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Econ 100b

Created 4/30/1996
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Lecture Thirty

Deficits and Debts I
(Economics 100b; Spring 1996)

Professor of Economics J. Bradford DeLong
601 Evans, University of California at Berkeley
Berkeley, CA 94720
(510) 643-4027 phone (510) 642-6615 fax
delong@econ.berkeley.edu
http://www.j-bradford-delong.net

April 19, 1996


Administration
Government Deficit--This Is a "Long Run" Topic
Supply-Side Effects of a Large National Debt
National Debt in Historical Perspective


Administration

I have been reading through midterms. I have come up with the following conclusions:
(a) this midterm was too long... (but the last one was too short; "Goldilocks" final
(b) people did surprisingly well on this midterm--better than I had expected. So I was happy (even though you, perhaps, were not so happy.

View: Jeffrey Frankel and I are thinking about next fall's version of this course. What do you think of Mankiw's book? If it is to be replaced, replace it by a book with (a) more math, (b) less math, (c) more examples, (d) more institutions...?

Government Deficit--This Is a "Long Run" Topic

Today I want to move into a different subject, that of chapter 16 of Mankiw--debates about the government debt.

Important topic--seems that our federal politics talk about nothing else than "balanced budget"

Put U.S. debt in perspective:
U.S. not unique--other countries have larger debts



Supply-Side Effects of a Large National Debt

A drag on U.S. productivity through higher tax rates... 60% of GDP x 2.5% real interest rate means that 1.5% of U.S. real GDP is taxed just to be transferred.

What does it mean that the federal government has to collect an extra 1.5% of GDP in taxes--has to raise taxes from, say, 20% of GDP (needed to pay for government programs) to 21.5% of GDP?


What to do about debt and deficit?


National Debt in Historical Perspective

In the old days, little debt. In fact, in the old days, little federal government. Debt-to-GDP ratio up to perhaps 30% of National Product in a war, but little outside of a war.



Pattern of spending. Post-Civil War return of spending to a very low level. Run your national debt/GDP ratio down to zero after a war. Andrew Jackson paid off the national debt in the 1830s. Post-Civil War debt. Veterans' bonus programs. 1913 debt of 3% of GDP; 1930 debt of 20% of GDP; 1975 debt of 25% of GDP.



With the end of World War I, however, government spending did not go all the way back down to its pre-war share of GDP. Whether it would eventually have done so or not in the absence of a Great Depression is unclear--but with the Great Depression, the movement of the federal government into infrastructure spending in a big way for the first time, and so forth (Social Security system) civilian spending bounced up to nearly ten percent of GDP.

And then came World War II, the Korean War, and the postwar military-industrial buildup associated with the Cold War.

Taxes kept pace--and the underlying growth of the American economy steadily reduced the outstanding national debt as a share of GDP. (Expand on this: D/Y down from 112% at the end of WWII to perhaps 25% in the mid-1970s.)

Since the end of the 1970s things have turned very strange: doubling of debt-to-GDP; first-time emergence of large persistent peacetime budget deficits. Steady walking away of expenditures from revenues (which have been relatively constant as a share of GDP).

Four reasons for persistent budget deficits in the 1980s and 1990s:

If you look at, say, the Wall Street Journal editorial page, you will find a fourth reason mentioned:

I have never been able to make any sense out of this argument at all; in the 1980s (and so far in the 1990s as well), actual budget outturns have always shown a smaller deficit than original presidential submissions; and congressional legislation has always shown a smaller deficit than the presidential submission. Spending priorities have been changed--yes (in the 1980s toward less defense and more social programs than Reagan asked for; in the 1990s the reverse; Dianne Feinstein: B-2 bomber carries a large payroll...). But overall legislation tracks the presidential submission.

There are some glorious passages from the political rhetoric of the 1980s. For example, Martin Anderson, former domestic policy advisor to President Reagan, on pages 184-186 of his book Revolution:

[W]hy are we running a triple-digit billion dollar deficit...? Why don't we adopt responsible fiscal and monetary policies and balance the budget?... [T]he real culprit in federal spending is the Congress of the United States... only the Congress makes laws. The president may propose the initial spending plan, the federal budget, but it is the Congress that disposes, that shapes, and that approves the final spending plans.... For a politician, being able to spend $200 billion extra a year on popular programs... and... do it without doing the unpopular thing of raising people's taxes, to instead pay for this current largesse with borrowed money, is so compellingly attractive... [T]he current institutions of our political system are unable to withstand the power of the special economic interest groups who benefit....

Time and time again President Reagan... sent budgets to the U.S. Congress to limit and control federal spending. Time and time again, the Congress has rebuffed those plans, and substituted levels of spending they, and they alone, considered appropriate. But how does one go about forcing our elected congressmen and senators to take responsible positions on fiscal policy?

Note that Martin Anderson is not quite lying. He never quite says that Congress took the (balanced) budgets submitted by President Reagan and made them massively unbalanced--but he clearly would not be very upset if that was the impression of the 1980s budget struggles that you were left with after reading the book.

He never makes the point that final congressional action usually closely mirrors initial presidential proposals in broad totals: congressmen are extremely unwilling to raise taxes by more (or cut taxes by less) than a president has proposed, or to spend less on programs than a president has proposed. They will do it--but they will only do it a small amount. They are infinitely, infinitely happier when the president will identify his own political prospects with the deficit reduction program...

The fear is that the president will do to them what Reagan did on taxes--these people are denying you your tax cut.

Remedy, an informed citizenry...

Digression on Martin Anderson; the Hoover Institution; "Imposters in the Temple"....//from my perspective, Hoover is the problem.


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Econ 100b

Created 4/30/1996
Go to
Brad De Long's Home Page


Professor of Economics J. Bradford DeLong, 601 Evans
University of California at Berkeley
Berkeley, CA 94720-3880
(510) 643-4027 phone (510) 642-6615 fax
delong@econ.berkeley.edu
http://www.j-bradford-delong.net/