Sunday, July 31, 2011

Ouch, yuck, gasp, thud.

Catherine Rampell writes in the New York Times, Sure Cure for the Debt Problem: Economic Growth:

We face the largest budget deficit the nation has ever known: $1.6 trillion, the equivalent of about 11 percent of our economy. And, whatever Washington does, many economists say the situation will grow only worse...

But there is, in theory, a happy solution to our debt troubles. It’s called economic growth. No need to raise taxes or cut programs. Just get the economy growing the way it used to.

Good luck with that...

Good luck with that?? Catherine Rampell seems not to believe that the restoration of growth is possible, despite the title of her article.

“The basic issue is that the U.S. is on an unsustainable fiscal track,” says Dean Maki, the chief United States economist at Barclays Capital. “From that point, none of the choices are fun.” The most obvious choices, Mr. Maki says, are to reduce spending (ouch), raise taxes (yuck), let inflation run (gasp) or default (thud).

We wouldn’t need any of that if we could restore economic growth. If that happened, Americans would become richer and pay more taxes. Et voilĂ ! — we’d pay down the debt painlessly.

That is the only analysis of the problem in Rampell's article. Heck, it's the only one you'll find anywhere, except here at The New Arthurian Economics.

It is private debt, excessive private debt that hinders growth. Not public debt.

Since 1980 -- since Reagan -- we have been seriously trying to stop the growth of the Federal debt, with little or no success. Because it's the wrong debt.

After World War II, gross federal debt reached 122 percent of G.D.P., the highest ratio on record. But over the next 40 years, it fell to about 33 percent. That wasn’t because some blue-ribbon panel prescribed austerity; it was because the American economy became much, much richer.

The same happened during the prosperous 1990s, which began with deficits and ended with surpluses. Former President Bill Clinton is often credited for that turnabout, as he engineered higher tax rates. But most economists attribute the surplus years primarily to extraordinarily rapid growth.

After World War II, the Federal debt was large compared to private debt. Private debt was small and did not interfere with growth. So the economy grew. And over the next 40 years, private sector debt grew until the cost of it started to interfere with growth. Since then, economic growth has not been good... except briefly, in the late 1990s.

Something similar happened during the prosperous 1990s. In the late '80s and early '90s the rate of private debt growth fell substantially. This reduced costs and opened a window for growth. Then in the late '90s the economy grew enough to balance the Federal budget! But soon, the level of private debt was high again, and the economy was refusing to grow.

Congress has promised fiscal discipline for decades, only to undo its promises before the reckoning. Fiscal discipline is painful, unpopular and, in today’s Washington, as elusive as the prosperity we once had.

Congress has tried to achieve fiscal discipline for decades, without success. Why? Because reducing the Federal debt is the wrong approach.

We must reduce private sector debt, to free up the economy to grow again, and then the economy will grow.

When the economy grows, then we can balance the Federal budget.

"A version of the NY Times article appeared in print on July 31, 2011, on page BU1 of the New York edition with the headline: A Sure but Elusive Cure: Economic Growth."


Matty G said...

I've been reading your blog after coming upon it via some MMT blogs.

Anyway, your conclusion ("When the economy grows, then we can balance the Federal budget.") jumped out at me.

As you probably know, MMT makes much of the Clinton budget surpluses of the late 1990s, and says that these caused (or contributed) the recession of the early 2000s.

The economy was obviously growing, up to that point - but the growth was fueled by private debt expansion.

So supposing that we get the economy growing again and then, as you suggest, try to balance the budget? Why wouldn't that similarly lead to a renewed recession? I wonder how much that has been the case historically - I would love to read one of your analyses and see the graphs on that.

I think (obviously influenced by MMT) that emphasis on balancing the budget ever (even in the future) is misguided.

Instead, Government should cut spending when there is demand-push inflation (caused by excessive government spending crowding out the private sector) and should increase spending when there is unemployment and un-utilized capacity.

The Arthurian said...

Hi, Matty. Interesting remarks.

Perhaps that line jumped out at you because it seemed inappropriate? My post is not about balancing the budget. It is about the stumbling-block that interferes with economic growth. I hope you didn't miss it when I said It is private debt, excessive private debt that hinders growth. Not public debt.

But my post is a response to one that expresses concern about the Federal debt and deficit. To me it did not seem constructive to respond by saying your concern is misguided.

Less obvious to everyone but me, probably, I also said "over the next 40 years, private sector debt grew" until debt started interfering with growth. I said "40 years" because Catherine Rampell said 40 years. Myself, I would have said it was only 20 years before there were indications debt was interfering with growth. But I said "40" so that the ideas in my post and Rampell's would match, so that I might better convey a thought. It was definitely not worth shifting attention to the secondary issue by arguing the number. But believe me, I didn't write "40" easily.

"So supposing that we get the economy growing again and then, as you suggest, try to balance the budget? Why wouldn't that similarly lead to a renewed recession?"

Perhaps it would. There is an interesting recent post at Asymptosis on a historical pattern of budget surpluses and recessions. And my "debt relative" graphs also suggest the recession outcome.

But our economy has been so heavy with debt for so long now that it is difficult to imagine what a "normal" economy would be like. Perhaps if the monetary balances were good, we would usually balance the budget. And hey, we don't need a Federal deficit just to expand the quantity of money. We could have the Federal Reserve run a lottery where the winnings are all new-issue money!!


Jazzbumpa said...

“From that point, none of the choices are fun.” The most obvious choices, Mr. Maki says, are to reduce spending (ouch), raise taxes (yuck), let inflation run (gasp) or default (thud).

Maki is thinking way inside the box. Krugman has repeatedly pointed out that reducing spending will make things - including the deficit - worse.

Of course the way out is to grow the economy. And the best way to do this is to go back to the pre-Reagan, golden age structure of taxes and regulations. There is no "yuck" there. All the current Rethug posturing is pure bullshit. (The smart ones know his. The Tea Party -- not so much.) They seriously want the economy to tank so that the American voters, in a knee-jerk reactionary fit , will throw out the incumbent Dems. This is the reality of making Obama fail.

My fear is that this will work. A Rethug pres and senate in 2012 will destroy what tattered shreds remain of the new deal, along with SS and medicare, and throw all of us - especially me as I approach my 65th birthday - to the wolves.

Here's an idea to chew on. The medieval economy was based on rents. The merchant class grew based on (debt financed, BTW) profits. Slowly, profiteers took the economy away from rentiers. This enabled the enlightenment, the industrial revolution, and the greatest burst of human progress in history. Now, the rentiers are wresting the economy away from the profiteers, returning us to the economic paradigm of the dark ages.

Matty's last para is pure Keynes, BTW, and therefore exactly correct.