August 09, 2011
And dispensing with childish things, such as the belief that our economic future can be secured by spending cuts alone. From "The Downgrading of a Debtor Nation", by me and Jeffry Frieden, in today's New York Times:
THE Treasury can cry foul all it wants, but the decision by Standard & Poor’s to downgrade America’s credit rating by one notch last Friday, and the subsequent plunge in the stock market, are serious symptoms of a loss of confidence -- an assessment that is fundamentally political, not economic.
There is little question about the technical ability of America to make good on its debts — but there are grave questions about the political system’s ability to resolve our nation’s financial problems.
The debt-ceiling deal between President Obama and Congressional Republicans merely staved off a crisis of confidence for the moment. It does not address our immediate need to avoid falling back into recession, or our longer-term need to raise enough revenue to pay for the social spending Americans want.
Moreover, the deal sidesteps the fundamental challenge the country now faces: who will pay to fix what was broken during the past decade by irresponsible tax cuts, ruinously expensive wars, failures of regulation and the resulting housing and financial booms and busts?
In the short term, the plan cuts a bit of discretionary nondefense spending, a category that in fact has not grown particularly rapidly. This is a mistake. With unemployment at 9.1 percent, and long-term joblessness at record levels, we need more spending, not less. But the agreement all but rules out new spending to boost the economy, at a dangerous time. The chances of a double-dip recession are growing — and a further slowdown will increase, not reduce, the budget deficit.
The longer-term spending and revenue commitments are no better. Certainly spending, in particular on Medicare and Medicaid, needs to be restrained. But the deficits cannot be reined in without tax increases, and the "framework" does little or nothing in this regard. The S. & P. decision to downgrade reflects, in large part, the expectation that Republicans will not allow the Bush tax cuts to expire.
The recent skirmishes all dance around the central issue: the United States is in the midst of the world’s largest debt crisis. The Treasury now owes the public almost $10 trillion, including $4.5 trillion to foreigners — and that doesn’t include what households and companies owe. For decades to come, Americans will face the core problem of every heavily indebted nation: who will bear the burden of adjustment?
Countries borrow for many purposes: canals and railroads in the 19th century, factories and highways in the 20th, and in the last decade, a housing and financial boom in Europe and America. When the projects don’t pan out and the debtor country falls into crisis, what happens to the accumulated debts? Who pays? Creditors or debtors? Workers or investors? Rich or poor? The European Union is tearing itself apart over this question, which divides creditor nations from debtor nations and which divides groups within nations. The American variant of this conflict is just beginning.
Perhaps, some Americans believe, we can shunt the adjustment costs onto foreigners. Indeed, our creditors worry that the United States will reduce its debt burden the old-fashioned way, by inflating it away. A few years of moderate inflation, and a weaker dollar, would significantly lessen the real cost of servicing the country’s debts — at our creditors’ expense.
But adjusting to the reality of America’s accumulated debts will inevitably require sacrifices at home. The battle over who will be sacrificing has already begun, albeit under veils of rhetoric. The Republicans seem unconcerned about stimulating recovery, and primarily concerned that none of the long-term costs of balancing our budget be paid by upper-income taxpayers. No surprise: unemployment among the one-third of Americans with the highest incomes is barely 4 percent, while for the lowest third it is more than four times that level.
The Democrats, for their part, seem content to insist that the adjustment burden not fall on beneficiaries of government spending, whether public employees or recipients of social spending. This reflects their base in the labor movement, the public sector and the poor.
We lost the first decade of the 21st century by squandering our wealth and borrowing as if there was no tomorrow. We risk losing this decade to an incomplete recovery and economic stagnation.
An economically responsible, politically feasible distribution of the costs of working our way out of the crisis will require higher taxes, a more efficient tax code, and restrained growth of social spending, particularly Medicare. To ignore these realities, and the contentious choices they entail, is merely to postpone the inevitable day of reckoning -- and probably to make it worse.
Menzie D. Chinn, a professor of public affairs and economics at the University of Wisconsin, Madison, and Jeffry A. Frieden, a professor of government at Harvard, are the authors of the forthcoming "Lost Decades: The Making of America’s Debt Crisis and the Long Recovery."
To drive home the point that revenues are critical, I present this updated graph of total spending and tax revenues:
Figure 1: Federal current expenditures, line 20, BEA Table 3.2 (red) and sum of Federal tax receipts and social program contributions, lines 2 and 11, BEA Table 3.2 (blue), both divided by GDP. Solid black line is linear trend over period EGTRRA and JGTRRA in place. All raw figures in billions of $, SAAR. Numbers are ratios to GDP for 2011Q1 (2011Q2 tax revenues not available). NBER defined recession dates shaded gray. Dashed lines at 2001Q1 and 2009Q1. Source: BEA, 2011Q2 advance release, NBER, and author’s calculations.
Note the trend decline in overall tax revenues since 2001Q1, when tax cuts were implemented.
I have another observation regarding short term stimulus. Consider a situation where after a brief recovery from a recession, growth has dropped to 0.7% (q/q SAAR). The government in power plans a tax cut, and increased government spending on goods and services. In the succeeding quarters, growth picks up to 3.4%, and then 6.8%. The President at the time is George W. Bush; as of January 2003, 2002Q4 growth was estimated by BEA to be far below the stall speed that we speak of these days, that is 2%. The stimulus included a tax cut and a (new) war (financed by borrowing).
Figure 2: GDP growth (blue bar) and defense spending on goods and services contribution to GDP growth (red bar), SAAR. Source: BEA, 2011Q2 advance release.
I’m not proposing a war; nor am I proposing tax cuts of the EGTRRA/JGTRRA type which were remarkably ineffective at short term stimulus (but good at blowing a
whole in the nation's finances). I’m merely noting that one can stimulate the economy with government spending. Why not do it by spending on productive activities (like enhancing the nation's infrastructure), instead of invading a country and looking for WMDs? (More on accidental military Keynesianism here).
Posted by Menzie Chinn at August 9, 2011 06:47 AMdigg this | reddit
I just read an account of the 1937 "double dip" of the Great Depression and FDR's thoughts in 1938 on how to get us out of his mess. His only tool was spending but he has run out of ways to spend. The option he chose was to spend on the military and subsequently WWII.
President Obama is running into the same problem. Massive spending didn't solve any of FDR's problems but it did postpone the inevitable a few years. He had to keep spending and increase spending.
I believe that war a serious war is more possible today than in recent years. Libya was not about a military problem but a way to increase spending on the military.
I laugh at Conservatives who oppose President Obama because they fear he will cut the military. His Keynesian bent will lead him to exactly the opposite decisions. I am surprised Krugman is not leading the pack on this.
Posted by: Ricardo at August 9, 2011 07:59 AM
Nicely written piece. And even the possibility of budget cuts!
I personally doubt we'll see more stimulative spending, so we'll pretty much have to take the next recession straight up. Consequently, I would expect we'll see both material tax increases and severe spending cuts if the economy does indeed fall into recession--and they will come at nearly the worst possible moment. This in turn implies that we'll see British-style riots and looting in the US by spring of next year.
If our energy budget is not sufficiently large, then we must reduce our economic activity to match it. So, we're really just arguing about who will bear the cost of adjustment, not the necessity of it.
Posted by: Steven Kopits at August 9, 2011 08:04 AM
"Stimulating the economy" by gov't borrowing and spending is being advocated in the long-term secular context that the US value-add productive sector peaked with US domestic crude oil production in 1970-85, after which deindustrialization and financialization (as well as feminization) of the US economy and society commenced.
The $10 trillion in US debt owned by the public (in excess of 100% of private GDP) and $14 trillion in gross public debt (and $50+ trillion of implied obligations from refunding plus interest and growth of same in the next 20-30 years) simply cannot be serviced in the long run with Peak Oil, no increase in industrial production for 10-12 years, falling net energy per capita, and no or negative real per capita private GDP growth.
Since US peak crude production and the deindustrilization of the US economy, gov't spending and debt-money supply per capita has grown at an avg. annualized rate of 2 1/2 times that of industrial production and private GDP.
Thus, at the long-term trend rates of production, private GDP, and gov't spending since US peak oil production, gov't spending will have to be cut 30-35% over the next 10-20 years, and up to 40-45% to 50% per capita, reducing nominal GDP by 1%/yr. and 1.7% per capita, resulting in a negative avg. real private per capita GDP indefinitely hereafter.
Growth is over. Now we have to figure out how to adapt to contraction from the global structural effects of a permanent decline in liquid fossil fuel net energy and ensure a socially acceptable level of standard of material consumption per capita (or not).
Alas, economists, CEOs, Wall St., policy makers, financial media pundits, and the public have yet to concede that uneconomic growth is over and an entirely different system of social, economic, and political organization is required; however, there is not even a discussion (publicly, that is) of what a viable alternative would be, as multiple generations are now locked into institutional inertia, financial and professional self-interest, and associated conventional policy prescriptions to encourage the resumption of growth of aggregate demand that is no longer possible.
The only school of thought, if you will, that has anticipated our current predicament and takes into account the obvious thermodynamic limits to growth of population and resource consumption on a finite planet (and a "full world" with "the economy" as a sub-set of the ecological system rather than the converse) is ecological or biophysical economics, which, regrettably, conventional economics to date considers a fringe group and worthy of immediate dismissal.
Posted by: Bruce at August 9, 2011 08:13 AM
I could not imagine a more accurate analysis, but I'm sure the commenters that follow willl: those with economic, political, and historical amnesia, with an idealogical ax to grind. I have been embarrassed by some of the tone directed at Mr. Chinn of late. Take a deep breath, think of your mother, pretend that she might read your comments. Disagree if you do, but disagree civilly.
I think the 4 billion reduction package the president tried to get met the analysis you offer.
Posted by: edgolb at August 9, 2011 08:31 AM
Just to repeat. When there is money hoarding and the most profitable activity appears to be digging for gold, raising marginal tax rates is stimulative.
Use it or lose it. Take the money and begin massive hiring at the federal, state and municipal levels.
Posted by: beezer at August 9, 2011 08:58 AM
You contradicted yourself. First you said "There is little question about the technical ability of America to make good on its debts". The technical ability is of course a fiat money system in which the govt can make any payment. Willingness to pay is a different story, but technical ability is rock solid. But then you say "our longer-term need to raise enough revenue to pay for the social spending Americans want." Technically (as above) the govt can make any payment without needing revenue; that is the nature of a fiat money system. We can argue whether the "future social spending Americans want" will be inflationary, but raising revenue for govt spending is not applicable in a fiat money system. There is no difference in the govt writing the check to pay its debt, or fund social spending.
Funny, when it comes to making payments to wealthy govt bond holders the check gets cut. When it comes to making payments to grandma, we need revenue. I thought you were more on grandma's side.
Posted by: markg at August 9, 2011 09:09 AM
There is no way to reconcile the disagreement between the left and the right, someone will be unhappy. Still, macro theory tells use that the Federal government could be cut down to 15 or 16% of GDP fairly quickly (two years? three?) and the resulting AD loss made up for through monetary expansion. So I think at the end of the day, that the choice to balance through cuts alone or cuts+taxes alone is political, not economic. Cuts can alone *can* balance the budget without causing deflation.
Should one wish to raise some taxes, economic theory and evidence suggests that the way to go about that would be through taxes on the middleclass. I remember Mankiw showing a while back that the U.S. had a very (the most?) progressive tax regime in the developed world. I live in Sweden, one of the few countries which spends more per head on all levels of gov't than the US (usually running a surplus), where we pay 25% VAT on most goods and 30% top rates on modest wage income. No non oilrich society raises the type of revenue American "needs" without going after the middleclass. Food for thought.
Posted by: JPIrving at August 9, 2011 09:17 AM
I don't see rationality gaining much traction these days.
The issue of GWBush "stimulus" is interesting in many ways. It does correlate with improvement in the economy and the argument has often been made that, see, tax cuts worked because the economy was approaching a peak before the financial crisis. It's difficult to separate cyclical effects from any stimulus provided by tax cuts.
As for war spending, I'd say the homeland security spending was likely more stimulative because much of the war spending was overseas. Military spending has local stimulus effects, as anyone who has lived near military bases or suppliers knows, but the wars don't involve that large a percentage of the US economy.
I also tend to agree with the point of view that much of the tax cuts stimulus was wasted; it went into financial assets, went to the rich under silly trickle down thinking (and then was invested in financial assets). The worst argument is that it benefitted luxury goods makers, as though that matters to the economy as a whole. But it may be the tax cut effects were wasted because we had this huge financial asset bubble - and I'm obviously including real estate because securitization drove value. I don't see how anyone can know.
One can take the decade and see a mess of an economy that needs dramatic change in the face of world competition. One can also look at the same thing and see an economy that was responding cyclically and was then blown up by the financial crisis. One can then take these perspectives and see different prescriptions.
Posted by: jonathan at August 9, 2011 09:27 AM
Has anyone published research regarding the political inability of a democratic government to manage its economy? It appears to me to be an inherent structural problem. About 12% of the US electorate is strongly "conservative." About 13% is strongly "liberal." That means that 25% can never agree upon anything absent an emergency. Even the less dogmatic split at nearly 50-50 on their views of what constitutes appropriate governmental intervention in the economy.
JUST reading this blog regularly shows that people who are interested and educated regarding economics cannot agree upon the right way to address the economic problems facing the US. The fact that these same problems (and worse) effect the economies of the most rest of the developed nations seems to indicate that any given sovereign state cannot effectively manage its own economy. Those who assert the failure of Keynesian theory and those who assert the failure of monetarists ought to factor into their arguments the fact that in free countries the government is NOT actually an independent agent.
I postulate that neither discipline, on its own, works effectively. The internationalization of the behemoth US economy dilutes the effectiveness of both disciplines. However, I do believe that trying to increase the consumption of the one economy that consumes nearly 40% of the world's resources is not sustainable in the long run.
Is there an economics school that addresses my concers?
Posted by: JLR at August 9, 2011 09:36 AM
JLR: the names of Alesina, Tabellini, Sebastian Edwards and Allen Drazen spring to mind as a group who have done a lot of work on modeling political economy using game theory for example.
There is a paper I think called "Why Are Stabilizations Delayed" that is interesting.
This piece by Chinn and Friedman seems to me to be one of the most cogent I have seen. I will have my intro students read it.
Posted by: pcle at August 9, 2011 09:56 AM
"...the deficits cannot be reined in without tax increases, and the "framework" does little or nothing in this regard."
Glaringly incorrect. Two counter-examples of reduction without tax increases that made it through the House - the Ryan budget and Cut Cap and Balance. The Democrats cannot give up their fixation with siphoning money from the private economy to the parasitic sector. Tax increases trump everything else in Dem-reality.
Posted by: Anonymous at August 9, 2011 10:31 AM
Nothing new or original here. Perhaps Menzie can use it in his undergraduate classes ...... IF he's actually any teaching any undergraduates this year (instead of his usual shirking)...
Posted by: Tiredoflazy UW profs at August 9, 2011 10:34 AM
You will also notice that when the Bush tax rate cuts were made effective in 2003, revenues as a percentage of GDP began to climb from slightly under 16% to somewhat above 18% - and that in a rising economy. As I recall, tax revenues were "unexpectedly" higher each year.
You want more revenue? Get the boot off the economy's neck. Oh, and retire King Putt (not my invention, but I like it) to the links permanently in 2013.
Posted by: November2012stimulus at August 9, 2011 12:19 PM
Would it be possible to put the names of the persons posting a comment in front of the comment?
It would be helpful.
Posted by: DILBERT DOGBERT at August 9, 2011 12:31 PM
Figure 1 is pretty interesting. Despite that linear trendline, in '07 tax revenues were above the long term average of 18% of GDP. Peak revenues in 2007 were not significantly lower than previous peaks, excluding the Clinton bubble years. Most interestingly, peak revenues exceeded revenues throughout the 1980s.
I don't know, it seems that Figure 1 tells the story of whatever it is that you want it to say. I can't separate my anti-tax bias from what it is saying, and I suspect that Menzie and the other side cannot as well.
It is pretty clear that, on the spending side, the Bush II years were profligate. We didn't get the decline in spending that we did coming out of previous recessions.
You got a spelling mistake in the last paragraph, Menzie (should be "hole", not "whole").
Posted by: Buzzcut at August 9, 2011 01:27 PM
"Is there an economics school that addresses my concers?"
JLR, real per capita uneconomic growth is no longer possible on a finite, spherical planet. War is not the answer (war being the business of empire, and war being good business). Capitalism's logic is self-defeating in thermodynamic terms. Socialism as it has evolved is unsustainable because the system relies upon perpetual growth of population, resource consumption, and tax receipts made possible by capitalism's surplus from cheap, readily accessible liquid fossil fuels.
Please see the links below for your consideration:
Posted by: Bruce at August 9, 2011 01:38 PM
Steven writes: "I personally doubt we'll see more stimulative spending, so we'll pretty much have to take the next recession straight up. Consequently, I would expect we'll see both material tax increases and severe spending cuts if the economy does indeed fall into recession--and they will come at nearly the worst possible moment. This in turn implies that we'll see British-style riots and looting in the US by spring of next year."
Yes, one might refer to the situation as "slash and burn": the technocrats and politicians slash, and the masses burn.
". . . If our energy budget is not sufficiently large, then we must reduce our economic activity to match it. So, we're really just arguing about who will bear the cost of adjustment, not the necessity of it."
Yes, indeed. But the net energy costs to building out "alternative energy", including shale and tar sands, will rise (net energy per capita will fall) in any case given the cumulative costs of alternative energy build out and simultaneously maintaining the crude oil infrastructure indefinitely.
And the more central banks print and gov'ts try to borrow and spend (and bail), the lower the US$ and higher nominal costs of energy and materials are passed through to business inputs and consumer budgets with peak global oil production and falling net oil exports from oil-producing countries, reducing real net energy throughput, investment, production, wages, profits, and payrolls.
In the long run, the slower the economy, the lower the returns (or negative returns) to financialization, and the less surplus there will be to sustain the "alternative energy" build out (even replacement at current output), exacerbating the lower net energy returns (increasing net energy costs) of "alternatives".
Posted by: Bruce at August 9, 2011 01:58 PM
Buzzcut, the US spends 10% of private GDP and nearly 40% of federal receipts on perpetual war for oil empire, including "supplemental" war spending.
Since '00-'01, US war spending has grown at a rate 2.6 times private GDP, nearly doubling the share of private GDP during the same period.
This is "war as economic policy by other means", which is classic empire, funding increasing military overstretch and bankrupting the imperial treasury in the process.
At the trend rates of private GDP and war spending since the onset of the secular bear market and slow-motion depression, the US will hit the proverbial fiscal wall by no later than '15-'16, at which point we might begin to resemble the Soviet Union/Russian Federation of the '90s.
Posted by: Bruce at August 9, 2011 02:15 PM
No Member of Congress shall recieve his or her pay for the quarter following any quarter in which i) trailing twelve month Federal cash outlays exceed 20% of GDP and ii) trailing twelve month Federal cash revenues fall below 20% of GDP, allowing for a transition period from current budget thresholds as stated below:
Outlay thresholds, as a percent of GDP:
2016 and thereafter: 20%
Cash revenues thresholds, as a percent of GDP:
2015 and thereafter: 20%
Personally, I would prefer performance-based bonuses, but I could live with this. And the experience of California suggests that it would work.
Posted by: Steven Kopits at August 9, 2011 02:16 PM
Well said; and it needs to be said to a lot of people -over and over.
Posted by: Mike Laird at August 9, 2011 02:34 PM
You think that the Ryan plan addressed the deficits? Not at all. It had more tax cuts for the wealthy and is not scheduled to bring about a balanced budget until the next decade, after which it gets there by dumping rising health care costs on poorer old people with its voucher scheme.
As for cut, cap, and balance, it lacks even the specifics of the Ryan plan, nothing but pure eyewash and posturing, just a joke, quite aside from the fact that any sort of balanced budget amendment that does not allow for recessions or wars would be very destructive in the future.
Posted by: Barkley Rosser at August 9, 2011 02:35 PM
Menzie I’m not proposing a war
I won't propose one either, but I would propose a temporary increase in some kinds of military spending. What kinds of military spending? Specifically, operations and maintenance money directed at rebuilding, remanufacturing and overhauling beat-up equipment. Your link to "accidental military Keynesianism" referred to Reset costs. The dirty secret about Reset is that it only repaired 90% of the equipment to what is known as an "inspect and repair only as necessary" standard. Only 10% of the end items of equipment were actually overhauled or remanufactured. This percentage breakout was driven by costs and needing to turn equipment around quickly in order to meed redeployment schedules (known as ARFORGEN)
After 10 years of constant war across two continents the US Army has built up quite an iron mountain. We have tanks, Bradleys, howitzers, Strykers, helicopters, HMMWVs, trucks, etc. piled up everywhere. Tens of thousands of vehicles in bad need of repair. We have two choices. The first choice is to repair the stuff we have now to a "like new" standard. This would not only put people to work, it would also prop up automotive parts suppliers, avaiation and avionics companies, etc. And after this remanufacturing effort we would have a large capital investment that we could just sit on until (God forbid) we needed it in a future war. The alternative is to junk today's iron mountain and then watch the Pentagon demand new shiney toys in the future to replace what was junked today. Guess which path we're starting to follow?
So not only would an aggressive rebuild/remanufacturing program have a positive stimulative effect when we need it most, but it would also make it easier to deny future Pentagon requests for new toys if they've already got "like new" equipment sitting on the shelf.
Other kinds of military spending would include military housing construction, environmental clean-up at BRAC sites that can't actually close down due to toxic waste, energy efficiencies at base operations, etc. The stupidest kind of military spending would be new procurement appropriation and research dollars for new toys.
Posted by: 2slugbaits at August 9, 2011 03:35 PM
Wow! I didn't know that those plummeting tax revenues in from 2007 to current were dues to cuts in the tax rate by Bush in 2007. Or perhaps it's just more Menzie dishonesty....
Tax revenues as a % of GDP rose to 18+% after the Bush cut tax rates in 2003. Since the economy wasn't quite at full employment in 2006 (and early 2007), full employment tax revenues under the Bush tax regime are probably close to 19%. And yet the liberal leeches like Menzie (who rank among the least productive in society) want even higher taxes on the productive elements of society. Greed! There is no GREED like the greed of a liberal.....
Posted by: Robert at August 9, 2011 04:30 PM
“And dispensing with childish things, such as the belief that our economic future can be secured by spending cuts alone.” Tantrum-like you sweep all the vegetables from the tray-top to the floor with your very first sentence. Why would anyone want to debate after such an ungracious start, Menzie? They don’t. They just lurk or go elsewhere.
“… our longer-term need to raise enough revenue to pay for the social spending Americans want.” You mean what the freeloading 50% who are living off the working class want… since the salt of the earth working class American manifestly does not want taxes raised the way liberal academics like you do.
“irresponsible tax cuts” Far more irresponsible is out-of-control spending now at 25% of GDP. Tax revenues as a proportion of GDP are not out of line with any historical anything. And everybody in Western Civilization can see it plain as the nose on their face from the graph.
Countries borrow for many purposes. That’s a fact; but your examples are a distortion. It’s entitlements, Menzie. Canals and railroads and factories and highways are red herrings. Why don’t you talk straight about the core of the problem – excessive gimmie-more-entitlements government spending? It’s not even about defense spending, for God’s sake.
“unemployment among the one-third of Americans with the highest incomes is barely 4 percent” Tell ’em why Menzie. Explain that people with high incomes work harder and longer hours, go to school more years, take more books home in high school, study later into the night, get their college degree, and live a work ethic not vegetating like a tuber on a couch.
Referring to the graph you say: “Note the trend decline in overall tax revenues since 2001Q1, when tax cuts were implemented.” Expenditures are up even more egregiously yet you studiously and glaringly ignore this fact. So much for your impartiality and your science.
edglob The $4 trillion included $1 trillion of taxes. There can be no more stupid policy than raising taxes in this environment which is what president Obama was holding out for. Except perhaps for the 2½ years of anti-business policy we have had to suffer.
JLR “JUST reading this blog regularly shows that people who are interested and educated regarding economics cannot agree upon the right way to address the economic problems facing the US.” Absolutely correct and why might this be? Because all too many economists do not have a working understanding of how an entrepreneurial economy really works, and their belief and ideology drive discussion instead. Their inability to accurately forecast in real time is the only proof you need.
Anonymous at 10:31 AM You’ve got it exactly right … Dems want to grow the state and don’t want to give an inch on taxes which are the one and only means to their ideological end of a bigger state. This post illustrates my point. It’s only superficially about growing the economy.
November2012stimulus sums up everything I’ve said here: You want more revenue? Get the boot off the economy's neck.
Posted by: JBH at August 9, 2011 05:18 PM
Robert: I know data offends you if it doesn't conform to your preconceptions, but please see the plot of CBO data on cyclically adjusted revenues in this post. The regression line would look much the same.
JBH: I didn't need to mention expenditures rising because I argue that some spending restraint is necessary. I highlighted the tax revenue decline because some people argue no tax revenue increases are required to address the nation's debt problem.
Posted by: Menzie Chinn at August 9, 2011 05:34 PM
Just for clarification, the Bush tax cuts were fazed in starting in 2001. Revenues, in real dollars, did not equal 2000 until 2005. If you cut taxes and wait long enough, with our 1% growth in population every year, revenue will catch up.
Posted by: Anonymous at August 9, 2011 07:27 PM
Menzie---no, data doesn't offend me. Your twisting and manipulation of the data in a thinly veiled attempt to support your left-wing ideology shows what a poor scientist you are. But at least you are a funny guy--it's oh so humorous watching you ivory tower elites spin your silly, outdated economic tales ....... not because you want to improve the economy but rather because you want to punish those who are unlike you--the productive elements of society.....the very ones who pay the taxes that support slackers like you.
Posted by: Robert at August 9, 2011 07:40 PM
Menzie: I am one of those who say (absolutely) no tax rate increases are required. But my view is outside the box of a profession that still believes the fairy tale of a balanced budget multiplier. It is not, it never was, and it never will be one. It is probably negative. And it is high time the entire budget issue gets reframed. I believe you and other liberals psychologically can’t, however; your belief structure doesn’t have the peripheral apparatus to see the fuller reality. Nor is this affliction confined to liberals, of course. It is a human condition and no blame attaches. But for a moment let’s assume you are able to change your beliefs and face the US deficit problem squarely.
There are three ways to get the debt under control: (a) grow the economy, (b) cut spending, (c) raise tax rates. These are in order of priority. As for magnitude, it is four times more important to grow the economy and twice as important to cut spending. For it is face evident that growing the economy has a cornucopia of benefit that spills its plentitude everywhere. And it is equally evident that raising tax rates is deleterious to growth. Growth is exceptionally beneficial in this context because it shaves the numerator of the debt-to-GDP ratio at the same time that it augments the denominator. This is the powerful stuff known as leverage – the very cycle (flipping over for a moment to household and financial sector debt) the profession missed which got us into this swamp. Leverage is a generalizable concept every bit as important to modern economics as specialization or exchange.
How do you grow the economy faster? Well now … that’s what I hope this blog will be informing about at greater frequency, drawing upon the resources of its many informed readers for thoughts, suggestions, and a shaking from the tree of the fruit already hanging there if it were not for the ideological blinders that preclude the seeing.
Posted by: JBH at August 10, 2011 03:40 AM
Putting away childish things ... well put. It is childish to believe that you can consistently spend beyond your means without sacrificing your future. It is childish to vote for elected representatives who promise lavish government services and no new taxes. It is childish to quibble with the obvious: the red line is consistently above the blue line since 1970 (see Dr Chinn's first graph); that means we have been spending beyond our means for quite some time.
So let us put away childish things and start voting for representatives capable of making adult decisions: spending cuts and tax increases to live within our means. I think our current president qualifies as an adult willing to make tough decisions. He just needs some partners in Congress who are equally capable.
Posted by: MarkOhio at August 10, 2011 05:07 AM
For those who want to see if Barkley Rosser is correct about Cut Cap and Balance, here is the text of the bill that passed the House. In place of the amorphous mess that is Obamacare, it's remarkably brief and to the point.
Posted by: Rich Berger at August 10, 2011 05:32 AM
Menzie: Congratulations on making it onto the NYT's op-ed page.
Posted by: Phil Rothman at August 10, 2011 06:35 AM
FYI, Bush tax rate cuts were supposed to go into effect later but were accelerated to 2003 (in May of that year). At that point, revenues started their climb. The cuts prior to that were of the ineffective Keynesian stimulus variety.
Posted by: Rich Berger at August 10, 2011 06:39 AM
Really? You blame all of this on the drop in revenues from Bush's Tax Cuts?
First, why don't you draw Figure 1 back to 1930? That would show you what war-time revenues look like. You'll find that it barely rose above 20% of GDP (so, keep in mind that 20% Receipts is a pipe dream).
Second, calculate an average of Receipts since some date after WWII (say 1960) and you'll find that the average is about 18% of GDP (it swings up in good times, down in bad times....so a decent model for predicting Receipts is 18% plus a "gap" term).
Third, calculate the average for Outlays since 1960 and you'll find that the average is about 20.4% of GDP.
Fourth, show a graph of the huge swing in tax rates since 1960. Here's a reasonable graph:
Now, go back and try to add Tax Rates as a predictor for Receipts. Is it statistically significant? I think you'll understand if I don't buy your original argument.
The limiting factor for this issue is Receipts. No matter what you do to Tax Rates, your not going to do much to that 18% of GDP number for Receipts. So, the only way out of this mess is to cut spending down to 18% of GDP (or LESS).
S&P got it right.
Posted by: bill_080 at August 10, 2011 07:11 AM
Whatever happened to the Simpson-Bowles plan. It seems to me that everyone disliked the plan for different reasons, thus rendering it a fair proposal. Why did the White House just let this die on the vine?
Posted by: T-Dub at August 10, 2011 07:18 AM
Wouldn't we want to compare revenues peak-to-peak? While the structural change in revenues is still large, it doesn't (from eyeballing) appear to be as large as the line you drew.
Even if you have a structural deficit of 1-2% of GDP per year, if GDP is growing by 3% per year, you can still reduce the total debt to GDP ratio.
Posted by: Lance at August 10, 2011 07:32 AM
Seldom do I find Lew Rockwell on solid ground but consider what he has written below. If Treasury bonds were required to measure up to municipal or corporate bonds what would their rating be?
But imagine, for just a moment, that US government debt were rated in the same way that municipal bonds or regular corporate debt are. Imagine that government bonds, like normal bonds, carried a default premium. Imagine, in other words, that the Federal Reserve were not in a position to pay everyone from welfare recipients to banksters with newly created money.
Under such actual market conditions, federal debt would not be rated as AA+. It would be worth even less than junk bonds. In fact, it wouldn't even qualify for a market rating at all, because it would be utterly worthless: and the institution that issued it would be in default, and the whole rotten apparatus of the state would be seen to be bankrupt at its very core, in every sense.
Now I am sure that Slug and his minions will attack what is written here by slandering Lew Rockwell, but those who are interested in truth rather than character assassination should ponder the idea expressed as we wait for the next rating shoe to fall.
Posted by: Ricardo at August 10, 2011 07:36 AM
Menzie, I think it's a given that the US will eventually end up with large entrenched inflation. The reason for this is that the Fed can no longer fight inflation by raising the interest rate to a point where it is effective for that purpose without bankrupting the US government. The question is only what happens when inflation takes hold.
Posted by: endorendil at August 10, 2011 10:43 AM
what i posted to gavyn at the FT yesterday
“its probably better to think US as country rather than sovereign risk, as we will always come up with the dollars. the US has a serial SOFT default record of handing creditors asset losses for decades.
Rockefeller Center/real estate in the 80s,
dot coms in the 90s.
mortgage backed and real estate lately
dollar down for a decade
its partly how "we" finance our large external deficits”
I know you aware of this I used a chart of yours year ago on the writedowns of our debt vs the accumulated current account deficit
Posted by: AWH at August 10, 2011 11:42 AM
Rich Berger aka November2012stimulus: Contra your assertion, according to CBO, tax rate cuts were implemented beginning in 2001; they continued to be cut over the subsequent years.
By the way, still wondering if you maintain your October 22, 2007 assertion that buying a house is still a terrific investment.
Posted by: Menzie Chinn at August 10, 2011 12:39 PM
I wonder about this bit:
"A few years of moderate inflation, and a weaker dollar, would significantly lessen the real cost of servicing the country’s debts — at our creditors’ expense."
My understanding is that foreign creditors (especially China) hold a disproportionate part of their Treasury debt in very short-term instruments (which are virtually impossible to reduce through inflation, especially of any moderate kind) for this very reason. Instead, it is U.S. financial institutions that hold the large share of this debt (engaged in the carry trade between the zero return short-term debt and the longer instruments) and that would be crushed by the inflation losses.
Posted by: don at August 10, 2011 01:52 PM
Ricardo I am sure that Slug and his minions will attack what is written here by slandering Lew Rockwell
Wow, I didn't know that I commanded the allegiance of "minions." I'm lucky if my two teenagers pay any attention to me, so I guess I should feel flattered that you think there are Slug minions out roaming the web.
No need to slander Rockwell. It's sufficient to point out that the US is neither a municipality nor a private corporation, so the default risk is not comparable. It's just a silly post, that's all. Notice that I said the default risk was not comparable; I did not say the default risk was zero. There is no chance that the US will be economically unable to make good on its debts; but there is every chance that stupid political leaders will decide it makes sense to try and ransom the hostage every so often. The risk of US default is not zero as long as we have crazy Tea Party Republicans in a position of power.
Posted by: 2slugbaits at August 10, 2011 02:10 PM
Don: If I am reading the tables correctly, according to the April 2011 "Report on Foreign Portfolio Holdings of U.S. Securities" (FRBNY, US Treasury, Federal Reserve Board), as of June 30, 2010, foreign holdings of long term Treasurys was $3.4 trillion, short term $0.7 trillion. For China, the numbers are $1.1 trillion and 4 billion, respectively. See Tables A1 and A5 for the China figures.
My understanding is that these benchmark figures from the portfolio survey are more accurate than the monthly TIC data.
Posted by: Menzie Chinn at August 10, 2011 02:11 PM
When future obligations to SS and Medicare are added to the current debt the number is scary. What are the implied obligations of the US Government if the apparent "too-big-to-fail" policy is added to the scary number ? Could it be, if what I'm saying is something S&P and the US creditors are also concerned about, that it is time to offer up one or two of the US mega-banks on the alter bankruptcy without bailout stays of execution ? Would that send the signal the US Gov is serious about keeping a lid on "unfunded liabilities" and at the same time sending the message to the rest of the world we are finally ready to accept the diminishment of our financial hegemony ? Would our creditors/competitors accept that bone toss ? As for the pain it might cause the US mega-banks ask me if I care. In an extended period of future domestic low to no growth the vast majority of US citizens would be quite well served by treating the majority of "services" currently provided as nothing more than mundane "utilities." It is starting to seem that hosting the members of the Financial-Capital Superclass is far more dangerous to US society in the whole than the benefit NY city (sorry Bloomberg) gets from having the financial service sector jobs.
Posted by: agitatedString at August 10, 2011 02:17 PM
You are correct about the phase in starting in 2001. It was supposed to be fully phased in by 2006, but instead in 2003, the full reductions were immediately applied. Table 1 is a nice summary of what happened. My point remains that the big drop occurred in 2003, after which revenues rose rapidly, in nominal, real and % of GDP measures.
I am still baffled about your reference to my 2007 post. I said that over time, housing appreciation is modest, but there are times that you can make above average returns and large losses.
Posted by: Rich Berger at August 10, 2011 06:19 PM
Thanks. I got my information second hand, but from what I considered a fairly reliable source. Maybe it is a matter of symantics. I would like to point to the following facts from the data source that you cite (see page 21). First, 28.4% of the "Long Term" Treasury securities have maturities less than two years, 44.1% less than three years, 54.7% less than four years, and 67.1% less than 5 years. I think we would have substantial difficulty effectively eroding this debt through moderate inflation. I don't know where China's holdings lie, but this could explain the apparent contradiction between the data you point to and those of my source. By way of contrast, only 28.4% of the Agency "long-term" debt has a maturity less than five years. This could explain China's shift from Agency debt to Treasuries after the financial crisis began (and after it was announced that the Agency debt was backed by the "full faith and credit" - maybe it was mainly a shift between maturities.
Looking at these numbers, the magnitude of Timmy's lie "China is not manipulating its currency" simply beggars the imagination.
Posted by: don at August 10, 2011 06:37 PM
The plain and simply truth is Americans hate each other. The Internet has unleashed the bile within many Americans, and now that bile is being repeated by our politicians.
We treat our inheritance with little respect, and we certainly do not accord respect to those that we disagree with.
We are nation of spoiled children. Politicians are reflections. And those politicians are merely reflecting the larger body politic.
The American Political System is based on requiring compromise. This is not a bug: Madison and the founders believed that change should require compromise. The country would not exist but for compromise. That system makes achieving total political dominance extremely difficult.
But as a people we are not equal the demands that the system requires. We are simply as a people not mature enough for the reasoned discussion that is necessary to sustain it.
Want to understand how the downgrade happened? Put away your spreadsheets. Here is Yeats:
Leaders of the crowd:
They must to keep their certainty accuse
All that are different of a base intent;
Pull down established honour; hawk for news
Whatever their loose phantasy invent
And murmur it with bated breath, as though
The abounding gutter had been Helicon
Or calumny a song. How can they know
Truth flourishes where the student's lamp has shone,
And there alone, that have no solitude?
So the crowd come they care not what may come.
They have loud music, hope every day renewed
And heartier loves; that lamp is from the tomb.
Posted by: fladem at August 10, 2011 08:24 PM
Re: your question.
By the way, still wondering if you maintain your October 22, 2007 assertion that buying a house is still a terrific investment.
It is and will always be. The question is which house, in what market and at what time. In fact buying a house today is a much better investment then it was in 2007.
Posted by: Steve at August 11, 2011 02:51 PM