Thursday April 24, 2014
| Last update: Tuesday at 11:22 PM

Economy Weakens as Economic Stimulus Wears Off

by Adam Price |
September 8, 2008
Read more articles in

San Jose, CA - On Sept. 5 the Labor Department reported that the unemployment rate in August rose to 6.1%, from 5.7% in July. This is the highest unemployment rate in almost five years. A week earlier a report from the Commerce Department showed that real income (income adjusted for inflation) fell in July for the first time since January, dragging down household spending despite a drop in savings for the month. These two reports show that the economy may be going into a downward spiral of falling income and spending, leading to more layoffs, which in turn cut incomes and then spending even more.

Adding to economic woes are continued problems in the banking industry. The same Friday as the new unemployment report came out, the Federal Deposit Insurance Corporation (FDIC), which guarantees deposits at banks, shut down the Nevada-based Silver State Bank and will have to pay an estimated $500 million to cover the banks losses. This is the eleventh bank closed by the FDIC so far this year, more than the total number of bank closings in the last five years. In addition, on Sunday, Sept. 7, the U.S. Treasury Department announced that it was placing the Fannie Mae and Freddie Mac under government conservatorship due to growing mortgage losses. These two corporations help to fund about half the country’s mortgages.

In addition there are growing state and local government budget deficits. Most states are having budget problems as the recession cuts into tax revenues even as demand for government services rises. Here in California, Republican legislators have blocked passage of a state budget for over two months. Short of money due to a $15 billion shortfall in tax revenues, the state has begun to cut off payments to nursing homes and board and care facilities for MediCal patients (MediCal is California’s health care program for low-income people that is half funded by the federal Medicaid program), childcare centers, mental health programs and state aid for college students.

In the last recession in 2001, the Federal Reserve Bank was able to slash its key interest rate to get households to borrow and spend more, leading to a burst of consumer spending that helped to lift the economy out of a recession. Car companies were able to offer zero interest loans, boosting car sales. Banks were able to lower interest rates on mortgages, leading to more home sales and housing construction.

Over the last year the Federal Reserve cut its key interest rate, the Federal Funds rate, from 5.25% to only 2%. But banks and mortgage companies, reeling from the mortgage crisis and downturn in home sales and prices, have not been able to lower mortgage interest rates, with the standard 30-year, fixed interest rate mortgage having the same interest rate as a year ago. At the same time, car-makers, caught between declining sales due to higher gas prices and a credit crunch stemming from the mortgage mess, have not been able to stimulate car sales.

With the Federal Reserve’s monetary (interest rate) policy unable to revive the economy, Congress voted for $100 billion of tax rebates sent to households and $50 billion more in tax breaks for businesses. Household income and spending did take a big jump in May, and held up in June, only to sag in July as the tax rebates ran out (the business tax cuts are more longer term). Higher prices wore down purchases as the purchasing power of workers’ wages fell by more than 3% from a year earlier as inflation outran paychecks in the month of July.

The Democrats are arguing for a second stimulus package which would include $65 billion more tax rebates and $50 billion for government infrastructure and to help out state and local governments with growing budget crisis. While the tax rebates are likely to only have a temporary impact on the underlying economic crisis (if $100 billion only boosted the economy for two months, how long will $65 billion last), the aid to state and local governments could help to prevent big cuts in health and education spending.

Even worse, the McCain campaign is questioning the need for more spending by the government for individuals, local governments and infrastructure. They want to further cut business taxes and make Bush’s tax cuts for the wealthy permanent. At the same time the McCain campaign promises to balance the budget, which can only mean massive cuts in Medicare and Social Security as military spending (the other large federal program) can only grow with McCain’s foreign policy views. McCain also wants to virtually eliminate employer health care and instead have people buy private insurance with government subsidies, which would lead to even more profits for health insurance corporations while leaving more with less or no health insurance. The McCain campaign promises to strengthen the U.S. dollar (without saying how), which they claim will solve the country’s economic woes. This view echoes former President Herbert Hoover who tried to fight the great depression by trying to increase business confidence. McCain and the Republicans want to 'stay the course' with the Bush administration’s economic policies that have led the economy and the lives of working people in particular to the current mess.

The defeat of McCain and the Republican right has to be priority number one to defend the standard of living of working people in the United States. But a new Democratic administration is likely to follow a pro-business course given its backing by sectors of Wall Street and billionaires, much like Franklin Delano Roosevelt’s policies during his first two years in office at the depth of the Great Depression. In the 1930s it was the organization and militancy of working people that led to reforms such as Social Security and unemployment insurance in 1935 (which McCain wants to 'reform' or privatize). Only by a growing militant fight back in the workplace and community and on campus, can working people put the burden of the crisis on the rich and defend our livelihoods homes and education.