The stimulus bill has been passed and it awaits the signature of the President. So what impact will it have?
The key question for understanding if the stimulus will work or not ((“work” in the improve welfare sense, not the improve GDP statistics sense)) is “what percentage of Americans are non-savers?” How many Americans act like Keynes’ hand-to-mouthers and how many act like Barro’s Ricardian savers?
Sarah at a great looking new blog called “Pensons” (not “pensions” as I first read it… talk about instantaneously going from boring to cool) finds evidence that a lower bound for the percent of Americans who are non-savers is 23%. If you believe this high estimate, the percent of “underbanked” Americans is a little less than 40%.
So how well will the stimulus work?
The CBO estimates there will be $584.3B in deficit spending in the next two years. I’ll take this to be the stimulative part of the bill (the rest is just public investments, to be kind). Reading off this chart, the income multiplier will be 1.3 and the consumption multiplier will be 0.4 (and there will be negligible crowding out of investment). This suggests GDP will increase by about $760B and consumption will increase by about $230B relative to the baseline ((actually, I’m not sure what the baseline in Gali’s model is; potential income? How would the analysis change if we linearized that model around below the steady-state?)). Consumption last quarter $450B in annualized terms, relative to the trend in the 10 quarter previous to 3rd quarter 2008.
If last quarter’s drop represents the total drop in consumption we’d see in this recession without the stimulus, the stimulus makes up for about 50% of lost consumption. On the other hand, the stimulus makes up for more than the drop GDP.