President Bush and Congress are scrambling for new prescriptions for a U.S. economy ailing from past business and consumer excesses and sluggish worldwide growth.
Bush’s advisers made it clear Monday that he is considering a cut in capital gains taxes to help spur the economy. Sen. Trent Lott (R-Miss.), the Senate GOP leader, proposed coupling a reduction in the capital gains tax with cutting the Social Security payroll tax. Democrats are lining up behind a plan to repeal scheduled tax reductions for wealthy taxpayers in 2004 and 2006 to free up funds that could be used for spending.
But sentiment is growing that there may be little they can do beyond letting the slowdown run its course. That could take a few more months or a year, depending on the economic forecaster.
So far, the tax rebates that were part of Bush’s $1.35 trillion, 10-year tax-cut bill have failed to generate a rebound. Neither has the Federal Reserve’s most aggressive campaign of interest-rate reductions in two decades.
From the White House to Capitol Hill, Washington is finding itself challenged to address the virtual collapse in business investment that most analysts say is the essential problem keeping the economy from snapping out of its slump.
On top of that, President Bush and Democrats in Congress have painted themselves into a policy box, pledging not to touch Social Security tax revenue that past presidents and Congresses have tapped to stimulate the economy.
Because the slowdown apparently has all but wiped out the non-Social Security surplus for the next three years, Congress is talking about modestly trimming spending across the board to keep the pledge not to use Social Security revenue this year.
In proposing to couple a capital gains tax cut with a reduction in the Social Security payroll tax, Lott told reporters: “There are people at the entry level who are hit very hard by the payroll tax. If you are trying to get money into working people’s pockets quickly, that’s one option you could consider.”
Many economists said reducing the capital gains tax from 20 percent to 15 percent, a proposal Bush is considering, would affect the economy slowly and marginally. William Niskanen, chairman of the Cato Institute, a conservative group that supports Bush, said reducing the payroll tax would drain the Social Security funds that Congress and the president have vowed not to touch.
Blaming White House
Bush has been criticized on Wall Street for failing to address the slowing economy sooner. The gloomier outlook in recent weeks has caused the White House to scramble to repackage its existing agenda as an economic recovery program. This included new trade powers for the president, a new energy bill and Bush’s tax cut.
Many analysts said the economy appears to be on track for an upturn in the last quarter of the year, much later than many of them had predicted a week or so ago. But that rebound will be nothing to brag about, they say.
Still others believe the economy is caught in a mild recession. Gary Shilling, who runs an economic consulting firm in Springfield, N.J., said the lack of business investment was only the first manifestation of the downturn. He predicted consumer spending and the housing market will be the next to suffer as unemployment rises, prolonging the downturn.
Neal Soss, economist at Credit Suisse First Boston, slashed his third-quarter forecast for economic growth in half to 1 percent, barely above recession levels. Recovery will come in the fourth quarter at the earliest, he said, and “it will be short on corporate profits when it arrives.”
Unemployment could keep rising until the middle of next year and reach 5.5 percent of the workforce, even if the economy begins to grow more strongly in the second half of 2001, said David Wyss, chief economist at Standard & Poor’s in New York.
A jump in the jobless rate to 4.9 percent from 4.5 percent in August, reported Friday by the Labor Department, signaled to many economists that the slowdown will last longer than previously believed and will be more resistant to policy moves in Washington.
Sung Won Sohn, chief economist at Wells Fargo Bank, said pessimism has unduly gripped the economy, which could lead to further retrenchment. He and Bruce Steinberg, chief economist at Merrill Lynch in New York, believe patience is required to allow the recovery to take hold in the next few months.
Building confidence
The best thing Bush can do is try to build business and consumer confidence, not rush out with hasty policy proposals that won’t do much good and could signal to consumers that he is panicking, Sohn said.
But John Veitch, an economics professor at the University of San Francisco, said he feared the slowdown may linger for another year as the consequence of “good times lasting for too long.” He agreed with Shilling that rising joblessness could hurt consumer confidence and cause a retrenchment in consumer spending so essential to economic recovery.
“People have leveraged themselves based on the prospect of incomes going up and up,” he said.
In addition, said Veitch, some high-tech industries have so overinvested that it will take years for them to recover. “George Bush’s happy faces are not going to do any good for them,” he said.
Business investment surged in the 1990s and during part of 2000 as the result of a “new economy” high-tech boom. But it slowed dramatically in the fourth quarter of last year, and declined by 0.2 percent in the first quarter and 14.6 percent in the second quarter of 2001.
Consumer spending
The Federal Reserve’s seven cuts in interest rates this year have not done much to encourage business investment, analysts said. Even if interest rates were at zero, said Sohn, companies won’t invest in new capacity if there is no indication that consumers will buy.
But consumer spending has not collapsed, despite increasing layoffs and a plummeting stock market that has wiped out a significant portion of their wealth. Steinberg said the tax rebates have helped to shore up income. Lower interest rates also have triggered a new surge in mortgage refinancings, he said.
The central bank under Alan Greenspan is expected to reduce interest rates an eighth time when it meets Oct. 2, according to analysts. Soss said that unless holiday spending surges later this year, the Fed will cut interest rates several more times in a bid to spark an upturn.
But Merrill Lynch’s Steinberg says, “We are seeing the worst of it now,” adding the economy should grow by a solid 3 to 4 percent in 2002.
