The Coronavirus Is an Economic Emergency Requiring a Forceful, Well-Targeted Response
The outbreak of the coronavirus, which causes the disease COVID-19, around the world and in the United States has created both a public health and an economic crisis. Financial markets have been rocked, and we are now seeing real-world signs of a cascading economic disaster: canceled events and travel, shuttered offices, and layoffs. The Trump administration’s feckless response has failed to stop the spread of the virus or the economic fallout. Italy, where the pandemic arrived sooner, provides a terrifying preview of what could happen here in the near future under the current course—the country is under a national quarantine, and the government has shut down all retail establishments except for those providing necessities such as food and medicine.
The most urgent priority are public health measures to stop the pandemic itself. Unless we take aggressive, decisive action to slow the spread of COVID-19, the economic damage will inevitably multiply. But, at this point, it is already clear that the economy will soon experience severe disruptions that could threaten the livelihoods of millions. While bond markets indicate that a recession is likely, other market observers argue that the U.S. economy might already be in a recession.
This is the most serious economic crisis since the fall of 2008, and it demands a policy response on a similar scale. In fact, one of the lessons of the 2008 financial crisis and Great Recession is that policymakers did not provide enough timely fiscal stimulus to fill the enormous demand shortfall, resulting in prolonged pain for workers and too slow a recovery. It is not too soon for Congress to act.
Governments around the world are already providing cash relief in several forms. How should U.S. policymakers structure such fiscal relief policies? They should heed the lessons learned from past experience, which include:
- Fiscal cost cannot be an obstacle to decisive action. The United States has more than enough fiscal capacity to address an emergency like this, notwithstanding existing deficits and debt. Real interest rates on U.S. debt have turned negative, meaning U.S. debt holders are profoundly unconcerned with the creditworthiness of the United States and that there is no fiscal cost to acting now. Under certain circumstances, fiscal stimulus can even improve fiscal sustainability. Washington should err on the side of doing too much rather than too little—and should be ready to provide multiple rounds of stimulus if necessary.
- Fiscal stimulus is effective and essential. The United States and international experience in recovering from the Great Recession demonstrated that fiscal stimulus (when the government boosts demand through increases in spending or tax reductions) is effective. Indeed, it is essential, especially given the limited power of monetary policy with interest rates already so low.
- Immediate relief must go to the people and businesses most in need. A sudden downturn will affect vulnerable populations—those without a financial cushion—the most. Policies such as emergency unemployment insurance and nutrition assistance not only help people meet basic needs through a crisis, but they also offer the largest multipliers, meaning that they carry more bang for the buck in terms of increased economic activity for any given fiscal cost. That is mainly because people who are cash-strapped are the most likely to put additional money from the government immediately back into the economy. The government must also step in to provide credit to small and midsize businesses to ensure they can continue to stay in business and meet payrolls.
- Sending cash directly to households is more effective in stabilizing and invigorating the economy than tax cuts whose impact is spread out over time, such as a payroll tax holiday. Studies of the various stimulus policies from the last recession find that lump sum payments are more effective than payments spread out over time. That is one of the reasons that payroll tax cuts, such as those proposed by President Donald Trump, are a suboptimal form of stimulus: The savings are delivered in small pieces over time rather than in one powerful lump sum.
The economic response must provide immediate support for the people and businesses most affected
The measure put forward by Speaker of the House Nancy Pelosi (D-CA) and House Democrats, which President Trump is resisting as of late afternoon Friday, March 13, contains many of the most important measures to provide immediate economic assistance. These include:
- Requiring businesses to provide 14 days of paid sick leave, with the government helping meet employers’ costs through tax credits
- Requiring employers to provide workers with paid family and medical leave, with two-thirds wage replacement for up to 12 weeks to use to recover from the coronavirus, care for a family member sick with the coronavirus, or care for a child whose school or child care provider has closed. Employers would receive support from the government to help with these costs
- Ensuring food security by boosting the Supplemental Nutrition Assistance Program (SNAP), the Women, Infants, and Children program (WIC), and school nutrition programs as well as suspending onerous work requirements that often serve simply as bureaucratic obstacles to needed assistance
- Enhanced unemployment insurance benefits
- Critically important aid to states, via an enhancement of the Federal Medicaid Assistance Percentage (FMAP)
- Ensuring that credit is available to small businesses
Congress should send this legislation to the president immediately while also making clear that it is just a first step. Much more relief will be needed, including but not limited to:
- A further increase in the FMAP rate, including extending it to those covered by the Affordable Care Act’s Medicaid expansion
- Additional aid to states to avert cuts in education, health care, and other public services, especially given that state revenues will decline with a slowdown in economic activity
- Further support for vulnerable families with housing, nutritional, and income support needs
Payroll tax cuts are a suboptimal way of boosting the economy—direct payments are far superior
President Trump has proposed temporarily eliminating the entire federal payroll tax through the remainder of the year. But the fiscal response to the COVID-19 emergency needs to be more powerful and better targeted than payroll tax cuts.
Payroll tax cuts have several shortcomings compared to other potential responses. They are not targeted to those workers and households who most need relief. High-income workers, who are much more likely to have job security and savings, would get the biggest benefit from payroll tax cuts because it is proportionate to earnings. For example:
- A worker who is laid off or given no hours gets nothing
- A contractor whose source of income dries up also gets nothing
- A worker still in her job making $25,000 would get only about $74 per paycheck. By comparison, a professional making $135,000 would save $400 per paycheck—much more, even though the low-income worker would be more likely to spend it than the affluent professional, who might simply save it
A payroll holiday would also be less timely and less effective than immediate, lump-sum relief payments. Studies of the last recession by former Federal Reserve Board economist Claudia Sahm and others have shown that lump-sum relief payments are much more effective at stimulating the economy than savings that dribble out periodically, such as a payroll tax cut.
While action will be needed to increase liquidity for businesses, cutting the payroll tax on the employer side is a poorly targeted way to do so. With a temporary tax cut, companies would be unlikely to pass the tax savings onto workers in the form of higher wages. Instead, they would simply pocket the tax savings. And while small or midsized businesses might need the additional cash flow, a payroll tax cut would result in giant windfalls for large corporations.
To be clear, in a crisis like this, economic stimulus does not have to be perfectly targeted, especially given that the federal government’s borrowing costs are nil. If some families or businesses get relief they do not need, so be it. But the major problem with a payroll tax cut is that it leaves out the very people most desperately in need of cash to meet basic needs such as food; rent or mortgage payments; utility payments; and more. An effective response would reach the people who are not working because of the crisis. A payroll tax cut does not pump sufficient cash into the economy quickly enough to counteract what is likely to be a dramatic demand shortfall.
In the wake of the last recession, President Barack Obama signed into law a payroll tax holiday for 2011, which was extended for 2012. But no one considered that holiday the the best way to provide stimulus—it was simply the lowest common denominator on what the president and Congress could agree to. Policymakers must do better this time.
The far better way to deliver massive stimulus is through direct lump sum payments to households.
Economic analysts across the ideological spectrum agree on this, including Harvard University’s Jason Furman and Greg Mankiw; the Center for Equitable Growth’s Claudia Sahm; and the American Enterprise Institute’s Michael Strain. Lump-sum cash payments to households are superior to a tax holiday because they arrive sooner and in a form that prompts recipients to be more likely to spend them. Sending a uniform amount to all households, phasing it out for those with high incomes, is better targeted than a payroll tax holiday because the benefit for households with low and moderate incomes would be bigger. Direct payments can also be delivered to nonworking households such as seniors and people living on disability benefits.
A template for these emergency payments exists, the Economic Stimulus Act of 2008, signed into law by President George W. Bush in February 2008—which provided $300 payments to single Americans, $600 for couples, and an additional $300 per child—phased out above certain income levels. As in 2008, it could be administered relatively easily by the Internal Revenue Service (IRS) based on the information on the prior year’s tax returns. And the IRS is the agency best positioned to pump cash into the economy since it has information on all tax filers and distributes millions of refund checks and payments every year. Special provision must be made for people otherwise not required to file tax returns.
To be sure, flat-amount payments are not perfectly targeted, and Congress should consider further measures to target relief to the low- and moderate-income households who are the most likely to pump it back into the economy. But in a crisis, the perfect cannot be the enemy of the good, and the established model of direct payments from 2008 is the one that can have the biggest impact the soonest.
As Sahm and others have proposed, when enacting such direct payments, Congress should provide that additional rounds of payments would be automatically triggered by economic indicators such as increases in the unemployment rate. And Congress must be prepared to provide additional discretionary stimulus as circumstances dictate.
This is an extremely precarious moment for the U.S. economy, and it should be met with overwhelming force from policymakers.
Seth Hanlon is a Senior Fellow and Andres Vinelli is vice president for Economic Policy at the Center for American Progress.
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