QE3, Congress would threaten the Fed's vaunted independence.
With unemployment hovering around 9 percent, White House supporters are searching for novel means to revive the economy. Maybe happy spirits will answer their prayers. If happy spirits are scarce, big changes in key relative prices might be the answer – but policy-induced changes carry political costs. After all, when relative prices change, somebody has less money, and somebody has more. Losers will never be happy. The trick, so far as the overall economy is concerned, is to change relative prices in a way that triggers a gush of private investment or consumer spending, driving down unemployment far enough so that the losers don't carry the political day. What prices can the government change?
- The exchange rate of the dollar. Of course Wall Street and foreign governments will scream, but how many votes can they deliver? A 10 percent real devaluation of the dollar would boost US exports by $250 billion, conservatively putting 1.5 million US workers back on the job. But Treasury Secretary Timothy Geithner would have to eat his “sound dollar” rhetoric along with his shoe, not a pleasant meal. To be sure, Geithner has called for a stronger renminbi, but the United States needs stronger foreign currencies around the world, not just in China.
- The corporate tax rate. Serious econometric research (PB11-2, April 2011) shows that the corporate tax rate can be cut by 10 percent, from 35 percent to 25 percent, without reducing federal tax revenues. Alternatively, 100 percent first-year depreciation can be allowed for new expenditures on plant and equipment. Again, there would be no adverse impact on federal revenues. Either policy would dramatically stimulate investment, and provide jobs, probably 500,000 annually. Overall tax revenue would not fall because new investment will put people to work and raise both personal and payroll tax collections. Moreover, corporations will put less effort into tax avoidance schemes, such as artificially lowering transfer prices on their exports to foreign subsidiaries and simply migrating out of the corporate tax system by reorganizing as master limited partnerships. But to change policy, President Obama would first need to champion corporate America, and the Treasury would need to boldly challenge misleading revenue estimates published by the Congressional Budget Office (CBO), which currently score any corporate tax cut as a revenue loser.
- Release oil from the Strategic Petroleum Reserve (SPR). The idea here is to knock down oil prices, perhaps to $80 a barrel. This seems the most likely White House initiative to boost consumer sentiment and spending over the summer months. Past SPR releases have had only a limited and short-term impact on oil prices, but this time could be different if Obama can enlist similar action in Japan and Europe.
- Invite investors to purchase foreclosed homes. Here the relative price change is to slash the “invisible” but very real and very high price of tight restrictions on credit for investors who want to take a punt on buying foreclosed homes, rent the homes for a few years, with hopes of resale in happier times. This can be done by relaxing Fannie Mae and Freddie Mac rules. The goal is to arrest the decline in average home prices, a phenomenon claimed (conspicuously by Martin Feldstein) as a factor in sapping consumer confidence and depressing retail sales.
- Most controversially, boost fees charged on infrastructure. The World Economic Forum now rates the United States 23rd globally in hard infrastructure. Travelers to Singapore, Sweden and Switzerland know how far the United States has fallen. Federal and state governments are financially incapable of renewing American roads, ports, airports transmission lines, and pipelines, but public ownership and regulatory constraints virtually preclude private investment. The conceptual answer is straightforward: impose fees to raise say $50 billion annually to service infrastructure bonds. That amount would amortize around $700 billion of 6 percent bonds over 30 years. Of course $700 billion is just a start on the vast infrastructure deficit, but making the start would create 150,000 jobs a year for next three years. Properly run, the program might be popular enough to trigger a 21st century echo of Eisenhower's landmark interstate highway system.
Are big changes in relative prices politically easier than firing up the familiar fiscal and monetary engines? In normal times, the answer would be no. But when gross federal debt is headed above 100 percent of GDP, and when Republicans effectively control the Congress, we are not living in normal times.
