A Temporary Federal Discount Program to Stimulate Consumer Spending

Abstract

In this paper, we evaluate a new proposal to stimulate recovery from the current recession: a temporary federal price discount on consumer goods. An attractive feature of the temporary federal discount program is that it gives consumers a price incentive to purchase more rather than simply giving consumers more disposable income, which they might choose to either spend or to save. According to our simulations with the Fair macro-econometric model, a temporary 20 percent federal discount on all consumer goods in a severe recession would significantly reduce the unemployment rate while causing only a small increase in federal debt as a percentage of GDP.

Appendix I

20 Percent CD

We examined the Fair model's base August 24, 2009 forecast and noted that CD was forecast to be $1,121 billion in 2010:Q1. Based on empirical literature, we assumed that a 20 percent discount would induce a roughly 10 percent increase in CD. We incorporated the impact of the 20 percent price discount into the Fair model by the use of add factors (adjustments in the constant terms of individual equations in the model).

For 2010:Q1, we inserted an add factor of 0.115 into the CD equation which yielded a roughly 10 percent increase, from a base value of $1,121 billion to $1,233 billion (an increase of $112 billion, or 10.0 percent). The 20 percent discount costs the government 20 percent of $1,233 billion, or $246 billion. This $246 billion must be entered as a government expenditure which increases the deficit. To do this, we increased the transfer from the federal government to households, TRGH, by $246 billion ($246 billion was an annual rate—the amount actually injected in 2010:Q1 was $61.5 billion), thereby correctly causing the initial impact on the federal deficit, SGP, of the discount program to be $246 billion. However, raising TRGH by $246 billion raised disposable income in the model by $246 billion, even though the discount program did not actually raise disposable income by $246 billion. We therefore made an adjustment to the constant term in each consumption equation (called an “add factor”) to avoid overstating the impact of the discount program on consumption and to account for the effects of UDI on the consumption of nondiscount goods, as explained in the text. In particular, we adjusted the add factor for CD down to 0.100 in order to keep the increase in CD equal to $112 billion. Also, we inserted the following negative add factors: CS (consumption of services): −0.0005; CN (consumption of nondurables): −0.0005; IHH (residential investment): −0.026.

For 2010:Q2, the 20 percent discount cost the government $251 billion ($251 billion is an annual rate—the amount actually injected is $62.75 billion); the final add factors were 0.003 for CD, −0.0002 for CS, −0.0005 for CN, and −0.018 for IHH. For 2010:Q3, the 20 percent discount cost the government $257 billion (the amount actually injected is $64.25 billion); the final add factors were 0.008 for CD, −0.0002 for CS, −0.0007 for CN, and 0.005 for IHH. For 2010:Q4, the 20 percent discount cost the government $259 billion (the amount actually injected is $64.74); the final add factors were 0.005 for CD, −0.0005 for CS, 0.0002 for CN, and −0.001 for IHH.

20 Percent CDN

We examined the Fair model's base forecast and noted that CD was forecast to be $1,121 billion in 2010:Q1, and CN was forecast to be $2,039 billion in 2010:Q1. Based on empirical literature, we assumed that a 20 percent discount would induce a roughly 10 percent increase in CD and a roughly 5 percent increase in CN.

We inserted add factors into the Fair model as follows. For 2010:Q1, we inserted an add factor of 0.115 into the CD equation which yielded a roughly 10 percent increase, from a base value of $1,121 billion to $1,233 billion (an increase of $112 billion, or 10.0 percent). We inserted an add factor of 0.047 into the CN equation which yields a roughly 5 percent increase, from a base value of $2,039 billion to $2,141 billion (an increase of $102 billion, or 5.0 percent). The 20 percent discount costs the government 20 percent of $1,233 billion, or $246 billion, plus 20 percent of $2,141 billion, or $428 billion, for a total of $674 billion. This $674 billion must be entered as a government expenditure which increases the deficit. To do this, we increased the transfer from the federal government to households, TRGH, by $674 billion ($674 billion was an annual rate—the amount actually injected in 2010:Q1 was $168.5 billion), thereby correctly causing the initial impact on the federal deficit, SGP, of the discount program to be $674 billion. However, raising TRGH by $674 billion raised disposable income in the model by $674 billion, even though the discount program did not actually raise disposable income by $674 billion. We therefore used add factors in each consumption equation to avoid overstating the impact of the discount program on consumption and to account for the effects of UDI on the consumption of nondiscount goods as explained in the text. In particular, we adjusted the add factor for CD down to 0.100 in order to keep the increase in CD equal to $112 billion, and we adjusted the add factor for CN down to 0.0435 in order to keep the increase in CN equal to $102 billion. Also, we inserted the following negative add factors: CS: −0.001; IHH (residential investment): −0.08.

For 2010:Q2, the 20 percent discount cost the government $682 billion ($682 billion was an annual rate—the amount actually injected was $170.5 billion); the final add factors were −0.025 for CD, −0.0005 for CS, −0.004 for CN, and −0.04 for IHH. For 2010:Q3, the 20 percent discount cost the government $690 billion (the amount actually injected was $172.50 billion); the final add factors were 0.026 for CD, −0.0008 for CS, 0.005 for CN, and −0.005 for IHH. For 2010:Q4, the 20 percent discount cost the government $694 billion (the amount actually injected is $173.5 billion); the final add factors were −0.021 for CD, −0.0008 for CS, 0.003 for CN, and −0.009 for IHH.