So apparently a deal over the debt limit was reached today. This is better than the alternative in the same way that giving yourself AIDS is better than shooting yourself in the head. Sure, markets like that something happened (there won't be an immediate default, which is better than the alternative), but the deal struck is going to make our economy worse, it is going to damage our quality of life, AND (the most ironic part), in all likelihood, it will make our fiscal problem worse. I say this not because I think I'm super smart-- I don't know anything your average person shouldn't-- but because it seems like a whole lot of people have gotten really, really stupid.
So, the simple reason the deal will make things worse is simple- cutting spending in a depressed economy is contractionary. It's not a difficult principle. Somehow, Congress doesn't understand that. The worst comes from the Republican Party. They rail about how we can't afford tax hikes "in this economy," but in the same breath swear that we need to cut spending NOW. Tax hikes are "job-killing"; spending cuts are "confidence-restoring." It's not just a wrong but debatable claim-- it's just complete nonsense on its own terms. Yes, hiking taxes takes money out of people's pockets and puts it in the hands of the government. Some of that money would have been spent (demand that we forego), some of it would have been saved (demand that we don't forego), and some of the drop in income is replaced by spending from savings. So there's a contractionary effect, but every dollar in tax hikes does not contract the economy by a dollar. On the contrary, spending cuts ARE contractionary in just that way. If you pay a dollar less for MediCare, that's a dollar less in someone's pocket. If you fire a worker in the federal government, you have to pay them unemployment benefits, and lose the tax revenue you'd get from their salary. They also have to consume less because they don't have a job, so everyone with whom they do business is also impacted. It's not a hard concept, but people in Washington seem to have forgotten it. In normal times, government spending can crowd out private sector spending. We're not in normal times. Unemployment is over 9% and interest rates are at 0. In this case, government spending can crowd in private spending by spurring demand that signals to businesses that they should expand and hire to meet that demand.
Opponents of this idea argue that businesses are far-sighted and know taxes will be raised on them in the future if the government runs a deficit. That's baloney. Businesses respond to market conditions, not long-run guesses about the state of the economy in 15 years. If you own 20 taxis that operate in New York, and slack demand from the recession has led you to sideline half of them, but suddenly your 10 operating taxis are booked non-stop, you're going to send some of the taxis that have been standing idle back out on the road. You're not going to care if that demand comes from 2000 new attorneys hired by the SEC, or 2000 new analysts hired by Goldman Sachs. On top of that, depressed demand now makes our fiscal outlook in the future weaker. The longer the economy is depressed, the less tax receipts the government will take in, meaning that even if spending is cut, the shrinking economy and drop in tax receipts will actually likely make the deficit problem WORSE. But this is what we got, and it's depressing.
But the real reason I'm writing this post is to address the scaremongering coming from the "respectable" mainstream media. I have a subscription to Bloomberg Business Week, and I think it's normally a pretty good magazine. It provides a decent pulse of the market. But I came back to New York from my summer internship this evening and found that Peter Coy had written the worst article I've read in the magazine since I started getting it a year ago. It talks about our "long-term fiscal condition" and claims that we have hundreds of trillions of dollars in unfunded liabilities stretching into the future. That sounds scary. In a way it's true. But take the claim apart, and it's a profoundly stupid statement meant to mislead gullible people. There are so many things wrong with the article, I don't really know where to start, but this one's as good as any.
First, it readily concedes that it's making a present value calculation without explaining the implication. So here's the implication: a big number has to be divided by a time period for it to matter. In a present value calculation, it's discounted to forever into the future. In straightforward terms, it says two very different things to say that I owe $10 million to be paid back tomorrow, or I owe $10 million to be paid back over the course of a hundred-year period. If it's the former, I'm bankrupt. If it's the latter, depending on my salary and inflation, it could be very little. What the present-value calculation does is assume that expenditures grow the same way in the future as they did in the past, while tax revenues also follow the past course. It conveniently ignores the impact of adjustment. For instance, if you raise the retirement age by a year or two OR raise the maximum salary at which payroll taxes are deducted (currently a little over $100,000), OR means-test the program, OR tweak benefits, depending on how much you changed each, you could easily turn a program projected to run massive deficits into a program projected to run massive surpluses. Magic.
Then Coy pretends that the way deficits in programs like Social Security are calculated is an accounting trick. He says that if today's workers were required to buy X amount of bonds that they could redeem when they retired, our debt would look much worse than it does. That's nonsense. Social security is NOT a retirement account, nor is it an obligation. It's an insurance fund. It guarantees you a certain bare-bones level of income if you reach a certain age. If you die, you don't collect anything. Plug that into Coy's example, and you realize what baloney he's spouting. Imagine for a second that your bonds disappear if you die. Instead of being sold into the open market, they just up and evaporate. That's the equivalent. There are plenty of things we can do to fund programs like Social Security that wouldn't substantively change too much about how those programs work.
Medicare and Medicaid are a different story (as is all health care spending)-- we spend way too much at all levels, as I discussed in this post, but that doesn't mean that cutting indiscriminately or passing costs to the private sector is the way to go. Frankly, the scaremongering just frustrates me because the supposedly respectable media is pushing lies on people.
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