Congress is likely to extend unemployment benefits to provide short-term cash support for those who most need it and will spend it. The House and Senate, assuming they grasp the potential length, breadth and depth of this downturn, should allocate funds to support strapped state and local governments. And then, to ease us through the final stages of surging unemployment, the federal government will undertake long-term projects to rebuild the nation’s infrastructure.

There aren’t enough data to support a definitive answer to the question, “How do you best stimulate the economy?” There is, however, broad agreement on certain stimulus principles, detailed here by the Congressional Budget Office in January 2008.

The consensus opinion on the first stimulus, the January 2008 USD168 billion tax rebate initiative, is that it failed. Legislators on both sides of the aisle acknowledge that we probably won’t have another round of rebate checks, reflecting the fact that most recipients the first time around saved the money or used it to pay down debt.

The point of a stimulus package is to deliver maximum bang on scarce bucks, as soon as possible. You want people who receive stimulus to spend the money in the real economy. There are choices, some better than others, but all subjective.The threshold questions are: Where are we now? and Where are we going? Nouriel Roubini’s research and writing on the inflation of the credit balloon and its long, slow, painful deflation has been both disturbing and reassuring. The implications of a deteriorating economy aren’t pleasant, but they are important.

Roubini has been particularly useful in producing a rough timeline of how events that now constitute the Global Financial Crisis of 2008 would unfold. He’s been steps ahead, and right all along the way.

The scenario he sketched on CNBC Oct. 21: a 24-month recession. “I believe we’re going to have two years of negative economic growth,” Roubini said. “The last two recessions lasted only eight months each. This time around this is going to be three times as long, three times as deep. This is going to be the worst recession the US has experienced since the 1980s.”

The writeup on the CNBC Web site confuses the issue a bit: Roubini said, about 2:45 into the video available here, “Right now we are in a U-shaped recession.”

He never said, “The US economy is entering a two-year recession.” This is a meaningful distinction. We’re in a recession; the “entering” probably happened sometime between November 2007 and January 2008. In this construct, set out by Floyd Norris of The New York Times, December 2007 holiday sales were the Auld Lang Syne for the post-1982 boom, and second quarter 2008 numbers were anomalies, stimulated by federal rebate checks.

Let’s assume he’s marking the birth of the recession in December 2007; we’re maybe halfway along Roubini’s timeline. This downturn has generated a lot of excitement because we haven’t had one of such seriousness in more than two decades. We’ve become accustomed to stability, even irrational exuberance, so the emotional crash is going to be that much worse. But in the greater historical context, these two decades are anomalous, not the difficult U we’re turning.

It’s important to note that even Roubini concludes we’ve avoided a complete meltdown of the global financial system and we’re not headed for Great Depression Redux.

We are, however, in the grip of what’s likely to be the longest downturn since August 1929 to March 1933. And that means it may be time for aggressive, multifaceted, coordinated efforts on the fiscal front to match efforts made to get the interbank lending market back in motion.

The House and Senate face important decisions in the next several weeks and months, the outcomes of which could mean the difference between Roubini’s relatively optimistic, 24-month U-shaped recession and 10 years of stagnation.

Federal Reserve Chairman Ben Bernanke came to the House to talk about how to make the deleveraging a little smoother. His words suggest he’s a worthy successor to Maestro Greenspan: Bernanke created enough room for a legislative/executive/Democrat/Republican sound-byte battle to break out, but left little doubt he favors stimulus.

A stimulus package, said the chairman, should be “structured so that its peak effects on aggregate spending and economic activity are felt when they are most needed.”

Timely, Targeted, Temporary

A Hamilton Project Strategy Paper by Douglas Elmendorf and Jason Furman discusses the three fundamentals of any fiscal stimulus: timeliness, well targeted and temporary.

The authors draw a distinction between indirect solutions such as taxes and transfers (tax cuts and unemployment insurance expansions, for example), policies designed to increase disposable income and therefore consumption, and direct solutions such as government purchases of goods and services (infrastructure spending, for example).

Elmendorf and Furman conclude that any fiscal stimulus is likely to be most effective when it leaves money in the hands of people who are most likely to spend it fully. This naturally means that fiscal stimulus should be aimed at those most pressed during recessions, the poor, the unemployed and local governments.

A temporary extension of unemployment insurance and a temporary increase in food stamps to those already drawing benefits would immediately free up incomes for those laid off by downsizing businesses and the poor. Those benefits are most likely to be used for immediate consumption, and there are mechanisms in place to get the money in peoples’ hands efficiently.

Earlier this year Congress provided 13 weeks of additional jobless benefits to workers who have been unable to find work.  But many workers began exhausting those benefits earlier this month, and with labor market conditions deteriorating in many states, large numbers of workers won’t be able to find work before their benefits run out. An estimated 1.1 million unemployed workers will lose benefits between October and December, unless Congress acts.

The stimulus legislation Congress considered last month would have provided jobless workers with seven additional weeks of benefits, or 20 additional weeks of benefits if their state’s unemployment rate is at least 6 percent. This would cost USD6.5 billion.

The economic slowdown has coincided with a sharp increase in food prices. Food stamp benefits are supposed to enable low-income households to afford a low-cost but nutritionally adequate diet, but benefits through the end of fiscal year 2009 are tied to food prices back in June 2008 and already are inadequate to purchase that low-cost diet.

A temporary increase in food stamp benefits by 10 to 15 percent would cost between USD5 billion and USD12 billion. Not only would it help millions of low-income households purchase a basic diet throughout the coming fiscal year, it would also significantly boost the economy. A temporary food stamp increase is one of the fastest, most effective forms of economic stimulus: The US Dept of Agriculture estimates that a USD5 billion temporary increase in food stamp benefits would result in USD8.2 to USD9.2 billion in economic stimulus.

A package should also include aid to local and state governments, which tend to cut spending during recessions. States are likely to face about USD100 billion in budget shortfalls next fiscal year because of falling revenues resulting from the slumping economy. Unlike the federal government, states are required to balance their budgets even during recessions. Without federal assistance, they’ll be forced to enact large spending cuts and/or tax increases to balance their budgets–both of which will further weaken an already slow economy by reducing overall demand.

Congress should spend about USD50 billion to make up approximately half of expected state shortfalls, most of it (USD30 billion to USD35 billion) consisting of an increase in the federal share of Medicaid costs. The rest of the fiscal relief could go in a broad block grant to states to help them prevent state cuts to education, other critical programs, and aid to localities.

Let’s Get Countercyclical

The case for making infrastructure the core of a second stimulus package is that it would help boost employment while contributing to the long-term upgrade of US highways and bridges, the electrical grid and telecom backbone, and railways and ports. Infrastructure spending takes a long time to have an impact on the economy, but there are enough projects in the pipeline at the federal, state and local levels that are ready to go but simply need funding. It’s important, too, that the federal government fund projects already planned but not funded, with an eye on providing stimulus as far as a year out, hopefully priming the pump a bit toward the end of the downturn. One example is the long-discussed second tunnel under the Hudson River to connect North Jersey to Manhattan.

Bernanke also noted in his Congressional testimony that a package should aim to ease the problems in credit markets that are a major cause for the economic downturn. If Congress passes a fiscal package “it should consider including measures to help improve access to credit by consumers, home buyers, businesses and other borrowers.”

Easing the path to homeownership for potential qualified first-time buyers and others addresses the glut of housing inventory out there. There’s about 10 months’ worth, way above long-term trends of around six months’ supply. As long as that’s the case, prices will continue to fall, and there’s already a lot more decline baked into the cake. Making it easier for potential new homeowners–based on the new, prudent lending standards, of course–to get financing is a good idea.

We’re probably talking about USD500 billion when it’s all said and done. In any case, it appears the Keynesian demand-side management policies that characterized the New Deal may be making a 21st century comeback.