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Time for Stabilization, Stimulus, Recovery, and Growth

SOURCE: AP/Mark Lennihan

Stimulus policies, which help spur demand by increasing public spending, are only one set of policies that will be needed to put our economy back on track.

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With so many economic problems hitting our nation at the same time, the list of economic policies being implemented or under consideration may be an all-time record. The list ranges from limited quick fixes to expansive long-term reforms, including everything from immediately buying stakes in the nation’s largest banks and rapidly expanding the social safety net, to long-term regulatory reform. It is of course very important that we get the mix right—serving our need for quick and effective action as well as supporting our long-run economic goals.

Part of getting that mix right is understanding that different goals require different tools and that the policy tools chosen should reinforce each other to serve both our short-term and long-term needs. The full set of policies we need can be divided into four categories: stabilization, stimulus, recovery, and growth—an agenda that will deliver the prosperous economy we all desire.

Stabilization

Stabilization policies are for restoring our economy to basic, normal functioning—a necessary foundational block on which to build a full economic recovery and long-term economic growth. The country right now is experiencing something beyond a business cycle downturn, or even a “normal” bubble burst. The nation’s financial system is in disarray. Lenders aren’t lending and there are massive financial commitments by important financial institutions that they simply cannot meet.

The economy will not get back on its feet until the situation is more settled—until there is confidence that there are no new surprises around the corner and no new financial institution failures looming, and until credit markets are truly unfrozen and there is a cessation in the wild swings in stock values, currency exchange rates, and interest rates. Economic growth requires businesses and individuals having a set of basic expectations they can rely on as they make investment and spending decisions. Stabilization policies are aimed at restoring confidence by shoring up financial institutions, and restoring the housing and mortgage markets.

A new financial regulatory framework is also needed, but it cannot be created overnight, especially as it involves international cooperation. Stabilization, however, requires interim steps and a path to permanent reform of our regulatory infrastructure to restore confidence in the integrity of our financial and credit markets.

Stimulus

Stimulus policies are designed to offer an immediate boost in confidence throughout the economy. The fear in a recession is that it will turn into a downward economic spiral where conditions keep getting worse and worse. The scary scenario is that economic demand declines as consumers rein in their spending, followed in turn by businesses reducing hiring and investment as they lose faith there will be customers for their products. This behavior by businesses then further reduces demand, which further saps business interest in hiring and investing—and the economy just keeps deteriorating.

The answer is for government to step in to spur demand by increasing public spending, by putting cash in private hands to encourage private spending, or by creating incentives for the private sector to move savings into spending. This breaks the downward spiral and primes the pump for recovery by restoring the confidence of businesses and consumers. For this to be effective, of course, there must be a net increase in demand and not simply a shift in spending from one area to another—that’s why government outlays for stimulus are paid for through government borrowing (although, in theory, tapping government savings would also do the trick if the government had any).

As a practical matter, the best stimulus proposals can meet the overlapping objectives of boosting demand, stopping job losses, helping those most in need during bad times, and starting to make investments that have long-term benefits. Extending unemployment compensation and measures getting cash into the pockets of people who need it (and will spend it) are examples of stimulus policies. Fast-moving infrastructure and energy-related investments also fit the bill and are important to our long-term economic needs.

Another important set of stimulus policies are those that help states cope with falling revenues that otherwise force them to lay off workers, cut spending on critical safety-net programs, and shortchange areas of long-term importance such as education, infrastructure investment, and health care. The priority with stimulus is speed—spending that will flow quickly to stop the economy from tumbling further downhill and restore confidence so that the private sector can start the climb back to normal economic conditions.

Recovery

Recovery policies are those aimed at getting us out of the jobs hole we’re in. By the end of 2008, we will almost certainly have lost 1 million jobs. Add in normal population and workforce growth in 2008, and we will start 2009 with a shortfall of more than 2 million jobs. This weak labor market brings down wages as well as hurting the unemployed—more job seekers in search of fewer jobs puts downward pressure on compensation.

When you’re in a hole, the first thing to do is stop digging—that is the purpose of stimulus. But there is little question that we’re in for a long slog back—even after the financial and housing markets are stabilized and the fall is arrested. No source of jobs is poised to be generated by the unaided private market to replace the jobs lost in home construction, the financial sector, and the other areas dramatically affected by the current recession. A set of policies aimed at creating jobs over the next two years is needed to get the labor market back on track.

The ideal recovery policy creates jobs efficiently (many good jobs per dollar of expenditure) while making investments that further our long-term economic prospects. The Center for American Progress’ “Green Recovery” plan does this by making a wide range of investments that efficiently produce jobs in a range of sectors related to moving the country to a low-carbon economy. Infrastructure investments, energy-related and otherwise, also serve the purposes of recovery policies.

As a practical matter, the distinction between “stimulus” and “recovery” often gets blurred as specific policies span the range of “short-term” and “medium-term.” One piece of legislation often contains both stimulus and recovery measures. That’s entirely appropriate as long as the legislation isn’t shortchanging either. We need to both stop the immediate descent of the economy and start restoring the jobs that have been lost.

Growth

Growth policies are those aimed at growing our economy and creating a ladder of economic opportunity and mobility for the long haul. True economic success is only realized with a growing middle class and rising living standards as both the measure of success and the fuel that propels it. The economy has not performed well for almost nine years for most Americans. Job growth has been weak; incomes have stagnated or fallen.

Even before this period there were problems that had not been addressed. The economic weakness of recent years was papered over by personal debt underpinned by artificially high valuation of homes and other assets. This has proven to be a recipe for calamity, not economic well-being. A lesson to be learned from this period is that economic growth that is not buttressed by growing middle-class incomes is illusory—a house of cards bound to collapse.

Well-designed growth policies can address the nation’s longer-term problems, but will take some time to work—which makes it all the more important to get started. The Center for American Progress’s “Progressive Growth”plan is aimed at producing economic growth with widely available opportunity and a ladder of economic mobility through transforming to a low-carbon economy, implementing health care reform and labor law reform, improving education, spurring innovation, increasing national savings and private sector investment, and addressing the challenges and opportunities of globalization. These are the keys to America’s long-term prosperity.

Conclusion

A comprehensive path to a better economy requires policies aimed at stabilization, stimulus, recovery, and growth. Each element is necessary, and none alone is enough. Stabilization policies get the financial markets back in shape, but don’t restore the languishing economy beyond that. Stimulus policies may stop the bleeding and nudge us down the road to a better economy, but it’s just a nudge.

Recovery policies get us jobs and push us down the road to a growing economy with a thriving middle-class, but it leaves much of the job undone. Growth policies are the most important for getting our nation on track economically, but they don’t stop the immediate suffering and they need stabilization, stimulus, and recovery to build on. While the policy specifics may be subject for debate, the need for the full package, soon, is hard to refute.

Michael Ettlinger is Vice President for Economic Policy at the Center for American Progress. To read his reports and analysis and those of other members of his team, please go to the Economy page of our website.

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