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Summary:
Recent policies have sought to contain damages spilling over from housing and financial markets to the broader economy. These policies include monetary policy, which is the responsibility of the Federal Reserve, and fiscal policy. Legislators and the President adopted an economic stimulus package (P.L. 110-185) on February 13. Another stimulus package is under consideration; the House has passed H.R. 7110. Over the past few months, the government has also intervened in specific financial markets, including financial assistance to troubled firms. Legislation authorizing a massive intervention in financial markets was adopted on October 3 (P.L. 110-343); it includes authority to purchase $700 billion in troubled assets. In addition, the Fed has lent directly to financial institutions through an array of new facilities, and the amounts of loans outstanding have risen into the hundreds of billions of dollars. The estimated budget cost of the stimulus enacted in February was about $150 billion for FY2008. The largest provision (in terms of budgetary cost) was a tax rebate for individuals. The Senate committee bill also included an extension in unemployment compensation benefits; the Iraq/Afghanistan supplemental appropriations completed June 26 included a 13-week extension, signed on June 30. The current stimulus proposal would increase spending on infrastructure, unemployment benefits, Medicaid, and food stamps by $50 to $60 billion. The need for additional fiscal stimulus depends on the state of the economy. While the economy is not officially in a recession, economic activity has slowed. Growth rates, after two strong quarters, were negative in the fourth quarter of 2007 but positive in the first and second quarters of 2008, falling by 0.5% in the third quarter. According to one data series, employment fell in every month of 2008. The unemployment rate, which rose slightly during the last half of 2007, declined in January and February of 2008, but began rising in March and in October stood at 6.5%. Forecasters project slower growth for 2008, and have reached a consensus that the U.S. is in a recession. Some believe that the ongoing financial turmoil will result in a recession that is deeper and longer than average. Policy changes can smooth out the heights and depths of the business cycle, but it may not be possible to devise any policy that would enable the economy to avoid a recession. Fiscal policy temporarily stimulates the economy through an increase in the budget deficit. There is a consensus that proposals that result in more spending, can be implemented quickly, and leave no long-term effect on the budget deficit would increase the benefits and reduce the costs of fiscal stimulus. Economists generally agree that spending proposals are somewhat more stimulative than tax cuts since part of a tax cut will be saved by the recipients. The most important determinant of the effect on the economy is its size. The recent stimulus package increased the deficit by about 1% of GDP. The broad intervention into the financial markets has been passed to avoid the spread of financial instability into the broader market but there are disadvantages, including leaving the government holding large amounts of mortgage debt.
