ZANDI: TAX PACKAGE PROVIDES A BIG BOOST TO 2011 GROWTH

Mark Zandi released his analysis of the recent tax plan and he believes it has the potential to provide a nice boost to growth:

• The Obama administration and congressional Republicans have agreed to a wide range of tax cuts and benefit extensions.
• The proposals will boost growth in 2011, likely ensuring enough new jobs to measurably reduce unemployment by this time next year.
• Of the package’s provisions, extending unemployment insurance benefits provides the biggest economic bang for the buck.
• The plan to continue current marginal tax rates at all income levels is prudent, given the current economic environment.
• The deal lessens pressure on the Federal Reserve to engage in additional quantitative easing.
• The federal deficit will grow this year and next, but debt markets should take this in stride as the recovery accelerates.

“The fiscal policy compromise reached this week by the Obama administration and congressional Republicans will be good for the economy next year. The planned temporary tax cuts and spending increases will provide a substantial boost to growth in 2011, ensuring that the still-fragile economic recovery evolves into a self-sustaining economic expansion.

The deal’s surprisingly broad scope meaningfully changes the near-term economic outlook. Real GDP growth in 2011 will be nearly 4%, approximately 1 percentage point greater than previously anticipated. Job growth will be more than twice as strong, with payrolls growing by 2.6 million. Unemployment will be more than a percentage point lower; instead of hovering near 10% through the year, it will end 2011 well below 9%.”

Risks remain, however:

“The economy thus remains vulnerable to further setbacks, and there are plenty of risks to worry about. The European debt crisis threatens to boil over, with policymakers there apparently unable to contain it. U.S. house prices are falling again and could resume the downward spiral of more foreclosures, banking system problems, and more price declines. China and other emerging economies are working hard to slow their own growth to forestall inflation and ease speculative pressures. Engineering a soft landing in these economies could prove difficult, particularly when many manage their currency exchange rates.”

More stimulus is prudent given the weakness of the current recovery:

“In this context, it is prudent for policymakers to initiate an additional fiscal stimulus. The stimulus policies of the past three years were very effective. It is no coincidence that the Great Recession ended in the summer of 2009 when the Recovery Act provided its maximum economic benefit. The stimulus was never intended to power economic growth over the long term; rather, it was designed to jump-start the recovery, and did so. The intent of additional stimulus in 2011 would be to ensure the recovery evolves into a self-sustaining expansion, with enough job growth to generate the income and consumer spending gains needed to convince businesses to hire even more. The economy is not there yet, but additional stimulus would get it there.”

The multiplier effect here is larger than being given credit for:

“The deal’s economic benefit is substantial. Of all its provisions, the extension of emergency unemployment insurance provides the largest economic multiplier or bang for the buck. For every dollar in additional UI, real GDP increases $1.60. Emergency benefits go to those who have been out of work longer than the 26 weeks covered by regular benefits. With more than 40% of the 15 million-plus unemployed American workers in this predicament, many families depend on this program to meet daily living expenses.”

All in all, an encouraging move:

“The U.S. recovery is at a critical juncture. Much progress has been made toward correcting the problems that sparked financial panic and led to the Great Recession. The banking system is much better capitalized, household deleveraging is well under way, and corporate America is very profitable. Yet businesses remain reluctant to hire and job growth is insufficient to reduce the unemployment rate. Until the jobless rate begins falling definitively, the recovery will not be on track toward a self-sustaining expansion. Moreover, while the nation’s fiscal challenges are very serious, they will soon become overwhelming if the recovery does not gain traction.

In this context, it is encouraging that fiscal policymakers appear set to support the economy, or at least not allow policy to significantly drag on growth. The deal between the administration and Congress has yet to become law, but that appears likely. The nightmare of the financial panic and Great Recession will not easily fade, but policymakers’ actions this week ensure that it will.”

Source: Moodys