In yesterday’s Wall Street Journal columnist David Wessel responds too mildly in “Why It’s Wrong to Dismiss the Deficit” to Larry Summers’ view that we should not worry about the deficit. Mr. Summers says, “Let me be clear. I am not saying that fiscal discipline and economic growth are twin priorities. I am saying that our priority must be on increasing demand.” According to Mr. Wessel, here is the essence of Mr. Summers’ argument:
The deficit isn’t an immediate problem; growth is.
We’ve done enough (about the deficit) already.
The future is so uncertain that acting now is unwise.
Granted that the deficit for fiscal year 2013 is “only” $680 billion after four years in a row of deficits over a trillion dollars each and that interest rates are at an historically low level at the present time. The problem is that the public debt is now at the very high level of 73% of GDP and is projected by the Congressional Budget Office to continue climbing indefinitely. Interest on the debt was $415 billion for fiscal year 2013 which represents 2.5% of GDP of $16.8 trillion. With GDP growth increasing at about 2% per year since the end of the recession in June 2009, this means that interest on the debt is already slowing down the economy and it’s just going to keep getting worse as interest rates inevitably return to higher historical levels.
Growth is very definitely an immediate problem. But increased government spending is the wrong way to address it. The right way to address it is with broad based tax reform (lowering tax rates in return for closing loopholes) to stimulate investment and risk taking by businesses and entrepreneurs. Significant relaxing of the regulatory burden would also help, especially for the small businesses which are responsible for much of the growth of new jobs. So would immigration reform to boost the number of legal workers.
As uncertain as the future is, we can be quite sure that entitlement spending (Social Security, Medicare and Medicaid) will be going up fast in the very near future as more and more baby boomers retire and the ratio of workers to retirees continues to decline. It would be very risky indeed to assume that economic growth will increase fast enough to pay for increased entitlement spending.
Conclusion: large deficits are a very urgent and immediate problem which we ignore at our peril! Furthermore the best ways of boosting the economy don’t require increased government spending.
The New York Times reported yesterday that “Chicago Sees Pension Crisis Drawing Near”. “A crushing problem lurks behind the signs of economic recovery in Chicago: one of the most poorly funded pension systems among the nation’s major cities. … The pension fund for retired Chicago teachers stands at risk of collapse.”
William Daley, former chief of staff for President Obama and now a Democratic candidate for governor of Illinois says that “Anyone who thinks that this is just a problem on paper, those are the same people who looked at Detroit 20 years ago and said, ‘Don’t worry about it, we can handle it.’” Chicago Mayor, Rahm Emanuel, another former chief of staff for President Obama, says that “What the system needs is a hard, cold, dose of honesty. I understand the anger. I totally respect it. You have every right to be angry because there were contracts voted on. People agreed to something. But things get updated all the time.”
Just as Chicago and Illinois need a cold dose of honesty about the public pension crisis in that city and state, so does our entire country need a cold dose of honesty about our national fiscal crisis. Shall we wait 20 years or until this problem explodes in our faces (or our children’s faces), or shall we start to deal with it now, while we can still proceed in a rational manner?
Our current public debt (on which we pay interest) is now $12 trillion. With artificially low interest rates, we are paying “only” $250 billion annually in interest on this debt. When interest rates resume their historical average of 5%, our annual interest rate will jump to $600 billion. Where will we find an additional $350 billion per year for interest payments alone? Will we take it from entitlements, from social services for the poor, from our defense budget? Or will we just increase our deficit even more to pay for it? It will have to come from somewhere!
Wake up, America! Learn from the municipal pension crisis. Now is the time to get things straightened out. Further procrastination will have dire consequences.
David Malpass, president of Encima Global LLC, has an op-ed in yesterday’s Wall Street Journal, “The Economy Is Showing Signs of Life”, pointing out that business loans, auto sales and hourly earnings are up. Mr. Malpass says that “The sequester is a bad way to set spending priorities, but it reduces the risk of future tax increases, contributing to the upturn in consumer and business confidence. … The good news is that an end to the latest version of the Fed’s quantitative easing would create space for more growth in private credit and a shift back toward market, not government allocation of credit. …Because America’s private economy is the world’s biggest net creditor and capital allocator, the United States will be the biggest beneficiary of a return to market based interest rates, with vast potential in efficiency, intellectual property and the capacity to innovate.”
Federal Reserve Chairman, Ben Bernanke, is given much credit for the fact that the Great Recession did not turn into another depression. But now, four years after the end of the recession, we have the twin problems of a slow growth economy, which keeps the unemployment rate much too high, and the potential for huge inflation caused by the vast increase in the money supply. Mr. Malpass makes an excellent argument that the economy has recovered enough so that further quantitative easing will now retard future growth. It clearly also increases the chance of runaway inflation.
Current artificially low interest rates also disguise the future damage now being created by huge federal deficit spending. When interest rates go back up, as they inevitably will, interest payments on our rapidly increasing national debt will also increase dramatically, and force far greater cuts in federal spending than are currently being caused by the sequester.
In other words, to speed up economic growth, curtail the risk of future inflation and to put more pressure on Congress to control federal spending, the Federal Reserve should begin to exit from quantitative easing in the very near future!
I began this blog last November, right after the national elections, to promote my strong view that the United States is on a dangerous fiscal course, with an already enormous, and still rapidly growing, national debt. After four years in a row of deficit spending exceeding $1 trillion per year, the current year’s deficit is projected to be “only” $640 billion. Far too many people, including many of our national leaders, interpret this to mean that the problem is getting solved and so we can relax. But the already accumulated $12 trillion in public debt will cost our economy $600 billion a year, a significant fraction of total revenue, in interest alone when interest rates return to their historical average of 5%.
This is just the tip of the iceberg. Federal spending is out of control all across the board. Entitlement spending on Medicare and Medicaid is growing at twice the rate of inflation and is an especially acute problem. But progress here depends on figuring out how to get healthcare costs in general under control, a huge challenge. The much reviled sequester is working but it’s not nearly enough by itself to get discretionary spending under control.
Four years after the end of the Great Recession the economy is still limping along at 2% GDP growth and 7.6% unemployment. And this is after enormous fiscal stimulus (deficit spending) as well as quantitative easing by the Federal Reserve. Current policies are not working. What we need is broad based tax reform with lower marginal rates (offset by ending tax preferences) to stimulate business investment and the private risk taking which propels the economy and creates jobs. And, of course, faster economic growth will also increase tax revenue and therefore lower the deficit, as well as boosting employment.
This is a brief summary of what I’ve been saying for the past eight months. To me it just seems like simple common sense, but not everyone agrees! At any rate I’ll be out of town for the next two weeks. I hope to be able to make a few new posts while I’m gone. Stay tuned!
The New York Times’ Eduardo Porter has a column in yesterday’s paper “Making the Case for a Rise in Inflation”, arguing that a 4% inflation rate, for example, would be a better target rate for the Federal Reserve than its present 2% target rate. The idea is that higher inflation would lessen the value of a dollar, thereby eating away at our $12 trillion in public debt (on which we pay interest). A lower value of the dollar would also boost the economy by making exports less expensive. Higher inflation would likewise encourage consumers to spend more because the value of the dollar is decreasing more rapidly.
Mr. Porter does point out that there would be opposition to any policy of purposely letting inflation go up. The best known Fed Chair in recent years, Paul Volcker, says that “All experience amply demonstrates that inflation, when fairly and deliberately started, is hard to control and reverse”.
The biggest problem, though, is the risky procedure of trying to boost the economy with monetary policy (quantitative easing, QE1, QE2 and QE3) rather than using fiscal policy (tax reform and deregulation). The creation of an enormous amount of new money in a slow recovery creates huge upward pressure on inflation. The economy is slowly improving on its own accord. Very soon (in the next few years) the Fed will have to perform the difficult function of withdrawing money from the system fast enough to avoid inflation and, at the same time, slow enough, to keep interest rates from skyrocketing. So the question is, will the Fed be able to simultaneously keep both inflation and interest rates under some kind of control?
For sure we don’t want to make its job more difficult by pushing inflation any higher than necessary at the present time!
America is in a tough position at the present time, both economically and fiscally. Our economy is stuck in a slow growth mode of 2% per year, ever since the end of the recession four years ago. The unemployment rate, now 7.6%, is dropping only very slowly which means many millions of people are either unemployed or underemployed. Our national debt, now almost $17 trillion, is still growing rapidly. As interest rates increase and return to normal levels, as they may be starting to do already, just paying the interest on this enormous debt load will take an increasingly large portion of government revenues in the years ahead. At the same time entitlement spending, on Social Security, Medicare and Medicaid, is also increasing rapidly. It is absolutely essential for our national leaders to strongly focus on finding solutions for these escalating problems and only a few of them, but not nearly enough, are making a concerted effort to do this.
I am trying to do something about these critical and urgent problems. First of all, I challenged the incumbent Congressman for Nebraska’s Second District, Lee Terry, in the Republican Primary in May 2012, but to no avail as he was easily re-nominated and then re-elected in November 2012.
After the 2012 elections I set up a blog: https://itdoesnotaddup.com/ to address these critical national issues and to propose ways of addressing them. There are over fifty individual posts by now which go into much detail on possible actions that could be taken at the national level to make more progress on all of these matters. But I need to reach a wider audience and to create a greater sense of the eminent danger we are in if we don’t take our current situation more seriously.
I have employed a graphic designer to come up with a new and more exciting logo and website to hopefully create more visibility for what I am doing. Take a look: http://thebudgetjack.com/. I am also looking for one or more people to help out with new content for the new website. Perhaps it could be authoring a separate but related series of blog posts on these same issues. Or perhaps by contributing a new feature to the website which would never occur to me on my own.
If you have any ideas about any of these things, please let me know. I am easy to reach at email@example.com. I look forward to hearing from you!
Let’s take another look at the Congressional Budget Office’s “An Analysis of the President’s 2014 Budget”. On May 18, I pointed out that his budget projects a deficit of “only” 2% ten years from now in 2023, which amounts to a $542 billion deficit in that year, quite a large amount.
There is actually a clearer and rather frightening way to look at the continuing buildup of debt over the next ten years according to the President’s budget. On page 4 of the CBO report, year by year projections are given for each of the following: Debt Held by the Public (on which interest is paid), Gross Domestic Product, Net Interest on the Public Debt, and Net Interest as a Percentage of GDP. The actual amounts for 2012 are: $11.3 trillion in Public Debt, $15.5 trillion GDP, $220 billion Net Interest and 1.4% Net Interest/GDP. These figures all steadily increase during the next 10 years with projected values for 2023 being: $18.1 trillion in Public Debt, $25.9 trillion GDP, $782 billion Net Interest and 3.0% Net Interest/GDP.
Here’s what is so frightening. Right now we’re paying 1.4% of GDP as debt interest but GDP is itself growing at about 2%. So we at least have a small net growth of .6%. But the 1.4% interest for 2012 and 2013 is projected to keep growing steadily and reach 3% in 2023 and then to continue on growing indefinitely after that. This means that either our growth rate continues to steadily increase and hits at least 3% by 2023, and then still goes even higher after that or else our economy will begin to stagnate and go backwards.
We are currently on a perilous course, caused by the enormous accumulation of debt over the past few years, on which we will have to pay interest in perpetuity. It is an urgent matter to rapidly shrink deficit spending way down close to zero in the next few years. We need to find more effective ways to boost the economy than the excessive public stimulus which has put us into this dreadful current situation.
The Congressional Budget Office has just released “An Analysis of the President’s 2014 Budget”. News reports highlight that the Obama plan will decrease the deficit over the next ten years by $1.1 trillion compared with the CBO baseline and that the
deficit in 2023 will be only 2% of GDP as opposed to 4.2% of GDP in 2013. Federal debt held by the public (on which we pay interest) would grow from 73% of GDP ($11.3 trillion) at the end of 2012, to 77% of GDP ($12.8 trillion) at the end of 2014, and then shrink to 70% of GDP ($18.1 trillion) in 2023.
It may sound good to say that the deficit will be “only” 2% of GDP in 2023. But this still represents about $600 billion being added every year to the national debt even 10 years from now. Right now, with very low interest rates, we are paying $223 billion per year (8% of revenue) in interest on the debt. When interest rates return to normal at 5% or so, interest on the debt will skyrocket, reaching $900 billion by 2023, representing 18% of the estimated $5.1 trillion in revenue for that year. Just paying interest on the debt
will become a bigger and bigger burden for American society, continuing indefinitely into the future.
Here’s another problem with the President’s budget. Almost half of the ten year deficit reduction ($493 billion) is achieved by limiting tax deductions to 28% of income (the tax
rate on income up to $183,000). Using a limitation of tax deductions to shrink the deficit will make fundamental tax reform that much harder. There is a strong bipartisan consensus for broadening and simplifying the tax code which means lowering, if not completely eliminating, many deductions in return for lower tax rates. This should be the primary focus of tax reform in order to stimulate the economy by encouraging
What we need is a credible plan to completely eliminate deficit spending in the
short term, and to do this together with pro-growth tax and regulatory reform. It will be a huge challenge to get this accomplished but our future liberty and prosperity depend on it!
The Congressional Budget Office has just released an update to its February 2013 Budget Projections. The deficit for 2013 is now projected to be $642 billion, down from the previous $845 billion. This is good news but its main effect will only be to delay by several months until fall serious negotiations about raising the debt limit again. The long term outlook has changed very little. New debt for 2014-2023 is now projected at $6.3 trillion. The total debt this year will be 76% of GDP and in 2023 it is projected to be at 74% of GDP and rising. Over the past 40 years total debt has averaged 39% of GDP.
Such a large debt level now and for the indefinite future obviously has very serious negative consequences. As soon as interest rates return to more typical higher levels, interest payments will rise by hundreds of billions of dollars per year, crowding out much other spending. We can be sure that a new crisis will occur sooner or later leaving national leaders at that time in a precarious position, unless the debt level shrinks significantly in the meantime.
This means that significant additional deficit reduction is still needed at the present time. Realistically, it should come from reforming entitlement spending which is becoming an even bigger driver of our continuing debt explosion. Any national leader who denies the seriousness and urgency of our current frightful fiscal condition should be considered irresponsible and held to account for this failing.
The presently high unemployment rate of 7.5% is no excuse for inaction. The way to boost the economy, and thereby reduce unemployment, is to encourage more business investment with tax and regulatory reform. Economic stimulation and deficit reduction are not in opposition to each other. They can and should be addressed together at the same time.
In a New York Times column on May 3, 2013, “Not Enough Inflation”, Paul Krugman writes that since we are now in a liquidity trap, where business is sitting on hoards of cash, what we need is more inflation. A higher rate of inflation would encourage more borrowing and spending and make it easier to pay down debt. Inflation is low because of the economy’s persistent weakness which prevents workers from bargaining for wage increases and forces business to hold down price increases. He goes on to say that what we also need right now is “more stimulus, monetary and fiscal, to reduce unemployment” and that “the response from people who consider themselves wise is always that we should focus on the long run, not on short-run fixes”. I think that Mr. Krugman has overstated his case as he so often does.
On May 4 the NYT “Off the Charts” columnist Floyd Norris shows that “Business Investment Rebounds Even as Recovery Drags”. He looks at data for our four most recent recessions which shows that while consumer spending is growing slowly in our current recovery, and government spending (federal, state and local) is way down, business investment has been quite strong. This is especially significant because the Stanford economist, John Taylor, has pointed out the amazingly strong inverse correlation between business investment and the unemployment rate. (See also his more recent blog on February 4, 2013.) This is a strong indication that the unemployment rate will continue to drop and perhaps even more quickly in coming months.
In summary: business investment in growing robustly, consumer spending is growing steadily, and quantitative easing (monetary policy) is just about maxed out. Government spending is down but this is primarily because state and local governments have to balance their budgets. So there is really only one policy lever left to further stimulate the economy, i.e. federal spending.
However this is where the long run matters at least as much as the short run. With the national (public) debt currently at 76% of GDP and growing, it is simply too risky to let it go much higher. In fact it is only prudent to begin reducing it as soon as possible. Absent an unforeseen national emergency this must be our first priority.