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Krugman & Galbraith: Be Afraid. Be Very Afraid.

On Saturday morning, the Obama transition team released a memo outlining its calculations about the economic recovery package. The memo's authors are Christina Romer, who will chair the new president's council of economic advisers, and Jared Bernstein, who will be chief economic advisor to Vice President Biden.

The report suggests the package President-elect Obama has sketched out would create three to four million new jobs by the end of 2010. It reaffirms the belief that, dollar for dollar, public investment generates more jobs than either tax cuts or direct assistance to the states; but it also states that, in effect, the team ran out of good, shovel-ready projects to fund. In the absence of such alterantives, the report says, it makes sense to pour money into tax cuts and state fiscal relief, as well.

And, in a direct rebuff to conservatives complaining that the package would fatten the rolls of government employees, the report suggests that nine out of every ten new jobs will be in the private sector. 

To illustrate the effects of the package, the report includes this chart: 

The chart's purpose, among other things, is to demonstrate how bad things get if the economy is left to its own devices. But is it the correct number? Paul Krugman doesn't think so. All week long, he's been warning--based on his own calculations--that the economic crisis is much worse than Obama and his advisers seem to grasp. As a result, he says, they're not providing enough economic stimulus.

The new paper, Krugman writes today, only confirms this:

...the estimate of what would happen to the economy in the absence of a stimulus plan seems kind of optimistic. The chart above has unemployment ex-stimulus peaking at 9 percent in the first quarter of 2010 and coming down through the year; the CBO estimates an average unemployment rate of 9 percent for 2010, so the Obama people are more optimistic than the CBO, and a lot more optimistic than I am.

Bottom line: even if I use the Romer-Bernstein estimates instead of my own--there really isn’t much difference--this plan looks too weak.

Krugman isn't the only one thinking along these lines. Via an email to friends, University of Texas-Austin economist James K. Galbraith seems even more concerned:

The key point in this jumps out of the figure that Paul posted.

How do we know that unemployment would peak at 9 percent in the absence of any action? We don't. It's a guess. Essentially, it's a guess made by a technician with a computer.

True, the figure is well within the range of modern historical experience: The peak in October 1982 was near eleven percent (though with a more honest count of the unemployed). 

But if you believe that we are in an historic crisis, then the conventional methods of forecasting--playing the averages from the postwar statistical record--are inappropriate. Honest, but inappropriate.

For my part, when I compare this situation to 1929, I'm not making a rhetorical point, or exaggerating for flair. It's what I think. It's
what the specialists I talk to think.  And have thought, since at least early last summer, long before the crisis took over the campaign.

What is happening here, is the application of routine post-war econometric modeling and budget procedures to the present situation.

If we are in a crisis, and out-of-the-postwar range, then the routine methods are going to be radically wrong.  Not just off by 0.3 percent. Off by a great deal, and for much longer.

This, in turn, tracks closely with what my colleague John Judis wrote this week.

To sum up, the big question here isn't really about what the stimulus package will do.* As best as I can tell--and I'm sure I'll hear quickly if I'm wrong--the Obama team, Krugman, and Galbraith all think it will have roughly the same effects.

The question is whether the package is sufficient to address the present crisis. Krugman and Galbraith clearly think it isn't

Oh, one final note. The introduction contains this intriguing passage:

Our analysis will surely evolve as we and other economists work further on this topic. The results will also change as the actual package parameters are determined in cooperation with the Congress. Nevertheless, this report suggests a methodology for ensuring that the package contains enough stimulus that we can have confidence that it will create sufficient jobs to meet the President-Elect’s goals.

I may be insufficiently sophisticated in the ways of telegraphing political intentions, but that certainly suggests to me that Obama and his advisers are not closing the door on adding yet more government spending--either in this package or later on, as part of a separate legislative initiative.

Keep in mind that, in a Washington Post op-ed last month, Lawrence Summers, who will be the administration's top economic adviser, wrote that "in this crisis, doing too little poses a greater threat than doing too much." We'll see if that mentality pushes the final stimulus levels even higher, one way or another.

--Jonathan Cohn 

*To be clear, there's broad agreement among liberal economists that, overall, spending increases have more impact than tax cuts. Conservatives tend to express different views. Here, for example, is Harvard's Greg Mankiw--whose work and opinion I respect--suggesting tax cuts give more bang for the buck than public spending, contrary to conventional wisdom on the left.