A Post-Disaster Economy in Need of Repair
                 by Robert E. Rubin

               I live and work in New York City, and the terrible tragedy on Sept. 11
               has had a tremendous impact on the lives of so many people I know.
              There has been, however, from the very first moment, a remarkable
              response to the crisis that shows how powerful the American spirit is.

              In the days after the attacks, it has also become clear that our economic
              situation has become more complex. For quite some time now, after eight
              remarkable years, our economy has been experiencing difficulty. Powerful
              positives, including a series of Federal Reserve rate cuts and the budget
              surplus, have been competing with powerful negatives, like excessive
              corporate and consumer debt, overinvestment in some industries and the
              troubled economic situation in Europe, Japan and the emerging markets.

              Prior to Sept. 11, I felt that the economic situation could well remain
              troubled for considerably longer than forecasters generally expected. To this
              complex picture, the attacks added uncertainty and reduced consumer and
              investor confidence. But the catastrophe will also add stimulus to the
              economy in the form of substantial new spending by the federal government
              for security, defense and rebuilding.

              The likelihood now that economic difficulty will last for a considerable period
              is increased, but overreaction is a mistake. It is important to make our
              economic decisions with an awareness that the great underlying strengths and
              very favorable long-run prospects of the American economy have not been
              materially altered by what occurred on Sept. 11, even with the cost of
              permanent changes in transportation and security.

              As to economic policy, we must first make estimates about the increase in
              spending over the shorter term that will occur because of Sept. 11 —
              probably a very large number — which constitutes fiscal stimulus just as
              surely as any proactive stimulus program. Many estimate that a total stimulus
              package should amount to $100 billion to $125 billion. Probably $75 billion
              will be spent directly as a result of the attacks — leaving a need for another
              $25 billion to $50 billion in spending, tax cuts or a combination of the two.

              Each measure in a stimulus package must have a substantial effect in the
              short term, the greatest impact for the money spent and no cost in the later
              years.

              The third criterion is crucial. While our strategy needs to be geared to the
              changed economic situation at hand, the laws of economics have not
              changed, and the fiscal discipline that was so enormously important over the
              last eight years is still extremely important now. Since the short-term fiscal
              position has changed dramatically, it is all the more important to preserve our
              already diminished long- term fiscal health. Market interest rates affect
              business investment and, more important, mortgage rates, which in turn affect
              housing prices and mortgage refinancing, and hence consumption. And
              market rates now — as well as general confidence — can be significantly
              influenced by expectations about our longer-term fiscal strength. Despite
              eight federal rate cuts, longer-term bond market interest rates have come
              down very little, which many ascribe, in part, to our diminished long-term
              fiscal condition following the passage of last spring's tax cut.

              I believe all these considerations should guide our work going forward on
              specific stimulus measures. Ever since the softening began, consumption and
              housing have been the strong point in our economy. Business investment has
              declined because of great excess production capacity. For most companies,
              low levels of investment now are not the result of cash positions or financing
              capacity, but an absence of demand.

              To increase demand, the most effective measures would be tax rebates to
              low- and middle-income working people — including those who pay Social
              Security taxes but not income taxes — who have the highest propensity to
              spend. The propensity may be even greater in the runup to Christmas.
              Another option is to extend unemployment insurance payments temporarily.
              Money put into this program would almost surely be spent immediately. The
              most effective business components — though less effective than
              consumption measures — would be temporarily allowing purchases of
              computer hardware and software to be treated as deductible business
              expenses or allowing some type of accelerated depreciation.

              It is also clear what we should not do. A capital gains tax cut, according to a
              1998 Congressional Budget Office study, would have nearly zero effect on
              the economy in the short term. I think the effect could actually be negative in
              that a capital gains tax cut could induce increased stock sales.

 
              Another widely discussed measure, a permanent corporate income tax rate
              cut, would have exceedingly little short-term stimulus benefit relative to the
              cost. For example, cutting the corporate income tax rate from 35 percent to
              25 percent would cost roughly $850 billion, including debt service, over 10
              years. But the short-term stimulus from that cut would be a very small
              fraction of that cost.

              The trouble is that a corporate tax cut would not be targeted to encourage
              new incremental investment. It would apply to profits from investments made
              in prior years, from new investments that would have occurred anyway and
              from profits on all other expenditures. A permanent cut would also carry
              great costs in the later years and thus exacerbate our fiscal problems, with
              likely adverse impact on current interest rates.

              Any positive effect on the stock market from corporate rate cuts would
              probably be offset, in some measure, by the negative impact on the stock
              market from increased interest rates. In any event, the increase in
              consumption from the wealth effect derived from rising stock prices could be
              far less expensively obtained by other means. A temporary corporate tax
              rate cut would be even less effective.

              Lawmakers and the public are understandably looking for fiscal ways to
              address the economic difficulties. But looking more broadly, I believe that
              what happens domestically and internationally in combating terrorism will
              have a greater impact on our economy than anything we do now in the
              economic arena. In this regard, the visibility of our leaders in providing
              sensible and thoughtful discussion of these issues can contribute significantly
              to building confidence. The long-term strength of our economy gives us the
              short-term capacity to respond effectively to the events of Sept. 11.

              Robert E. Rubin was secretary of the treasury from 1995 to 1999.