I disagree with Phil Gramm and Michael Solon’s Wall Street Journal op-ed on slow U. S. economic growth following the Great Recession but I’m having some difficulty in coming up with a formulation as to exactly why I disagree with them. I have little doubt that millions of pages will end up being written about the Great Recession and its aftermath. When the partisan rancor has died down (if ever), I hope it is recognized that only two hypotheses about the Great Recession itself are tenable.
Since the recession had ended by June of 2009 and none of the spending of the ARRA (“stimulus package”) had been released let alone disbursed, the recovery, such as it was, can only be attributed either to ordinary business cycle reasons, i.e. government action had nothing to do with it, or it was ended by the steps taken during the last years of the George W. Bush presidency which included fiscal stimulus. I’m not prepared to disaggregate the effects of all of the things that were done.
I am not now and never have been a fan of George W. Bush but the timing admits of no other explanation.
What, then, did the ARRA do? I think the answer is “not much”. As President Obama himself admitted after the fact, there are no “shovel-ready projects” and a lot of the spending went to projects that had already been approved by state and local governments. In other words they provided little stimulus that would not have been provided anyway. The state and local governments moved money from one pocket to another, using the money freed up to increase the pay of public employees which aggravated the pension problems they’re facing now.
I think the problem I have is with their prescription:
The dominant lesson of the Great Depression and the Great Recession is that when government overspends, overtaxes and over-regulates, economic freedom is suppressed and economic growth vanishes. When growth fades, it takes the American dream with it. Give America back its economic system of freedom and opportunity, and the ensuing growth will bring back the American dream.
Most government spending is devoted to just three categories: the military, Social Security, and healthcare spending. Add interest on the debt and it accounts for nearly 90% of federal spending. What spending do they want to cut?
In the past I’ve advocated cutting military spending. Slowing the growth of healthcare spending won’t do much to reduce federal spending as long as non-healthcare sector growth is as phlegmatic as it has been. You’ve got to actually cut spending and to the best of my knowledge no one has proposed anything that will accomplish that.
In the final analysis I think that conditions have changed since the 1920s, the last time the federal government had the very small footprint that Mssrs. Gramm and Solon long for. We have economic competitors both at home and abroad. If lower taxes and government spending result in greater economic growth, it will be greater economic growth in Germany and China not here. As long as the top 1% of income earners capture 52% of all additional personal income, it’s hard to see where all of the new economic growth will come from.
What we need is what I’ve characterized in the past as “prudent stewardship”. We can’t afford to throw money at problems any more. We should only spend and regulate what is necessary and effective rather than what we’d like to.
The problem is the financialized economy has an enormous hole that government spending cannot fill. The only way to fill it is with “Too Big To Fail” financial institutions, and there will need to be an increasing number as the credit supply must increase.
(Credit is not the same as debt. Credit is an asset. Debt is not.)
In a financialized economy, the economy expands through credit expansion, and credit is mostly created by leveraging money. This is the reason that the rich will continue to get richer no matter what anybody does. Credit must be created, and the rich have the money to create it.
For the size of the hole and the credit supply, the following is not specifically about credit, but it gives an idea of the size of the problem:
Why QE Will Never Work (Link to Jeff Snider’s Response)
Phil Gramm (repealed Glass-Steagall) is one of the reasons this problem was able to grow as large as it has, but there are other factors. All the modern economies are doing the same thing, and all the central banks have interconnected balance sheets.
The solution probably will require China or Europe to collapse, financially, and then, the US will have room to begin creating credit at the rate necessary.
As to consumer debt capacity, a warm body is always a potential borrower. As long as financial institutions are able to create credit, they will find a borrower, even if they must create him/her/it.
As a bonus, dollars are neither a thing that stores value (money) nor a thing that transfers value (currency). They are credit instruments. The classical economists and their theories are not applicable. Keynes theories require credit backed dollars. You cannot reject Keynes in favor of classical economists but reject asset backed money in favor of credit backed money.
The expert economists have been wrong for the last ten years, but they are still considered experts. If you still listen to somebody who has been wrong for ten years, it says more about you than them, and if you have a high IQ score, it says more about the worth of the IQ test than your intellectual ability.
(As a sanity check, I consulted my dogs. I asked them if I should listen to anybody who was wrong about everything for ten years, and they just looked at me like I was stupid. For the record, my dogs are not real smart. One of these days, I might give them the IQ test.)
“a lot of the spending went to projects that had already been approved by state and local governments. In other words they provided little stimulus that would not have been provided anyway”
State tax revenues were crashing, and the states are generally required to maintain a balanced budget, so a lot of those projects would have been delayed, and that would have deepened the economic contraction.
One big hole in their article is this:
“overtaxes and over-regulates, economic freedom is suppressed and economic growth vanishes. ”
Growth was highest from 1945-1970 when the economy was just as regulated as today and tax rates were a lot higher.
Just one quibble: tax rates dropped pretty sharply in the 1960s. The Revenue Act of 1964 dropped the highest marginal rate on personal income from 91% to 70% and the highest marginal rate on corporate income from 52% to 48%. The tax rates were reduced again in 1982 (50% personal) and again in 1988 (28%).
That 70% was levied on income exceeding $180,000 (roughly $1.5 million in today’s money) so it only applied to the top .1% of income earners, the “ultra-rich”.
After the Kennedy-Johnson tax cuts, the GDP growth rate rose sharply and rose again following the Reagan era tax cuts, contributing to the misconception that GDP always grows following a tax cut. I think there’s no reason to believe that a tax cut now will result in increased GDP growth.
Our current single biggest problem is the Federal Reserve and its deflationary policies: low interest rates, QE and asset purchases have drained well over $500 billion. Yellen has proven much too timid for the position and her attitude has been responsible for a majority of the volatility in capital markets we’ve seen this year.
Every time economies attempt to rally a foreign CB imposes downward pressure by reducing interest rates and buying more interest-bearing assets. The federal government is now providing modest fiscal support but this is barely enough to keep us out of recession against these headwinds. So long as the Fed, the BoJ and BoE insist on more of the same policies which have consistently failed we ain’t going anywhere.
Honestly, I’m impressed we’re growing at all.
Phil and Wendy Gramm were at the center of so many bad decisions and policy choices we should just do the opposite of whatever Phil suggests. While people on the right, hypocritically, criticize Clinton fro signing the bill that overturned Glass-Steagall, Gramm actually wrote the bill.
To the ARRA topic, I think the policies started by Bush, Paulson and the Democratic Congress helped stop the slide. About 1/3 of the ARRA was tax cuts. O the other 2/3 the best estimates I have seen have shown it did help provide some jobs, many in the form of jobs not lost. We also need to remember that the initial estimates of the size of the crash were off by a large amount. GDP dropped at least 50% more than was initially thought.
Steve
If “prudent stewardship” is what I’ve previously called unaffordable headwinds then I wholeheartedly agree. Listening to the political discourse I have very little anticipation such prudence will come to fruition.
If Ben is referring to the total misallocation of resources and income disparities generated by QEs asset bubbles, along with draining fixed income from large swaths of the population, I wholeheartedly agree.
I know people disagree on taxes. I would point out that (Brookings Inst) publishes figures showing state and local taxes have increased as a percent of GDP from 10 to 16% since 1960. They also show figures indicating per capita SL receipts have increased from $400 to just under $5000 today. Think about that as a percent of median income. It’s still a free country, think what you will. Butbthats a huge drag. And of course we have IL. Talking to a number of people, all with kids going off to college now, they are heading for other places as fast as they can. The weather is still the weather here. That’s not it. They are all talking about recent increases in property taxes. More importantly, they can see the coming increases in income, property and sales taxes. (Cook Cty just got its first hit; more to come). The exodus is so prominent it’s affecting home sale prices in our neighborhood. And these are people who can afford it. But when you are staring at property tax increases in the $10k range, declines in home prices of $100k+ and who knows how much more in income taxes the question is why stay? We are looking at properties in western N Carolina in the same price range as here but with 25% the property taxes. The people going to AZ say same. And our place in FL is only a third as much. Call me crazy, but I don’t think that’s good for growth.
“While people on the right, hypocritically, criticize Clinton fro signing the bill that overturned Glass-Steagall, Gramm actually wrote the bill.”
You mean accurately criticize. I don’t seem to recall Gramm holding a gun to Clinton’s head and telling him either his signature or his brains would be on the bill.
I call your attention to the Case Shiller National Home Price Index linked below. As you can clearly see, beginning in the 1992-1993 time frame was the beginning of a slow climb in prices, with a modest upward inflection point in 1997. The 90s are where George Bush began dismantling the financial regulatory framework in the US, with such catastrophic results. I believe Phil Gramm was at his side. After the crash one can also see the housing bubble reflation rendered by Mr Bush beginning in 2012. Mr Gramm’s whereabouts in 2012 are unknown.
With weakening lending standards once again in vogue it is a wonder, what with Mr Obama publicly railing against the practice almost everyday, how Mr Bush has been able to prevail in his diabolical plan to destroy the US economy.
https://fred.stlouisfed.org/series/CSUSHPINSA
It was titled the GRAMM-LEACH-BLILEY Act. Gramm wrote it. Never, ever gets mentioned by a conservative. It is known only as the bill that Clinton signed. Here is your chance for an Internet first for a conservative. Just admit that Gramm wrote the thing and the other 2 names on the Act are also Republicans.
As to your second graph, let me help you out with the math. Under Reagan, the index increased 55%. Under Clinton 45% and in 5 years under W, 69%. Clearly this was all Clinton’s fault. St Ronnie, the Great Deregulator, couldn’t possibly be at fault, even though he was the one who liked deregulating financial institutions. Most of all, you guys still don’t want to take responsibility for W. Cant say I blame you.
Steve