Obama's Medicine for The Economy

With US unemployment soaring, spending on infrastructure and other projects is just what the doctor ordered

by Dean Baker

Barack Obama wants to spend several hundred billion dollars in each of the next two years building infrastructure, retrofitting public and private buildings to increase energy efficiency and aiding state and local governments in dealing with budget shortfalls. He thinks that this spending will boost the economy and reverse its steep decline. Obama is exactly on the mark with his plan.

The job numbers released last week removed any possible doubt that the economy is facing an extremely sharp recession. The US labour department reported that the economy lost 533,000 jobs in November. Upward revisions for the prior two months raised reported job loss over the last three-months to 1,256,000 jobs, the second highest in the post-war period.

Even this figure likely understates the extent of job loss, since the labour department imputes jobs for new firms into its data. Its formula for this imputation actually shows new firms generating more jobs in September to November of 2008 than in the same three months of last year. This imputation will be corrected next fall, and the adjustment could easily raise the pace of job loss by more than 50,000 a month.

The November data was striking because the job loss was so widespread across sectors. Construction and manufacturing continued to be hardest hit, but retail, finance and transportation also had large job losses. The only sector that continues to create jobs at a healthy pace is healthcare.

In addition to the lost jobs, the average workweek continued to shrink. The index of hours worked has shrunk at an 8% annual rate over the last three months. This would imply the equivalent of 11.2 million jobs lost over the course of a year.

This rate of job loss will push the unemployment rate over 7% by the beginning of 2009 and above 8% by the middle of the year. Without effective stimulus, the unemployment rate would likely cross 9% before the end of 2009 and could exceed 10% in 2010.

Fortunately, effective stimulus is item number one on Obama's agenda. His proposal would spend several hundred billion dollars on ready-to-go infrastructure projects such road and bridge maintenance and school repair. He would also devote funds to extending broadband reach and paying for energy-conserving retrofits of public and private buildings. The latter plan involves a huge expansion of already existing programmes.

These proposals will quickly get people back to work and inject more money into the economy. They will also provide lasting benefits in the form of better transportation, safer schools and reduced energy use.

The key question is whether the proposed package will be large enough. The economy is in a virtual free fall, as consumers are sharply curtailing spending in response to the loss of $6tn in housing wealth and more than $8tn in stock wealth.

In addition to the plunge in consumer spending, the bubble in non-residential construction has burst, which means that all segments of the construction industry are now contracting. State and local governments are also making cutbacks, and trade is likely to be a drag on growth as the surge in the dollar makes our exports less competitive and worldwide recession reduces demand.

For these reasons, we will need to spend considerably more money to boost the economy than what Obama outlined in his package. Additional spending should include aid to state and local governments to offset revenue shortfalls, increased spending on unemployment insurance, food stamps, heating oil assistance and other programmes to help laid off workers through the slump, and healthcare.

It appears as though Obama will try to get a healthcare reform bill through Congress in the first year of his presidency. While a healthcare package will almost certainly save money over the long run by wringing waste out of the system, it will cost money in its first years as coverage is extended to cover the uninsured and new systems of payments and cost control are established. Given the economy's current weakness, these upfront expenses can be another source of stimulus to the economy.

We could also take advantage of the downturn to promote efforts to make workplaces more family friendly with paid family leave and sick days. While these measures can largely pay for themselves in the long run, adjusting business practices can be a cost that smaller businesses are ill-equipped to bear in the short run.

The federal government can promote family friendly workplaces by extending temporary tax credits, either directly or through state governments, to help smaller businesses meet stronger standards. The 40-hour workweek ended up being one of the dividends from the Great Depression. Rules that guarantee workers some amount of paid family leave and paid sick leave should be a dividend from the current downturn.

It would be difficult to spend too much on stimulus given the steepness of the current downturn. We should try to ensure that the money is well spent and that it will produce lasting benefits for people and the economy. This appears to be exactly Obama's agenda.