Behavioural Economics and the White House

The Making Work Pay tax credit, part of President Barack Obama’s 2009 stimulus bill, was one of the least noticed tax cuts of all time. Rather than coming as a check from the government with the sum written on the dotted line, Making Work Pay—a credit of up to $400, or $800 for couples filing jointly—was disbursed in a steady dribble. The middle-class workers who were its target had their paychecks grow slightly for part of 2009 and 2010, as the government withheld less. When asked, many didn’t realize they’d gotten anything.

Why do it this way? It’s rarely good politics to spend more than $100 billion in public money on something few people notice. But policymakers believed that parceling out the money piecemeal, rather than sending it to taxpayers in a lump sum, had two advantages: It could start sooner, since people didn’t have to wait for the check; and it was more likely to work. By giving people the sense that their incomes had grown, doling out the money paycheck by paycheck was supposed to make recipients more likely to spend it, thereby lifting the economy. That was the theory, anyway, according to a school of thought favored in the Obama White House: behavioral economics.

[…] It didn’t work. That, at least, is the finding of the first study to look specifically at the behavioral economics element of the stimulus. In a forthcoming paper, three economists—Claudia Sahm of the Federal Reserve, and Joel Slemrod and Matthew Shapiro of the University of Michigan—found that Making Work Pay didn’t get people to spend more money. In fact, it got them to spend less. The study is a prism through which to view both the efficacy of Obama’s stimulus and whether a set of discoveries about the foibles of human decision-making can be translated into effective government policies.

[…] the behavioralists may be right after all: People don’t act the way economists predict they should. The trouble is that they don’t act the way policymakers want them to, either.

More here.