The Investment Slowdown

Stephen Moore doesn't think the economic "stimulus" package will work because it targets consumers rather than investors. Hmm, where have I heard that before?

Yesterday, President Bush signed into law a $170 billion bipartisan "stimulus" package of tax rebate checks and housing subsidies to try to steer the economy clear of recession. The ink is hardly dry yet and Democrats are now agitating for a second "stimulus," in the form of infrastructure spending and welfare payments such as food stamps and longer unemployment benefits. All of this government check-writing is on top of the $3 trillion the federal government is already scheduled to spend this year.

Unfortunately, neither of these "free money" stimulus plans are likely to solve the nation's economic woes -- just as a similar economic rescue package of tax rebates and spending programs failed in 2001, the last time the economy slid into recession.

The current mortgage meltdown closely resembles what happened after the technology industry bubble burst at the end of the Clinton years. What Congress failed to understand, now as then, is that America is suffering from an investment slump driven by falling asset values, not a Keynesian consumption drought.

He points out the effects of the second of Bush's tax cuts which were targeted to capital:

The investment tax cuts had two positive effects on the economy. First, almost from the day the tax cuts were enacted the stock market capitalized the value of the lower taxes on corporate profits and capital gains. Within months, the Dow Jones Industrial Average rose nearly 10%. And, we now know, the investment slump was converted into an investment boom. Business capital spending, down 4.8% in 2001 and 6.1% in 2002, surged in 2004 by 7.4% and in 2005 by 9.5%. It was this investment spurt that financed job and GDP growth in recent years. In short, what we experienced was a classic supply-side recovery.

And he quotes Michael Darda about what may be inhibiting capital investment:

Why is investment declining? One explanation is that firms and investors know that there is a tax hike on the way when the Bush tax cuts expire in 2010. "The two big negatives for investment loom on the horizon," says economist Michael Darda, "higher tax rates and higher inflation due to easy money." Mutual fund data from the fourth quarter of 2007 confirm that a weak dollar and the risk of higher taxes are pushing capital overseas.

As Moore points out in the last paragraph, Say's Law tells us that consumption is dependent on production, not the other way around. Maybe someday politicians will learn but I'm not holding my breath.