If Not Now, When?

There are two posts I’d like to bring to your attention because, together, they broach a subject I’ve been trying to figure out how to post on for some time. The first is a post by Scott Sumner noting the failure of Keynesianism first as policy but even more importantly in political terms. The frequent retort to arguments along these lines (and one always made by Paul Krugman) is that state and local governments have been working at cross-purposes to the federal government. That dog won’t hunt:

Krugman likes to point to the “50 Little Hoovers,” but what he is really doing is pointing to 50 little flaws in the Keynesian model. If the cutbacks in state and local spending reflect declining revenues due to the recession, then the Keynesian model needs to treat them as endogenous, just as business investment falls endogenously due to weak sales and excess capacity. In order to be exogenous, it would have had to be under the control of the (Federal) policymakers who make the decisions about the size of the fiscal package. But Keynesians seemed to greet the news of huge S&L spending cutbacks with surprise and dismay. And then they used it as an excuse for the federal stimulus not working. That’s about as logical as blaming the failure of Federal stimulus on corporations cutting back on investment (something FDR did in the 1930s, showing that logic has never played much of a role in arguments over government stimulus.)

Additionally, as I’ve said around here pretty frequently while it may be theoretically possible that a perfectly timed and well-structured stimulus might have the predicted effects, we’re politically incapable of producing a perfectly timed and well-structured stimulus. If it turns out that inflation is rampant and uncontrollable in China following their (much praised) stimulus package, it may well be the case that nobody is capable of producing a large enough stimulus package that’s timed right and structured well enough.

The other post is from Keith Hennessey and it includes the eye-catching graphic at the top of this post (click on the graphic for a larger version). The graphic is a visual representation of the long-term effects of the Obama Administration’s recently proposed budget drawn directly from the Administration’s own numbers.

Here’s the point that I’ve been gnawing on. According to the NBER, the official scorekeeper for recessions, we’ve been in a recovery for nearly a year and a half. As we have recently had reaffirmed for us, recoveries don’t go on forever, there is always the eventual downturn. The recovery has been going on for nearly 15 months. When will we start paying off the spending spree that the federal government has been on for the last year and a half? If it’s not soon, we’ll be in another economic downturn.

I’ve already given my prescriptions. I think we should turn the fiscal clock back to about 1996. To get even that far we’re going to need to engage in a major reworking of the tax code (long overdue) that, alas, includes some additional revenue and we’re going to need to cut some spending. I’m jake with a deficit that runs between 1 and 2% of GDP. The present plans which involve running deficits of twice or more than that in perpetuity make my blood run cold. And we haven’t even factored in the impossibly rosy projections for GDP growth that the Obama Administration is using (4% or more where I think that 2 to 3% is much more likely).

24 comments… add one
  • steve Link

    If it is from Hennessey, let us assume he is lying or omitting something. Let us take it apart. One of the people consistently pushing the more complete version of this chart is Frakt, so let us look at his chart, also from the CBO.

    http://theincidentaleconomist.com/wordpress/the-cbo-is-telling-us-something-is-anybody-listening/

    What we see is that our long term debt comes from Medicare/Medicaid. Nothing else comes close to mattering. The recent “spending spree” is relatively insignificant compared with these two entitlements. Those who care about our debt, should be beating health care into the ground. So when Hennessey says

    “I’m a small government guy, so I want the red line to be as low as possible. Whatever your policy preference about the size of government relative to the private sector, two things are undisputable: bigger government comes at the expense of a smaller private sector, and at some point that growth in government has to stop.”

    what he should be saying is that he opposes spending unlimited amounts of money on the health care of older people. The problem is not with increasing numbers of bureaucrats sitting at desks, it is some computer writing more and larger checks for health care.

    Steve

  • PD Shaw Link

    steve, it’s easier to consider an argument, when it doesn’t begin and end with presuming someone else’s bad faith.

  • steve Link

    PD- Sorry, you are correct, but the guy seldom makes good faith arguments based upon my readings. I read him regularly for about 6 months. He still argues like he works for the GOP. In tone he sounds reasonable, but he omits and twists too much. When I disagree with arguments made by those at Kling’s site, Cafe Hayek, Cowen or most of the libertarian sites, I do not get the same sort of spin crap. Same with DeLong and Krugman a good deal of the time. Anyway, I shall try to avoid that in the future.

    Steve

  • sam Link

    Why is it these days, when I read the back and forth of economists, read this — what appears to be — unending argument over the nature of economic reality, I always think of Tolstoy’s account of the Battle of Borodino in War and Peace?

  • john personna Link

    On the other hand, British austerity is failing even more spectacularly?

    You know, I got some grief back in the day, at OTB, for noting that congress (and the President) had split the difference. They didn’t do the “no stimulus” that some wanted, and they didn’t do the “full load” the Krugmans of the world wanted.

    Is it shaping up that spitting the difference, while not perfect, avoided the most extreme consequence?

  • john personna Link

    (When you suspect that most economists are BS artists, splitting the difference might be the safest course.)

  • On the other hand, British austerity is failing even more spectacularly?

    Returning to a 1996 baseline budget, adjusted for inflation, or even to a 2002 baseline is hardly austerity.

    There is a pronounced difference between the U. K. borrowing 4% of its GDP every year and the U. S. borrowing 4% of its GDP every year. It’s like borrowing 1% of the entire world’s currency every year. That’s a heckuva lot of borrowing.

  • Steve,

    I suggest you follow Frakt’s link to CBO and download the data yourself, I don’t see it being that tremendously different that what Hennesy has posted for 2010 onwards. The CBO’s own data indicates a fairly persistent gap between revenues and outlays. And in looking at his source data Hennesy does not appear to be lying. Obama’s own budget document does show outlays to be 25.3% of GDP in 2030 while revenues are 19.8% of GDP.

    PD- Sorry, you are correct, but the guy seldom makes good faith arguments based upon my readings.

    It helps when you actually…you know…read what he has written and check his sources.

    And speaking of lying Frakt’s charts exclude the interest on the debt IMO.

    Really, these kinds of things make it hard to take you seriously.

  • Actually Frakt’s graph notes it excludes interest which is the only significant difference between Hennesy and Frakt….why exclude does Frakt think it is trivial? Even under the baseline scenario you have deficits as far as the eye can see and debt-held-by-the-public ratio that never gets smaller, but grows over time.

    Further, Frakt notes that the CBO is skeptical of the baseline scenario becuase of the assumption that Americans will be willing to pay larger and larger shares of their income/GDP to the government. In this case, the graph is even worse that Hennesy’s.

    Exactly how does Frakt show Hennesy is lying…if anything it supports Hennesy.

    Dude, you just pwned yourself.

  • Just for the record, I am very concerned about interest on the debt for a very simple reason: even if revenues were to return to 2006 levels the additional debt we’ve incurred since 2006 means that we would need to cut spending (other than interest on the debt) below 2006 levels just to maintain the same, unacceptable deficit we were running in 2006.

    Right now we’re making the unsupportable assumption that the party can go on forever. I think that mathematics says it can’t.

  • steve Link

    “I suggest you follow Frakt’s link to CBO and download the data yourself, I don’t see it being that tremendously different that what Hennesy has posted for 2010 onwards. The CBO’s own data indicates a fairly persistent gap between revenues and outlays.”

    The difference is in what is left out. Simply railing at big government is not very helpful when what is really increasing the debt is health care spending, but then no one wants to advocate for cutting Medicare spending who wants to be elected, or have his party rule.

    “It helps when you actually…you know…read what he has written and check his sources.”

    I did, for six months (about). I also read his article that Dave cited. I routinely checked his sources. I initially had high hopes as he had made some good posts, I thought, when he started. IMO, he went downhill.

    “And speaking of lying Frakt’s charts exclude the interest on the debt IMO.”

    As you note, their two charts look alike except for the labeling. That would suggest they both lied, or did not bother separating it out as a separate category. Why would I not be bothered by that, but think it disingenuous to omit medical entitlement spending? That should be obvious.

    Steve

  • The baseline chart from Frakt does not look like Hennesey’s because he excluded the interest on the debt. Frakt notes this, but it is a curious omission. So if anyone is “excluding” something here it is the source you consider “better/more reliable”.

    The difference is in what is left out. Simply railing at big government is not very helpful when what is really increasing the debt is health care spending, but then no one wants to advocate for cutting Medicare spending who wants to be elected, or have his party rule.

    Well lucky for you Hennesey writes:

    The red spending line grows steadily as a share of GDP. That’s because three enormous spending programs are growing at unsustainable rates: Social Security, Medicare, and Medicaid. A better way to think about it is that there are three underlying forces driving spending growth: demographics, unsustainable benefit promises by elected officials, and per capita health spending growth.

    Seems he got quite specific as to what the problems are.

    So now I go back to Frakt….

    He does make suggestions on how to deal with the problems, but I’d argue they fail your test of, “no one wants to advocate for cutting Medicare spending who wants to be elected, or have his party rule,” so its just spitting in the wind too.

    Yes we have a problem. Is there any way to come up with a solution? I’m not seeing it. We’ll go along till we can’t and then things will get really interesting.

  • steve Link

    “Seems he got quite specific as to what the problems are.”

    Which gets back to the graph. We both know that the catchy graph is what will get reproduced around the blogosphere. You think that a chart without interest payments in it, but noted in text is less honest than one that has interest payments in it, but fails to note what causes our long term debt, Medicare and Medicaid (not really SS), but notes it buried in the text ( I will confess to missing it in amid all the talk about being a small government guy). I guess I could buy this if I had ever read anyone making a believable argument that our interest payments are the source of our long term debt.

    Steve

  • john personna Link

    “Returning to a 1996 baseline budget, adjusted for inflation, or even to a 2002 baseline is hardly austerity.”

    It’s hella austerity when you consider the automatic increases to social programs which come with a great recession!

  • john personna Link

    Which reminds me of Rand Paul’s Food Stamp solution … just reset spending to pre-recession levels!

  • We have raised baseline spending too high on assumptions about income that haven’t panned out. If you can figure out a sustainable fiscal approach that maintains the 2006 baseline indefinitely, go for it. I don’t see one and, apparently, neither does the Obama Administration. So they’ve proposed a budget that all by itself adds 1% to the world’s money supply every year indefinitely into the future. What I see in that direction is default, hyperinflation, and collapse.

    Steve is right that Medicare cost reduction is the sine qua non of fiscal sanity. That nobody is willing to adhere to the assumptions under which the ARRA was promoted and passed and that President Obama is unwilling to expend political capital to cut Medicare costs just reaffirms the point I made ad nauseam during the debate about healthcare reform: cost reductions first, program expansions later.

  • steve,

    You were the one claiming that Hennessey was lying for usually omitting something. Frakt omitts something and, notes it, but doesn’t explain why. Dave has given one reason why including interest is important, but I’ll give another.

    Suppose you are going to engage in deficit financed stimulus spending. Suppose without it you expect growth to be 2.7% but with the spending you expect growth to be 3%. Now if the the interest on that stimulus spending reduces GDP such that annual growth is at 2.7% or lower then the stimulus was actually not helpful. Omitting the interest makes stimulus spending to almost always a good thing. Hence Frakt’s exclusion of the interest payments is a curious thing to put it mildly and quite possibly misleading.

    Or let me put it this way: Frakt puts up both of the CBO’s scenarios. In one he omits interest payments where the results are mild deficits in some years with some surpluses in others (because he omits the interest payements). Frakt then presents the alternative scenario and notes deficits would be much worse…but since he is omitting interest payments he is understating the size of the deficit by huge amounts since the deficits are much larger much sooner resulting in a faster growing debt and thus a faster growing and significantly larger deficit than he is letting on. To give you an idea of the magnitude by 2084 interest payments alone are 46% of GDP and debt-held-by-the-public is 947% of GDP.

    You don’t find such an exclusion at all curious? That he considers the two rather equivalent when they likely are not. Granted the baseline scenario with growing taxes is not a fun one to consider, but it beats the heck out of the alternative scenario. Should we just throw up our hands and say lets go with the alternative? No because as we’ve seen getting substantial tax increases through is tough going and as you rightly point out nobody is going to do it if it means not only that the politician has to fall on his sword, but so does his political party.

    but fails to note what causes our long term debt, Medicare and Medicaid (not really SS)

    This is also misleading I think, the part about Social Security. Can it be “fixed”–i.e. returned to fiscal balance? Sure, but doing so will likely expend any party’s political capital for a decade or more. That will leave the Medicare/Medicaid problem unsolved which is the bigger problem. Which should give us some appreciation for the scope of the problem that the progressive public policy approach has put us in. The ideas of FDR, LBJ and others when it comes to the welfare state should be utterly rejected at this point, IMO, not only as failures, but catastrophic ones at that.

  • Interest payments and debt-held-by-the public in the baseline scenario, for comparison purposes, by 2084 interest payments are 5.6% of GDP and debt-held-by-the-public is 113% of GDP.

  • Just to expand a tiny bit on a point that Steve V. made above, I’ve done a bit of probing around and find that Keynesians and neo-Keynesians seem to routinely disregard interest costs on the grounds that they are exogenous. That adds fodder to Scott Sumner’s point. Shouldn’t they also disregard spending reductions by state and local governments on the same grounds?

  • PD Shaw Link

    My reading on interest costs and the Keynesian multipliers was that they are not factored in for three reasons:

    1. Removing interest costs allows the analysis to isolate the effects of different types of stimulus.

    2. Interest rates are at near zero anyway, and any attempt to model future interest rate trajectories is a form of soothsaying.

    3. If you factor in interest costs, the multipliers quickly turn to a negative number once interest rates begin to rise.

    They may all be true, but 3 would appear to be the most important.

  • PD Shaw Link

    My understanding of the theory behind the Keynesian fiscal stimulus is that it is measured by the total government spending (F + S + L) above the previous year or alternatively the previous forecast for the current year. So, yes, if state and local government cuts back spending it reduces the stimulus.

    It does make you wonder if Keynes theories work better in a more centralized economy (or even simply a British economy). On the one hand, the feds gave the states money with a lot of paperwork requirements to make sure it would lead to additional spending that would not have occurred otherwise. This didn’t stop S & L govt from other cut backs. And the broad grants to pay for teachers and police only served as temporary respites as the economy failed to rebound, so jobs were laid off anyway.

    Better to have given state and local governments the seed money to convert their pensions to defined contribution plans. Helping them with there balance sheet problems would have reduced all of the lay-offs and cut-backs that are going to continue.

  • steve Link

    @Steve-Let me clarify. I think that interest payments are important. I think that Medicare and Medicaid are more important (conceding that a bond market crash could change that). Since Frakt writes about health care economics, I would expect him to emphasize the role Medicare and Medicaid play in out future debt. I will ask him why he left out interest in his chart. While I am at it, I will email Hennessey too.

    “Shouldn’t they also disregard spending reductions by state and local governments on the same grounds?”

    I think that they have in the past, at least the Keynesians.

    “It does make you wonder if Keynes theories work better in a more centralized economy (or even simply a British economy).”

    keynes actually made that point. I saw that quoted somewhere recently (Thoma?).

    Steve

  • Icepick Link

    It’s kind of pointless to argue about these budget projections. Look at past projections and compare them to what transpired. The results aren’t good.

    I went back and looked at Obama’s original 2010 budget projections, done in 2009. (There were revised charts published a few months later. I haven’t looked at those.) Look at 2011 from that budget plan and compare it to 2011 in Obama’s new 2012 budget proposal. Two years ago they overstated 2011 revenue by 25%. Partly that is due to the assumption that the Bush tax cuts would expire. But that isn’t all of it. And that proposal came after ARRA was enacted, so they had that figured in as well. They had assumed UE wouldn’t top 8.0%. They missed that by (at least) 25% as well.

    Now if you look at 2013, Obama & Co are assuming that federal revenue will increase over 38% from 2011 levels. Even factoring in the (assumed) expiration of the extension of the Bush tax cuts, that’s one hell of a reach. For that matter, they’re projecting a 20.8% increase from 2011 to 2012, and the Bush tax cuts won’t expire until the end of calendar 2012. How is the economy supposed to grow so much that it will produce more than 20% more revenue from 2011 to 2012?

    How does anyone take that seriously? So why bother with their projections decades out when their one and two year projections are so ridiculous.

    (I wrote more about this here, along with links to original sources.)

  • Icepick Link

    Another interesting tidbit from Obama’s budget – total fedral receipts for 2011 are projected to be pretty much the same as they were in 2009. If projections hold, 2011 will produce about $69 billion more in federal receipts than 2009, which is essentially a rounding error at this point. Some recovery, huh?

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