ORSZAG IS A KEYNESIAN

Peter Orszag is the director of the Congressional Budget Office and in his prepared testimony before the Senate Committee on Finance¹, he comes squarely down on the side of Keynes, not Laffer or Gregg or Boehner.

Here are a few relevant excerpts:

The most effective types of fiscal stimulus (delivered either through tax cuts or increased spending on transfer payments) are those that direct money to people who are most likely to quickly spend the bulk of any additional funds provided to them.

Fiscal stimulus aims to boost economic activity by increasing short-term aggregate demand. The purpose is to generate sufficient demand to engage more of the economy's existing productive capacity.

During a period of economic weakness, the key constraint on economic growth is demand for the goods and services that firms could produce with existing resources. In that context, additional spending (by households, businesses, or governments) created by a stimulus policy can engage some unemployed resources, and that new activity has further effects. In particular, households whose income increases as a result of the stimulus subsequently consume more, adding to demand. That process, by which an initial stimulus sets in motion further bouts of consumption, is referred to as a "multiplier" effect. Furthermore, some of the firms that supply goods to satisfy the additional demand are encouraged to invest to add to their capacity, further increasing demand.

Households are particularly likely to spend a greater share of a temporary reduction in taxes or additional transfer payments if they are credit constrained (that is, they have borrowed as much money as creditors will lend them). Given that these households would probably borrow additional money if given the opportunity, they are unlikely to save additional income. They are therefore likely to spend a greater proportion of a tax reduction or a transfer increase than other people who have access to credit. Lower-income households are more likely to be credit constrained and more likely to be among those with the highest propensity to spend. Therefore, policies aimed at lower-income households tend to have greater stimulative effects.

¹CQ Congressional Testimony
January 22, 2008 Tuesday
ECONOMIC STIMULUS REVIEW
SECTION: CAPITOL HILL HEARING TESTIMONY
LENGTH: 17585 words
Statement of Peter R. Orszag Director Congressional Budget Office
Committee on Senate Finance