Super-Sized Stimulus

Senior Fellow Kevin A. Hassett
Senior Fellow
Kevin A. Hassett

Responding to fears shared by most economists that the current recession might turn into a depression, President-elect Obama pulled out all the stops in early January and proposed the mother of all stimulus packages. He would devote as much as $775 billion over the next two years to stimulus.

The proposed package consists of both spending and tax measures. The proposed increase in spending is a massive $475 billion, roughly 3 percent of GDP. In addition, a tax cut of up to $300 billion would amount to about 2 percent of GDP.

Major Countercyclical Tax Changes during Postwar Periods
Source for first three bars: Christina D. Romer and David H. Romer, "A Narrative Analysis of Post-War Tax Changes," University of California, Berkeley, November 2008. Other sources: Wall Street Journal, BEA.

Traditionally, stimulus packages have focused on tax measures. Spending has not generally increased enormously during recessions. The massive spending increase is, then, unprecedented.

The history of stimulus has been studied by Obama's designee for chairman of the Council of Economic Advisers, Christina Romer, and her husband, David. Although taxes change over time for many reasons, the Romers' study identifies the changes that are designed to be short-term stimulus. The nearby chart compares previous tax measures with the Obama proposal as percentages of GDP.

The first bar on the chart is the Tax Reform Act of 1969, which gradually phased out a 10 percent income-tax surcharge, expanded the personal exemption, increased the standard deduction, repealed a 7 percent investment tax credit, and included a handful of other reform and relief provisions. It was a bit larger than 1 percent of GDP.

The next three measures were significantly smaller. The Tax Reduction Act of 1975 contained several temporary tax-relief provisions, including rebates, an increase in the standard deduction, new tax credits, and a temporary increase in the investment tax credit.

The Economic Growth and Tax Relief Reconciliation Act of 2001 fulfilled President Bush's campaign promise of a significant tax cut and addressed an impending economic slowdown. The bill reduced marginal tax rates and created a new 10 percent tax bracket. It also expanded the child credit, increased contribution limits for retirement plans, and reduced or eliminated the estate and gift taxes.

Just after 9/11, President Bush and Congress enacted additional tax relief designed to spur business investment. The legislation allowed firms to carry back losses up to five years and claim a bonus depreciation on new investments.

The Obama proposal is almost twice as large as the most significant stimulus bill, the 1969 act. Obama also proposes a spending increase that dwarfs anything in past cycles. One would have to go all the way back to World War II to find such drastic government action.

Kevin A. Hassett is a senior fellow and the director of economic policy studies at AEI.

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