A quick one before hitting the road. Is deficit fetishism bullshit? This is from Simon Wren-Lewis:
Is deficit fetishism innate or contextual?: In a couple of interesting posts, Jonathan Hopkin and Ben Rosamond, political scientists from the LSE and Copenhagen respectively, talk about ‘political bullshit’. They use ‘bullshit’ as a technical term due to Princeton philosopher Harry Frankfurt. Unlike lying, bullshit tells false stories that pay no heed to the truth. Their appeal is more to common sense, or what Tyler Cowen calls common sense morality. At a primitive level it is the stuff of political sound bites, but at a slightly more detailed level it is the language of what Krugman ironically calls ‘Very Serious People’.
The implication which can then be drawn is that because bullshit does not reside in the “court of truth”, trying to combat it with facts, knowledge or expertise may have limited effectiveness. The conditions under which this might be true, and the extent to which information technology impacts on this, are fascinating issues...
In the case of fiscal policy, deficit fetishism as bullshit involves appeals to ‘common sense’ by invoking simple analogies with households, often coupled with an element of morality - it is responsible to pay down debts. The point in calling it bullshit (in this technical sense) is that attempts to counter it by appeals to facts or knowledge (e.g. the government is not like a household, as every economist knows) may have limited effectiveness. Instead it might be better to fight bullshit with bullshit...
I want to ask whether deficit fetishism will always be powerful bullshit, or whether its force is a symptom of a particular time, and what is more a time that may by now have passed. ...
At first sight deficit fetishism seems to be innate...
But the right has never abandoned its dream of killing the program. So it’s really no surprise that Jeb Bush recently declared that while he wants to let those already on Medicare keep their benefits, “We need to figure out a way to phase out this program for others.” ...
The ... reason conservatives want to do away with Medicare has always been political: It’s the very idea of the government providing a universal safety net that they hate, and they hate it even more when such programs are successful. But ... they usually shy away from making their real case...
What Medicare’s would-be killers usually argue, instead, is that the program as we know it is unaffordable — that we must destroy the system in order to save it... And the new system they usually advocate is ... vouchers that can be applied to the purchase of private insurance.
The underlying premise here is that Medicare as we know it is incapable of controlling costs, that only the only way to keep health care affordable going forward is to rely on the magic of privatization.
Now, this was always a dubious claim. .... In fact, Medicare costs per beneficiary have consistently grown more slowly than private insurance premiums... Indeed, Medicare spending keeps coming in ever further below expectations...
Right now is, in other words, a very odd time to be going on about the impossibility of preserving Medicare, a program whose finances will be strained by an aging population but no longer look disastrous. One can only guess that Mr. Bush is unaware of all this, that he’s living inside the conservative information bubble, whose impervious shield blocks all positive news about health reform.
Meanwhile, what the rest of us need to know is that Medicare at 50 still looks very good. It needs to keep working on costs, it will need some additional resources, but it looks eminently sustainable. The only real threat it faces is that of attack by right-wing zombies.
And yet, these are exactly the conditions under which the Industrial Revolution took place in Britain. Britain’s government debt went from 5% of GDP in 1700 to over 200% in 1820, it fought a war in one year out of three (most of them for little or no economic gain), and taxes increased rapidly but not enough to keep pace with the rise in spending.
Figure 1 shows how war drove up spending and led to massive debt accumulation – the shaded grey areas indicate wars, and they are responsible for almost all of the rise in debt. Over the same period, Britain moved a large part of its population out of agriculture and into industry and services – out of the countryside and into cities. Population grew rapidly, and industrial output surged (Crafts 1985). As a result, Britain became the first country to break free from the shackles of the Malthusian regime.
Figure 1. Debt accumulation and government expenditure in the UK, 1690-1860
Until now, scholars mostly thought of the effect of government borrowing on growth as either neutral or negative. One prominent view held that investment in private industry would have been higher had Britain fought and borrowed less (Williamson 1984). Another argument is that private savings decisions undid the potentially negative effects of massive borrowing – because debt eventually has to be repaid, private agents anticipated rising taxes in the future and neutralized the effects of debt accumulation (Barro 1990).
The revolution that wasn’t
In a recent paper, we argue that Britain’s borrowing binge was actually good for growth (Ventura and Voth 2015). To understand why massive debt accumulation may have accelerated the Industrial Revolution, we first consider what should have happened in an economy where entrepreneurs suddenly start to exploit a new technology with high returns. Typically, we would expect capital to chase these investment opportunities – anyone with money should have tried to put their savings into new cotton factories, iron foundries and ceramics manufacturers. Where they didn’t have the expertise to invest directly, banks and stock companies should have recycled funds to direct savings to where returns where highest.
This is not what happened. Financial intermediation was woefully inadequate – it failed to send the money where it should have gone. As one prominent historian of the British Industrial Revolution argued:
“the reservoirs of savings were full enough, but conduits to connect them with the wheels of industry were few and meagre … surprisingly little of [Britain’s] wealth found its way into the new industrial enterprises ….” (Postan 1935).
There were many reasons for this, but deliberate financial repression by the government was one of them. Usury limits, the Bubble Act, the Six Partner Rule that limited the size of banks – all of them were designed to stifle private intermediation, in part so as to facilitate access to funds for the government (Temin and Voth 2013).
Without effective intermediation, new sectors had to self-finance – rates of return stayed high because so little fresh capital entered to chase the sky-high returns. Allen calculated that the profit rate for capital rose from 10% in the 1770s to over 20% by the 1830s – capital’s share of national income more than doubled (Allen 2009).
Why debt helped
The inefficiency of private intermediation is crucial for debt to play a beneficial role. By issuing bonds on a massive scale, the government effectively pioneered a way – unintentionally – to put money in the pockets of entrepreneurs in the new sectors.
How did it do that? Before the availability of government debt, Britain’s rich and mighty – the nobility – overwhelmingly invested in land and land improvements. Status was closely tied to land, but improving it was not a profitable enterprise. Many forms of investment yielded a return of 2% of less. No wonder that noblemen were disenchanted with landed investment: By the 1750s, the first nobles were switching massively out of land and into government debt. The Prime Minister Sir Robert Peel advised: “every landowner ought to have as much property (as his estate) in consols or other securities…” (Habbakuk 1994). Many nobles obliged, shifting into an asset with a superior risk-return profile. As Lord Monson put it: “What an infernal bore is landed property. No certain income can be reckoned upon. I hope your future wife will have consols. . . ” (Thompson 1963).
The shift from investing in liming, marling, draining, and enclosure into government debt liberated resources – labor that could no longer be profitably employed in the countryside had to look for employment elsewhere. Because so much of English agricultural labor was provided by wage laborers, the switch to government debt pushed workers off the land. Unsurprisingly, wages failed to keep pace with output; real wages, adjusted for urban disamenities, probably fell over the period 1750-1830. What made life miserable for the workers, as eloquently described by Engels amongst others, was a boon to the capitalists. Their profit rates continued to rise as capital received an ever-larger share of the pie – while the share of national income going to labor and land contracted. Higher profits spelled more investment in new industries, and Britain’s industrial growth accelerated.
By putting debt at the center of our interpretation of the Industrial Revolution, we can provide a unified explanation for a number of features that have so far seemed puzzling. Growth was relatively slow, especially in the beginning (Crafts 1985) – but technological change was probably quite rapid (Temin 1997). Government borrowing slowed capital formation on impact – but structural change was rapid over the period as a whole. Rates of return were high in industry, but little capital chased these returns. Wages failed to keep up with productivity despite the rapid move out of the countryside and into the cities. By emphasizing how government debt issuance ‘healed’ the negative consequences of financial frictions, we can jointly explain rapid structural change and slow growth; rapid technological change and poor wage growth; massive government borrowing and the first take-off into sustained growth.
Good-bye to Downton
The issuance of government debt also accelerated social change – the rise of the capitalists and the decline of nobility. Without it, rates of profit in industry would have been less, and the decline and fall of the nobility as a dominant economic force would have taken much longer.
The solution that would have ensured the fastest growth – a much better financial system – would have preserved England’s social hierarchy entirely. Financial investment from the nobility would have flowed into new sectors via banks and the stock market, allowing the top 1% to earn high returns. The rise of the capitalists would have been long-delayed or been avoided altogether.
The bigger picture
How much of the situation in industrializing England has any relevance for the world as it is now? Is this a tale from a distant island and period of which we know little – to paraphrase Chamberlain – or does it hold lessons for the present? Financial frictions are still very prominent even in the most developed countries today; changing the profitability of revolutionary sectors should have first-order effects on the long-run rate of growth. The issuance of government debt may still crowd out investment that is, overall, inefficient.
These efficiency-enhancing effects of government debt may be all the more important in developing countries. There, the added benefits of debt that we did not discuss – such as providing a safe store of value, and a certain source of liquidity (Holmstrom and Tirole 1998) – may tilt the overall scoresheet even more in favor of government borrowing. None of this is to say that debts may not become excessive (Reinhart and Rogoff 2009) – but when we consider the dangers of debt, we should keep an eye on its potential benefits as well.
Allen, R (2009), “Engel’s pause: A pessimist’s guide to the British Industrial Revolution”, Explorations in Economic History 46 (2): 418–35.
Barro, R J (1987), “Government spending, interest rates, prices, and budget deficits in the United Kingdom, 1701–1918”, Journal of Monetary Economics 20 (2): 221–47.
Crafts, N F R (1985), British Economic Growth during the Industrial Revolution, Oxford: Oxford University Press.
Habakkuk, H J (1994), Marriage, Debt, and the Estates System: English Landownership, 1650-1950, Clarendon Press.
Holmstrom, B R, and J Tirole (1998), “Private and Public Supply of Liquidity”, Journal of Political Economy 106(1): 1-40.
Postan, M M (1935), “Recent trends in the accumulation of capital”, The Economic History Review 6 (1): 1–12.
Temin, P (1997), "Two views of the British industrial revolution", The Journal of Economic History 57(1): 63-82.
Temin, P and H-J Voth (2013), Prometheus Shackled: Goldsmith Banks and England’s Financial Revolution After 1700, Oxford University Press.
Thompson, F M L (1963), “English landed society in the nineteenth century”, English Landed Society in the Nineteenth Century.
Reinhart, C M, and K Rogoff (2009), This Time is Different, Princeton University Press.
Williamson, J G (1984), "Why was British growth so slow during the industrial revolution?" The Journal of Economic History 44(3): 687-712.
I have been neglecting to post the things I write for MoneyWatch:
Boosting Growth Without Raising the Deficit: One of the lessons of the Great Recession is that monetary policy alone isn't enough to offset the effects of a massive economic downturn. Pushing the Federal Reserve's target interest rate as low as it can go, as monetary policy authorities did early in the recession, helped limit its severity.
But once interest rates are near zero, the Fed's power to stimulate the economy diminishes considerably. That means the Fed cannot, by itself, offset and overcome the forces pushing the economy into a severe recession. To accomplish that goal, fiscal policy also has to play a role.
Attempts to use fiscal policy, however, run into a big stumbling block: objections to the large increases in the deficit that come with tax cuts or additional government spending needed to stimulate the economy.
Even though the economics of large deficit increases to finance, say, infrastructure construction are supportive (worries that an increase in the national debt will cause interest rate spikes or other problems appear to be unfounded), the political will needed to pursue deficit spending on infrastructure or anything else simply isn't there.
But one message that did not come through very strongly in public discussions of economic policy during the Great Recession is that stimulative fiscal policy doesn't necessarily require an increase in the deficit. ...[more]...
Here we go again with the flat tax proposals. This time it's Rand Paul:
Blow Up the Tax Code and Start Over, by Rand Paul: Some of my fellow Republican candidates for the presidency have proposed plans to fix the tax system. These proposals are a step in the right direction, but the tax code has grown so corrupt, complicated, intrusive and antigrowth that I’ve concluded the system isn’t fixable.
So on Thursday I am announcing an over $2 trillion tax cut that would repeal the entire IRS tax code—more than 70,000 pages—and replace it with a low, broad-based tax of 14.5% on individuals and businesses. I would eliminate nearly every special-interest loophole. The plan also eliminates the payroll tax on workers and several federal taxes outright, including gift and estate taxes, telephone taxes, and all duties and tariffs. I call this “The Fair and Flat Tax.” ...
He might call it that, but even he admits the rich will pay a lower rate:
The left will argue that the plan is a tax cut for the wealthy. But most of the loopholes in the tax code were designed by the rich and politically connected. Though the rich will pay a lower rate along with everyone else, they won’t have special provisions to avoid paying lower than 14.5%.
Why not just get rid of the special provisions? Why is a flat tax more equitable than taxes based upon ability to pay (i.e. a progressive structure)?
And, of course, this won't provide enough revenue to fund government. How does he solve this? With two pieces of magic. First, magic budget cuts that he leaves unspecified (because proposing what it would actually take to close the budget gap would require severe cuts to social programs that people want to retain), and second, magic economic growth.
On the budget cuts, we get:
my plan would actually reduce the national debt by trillions of dollars over time when combined with my package of spending cuts.
That's it. Somehow, the spending cuts will magically occur (and since we are imagining, guess who they would fall on?). But the biggest magic is the effect on the economy. It's an "economic steroid injection"!!!:
As a senator, I have proposed balanced budgets and I pledge to balance the budget as president.
Here’s why this plan would balance the budget: We asked the experts at the nonpartisan Tax Foundation to estimate what this plan would mean for jobs, and whether we are raising enough money to fund the government. The analysis is positive news: The plan is an economic steroid injection. Because the Fair and Flat Tax rewards work, saving, investment and small business creation, the Tax Foundation estimates that in 10 years it will increase gross domestic product by about 10%, and create at least 1.4 million new jobs.
And because the best way to balance the budget and pay down government debt is to put Americans back to work, my plan would actually reduce the national debt by trillions of dollars over time when combined with my package of spending cuts.
I bet it would almost be as good for the economy as the Bush tax cuts. Oh wait...
Each budget plan derives more than two-thirds of its non-defense budget cuts from programs for people with low or modest incomes even though these programs constitute less than one-quarter of federal program costs. Moreover, spending on these programs is already scheduled to decline as a share of the economy between now and 2025.
The bipartisan deficit reduction plan that Alan Simpson and Erskine Bowles (co-chairs of the National Commission on Federal Policy) issued in 2010 adhered to the basic principle that deficit reduction should not increase poverty or widen inequality. The new Congressional plans chart a radically different course, imposing their most severe cuts on people on the lower rungs of the economic ladder. ...
Controlling the past: In his novel 1984 George Orwell wrote: “Who controls the past controls the future: who controls the present controls the past.” We are not quite in this Orwellian world yet, which means attempts to rewrite history can at least be contested. A few days ago the UK Prime Minister in Brussels said this:
“When I first came here as prime minister five years ago, Britain and Greece were virtually in the same boat, we had similar sized budget deficits. The reason we are in a different position is we took long-term difficult decisions and we had all of the hard work and effort of the British people. I am determined we do not go backwards.”
In other words if only those lazy Greeks had taken the difficult decisions that the UK took, they too could be like the UK today.
This is such as travesty of the truth, as well as a huge insult to the Greek people, that it is difficult to know where to begin. ...
The real travesty ... is in the implication that somehow Greece failed to take the ‘difficult decisions’ that the UK took. ‘Difficult decisions’ is code for austerity. A good measure of austerity is the underlying primary balance. According to the OECD, the UK underlying primary balance was -7% in 2009, and it fell to -3.5% in 2014: a fiscal contraction worth 3.5% of GDP. In Greece it was -12.1% in 2009, and was turned into a surplus of 7.6% by 2014: a fiscal contraction worth 19.7% of GDP! So Greece had far more austerity, which is of course why Greek GDP has fallen by 25% over the same period. A far more accurate statement would be that the UK started taking the same ‘difficult decisions’ as Greece took, albeit in a much milder form, but realized the folly of this and stopped. Greece did not get that choice. And I have not even mentioned the small matter of being in or out of a currency union. ...
Why do Republicans use "magic asterisks" in their budget proposals?:
Trillion Dollar Fraudsters, by Paul Krugman, Commentary, NY Times: By now it’s a Republican Party tradition: Every year the party produces a budget that allegedly slashes deficits, but which turns out to contain a trillion-dollar “magic asterisk” — a line that promises huge spending cuts and/or revenue increases, but without explaining where the money is supposed to come from.
But the just-released budgets from the House and Senate majorities break new ground. Each contains not one but two trillion-dollar magic asterisks: one on spending, one on revenue. And that’s actually an understatement. If either budget were to become law, it would leave the federal government several trillion dollars deeper in debt than claimed, and that’s just in the first decade. ...
The modern G.O.P.’s raw fiscal dishonesty is something new in American politics... And the question we should ask is why.
One answer you sometimes hear is that what Republicans really believe is that tax cuts for the rich would generate a huge boom and a surge in revenue, but they’re afraid that the public won’t find such claims credible. So magic asterisks are really stand-ins for their belief in the magic of supply-side economics, a belief that remains intact even though proponents in that doctrine have been wrong about everything for decades.
But I’m partial to a more cynical explanation. Think about what these budgets would do if you ignore the mysterious trillions in unspecified spending cuts and revenue enhancements. What you’re left with is huge transfers of income from the poor and the working class, who would see severe benefit cuts, to the rich, who would see big tax cuts. And the simplest way to understand these budgets is surely to suppose that they are intended to do what they would, in fact, actually do: make the rich richer and ordinary families poorer.
But this is, of course, not a policy direction the public would support... So the budgets must be sold as courageous efforts to eliminate deficits and pay down debt — which means that they must include trillions in imaginary, unexplained savings.
Does this mean that all those politicians declaiming about the evils of budget deficits and their determination to end the scourge of debt were never sincere? Yes, it does.
Look, I know that it’s hard to keep up the outrage after so many years of fiscal fraudulence. But please try. We’re looking at an enormous, destructive con job, and you should be very, very angry.
I get tired of saying that tax cuts don't pay for themselves, so I'll turn it over to Josh Barro:
Tax Cuts Still Don’t Pay for Themselves: Last week, I wrote about the new tax plan from Senator Marco Rubio and Senator Mike Lee... It calls for big tax credits for middle-income families with children, corporate tax cuts and complete elimination of the capital gains tax — and as a result would cost trillions of dollars in revenue over a decade.
Or would it? The Tax Foundation released a report last week arguing the Rubio-Lee plan would generate so much business investment that, within a decade, federal tax receipts would be higher than if taxes hadn’t been cut at all. ...
I discussed the Tax Foundation report with 10 public finance economists ranging across the ideological spectrum, all of whom said its estimates of the economic effects of tax cuts were too aggressive. “This would not pass muster as an undergraduate’s model at a top university,” said Laurence Kotlikoff, a Boston University professor whom the Tax Foundation specifically encouraged me to call. ...
[T]he House adopted a rule in January that requires “dynamic scoring” of tax bills... In principle, dynamic scoring is fine. Tax policy really does affect the economy... But as the Tax Foundation report shows, dynamic scoring can be misused: You can get essentially any answer you want ... by changing the assumptions...
The crucial thing to watch, in the guts of future C.B.O. reports that rely on dynamic scoring, will be whether the new dynamic assumptions are more reasonable than zero — or whether, like the Tax Foundation assumptions, they take us farther away from accuracy, and make unsupportable promises of tax cuts paying for themselves.
Thoughts about monetary and fiscal policy in a post-inflation world, Brookings: ... Why are we still so focused on fighting inflation? Why are so many people in this room devoting so much time and attention to guessing when the Federal Reserve will start raising short-term interest rates and get back to its “normal” job of protecting us from inflation? Is inflation an important threat to our economic well-being? Is when to raise interest rates the most urgent question facing the Fed at the moment? Or are we suffering from cultural lag?
Collecting linguistic evidence of cultural lags is a minor hobby of mine. I smile when I catch myself referring to the refrigerator as the “ice box,” because that was what my mother called it... I am amused when young people tell me their phones are “ringing off the hook.” Have they ever used a phone with a receiver on a hook? When bureaucrats say they are eager to break out of their silos, I wonder if they if they have ever lived on a farm or anywhere close to a silo. So when politicians and financial journalists ask me earnestly, as they do, whether the Federal Reserve isn’t risking devastating “run-away” inflation by buying all those bonds, I suspect cultural lag. What Inflation? We should be so lucky! Central banks have amply proved that they know how to stop inflation—Paul Volcker showed that. They have been much less successful in getting little inflation going.
A lecture in honor of Paul Volcker is the perfect occasion for raising the fundamental question: are the major advanced economies (US, Europe, Japan) facing a new normal for which current tools of monetary, fiscal, and regulatory policy need to be restructured? ...
Over-coming cultural lag in order to prosper in a post-inflation world will take significant shifts in the mind-set of economists, economic policy-makers, politicians and the public. I see four major challenges to current thinking:
We have to recognize that the main job of central banks is avoiding financial crisis.
We will have to get used to central banks operating at quite low interest rates much of the time and managing big balance sheets without apologies.
We have to rehabilitate budget policy to make it useable again and move to a sustainable debt track at the same time
We have to find constitutional ways of reducing the power of big money in politics and economic policy—or change the Constitution.
I will get back to these four challenges, but first a very quick tour through the macro-policy landscape of the last five or six decades. ...
And, later in the essay (it is relatively long, and I don't agree with every single point that is made, e.g. when she defends ‘Simpson-Bowlesism’ and discusses the need to rein in entitlement spending, and when she argues against selling the idea "that unspecified government spending would add to aggregate demand and accelerate the recovery without adverse consequences to the long-run debt... Unspecified spending and near-term debt increase are what the public and elected officials fear, and they are skeptical of fee lunches. Instead, we have to make the case for very specific public investments that can be shown to have positive impacts on productivity growth and future prosperity" -- deficit spending in a recession has a role to play in stimulating the economy in the short-run, we shouldn't focus only on the long-run growth potential of policy -- but I do agree with the the general thrust of her comments):
... Political polarization has led to angry confrontations over the budget for the last several years complete with threats to shut down the government or default on the national debt and bizarre budget decision processes, such as the Super Committee, the fiscal cliff, and sequestration. These shenanigans are unworthy of a mature democracy and horrendously destructive of confidence in rational economic governance. The result has been worse than gridlock. It has been insanely counterproductive budget policy at a time when the federal budget could have been contributing both to faster recovery and to longer run productivity growth.
I believe the Great Recession would have been longer and deeper without the stimulus package of 2009. If the stimulus had been larger and lasted longer, recovery would have been more robust and the Fed might not have found it necessary to do so much quantitative easing. Indeed, it is pretty crazy economics for a country trying to climb out of a deep recession to put the burden of accelerating a recovery on the monetary authorities—a job they have never been great at—in the face of sharply declining federal deficits that made the task of stimulating recovery with monetary tools a lot more challenging. But that is what we did.
I also believe that the United States has been dangerously under-investing in public infrastructure, scientific research, and the skills of our future labor force. Doing everything we can to nudge productivity growth back up again is essential to future prosperity. With the private investment awaiting more demand and confidence, the public sector should be moving strongly into the breach with well-structured investment in everything from roads to technical training to basic research. Instead, our bizarre budget process has been squeezed the very budget accounts that contain most opportunity for public investment. Discretionary spending is at record lows in relation to the size of the economy and headed lower while the highway trust fund is running dry. How crazy is that?
Making budget policy useful again will take major shifts in political thinking, and here I think economists can help if they use arguments the public and politicians can relate to. First, I would recommend not pushing the argument that unspecified government spending would add to aggregate demand and accelerate the recovery without adverse consequences to the long-run debt. Ball, Summers and DeLong may well be right that hysteresis is so serious a consequence of recession that spending now would juice recovery enough to bring down long run debt. But they are never going to sell that argument. Unspecified spending and near-term debt increase are what the public and elected officials fear, and they are skeptical of fee lunches.
Instead, we have to make the case for very specific public investments that can be shown to have positive impacts on productivity growth and future prosperity. This should not be an argument for larger government, but for shifting from less to more effective government spending and from consumption-oriented spending (including spending in the tax code) to growth oriented spending over time. And, oh yes, that means making the tax code more progressive, more pro-growth, and raising additional revenue, as well as restructuring entitlement programs. There is plenty is such an agenda for both liberals and conservatives to like—if only they could be persuaded to talk about it. ...
Here, income security is mainly EITC, food stamps, and unemployment benefits, plus a few other means-tested aid programs. Health is all major programs — Medicare, Medicaid/CHIP, and at the very end the exchange subsidies.
What this chart tells you right away:
1. The “nation of takers” stuff is deeply misleading. Until the economic crisis, income security had no trend at all. ...
2. When people claimed that spending was exploding under Obama, the only thing actually happening was a surge in income-support programs at a time of genuine distress. People smirked knowingly and declared that everyone knew that the bump in spending would become permanent; it didn’t.
3. If there is a long-run spending problem, it’s overwhelmingly about health care. And we have lately been making remarkable progress on that front.
Low-income program spending grew significantly between 2007 and 2010 in response to the severe economic downturn, helping to mitigate its worst effects. Since peaking in 2010 and 2011, federal spending on low-income programs other than health care has fallen considerably and will continue to fall as a percent of gross domestic product (GDP) as the economy more fully recovers. By 2018, it will — based on Congressional Budget Office estimates — drop below its average over the past 40 years, (from 1975 to 2014) and continue declining as a share of GDP after that.  (See Figure 1.)
As a result, these programs do not contribute to the nation’s long-term fiscal problems. ...
The Austerity Con: ‘The government cannot go on living beyond its means.’ This seems common sense, so when someone puts forward the view that just now austerity is harmful, and should wait until times are better, it appears fanciful and too good to be true. Why would the government be putting us through all this if it didn’t have to?
By insisting on cuts in government spending and higher taxes that could easily have been postponed until the recovery from recession was assured, the government delayed the recovery by two years. And with the election drawing nearer, it allowed the pace of austerity to slow, while pretending that it hadn’t. Now George Osborne is promising, should the Tories win the election in May, to put the country through the same painful and unnecessary process all over again. Why? Why did the government take decisions that were bound to put the recovery at risk, when those decisions weren’t required even according to its own rules? How did a policy that makes so little sense to economists come to be seen by so many people as inevitable? ...
Paul Krugman’s Feb. 2 column, “The Long-Run Cop-Out,” claims that we don’t need to deal with our long-term fiscal challenges any time soon, and that those who argue otherwise are lazy and lacking in courage. His message is a disservice to the critically important debate about our nation’s economic future. ...
Mr. Krugman’s assertion that America followed a course of austerity while the economy was still in a deep slump due to the influence of “Bowles-Simpsonism” ignores the fact that one of the key principles set out in the National Commission on Fiscal Responsibility and Reform report was that deficit reduction must not disrupt the fragile economic recovery.
Indeed, it is largely due to the failure of our elected leaders to reach agreement on long-term deficit reduction along the lines of our recommendations that we ended up with the mindless austerity of sequestration. In our report we recommended delaying significant budget cuts until the economy recovered, and implementing reforms gradually. ...
Does anyone remember Bowles or his associates objecting strenuously to the sequester, getting out in public forums and arguing it was a big mistake? Writing letters and op-eds to the NY Times, that sort of thing? I don't (and see Dean Baker below on this point - Update: from a Tweet by @BowlesSimpson, see here, but I don't see them calling for delay until the economy recovers, only for a different type of austerity, e.g. "simply waiving this sequester — or coming up with some agreement to spend partway between pre- and post-sequester levels — would represent a huge failure. It would send a message to creditors and citizens alike that Washington is not serious about the national debt and that even when lawmakers put in place mechanisms to force seriousness, they will simply vote later to evade them. Deal with the deficit President Barack Obama and Congress have a responsibility to put politics aside and work quickly to replace sequestration and put our fiscal house in order with targeted cuts and real reforms in both the entitlement programs and the tax code.").
As for the budget projections, I'm old enough to remember a time not so long ago when the main worry was what to do about the budget surplus that would begin accumulating (e.g. how could the Fed conduct monetary policy if the supply of T-Bills dried up?). We have no idea what the budget will look like 10 or 15 years from now (unless you have suddenly started to believe that economists have the ability to make accurate forecasts even a year ahead, let alone a decade or more). That's why Krugman said:
It’s true that many projections suggest that our major social insurance programs will face financial difficulties in the future (although the dramatic slowing of increases in health costs makes even that proposition uncertain). If so, at some point we may need to cut benefits. But why, exactly, is it crucial that we deal with the threat of future benefits cuts by locking in plans to cut future benefits?
Dean Baker also responds:
Erskine Bowles Is Back and Still Pushing Austerity: Erskine Bowles, the superhero of the fiscal austerity crowd, took time off from his duties on corporate boards to once again argue the need to "put our fiscal house in order." He apparently hasn't been following the numbers lately. If he had, he would have noticed that growth rate of Medicare and other government health care programs is now on a path that is lower than the proposals that he and Alan Simpson put forward in their report. (He refers to their report as a report of the National Commission on Fiscal Responsibility and Reform. This is not true. According to its bylaws a report would have needed the support of 14 of the 18 members of the commission. The Bowles-Simpson proposal only had support of 10 members of the commission.)
Bowles also inaccurately claims they proposed delaying deficit reduction until after the economy had recovered. In fact, the report proposed deficit reduction of $330 billion (2.0 percent of GDP) beginning in the fall of 2011. This was long before the economy had recovered or would have in any scenario without a large dose of fiscal stimulus.
Bowles also fails to give any reason whatsoever why the country would benefit from dealing with large projected deficits a decade into the future. These projections may themselves be far off the mark, as has frequently been the case in the past. It is also worth noting that the rise in the deficit depends on projections of sharply higher interest rates in the years after 2020. There is no obvious basis for assuming this would be the case.
In the event that large deficits do prove to be a problem in 2025 and beyond there is no obvious reason why we would think that the Congress and president would not be able to deal with them at the time. That is what experience would suggest. In the mean time, we have real problems like millions of people unable to find jobs and tens of millions who have not shared in the benefits of growth for the last fifteen years. Or, to put it in generational terms, we have tens of millions of children growing up in families whose parents don't earn enough to provide them with a comfortable upbringing.
You might think our failure to reduce debt ratios shows that we aren’t trying hard enough — that families and governments haven’t been making a serious effort to tighten their belts, and that what the world needs is, yes, more austerity. But we have, in fact, had unprecedented austerity. ...
All this austerity has, however, only made things worse — and predictably so, because demands that everyone tighten their belts were based on a misunderstanding of the role debt plays in the economy. ...
Because debt is money we owe to ourselves, it does not directly make the economy poorer (and paying it off doesn’t make us richer). True, debt can pose a threat to financial stability — but the situation is not improved if efforts to reduce debt end up pushing the economy into deflation and depression.
Which brings us to current events, for there is a direct connection between the overall failure to deleverage and the emerging political crisis in Europe.
European leaders completely bought into the notion that the economic crisis was brought on by too much spending, by nations living beyond their means. The way forward, Chancellor Angela Merkel of Germany insisted, was a return to frugality. Europe, she declared, should emulate the famously thrifty Swabian housewife.
This was a prescription for slow-motion disaster. European debtors did, in fact, need to tighten their belts — but the austerity they were actually forced to impose was incredibly savage. ...
Suffering voters put up with this policy disaster for a remarkably long time, believing in the promises of the elite that they would soon see their sacrifices rewarded. But as the pain went on and on... Anyone surprised by the left’s victory in Greece, or the surge of anti-establishment forces in Spain, hasn’t been paying attention.
Nobody knows what happens next, although bookmakers are now giving better than even odds that Greece will exit the euro. Maybe the damage would stop there, but I don’t believe it — a Greek exit is all too likely to threaten the whole currency project. And if the euro does fail, here’s what should be written on its tombstone: “Died of a bad analogy.”
The era of "rock-bottom economics" is far from over:
Rock Bottom Economics, by Paul Krugman, Commentary, NY Times: Six years ago the Federal Reserve hit rock bottom. It had been cutting the federal funds rate ... more or less frantically in an unsuccessful attempt to get ahead of the recession and financial crisis. But it eventually reached the point where it could cut no more...
Everything changes when the economy is at rock bottom... But for the longest time, nobody with the power to shape policy would believe it.
What do I mean by saying that everything changes? As I wrote..., in a rock-bottom economy “the usual rules of economic policy no longer apply...” Government spending doesn’t compete with private investment — it actually promotes business spending. Central bankers, who normally cultivate an image as stern inflation-fighters, need to do the exact opposite, convincing markets ... that they will push inflation up. “Structural reform,” which usually means making it easier to cut wages, is more likely to destroy jobs than create them.
This may all sound wild and radical, but ... it’s what mainstream economic analysis says will happen once interest rates hit zero. And it’s also what history tells us. ...
But as I said, nobody would believe it. By and large, policymakers and Very Serious People ... went with gut feelings rather than careful economic analysis. ...
Thus we were told ... that budget deficits were our most pressing economic problem, that interest rates would soar ... unless we imposed harsh fiscal austerity... —... demands that we cut government spending now, now, now have cost millions of jobs and deeply damaged our infrastructure.
We were also told repeatedly that printing money ... would lead to “currency debasement and inflation.” The Fed ... stood up to this pressure, but other central banks didn’t. ...
But... Isn’t the era of rock-bottom economics just about over? Don’t count on it..., the counterintuitive realities of economic policy at the zero lower bound are likely to remain relevant for a long time..., which makes it crucial that influential people understand those realities. Unfortunately, too many still don’t; one of the most striking aspects of economic debate in recent years has been the extent to which those whose economic doctrines have failed the reality test refuse to admit error, let alone learn from it. ...
This bodes ill for the future. What people in power don’t know, or worse what they think they know but isn’t so, can very definitely hurt us.
The impact of the maturity of US government debt on forward rates and the term premium: New results from old data, by Jagjit Chadha: Summary The impact of the stock and maturity of government debt on longer-term bond yields matters for monetary policy. This column assesses the magnitude and relative importance of overall bond supply and maturity effects on longer-term US Treasury interest rates using data from 1976 to 2008. Both factors have a significant impact on both forwards and term premia, but maturity of public debt appears to matter more. The results have implications for exit from unconventional policies, and also for the links between monetary and fiscal policy and debt management.
... Interestingly enough..., now that the deficit is shrinking in large part due to a growing economy—not the other way around—the deficit fetishists seem to have grown silent. Simpson and Bowles are suddenly quiet, and John Boehner is riding other hobbyhorses.
It’s almost as if crying over the deficit weren’t about the deficit at all, but rather a cover for ideological maneuvering. ...
Hiatt Hysterical Over Losing His Schtick: Poor Fred Hiatt. For years, this Editor of the Editorial page of the Washington Post has made his named appearances on the editorial page (he daily bloviates the main ed lead anonymously) only to call for cutting Social Security, and occasionally Medicare as well. This has been his schtick for many years. Now it is over, but he fails to recognize it. ...
So, I feel sorry for Fred. Beating up on seniors who have paid in their taxes for what they are getting has been the one an only topic that has inspired him to write columns under his own name for many years. The new projections of lower deficits, good news to most of us, simply do not register with him. Actually, they probably do. But Krugman is right. As much as anybody, he is the longstanding VSP in DC who has been whining for years about cutting Social Security and Medicare, whose excuse for this argument has simply disappeared, but he and his pals simply are not willing to face the new facts.
O.K., the federal budget hasn’t actually been balanced. But the Congressional Budget Office has tallied up the totals for fiscal 2014..., and reports that the deficit plunge of the past several years continues. ...
So where are the ticker-tape parades? For that matter, where are the front-page news reports? After all, talk about the evils of deficits and the grave fiscal danger facing America dominated Washington for years. Shouldn’t we be making a big deal of the fact that the alleged crisis is over?
Well, we aren’t, and once you understand why, you also understand what fiscal hysteria was really about.
First, ordinary Americans aren’t celebrating the deficit’s decline because they don’t know about it. That’s not mere speculation...
Why doesn’t the public know better? Probably because of the way much of the news media report this and other issues, with bad news played up and good news downplayed if it’s reported at all.
This has been glaringly obvious in the case of health reform, where every problem ... has been the subject of headlines, while in right-wing media — and to some extent in mainstream news sources — favorable developments go unremarked. As a result, many people — even, in my experience, liberals — have the impression that the rollout of Obamacare has been a disaster, and have no idea that enrollment is above expectations, costs are lower than expected, and the number of Americans without insurance has dropped sharply. Surely something similar has happened on the budget deficit. ...
Deficit scolds actually love big budget deficits, and hate it when those deficits get smaller. Why? Because fears of a fiscal crisis — fears that they feed assiduously — are their best hope of getting what they really want: big cuts in social programs. ...
But isn’t the falling deficit just a short-term blip, with the long-run outlook as dire as ever? Actually, no..., there has ... been a dramatic slowdown in the growth of health spending — and if that continues, the long-run fiscal outlook is much better than anyone thought possible not long ago. ...
So let’s say goodbye to fiscal hysteria. I know that the deficit scolds are having a hard time letting go; they’re still trying to bring back the days when Bowles and Simpson bestrode the Beltway like colossi. But those days aren’t coming back, and we should be glad.
Do we need a crisis to reduce the deficit?: The macroeconomic case for not cutting the deficit straight after a major recession is as watertight as these things get, at least outside of the Eurozone. (It is also true for the Eurozone, but just a bit more complicated, so its easier to just focus on the US and UK in this post.) If you want to bring the government deficit and debt down, you do so when interest rates are free to counter the impact on aggregate demand. As the problems of high government debt are long term there is no urgency for debt reduction, so the problem can wait. The costs of fiscal consolidation in a liquidity trap are large and immediate, as we have experienced to our cost.
Sometimes austerity proponents will admit this basic macroeconomic truth, but say that it ignores the politics. Politics means that it is very difficult for governments to reduce debt during booms, they say. Although it would be nice to wait for interest rates to rise before cutting the deficit, it will not happen if we do, so we have to cut now. Like all good myths, this is based on a half truth: in the 30 years before the recession, debt tended to rise as a share of GDP in most OECD countries. And it always sounds wise to say you cannot trust politicians.
However both the UK and US show that this is not some kind of iron law of politics. ...
The answer is that Mr. Gross’s fall is a symptom of a malady that continues to afflict major decision-makers, public and private. Call it depression denial syndrome: the refusal to acknowledge that the rules are different in a persistently depressed economy. ...
Now, we normally think of deficits as a bad thing — government borrowing competes with private borrowing, driving up interest rates, hurting investment... But, since 2008, we have ... been stuck in a liquidity trap... In this situation,... deficits needn’t cause interest rates to rise. ...
All this may sound strange and counterintuitive, but it’s what basic macroeconomic analysis tells you. ... But many, perhaps most, influential people in the alleged real world refused to believe...
Which brings me back to Mr. Gross.
For a time, Pimco — where Paul McCulley, a managing director at the time, was one of the leading voices explaining the logic of the liquidity trap — seemed admirably calm about deficits, and did very well as a result. ...
Then something changed. Mr. McCulley left Pimco at the end of 2010..., and Mr. Gross joined the deficit hysterics, declaring that low interest rates were “robbing” investors and selling off all his holdings of U.S. debt. In particular, he predicted a spike in interest rates when the Fed ended a program of debt purchases in June 2011. He was completely wrong, and neither he nor Pimco ever recovered.
So is this an edifying tale in which bad ideas were proved wrong by experience, people’s eyes were opened, and truth prevailed? Sorry, no. In fact, it’s very hard to find any examples of people who have changed their minds. People who were predicting soaring inflation and interest rates five years ago are still predicting soaring inflation and interest rates today, vigorously rejecting any suggestion that they should reconsider their views in light of experience.
And that’s what makes the Bill Gross story interesting. He’s pretty much the only major deficit hysteric to pay a price for getting it wrong (even though he remains, of course, immensely rich). Pimco has taken a hit, but everywhere else the reign of error continues undisturbed.
The risks from tightening policy too soon are much greater than the risks from leaving policy in place too long:
The Forever Slump, by Paul Krugman, Commentary, NY Times: It’s hard to believe, but almost six years have passed since the fall of Lehman Brothers ushered in the worst economic crisis since the 1930s. ... Recovery is far from complete, and the wrong policies could still turn economic weakness into a more or less permanent depression.
In fact, that’s what seems to be happening in Europe as we speak. And the rest of us should learn from Europe’s experience. ...
European officials eagerly embraced now-discredited doctrines that allegedly justified fiscal austerity even in depressed economies (although America has de facto done a lot of austerity, too, thanks to the sequester and cuts at the state and local level). And the European Central Bank, or E.C.B., not only failed to match the Fed’s asset purchases, it actually raised interest rates back in 2011 to head off the imaginary risk of inflation.
The E.C.B. reversed course when Europe slid back into recession, and, as I’ve already mentioned, under Mario Draghi’s leadership, it did a lot to alleviate the European debt crisis. But this wasn’t enough. ...
And now growth has stalled, while inflation has fallen far below the E.C.B.’s target of 2 percent, and prices are actually falling in debtor nations. It’s really a dismal picture. ... Europe will arguably be lucky if all it experiences is one lost decade.
The good news is that things don’t look that dire in America, where job creation seems finally to have picked up and the threat of deflation has receded, at least for now. But all it would take is a few bad shocks and/or policy missteps to send us down the same path.
The good news is that Janet Yellen, the Fed chairwoman, understands the danger; she has made it clear that she would rather take the chance of a temporary rise in the inflation rate than risk hitting the brakes too soon, the way the E.C.B. did in 2011. The bad news is that she and her colleagues are under a lot of pressure to do the wrong thing from [those] who seem to have learned nothing from being wrong year after year, and are still agitating for higher rates.
There’s an old joke about the man who decides to cheer up, because things could be worse — and sure enough, things get worse. That’s more or less what happened to Europe, and we shouldn’t let it happen here.
Will the US inflate away its public debt?, by Ricardo Reis, Vox EU: Should the US Federal Reserve raise the inflation target from its current level of 2%? And will it? One benefit would be to make hitting the zero lower bound less likely, which would lead to less severe recessions, as Olivier Blanchard, Giovanni Dell’Ariccia, and Paolo Mauro (2010), Daniel Leigh (2010), and Laurence Ball (2013) have argued on this website. Other benefits of higher inflation that Kenneth Rogoff has been emphasising for a while might include accelerating the fall in real wages during the recession, and deflating away debt overhang (Rogoff 2014).1
One of the most indebted economic agents is the government. The federal debt limit has had to be raised repeatedly in the past few years, and at the end of the 2013 fiscal year the gross federal debt outstanding was 101% of GDP – the highest ratio since 1948. It is therefore natural to imagine – like Aizenman and Marion (2009) –that inflating away the public debt is possible, perhaps effective, and maybe even desirable. Using a simple rule of thumb to estimate the effect of higher inflation on the real value of debt, they venture that US inflation of 6% for four years could reduce the debt-GDP ratio by roughly 20%.
However, in our recent work we show that the probability that US inflation lowers the real value of the debt by even as little as 4.2% of GDP is less than 1% (Hilscher, Raviv and Reis, 2014). Why is this estimate so small? We show that there are two reasons: first, the private sector holds shorter maturity debt; second, high levels of inflation in the next few years are extremely unlikely. ...
One way or another, budget constraints will always hold. This is true as much for a household or a firm as it is for the central bank or the government as a whole. If the US government is to pay its debt, then it must either raise fiscal surpluses or hope for higher economic growth; the former is painful and the latter is hard to depend on. It is therefore tempting to yield to the mystique of central banking and believe in a seemingly feasible and reliable alternative: expansionary monetary policy and higher inflation.3 Crunching through the numbers we find that this alternative is not really there.
The Fiscal Fizzle, by Paul Krugman, Commentary, NY Times: For much of the past five years readers of the political and economic news were left in little doubt that budget deficits and rising debt were the most important issue facing America. Serious people constantly issued dire warnings that the United States risked turning into another Greece ...
I’m not sure whether most readers realize just how thoroughly the great fiscal panic has fizzled...
In short, the debt apocalypse has been called off.
Wait — what about the risk of a crisis of confidence? There have been many warnings that such a crisis was imminent, some of them coupled with surprisingly frank admissions of disappointment that it hadn’t happened yet. For example, Alan Greenspan warned of the “Greece analogy,” and declared that it was “regrettable” that U.S. interest rates and inflation hadn’t yet soared.
But that was more than four years ago, and both inflation and interest rates remain low. Maybe the United States, which among other things borrows in its own currency and therefore can’t run out of cash, isn’t much like Greece after all.
In fact, even within Europe the severity of the debt crisis diminished rapidly once the European Central Bank began doing its job, making it clear that it would do “whatever it takes” to avoid cash crises in nations that have given up their own currencies and adopted the euro. Did you know that Italy, which remains deep in debt and suffers much more from the burden of an aging population than we do, can now borrow long term at an interest rate of only 2.78 percent? Did you know that France, which is the subject of constant negative reporting, pays only 1.57 percent?
So we don’t have a debt crisis, and never did. Why did everyone important seem to think otherwise?
To be fair, there has been some real good news about the long-run fiscal prospect, mainly from health care. But it’s hard to escape the sense that debt panic was promoted because it served a political purpose — that many people were pushing the notion of a debt crisis as a way to attack Social Security and Medicare. And they did immense damage along the way, diverting the nation’s attention from its real problems — crippling unemployment, deteriorating infrastructure and more — for years on end.
Medicare growth is really low: ... It turns out that actual Medicare growth for the first eight months of the fiscal year has been 0.3%. That’s amazing. But, of course, there are some temporary policies in place that have been restraining spending. These include things like the seqester, some ACA stuff, and frozen means-tested Medicare premium income thresholds.* Without these policies in place, growth would have been 2.5%. ...
Economic growth is 3.9%. That means that Medicare growth is nowhere near the GDP + 1% or so that would be needed to see the IPAB kick in. This has important, and positive, effects on the long-term federal budget outlook.
*Of course, there are temporary ACA-related things like the filling-in donut hole, which are increasing spending as well, so actual growth is likely less. Amazing!
America's Debt and the Economy: A Hard Look at Public Spending and Finance: With mandatory programs consuming 13.6 percent of GDP and rising, security spending at 5 percent, debt service at 1.5 percent (under benign interest-rate conditions), and revenue at 19 percent, there is little or no room in the nation's budget to fund the discretionary programs that support competitiveness and growth over the long term. That will require investment in infrastructure, technology, environmental protection, education and job training, among other areas. Despite the shutdowns and threats of default, both Republicans and Democrats understand that our future prosperity demands a responsible focus on these imperatives. But how can the government's budgeting process move beyond short-term fixes? This discussion will identify areas for strategic bipartisan collaboration to put the U.S. on track for meaningful reform, leading to the creation of a budget that better addresses our challenges and reflects our priorities.
Douglas Holtz-Eakin, President, American Action Forum; Former Director, Congressional Budget Office; Former Chief Economist, Council of Economic Advisers
Steven Rattner, Chairman, Willett Advisors; Former Counselor and Lead Auto Advisor to the U.S. Secretary of the Treasury
Gene Sperling, Former Director, National Economic Council, The White House
Moderator: Maria Bartiromo, Anchor and Global Markets Editor, Fox Business Network
I heard things such as:
Need to get spending under control to create a good investment climate.
Large spending programs are crowding out discretionary programs such as defense and infrastructure.
One of the most serious issues we face.
Wait until rates go up.
Nobody in Washington is interested in talking about it.
We have to cut entitlements (Medicare, Medicaid, Social Security).
Our economic growth is lower because of the debt. Our economy is worse off because of it.
Huge benefit right now from cutting deficit.
Anyone who is sensible would agree with us.
Neither Bush nor Obama has been willing to explain to the public what a huge problem the debt is.
We need to do this, it is an important thing for our children.
President needs to make this a national priority, like it did with income inequality.
With all the problems in the world, is now the time to be cutting defense spending?
Simpson Bowles was a very, very, very good plan.
You get the idea. There was very little about tradeoffs, e.g. higher unemployment when we reduce the debt during a not so robust recovery, though Sperling did address this a bit, not enough on revenue enhancement, and -- though it did come up at times -- the relationship between health care costs and our long-term debt problems was not made as clear as it should have been.
When it comes to recovering from the recession, these people are the problem, not the solution.
But maybe I'm just being cranky (and biased from the start) -- watch the video and tell me what you think...
Another quick one. John Cassidy on Paul Ryan's budget:
Ryan Budget Shows G.O.P. Stuck in Rah-Rah Land, by John Cassidy: Here’s all you need to know about the G.O.P.’s effort to face reality, moderate its policies, and present a more coherent policy platform to voters in 2016. David Camp, the Michigan Republican who chairs the powerful House Ways and Means Committee, and who in February introduced a sweeping tax-reform plan that, at least, recognized the basic laws of arithmetic, is leaving Congress. Paul Ryan, the conservative Moses of Capitol Hill, is sticking around. On Wednesday, he unveiled the latest of his right-wing manifestos, thinly disguised as a serious budget, proposing to repeal Obamacare, privatize Medicare, and slash spending on Medicaid and food stamps.
No, it wasn’t an April Fool’s joke. The Republican Party’s reform effort, which was heralded by a March, 2013, internal report that said that the G.O.P. was trapped in “an ideological cul de sac,” is over almost before it had begun. On issue after issue (gun control, immigration, gay marriage, Obamacare, climate change, unemployment benefits, the minimum wage), suggestions that the Party might revise its extreme positions have been stomped on. The ultras have won out. And nowhere is this more true than in the biggest policy area of all: taxes and spending. ...
But the intransigence of the right wasn’t the only disease troubling America’s body politic in 2012. We were also suffering from fiscal fever... Instead of talking about mass unemployment and soaring inequality, Washington was almost exclusively focused on the alleged need to slash spending (which would worsen the jobs crisis) and hack away at the social safety net (which would worsen inequality).
So the good news is that this fever, unlike the fever of the Tea Party, has finally broken. ... What changed?...
First, the political premise behind “centrism” — that moderate Republicans would be willing to meet Democrats halfway in a Grand Bargain combining tax hikes and spending cuts — became untenable. There are no moderate Republicans. ...
Second, a combination of rising tax receipts and falling spending has caused federal borrowing to plunge. This is actually a bad thing, because premature deficit-cutting damages our still-weak economy... But a falling deficit has undermined the scare tactics so central to the “centrist” cause. Even longer-term projections of federal debt no longer look at all alarming.
Speaking of scare tactics, 2013 was the year journalists and the public finally grew weary of the boys who cried wolf... — for example, when Erskine Bowles and Alan Simpson ... warned that a severe fiscal crisis was likely within two years. But that was almost three years ago.
Finally, over the course of 2013 the intellectual case for debt panic collapsed. ... For ... several years fiscal scolds ... leaned heavily on a paper by ... Carmen Reinhart and Kenneth Rogoff, suggesting that government debt has severe negative effects on growth when it exceeds 90 percent of G.D.P. ...
Then Thomas Herndon, a graduate student at the University of Massachusetts, reworked the data, and found that the apparent cliff at 90 percent disappeared once you corrected a minor error and added a few more data points. ...
Still, does any of this matter? You could argue that it doesn’t — that fiscal scolds may have lost control of the conversation, but that we’re still doing terrible things like cutting off benefits to the long-term unemployed. But while policy remains terrible, we’re finally starting to talk about real issues like inequality, not a fake fiscal crisis. And that has to be a move in the right direction.
And I do mean fantasies. Washington has spent the past three-plus years in
terror of a debt crisis that keeps not happening, and, in fact, can’t happen
to a country like the United States, which has its own currency and borrows
in that currency. Yet the scaremongers can’t bring themselves to let go.
Consider, for example, Stanley Druckenmiller... Or consider the
deficit-scold organization Fix the Debt, led by the omnipresent Alan Simpson
and Erskine Bowles. ... [gives examples of doomsaying] ...
As I’ve already suggested, there are two remarkable things about this kind
of doomsaying. ... On the Chicken Little aspect: It’s actually awesome, in a
way, to realize how long cries of looming disaster have filled our airwaves
and op-ed pages. For example, I just reread
an op-ed article by Alan Greenspan ... warning that our budget deficit
will lead to soaring inflation and interest rates ... published in June
2010... — and both inflation and interest rates remain low. So has the
ex-Maestro reconsidered his views after having been so wrong for so long?
Not a bit. ...
Meanwhile, about that oft-prophesied, never-arriving debt crisis:... two and
half years ago,
Mr. Bowles warned that we were likely to face a fiscal crisis within
around two years... They just assume that it would cause soaring interest
rates and economic collapse, when
both theory and evidence suggest otherwise. ...
Look at Japan, a country that, like America, has its own currency and
borrows in that currency, and has much higher debt relative to G.D.P. than
we do. Since taking office, Prime Minister Shinzo Abe has, in effect,...
persuaded investors that deflation is over and inflation lies ahead, which
reduces the attractiveness of Japanese bonds. And the effects on the
Japanese economy have been entirely positive! ...
Why, then, should we fear a debt apocalypse here? Surely, you may think,
someone in the debt-apocalypse community has offered a clear explanation.
But nobody has.
So the next time you see some serious-looking man in a suit declaring that
we’re teetering on the precipice of fiscal doom, don’t be afraid. He and his
friends have been wrong about everything so far, and they literally have no
idea what they’re talking about.
Dealing With Default, by Paul Krugman, Commentary, NY Times: So
Republicans may have decided to raise the debt ceiling without conditions
attached — the details still aren’t clear. Maybe that’s the end of that
particular extortion tactic, but maybe not, because, at best, we’re only
looking at a very short-term extension. The threat of hitting the ceiling
So what are the choices if we do hit the ceiling? ... What would a general
default look like? ...
First, the U.S. government would ... be ... failing to meet its legal
obligations to pay. You may say that things like Social Security checks
aren’t the same as interest due on bonds... But ... Social Security benefits
have the same inviolable legal status as payments to investors.
Second, prioritizing interest payments would reinforce the terrible
precedent we set after the 2008 crisis, when Wall Street was bailed out but
distressed workers and homeowners got little or nothing. We would, once
again, be signaling that the financial industry gets special treatment
because it can threaten to shut down the economy if it doesn’t.
Third, the spending cuts would create great hardship if they go on for any
length of time. Think Medicare recipients turned away from hospitals...
Finally, while prioritizing might avoid an immediate financial crisis, it
would still have devastating economic effects. We’d be looking at an
immediate spending cut
roughly comparable to the plunge in housing investment after the bubble
burst... That by itself would surely be enough to push us into recession.
And it wouldn’t end there. As the U.S. economy went into recession, tax
receipts would fall sharply, and the government, unable to borrow, would be
a second round of spending cuts, worsening the economic downturn,
reducing receipts even more, and so on. So ... we could ... be looking at a
slump worse than the Great Recession.
Wouldn’t this be breaking the law? Maybe, maybe not — opinions differ. But
not making good on federal obligations is also breaking the law. And if
House Republicans are pushing the president into a situation where he must
break the law no matter what he does, why not choose the version that hurts
America least? ...
So what will happen if and when we hit the debt ceiling? Let’s hope we don’t
The deficit scolds have a new battle cry -- ignore them:
Detroit, the New Greece, by Paul Krugman, Commentary, NY Times: When
Detroit declared bankruptcy, or at least tried to — the legal situation has
gotten complicated — I know that I wasn’t the only economist to have a
sinking feeling about the likely impact on our policy discourse. Was it
going to be Greece all over again? ...
O.K., what am I talking about? As you may recall, a few years ago Greece
plunged into fiscal crisis. ... Now, the truth was that Greece was a very
special case, holding few if any lessons for wider economic policy — and
even in Greece, budget deficits were only one piece of the problem.
Nonetheless, for a while policy discourse across the Western world was
completely “Hellenized” — everyone was Greece, or was about to turn into
Greece. And this intellectual wrong turn did huge damage to prospects for
So now the deficit scolds have a new case to misinterpret...; let’s obsess
about municipal budgets and public pension obligations!
Or, actually, let’s not.
Are Detroit’s woes the leading edge of a national public pensions crisis?
No. State and local pensions are indeed underfunded,... Boston College
estimates suggest that overall pension contributions this year will be about
$25 billion less than they should be. But in a $16 trillion economy, that’s
just not a big deal...
So was Detroit just uniquely irresponsible? Again, no. Detroit does seem to
have had especially bad governance, but for the most part the city was just
an innocent victim of market forces. ...
True, in Detroit’s case matters seem to have been made worse by political
and social dysfunction. ... So by all means let’s have a serious discussion
about how cities can best manage the transition when their traditional
sources of competitive advantage go away. And let’s also have a serious
discussion about our obligations, as a nation, to those of our fellow
citizens who have the bad luck of finding themselves living and working in
the wrong place at the wrong time — because, as I said, decline happens, and
some regional economies will end up shrinking, perhaps drastically, no
matter what we do.
The important thing is not to let the discussion get hijacked, Greek-style.
There are influential people out there who would like you to believe that
Detroit’s demise is fundamentally a tale of fiscal irresponsibility and/or
greedy public employees. It isn’t. For the most part, it’s just one of those
things that happens now and then in an ever-changing economy.
Why are we so worried about highly uncertain budget projections extending decades into the future when we have very real problems such as high levels of unemployment that need our immediate attention?
Fight the Future, by Paul Krugman, Commentary, NY Times: Last week the
International Monetary Fund, whose normal role is that of stern
disciplinarian to spendthrift governments,... argued that the sequester and
other forms of fiscal contraction will cut this year’s U.S. growth rate by
almost half, undermining what might otherwise have been a fairly vigorous
recovery. And these spending cuts are both unwise and unnecessary.
Unfortunately, the fund apparently couldn’t bring itself to break completely
with the austerity talk that is regarded as a badge of seriousness in the
policy world. Even while urging us to run bigger deficits for the time
being, Christine Lagarde, the fund’s head, called on us to “hurry up with
putting in place a medium-term road map to restore long-run fiscal
So here’s my question: Why, exactly, do we need to hurry up? Is it urgent
that we agree now on how we’ll deal with fiscal issues of the 2020s, the
2030s and beyond?
No, it isn’t. And in practice, focusing on “long-run fiscal sustainability”
— which usually ends up being mainly about “entitlement reform,” a k a cuts
to Social Security and other programs — isn’t a way of being responsible. On
the contrary, it’s an excuse, a way to avoid dealing with the severe
economic problems we face right now.
What’s the problem with focusing on the long run? Part of the answer ... is
that the distant future is highly uncertain (surprise!)... In particular,
projections of huge future deficits are to a large extent based on the
assumption that health care costs will continue to rise substantially faster
than national income — yet the growth in health costs has slowed
dramatically in the last few years, and the long-run picture is already
looking much less dire...
When will we be ready for a long-run fiscal deal? My answer is, once voters
have spoken decisively in favor of one or the other of the rival visions
driving our current political polarization. Maybe President Hillary Clinton,
fresh off her upset victory in the 2018 midterms, will be able to broker a
long-run budget compromise with chastened Republicans; or maybe demoralized
Democrats will sign on to President Paul Ryan’s plan to privatize Medicare.
Either way, the time for big decisions about the long run is not yet.
And because that time is not yet, influential people need to stop using the
future as an excuse for inaction. The clear and present danger is mass
unemployment, and we should deal with it, now.
The Big Shrug, by Paul Krugman, Commentary, NY Times: ...For more than
three years some of us have fought the policy elite’s damaging obsession
with budget deficits ... that led governments to cut investment when they
should have been raising it, to destroy jobs when job creation should have
been their priority. That fight seems largely won —... I don’t think I’ve
ever seen anything quite like the sudden intellectual collapse of austerity
economics as a policy doctrine.
But while insiders no longer seem determined to worry about the wrong
things, that’s not enough; they also need to start worrying about the right
things — namely, the plight of the jobless and the immense continuing waste
from a depressed economy. And that’s not happening. Instead, policy makers
both here and in Europe seem gripped by a combination of complacency and
fatalism, a sense that nothing need be done and nothing can be done. Call it
the big shrug.
Even the people I consider the good guys ... aren’t showing much sense of
urgency these days. For example,... the Federal Reserve’s ... talk of “tapering,” of
letting up on its efforts, even though inflation is below target, the
employment situation is still terrible and the pace of improvement is
glacial at best. ...
Why isn’t reducing unemployment a major policy priority? One answer may be
that inertia is a powerful force... As long as we’re adding jobs, not losing
them, and unemployment is basically stable or falling ... policy makers
don’t feel any urgent need to act.
Another answer is that the unemployed don’t have much of a political voice.
... A third answer is that while we aren’t hearing so much these days from
the self-styled deficit hawks, the
monetary hawks ... have, if anything, gotten even more vociferous. It
doesn’t seem to matter that the monetary hawks, like the fiscal hawks, have
an impressive record of being wrong about everything (where’s that runaway
inflation they promised?). ...
The tragedy is that it’s all unnecessary. Yes, you hear talk about a “new
normal”..., but all the reasons given for this ... fall apart when subjected
to careful scrutiny. If Washington would reverse its destructive budget
cuts, if the Fed would show the “Rooseveltian resolve” that Ben Bernanke demanded of
Japanese officials back when he was an independent economist, we would
quickly discover that there’s nothing normal or necessary about mass
So here’s my message to policy makers: Where we are is not O.K. Stop
shrugging, and do your jobs.
Deficit reduction as a "sacred excuse for ... cruelty":
Welfare for the Wealthy, by Mark Bittman, Commentary, NY Times: The
critically important Farm Bill is impenetrably arcane, yet as it worms its
way through Congress, Americans who care about justice ... can parse enough of it to become outraged. The legislation costs
around $100 billion annually, determining policies on matters that are
The current versions of the Farm Bill in ... the House ... is proposing $20 billion in cuts to SNAP —
equivalent ... to “almost half of all the charitable food assistance that
food banks and food charities provide to people in need.”
Deficit reduction is the sacred excuse for such cruelty, but the first could
be achieved without the second. Two of the most expensive programs are food
stamps, the cost of which has justifiably soared since the beginning of the
Great Recession, and direct subsidy payments.
This pits the ability of poor people to eat — not well, but sort of enough —
against the production of agricultural commodities. That would be a
difficult choice if the subsidies were going to farmers who could be crushed
by failure, but in reality most direct payments go to those who need them
Among them is Congressman Stephen Fincher, Republican of Tennessee, who
justifies SNAP cuts by quoting 2 Thessalonians 3:10: “For even when we were
with you, we gave you this command: Anyone unwilling to work should not
Even if this quote were not taken out of context... [there is no need] to
break a sweat countering his “argument”... 45 percent of food stamp
recipients are children, and in 2010, the U.S.D.A. reported that as many as
41 percent are working poor. ... Fincher himself [is] a hypocrite.
For the God-fearing Fincher is one of the largest recipients of U.S.D.A.
farm subsidies in Tennessee history; he raked in $3.48 million in taxpayer
cash from 1999 to 2012, $70,574 last year alone. The average SNAP recipient
in Tennessee gets $132.20 in food aid a month; Fincher received $193 a day.
Fincher is not alone in disgrace, even among his Congressional colleagues,
but he makes a lovely poster boy for a policy that steals taxpayer money
from the poor and so-called middle class to pay the rich...
From the Mouths of Babes, by Paul Krugman, Commentary, NY Times: ...I
usually read reports about political goings-on with a sort of weary
cynicism. Every once in a while, however, politicians do something so wrong,
substantively and morally, that cynicism just won’t cut it; it’s time to get
really angry instead. So it is with the ugly, destructive war against food
Food stamps have played an especially useful — indeed, almost heroic — role
in recent years. In fact, they have done triple duty. First, as millions of
workers lost their jobs..., food stamps ... did significantly mitigate their
misery. Food stamps were especially helpful to children...
But there’s more. ... We desperately needed (and still need) public policies
to promote higher spending on a temporary basis — and the expansion of food
stamps ... is just such a policy. Indeed, estimates from ... Moody’s
Analytics suggest that each dollar spent on food stamps in a depressed
economy raises G.D.P. by about $1.70...
Wait, we’re not done yet. Food stamps greatly reduce food insecurity among
low-income children, which, in turn, greatly enhances their chances of ...
growing up to be successful, productive adults. So food stamps are ... an
investment in the nation’s future...
So what do Republicans want to do with this paragon of programs? First,
shrink it; then, effectively kill it.
The shrinking part comes from the latest farm bill released by the House
Agriculture Committee... That bill would push about two million people off
the program. ...
These cuts are, however, just the beginning... Remember,... Paul Ryan’s
budget is still the official G.O.P. position..., and that budget calls for
converting food stamps into a block grant program with sharply reduced
spending. If this proposal had been in effect when the Great Recession
struck,... it ... would have meant vastly more hardship, including a lot of
outright hunger, for millions of Americans, and for children in particular.
Look, I understand the supposed rationale: We’re becoming a nation of
takers, and doing stuff like feeding poor children and giving them adequate
health care are just creating a culture of dependency — and that culture of
dependency, not runaway bankers, somehow caused our economic crisis.
But I wonder whether even Republicans really believe that story — or at
least are confident enough in their diagnosis to justify policies that more
or less literally take food from the mouths of hungry children. As I said,
there are times when cynicism just doesn’t cut it; this is a time to get
really, really angry.
Spurred by renewed interest on the topic, especially as evidenced by the
work by Kimball and Wang, I decided to finally post this short working
paper on my website that
builds on my guest
blog post from a month and half ago:
A Note on Debt, Growth and Causality: Abstract: This
note documents the timing in the relationship between the debt-to-GDP ratio
and real GDP growth in advanced economies during the post World War II
period using the Reinhart and Rogoff dataset. I first show that the
debt ratio is more clearly associated with the 5-year past average growth
rate, rather than the 5-year forward average growth rate–indicating a
problem of reverse causality. Indeed, there is little evidence of a lower
growth rate above the 90 percent threshold when using the 5-year forward
average growth rate. I use a number of simple tools to account for some of
the reverse causality in the bivariate regression–such as using forward
growth rate, instrumenting the current debt ratio with its lag, and
controlling for lagged GDP growth rates. These simple methods of
accounting for reverse causality diminish the size of the association by
between 50 and 70 percent, with the linear regression estimate
indistinguishable from zero. Finally non- and semi-parametric plots provide
visual confirmation that the relationship between debt-to-GDP ratio and
growth is essentially flat for debt ratios exceeding 30 percent when we (1)
use forward growth rates, (2) control for past GDP growth, or both.
Stop celebrating our falling deficits: It’s time to stop celebrating
last week’s Congressional Budget Office report. Our deficits aren’t dropping
because we’re doing something right. They’re dropping because we’re doing
everything wrong. ...
The CBO is saying that
the federal government will be pulling demand out of the economy in 2013,
2014 and 2015. It will then start adding demand back in again — meaning
we’ll be increasing the deficit — from 2016 through 2023, and presumably
That is literally the opposite of what we should want. Textbook economics
says the government should add demand when the economy is weak and pull back
when the economy is strong. The economy — and particularly the labor market
— will remain weaker than we’d like in 2013, 2014 and 2015. That’s when the
government should be helping, or at least making sure not to hurt too fast.
It should be much stronger from 2016 to 2023. That’s when the government
should be backing off. ...
Yes, debt rose substantially in the face of economic crisis — which is what
is supposed to happen. But runaway deficits? Not a hint.
Yes, there are longer-term issues of health costs and demographics. As
always, however, these have no relevance to what we should be doing now...
Meanwhile, our policy discourse has been dominated for years by what turns
out to be a false alarm. To the millions of Americans who are out of work
and may never get another job thanks to premature fiscal austerity, the VSPs
would like to say, “oopsies!”
Or maybe not even that. ...
It's a good scam if your goal is to reduce the size and influence of
government: implement spending cuts that slow the economy, never mind the unemployed, then call loudly for
tax cuts and deregulation to spur economic growth. Repeat as needed.
Jon Chait notes some bad news for deficit hawks and opponents of Obamacare:
Give Back that Pulitzer, Wall Street Journal Editorial Page: The recent
slowdown in health-care costs is one of those facts, like climate change or
the rapid growth after Bill Clinton raised taxes, that flummoxes American
conservatism. The slowdown of health-care costs is one of the most important
developments in American politics. The long-term deficit crisis — those
scary charts Paul Ryan likes to hold up, with federal spending soaring to
absurd levels in a grim socialist dystopian future — all assume the cost of
health care will continue to rise faster than the cost of other things. If
that changes, the entire premise of the American debate changes. And there’s
a lot of evidence to suggest it is changing — health-care costs have slowed
dramatically, and experts believe it’s happening for non-temporary reasons.
The general conservative response to date has involved ignoring the trend,
or perhaps dismissing it as a temporary, recession-induced dip... Yesterday, the Wall Street Journal editorial page offered up
what may be the new conservative fallback position: Okay, health-care costs
are slowing down, but it has absolutely nothing to do with the huge new
health-care reform law. “It increasingly looks as if ObamaCare passed amid a
national correction in the health markets,” the Journal now asserts, “that
no one in Congress or the White House understood.” It’s another one of those
huge, crazy coincidences!
Of course, it’s not just that the Journal didn’t predict the health-care
cost slowdown. The Journal insisted ... that Obamacare would ...
necessarily lead to a massive increase in health-care inflation. In a series of hysterical, freedom-at-dusk editorials which were, unbelievably, awarded
a Pulitzer Prize for commentary, the Journal expounded extensively on
this belief. ...
The ... fact that the right is being forced to fall back from predicting a staggering rise in health-care costs to explaining away the staggering decline in health-care costs represents real progress...
More bad news for deficit hawks from the CBO. Ezra Klein explains:
The last time the CBO estimated our future deficits was February– just four
short months ago. Back then, the CBO thought deficits were falling and
health-care costs were slowing. Today, the CBO thinks deficits are falling
even faster and health-care costs are slowing by even more.
Here’s the short version: Washington’s most powerful budget nerds have cut
their prediction for 2013 deficits by more than $200 billion. They’ve cut
their projections for our deficits over the next decade by more than $600
billion. Add it all up and our 10-year deficits are looking downright
Debt and the Deficit: What's Really on the Table?
Monday, April 29, 2013 2:15 PM - 3:15 PM
Bob Corker, U.S. Senator
David Cote, Chairman and CEO, Honeywell; Steering Committee Member,
Campaign to Fix the Debt
Maya MacGuineas, Head, Campaign to Fix the Debt; President, Committee
for a Responsible Federal Budget
Peter Orszag, Vice Chairman, Corporate and Investment Banking,
Citigroup; former Director, Office of Management and Budget
Moderator: Steven Rattner, Chairman, Willett Advisors; former Counselor and
Lead Auto Advisor to the U.S. Secretary of the Treasury
With outsize debt putting the stability of credit markets and the pace of
economic growth at risk, will Americans embrace shared sacrifice to set the
country on a path toward fiscal health? Or is the problem essentially the
result of gridlock in Washington? And what does "shared sacrifice" actually
mean? Who will bear the heavier burden: the rich, the elderly, the middle
class? Are Simpson and Bowles still relevant? Our panel will examine the
economics and politics around our accumulating public debt and annual
deficit, with an eye toward palatable and realistic solutions. Can we grow
our way out of the mess? How will we cope with the twin hazards of graying
demographics and healthcare inflation? Back to the credit markets: Are
Treasuries as safe as they seem?
There was remarkably little discussion of increasing revenues through tax rate increases. There was some
discussion of increasing revenue, but it was mainly about eliminating deductions like
home interest rather than increasing tax rates. Instead, most of the
focus was on, surprise, "entitlement reform" with only Orszag being careful to
point to health care costs as the main problem to solve.
The most entertaining moment was when the business guy on the panel, David
Cote, said that unlike in business where what you think, say, and do must align, for Congress
these are different decisions. Senator Corker said he was offended by
that comment and went on to defend Congress (e.g. saying many people in business
don't understand that politicians have to represent a diverse constituency). Ha.
A Republican fighting with a business rep, then defending government. Too bad he
wants to cut the crap out of it.
Other than that, the degree of hawkery and the implicit assumption that the only way to solve problems with our long-run budget picture is to cut social insurance programs the working class relies upon was, in fact, irritating. The continued discussion about deficit reduction as the key to spurring private sector growth was similarly irritating. It's exactly what we heard about the Bush tax cuts, and we know how that turned out. A huge increase in the debt load with little (if any) increased growth to show for it.
Finally, as far as I recall, the word "unemployment" did not come up. In the short-run, deficit hawkery is what's standing in the way of doing more to help with the unemployment problem. The key question -- whether the concern in the short-run with the debt rather than the unemployed is justified in the short-run (it isn't in my view) -- was not even discussed.
It and the
graph led very many astray. It led the usually-unreliable Washington
Post editorial board to condemn the "new school of thought about
the deficit…. 'Don’t worry, be happy. We’ve made a lot of progress', says an
array of liberal pundits… [including] Martin Wolf of the Financial Times…"
on the grounds that "their analysis assumes steady economic growth and no
war. If that’s even slightly off, debt-to-GDP could… stick dangerously near
the 90 percent mark that economists regard as a threat to sustainable
economic growth." (Admittedly, experience since the start of the millennium
gives abundant evidence that the Washington Post needs no empirical
backup from anybody in order to lie and mislead in whatever way the wind
It misled European Commissioner Olli Rehn to claim that "when
[government] debt reaches 80-90% of GDP, it starts to crowd out activity in
the private sector and other parts of the economy." Both of these--and a
host of others--think that if debt-to-annual-GDP is less than 90% (or, in
Rehn's case, 80%, and I have no idea where the 80% comes from) an economy is
safe, and that only if it is above 90% is the economy's growth in danger.
And in their enthusiasm when they entered congressional briefing mode it
led Reinhart and Rogoff themselves astray. ...
Matthew O'Brien relays Tim Fernholz of Quartz's flagging of the
following passage from Senator Tom Coburn:
Johnny Isakson, a Republican from Georgia and always a gentleman,
stood up to ask [Reinhart and Rogoff] his question: "Do we need to act
this year? Is it better to act quickly?"
"Absolutely," Rogoff said. "Not acting moves the risk closer," he
explained, because every year of not acting adds another year of debt
accumulation. "You have very few levers at this point," he warned us.
Reinhart echoed Conrad's point and explained that countries rarely
pass the 90 percent debt-to-GDP tipping point precisely because it is
dangerous to let that much debt accumulate. She said, "If it is not
risky to hit the 90 percent threshold, we would expect a higher
Our empirical research on the history of financial crises and the
relationship between growth and public liabilities supports the view
that current debt trajectories are a risk to long-term growth and
stability, with many advanced economies already reaching or exceeding
the important marker of 90 percent of GDP…. The biggest risk is that
debt will accumulate until the overhang weighs on growth…
Yet the threshold at 90% is not there. In no sense is there empirical
evidence that a 90% ratio of debt-to-annual-GDP is in any sense an
"important marker", a red line. That it appears to be in Reinhart and
Rogoff's paper is an artifact of Reinhart and Rogoff's non-parametric
method: throw the data into four bins, with 90% the bottom of the top bin.
There is, instead, a gradual and smooth decline in growth rates as
debt-to-annual-GDP increases. 80% looks only trivially different than 100%.
...the sequester is throwing around 600,000 people out of work according to
the Congressional Budget Office. These are people who have the necessary
skills to fill jobs in the economy but who will not be working because
people in Washington lack the skills to design policies to keep the economy
near full employment.
The Jobless Trap, by Paul Krugman, Commentary, NY Times: F.D.R. told us
that the only thing we had to fear was fear itself. But when future
historians look back at our monstrously failed response to economic
depression, they probably won’t blame fear, per se. Instead, they’ll
castigate our leaders for fearing the wrong things.
For the overriding fear driving economic policy has been debt hysteria...
After all, haven’t economists proved that economic growth collapses once
public debt exceeds 90 percent of G.D.P.?
Well, the famous red line on debt, it turns out, was an artifact
of dubious statistics, reinforced by bad arithmetic. ... But while debt
fears were and are misguided, there’s a real danger we’ve ignored: the
corrosive effect, social and economic, of persistent high unemployment. ...
Five years after the crisis, unemployment remains elevated, with almost 12
million Americans out of work. But what’s really striking is the huge number
of long-term unemployed, with 4.6 million unemployed more than six months
and more than three million who have been jobless for a year or more. Oh,
and these numbers don’t count those who have given up looking for work
because there are no jobs to be found. ...
The key question is whether workers who have been unemployed for a long time
eventually come to be seen as unemployable, tainted goods that nobody will
buy. ... And there is, unfortunately, growing evidence that the tainting of
the long-term unemployed is happening as we speak. ... So we are indeed
creating a permanent class of jobless Americans.
And let’s be clear: this is a policy decision. The main reason our economic
recovery has been so weak is that, spooked by fear-mongering over debt,
we’ve been doing exactly what basic macroeconomics says you shouldn’t do —
cutting government spending in the face of a depressed economy.
It’s hard to overstate how self-destructive this policy is. Indeed, the
shadow of long-term unemployment means that austerity policies are
counterproductive even in purely fiscal terms. Workers, after all, are
taxpayers too; if our debt obsession exiles millions of Americans from
productive employment, it will cut into future revenues and raise future
Our exaggerated fear of debt is, in short, creating a slow-motion
catastrophe. It’s ruining many lives, and at the same time making us poorer
and weaker in every way. And the longer we persist in this folly, the
greater the damage will be.
Will the "Reinhart-Rogoff fiasco" change "the obviously intense desire of
policy makers, politicians and pundits across the Western world to turn their
backs on the unemployed and instead use the economic crisis as an excuse to
slash social programs"?:
The Excel Depression, by Paul Krugman, Commentary, NY Times: ... At the
beginning of 2010, two Harvard economists, Carmen Reinhart and Kenneth
Rogoff, circulated a paper ... that purported to identify a critical
“threshold,” a tipping point, for government indebtedness. Once debt exceeds
90 percent of gross domestic product, they claimed, economic growth drops
Ms. Reinhart and Mr. Rogoff had credibility thanks to a widely admired
earlier book on the history of financial crises, and their timing was
impeccable. The paper came out just after Greece went into crisis and played
right into the desire of many officials to “pivot” from stimulus to
austerity. As a result, the paper ... was, and is, surely the most
influential economic analysis of recent years.
In fact,... Reinhart-Rogoff faced substantial criticism from the start... As
soon as the paper was released, many economists pointed out that a negative
correlation between debt and economic performance need not mean that high
debt causes low growth. It could just as easily be the other way around,
with poor economic performance leading to high debt. ...
Over time, another problem emerged: Other researchers ... couldn’t replicate
the Reinhart-Rogoff results. ... Finally,... the mystery of the
irreproducible results was solved. First, they omitted some data; second,
they used unusual and highly questionable statistical procedures; and
finally, yes, they made an Excel coding error. Correct these oddities and
errors, and you get what other researchers have found: some correlation
between high debt and slow growth, with no indication of which is causing
which, but no sign at all of that 90 percent “threshold.” ...
The ... Reinhart-Rogoff fiasco needs to be seen in the broader context of
austerity mania: the obviously intense desire of policy makers, politicians
and pundits across the Western world to turn their backs on the unemployed
and instead use the economic crisis as an excuse to slash social programs.
... For three years,... austerity advocates insisted ... that terrible
things happen once debt exceeds 90 percent of G.D.P. But “economic research”
showed no such thing; a couple of economists made that assertion, while many
others disagreed. Policy makers abandoned the unemployed and turned to
austerity because they wanted to, not because they had to.
So will toppling Reinhart-Rogoff from its pedestal change anything? I’d like
to think so. But I predict that the usual suspects will just find another
dubious piece of economic analysis to canonize, and the depression will go
on and on.
... It shocks people when I tell them the deficit as a percent of GDP is already
close to being cut in half (this doesn't seem to ever make headlines). As
Hatzius notes, the deficit is currently running under half the peak of the
fiscal 2009 budget and will probably decline further over the next few years
with no additional policy changes.
Like many economists, I used to quote these past luminaries with a certain
smugness. After all, modern macroeconomics had shown how wrong they were,
and we wouldn’t repeat the mistakes of the 1930s, would we?
How naïve we were. It turns out that the urge to purge — the urge to see
depression as a necessary and somehow even desirable punishment for past
sins, while inveighing against any attempt to mitigate suffering — is as
strong as ever. Indeed, Mellonism is everywhere these days. Turn on CNBC or
read an op-ed page, and the odds are that you ... encounter an alleged
expert ranting about the evils of budget deficits and money creation, and
denouncing Keynesian economics as the root of all evil.
Now, the fact is that these ranters have been wrong about everything, at
every stage of the crisis, while the Keynesians have been mostly right. ...
But the Mellonites just keep coming. The
latest example is David Stockman...
So what should we be doing? ... To deal with the crisis..., we need monetary
and fiscal stimulus, to induce those who aren’t too deeply indebted to spend
more while the debtors are cutting back.
But that prescription is, of course, anathema to Mellonites, who wrongly see
it as more of the same policies that got us into this trap. And that, in
turn, tells you why liquidationism is such a destructive doctrine: by
turning our problems into a morality play of sin and retribution, it helps
condemn us to a deeper and longer slump.
The bad news is that sin sells. Although the Mellonites have, as I said,
been wrong about everything, the notion of macroeconomics as morality play
has a visceral appeal that’s hard to fight. Disguise it with a bit of
political cross-dressing, and even liberals can fall for it.
But they shouldn’t. Mellon was dead wrong in the 1930s, and his avatars are
dead wrong today. Unemployment, not excessive money printing, is what ails
us now — and policy should be doing more, not less.