Bruce Bartlett offers an excellent overview of the stimulus debate in Forbes, and in my opinion draws the right policy conclusion:
I think the critics of an activist fiscal policy are forgetting the essential role of monetary policy as it relates to fiscal policy. As Keynes was very clear about, the whole point of fiscal stimulus is to mobilize monetary policy and inject liquidity into the economy. This is necessary when nominal interest rates get very low, as they are now, because Fed policy becomes impotent. Keynes called this a liquidity trap, and I think there is strong evidence that we are in one right now.
The problem is that fiscal stimulus needs to be injected right now to counter the liquidity trap. If that were the case, I think we might well get a very high multiplier effect this year. But if much of the stimulus doesn't come online until next year, when we are likely to be past the worst of the slowdown, then crowding out will greatly diminish the effectiveness of the stimulus, just as the critics argue. According to the Congressional Budget Office, only a fraction of proposed infrastructure spending can be spent before October of next year; the bulk would come long after.
Thus the argument really boils down to a question of timing. In the short run, the case for stimulus is overwhelming. But in the longer run, we can't enrich ourselves by borrowing and printing money. That just causes inflation.
The trick is to front-load the stimulus as much as possible while putting in place policies that will tighten both fiscal and monetary policy next year. As terrible as our economic crisis is right now, we don't want to repeat the errors of the past and set off a new round of stagflation.
For this reason, I think there is a better case for stimulating the economy through tax policy than has been made. Congress can change incentives instantly by, for example, saying that new investments in machinery and equipment made after today would qualify for a 10% Investment Tax Credit, and this measure would be in effect only for investments largely completed this year. Businesses will start placing orders tomorrow. By contrast, it will take many months before spending on public works begins to flow through the economy, and it is very hard to stop it when the economy turns around.
Stimulus based on private investment also has the added virtue of establishing a foundation for future growth, whereas consumption spending does not. As economist Hal Varian of the University of California at Berkeley recently put it, “Private investment is what makes possible future increases in production and consumption. Investment tax credits or other subsidies for private sector investment are not as politically appealing as tax cuts for consumers or increases in government expenditure. But if private investment doesn't increase, where will the extra consumption come from in the future?”
Some may reply that infrastructure stimulus spending does provide a foundation for future growth. But the point is that the timing for infrastructure spending is wrong to work as stimulus. I'm eager to have a debate over whether certain putative public goods are public goods, over whether they are underfunded, over what tax-funded infrastructure is most needed and most conducive to future growth. But this is actually a pretty irresponsible time to have this debate. A government with superpowers that could with laser precision identify immediately those places where economic resources are underutilized and somehow approve a bunch of projects that bring those (and only those) resources online and get those projects started now without undue corruption, waste, etc. might have a chance to stimulate with an infrastructure surge, but that's not a possible government, so it's bad policy. If there are stimulus options that can be well-timed, that do not all-but-guarantee a decade of clusterfuck contracting scandals, that can be easily reversed, and that encourage the development of the real economy, then what is the possible objection?