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 rior
to September 11, 2001, the U.S. economy was slipping into recession.
A dramatic easing in monetary policy had failed to provide the impetus
that has traditionally reversed economic downturns. Technology gurus
had labeled this expansion the “New Economy,” impervious to traditional
cyclical economic factors. However, as 2001 began, this New Economy
fell prey to overwhelming government policies that produced a substantial
downturn in economic momentum.
The major
reasons for this turn of events were the interaction of tight monetary
policy and the record budget surplus that was acting as a drag on
the overall economy — a surplus that was made almost sacrosanct
by many politicians in the nation’s capital. In fact, only until
recently did the economic and financial community begin to come
around to the reality that the contractionary effects of the surplus
were the major culprit in undermining continued economic expansion.
Note: One
should be wary that, to the extent that the attack on America gets
the blame for a weaker economy, the budget surplus, the true villain,
may again escape blame, to return one day and again undermine another
expansion.
The ideas
of “lockboxes,” and preserving the social security trust fund by
curtailing or eliminating legislated tax cuts are now moot because
of the terrorist attack. Fortunately, this change of perspective
that commits the U.S. to eradicating global terrorism will also
have positive economic implications.
The Federal
government’s initial commitment to disperse at least $40 billion
to help the victims of the bombings and support the military response
is a critical step in the right direction. However, it is actually
a very small step in achieving the required fiscal effect necessary
to reverse the current economic downturn. The erosion in the underpinnings
of the global economy brought about by the bombing could easily
offset the stimulative effect of that initial $40 billion in spending.
Only if the government’s response is a seemingly massive program
of fiscal stimulus, equivalent to at least 3% of gross domestic
product, can this economic downturn be aborted.
Given all
of the current excess capacity in the economy, Congress must first
decide how much it wishes to use for the war effort, and then aggressively
cut taxes so that the private sector can use the rest. If the President
and Congress don’t act quickly to attain this deficit by providing
that combination of military spending and tax reduction, the same
deficit will instead be achieved through rising unemployment compensation
and falling revenues (tax collections).
One effective
way of providing this immediate shot-in-the-arm to restore consumer
spending and confidence is a suspension of payroll taxes, at least
until the economy is recovering. The resulting budget deficit will
provide the basis for both the increased savings and spending that
is desperately needed in the private sector. Such stimulus will
reverse rising unemployment, boost consumer confidence, and enhance
demand in the manufacturing sector. It will also temper prices,
as payroll taxes are a substantial expense to business.
And remember,
sustained economic growth and investment are the only long-term
solutions to provide adequate support for the elderly in the future.
If the government
fails to move quickly by either a cut in the payroll tax or some
other broad confidence-builder of equal economic impact, the U.S.
will not only be faced with fighting a war on terrorism, but also
with a deepening global recession. America’s prosperity and growth
are closely tied to a healthy, functioning world economy.
The dramatic
volatility in world financial markets in the aftermath of the terrorist
attack attests to the reliance on a vibrant U.S. economy to maintain
global economic growth. The latter has been severely compromised
by the terrorist attack, as the cross-border movement of capital,
goods and people has been brought to a virtual standstill. If the
government does not move quickly to provide appropriate fiscal stimulus,
the loss of morale due to a worsening recession could not only jeopardize
the war effort itself, but also lead to dramatic political change
in 2002.
The “Attack
on America” has changed the economic and political landscape. The
U.S. economy will be called upon to provide the real goods and services
necessary to conduct an unconventional war that has global implications.
Hopefully, the government will provide the level of spending necessary
to conduct an effective campaign against the terrorists while providing
business and consumers with appropriate and immediate tax relief.
Such a commitment will ensure a strong, healthy, vibrant economy
we can rely on to support the demands of the new century.
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