September 29, 2004

What Lies Ahead in Fiscal Policy

Edmund Andrews has a nice article about the fiscal policy situation that the Bush administration has created. I attribute this FUBAR situation to a combination of the Bushies' incompetence and mendacity, rather than malevolence and disconnection from reality:

The New York Times: Whoever Wins, More Taxes May Be the Only Way Out. By EDMUND L. ANDREWS: IT'S often forgotten that President Ronald Reagan signed a bill to raise taxes in the early 1980's after first cutting them. President George H. W. Bush abandoned his "read my lips" pledge and raised taxes in 1990. Could Republicans soon be in a similar position again?.... If President Bush is re-elected, he and the Republicans face a big agenda, including an unfinished war in Iraq, and virtually all of his tax cuts will be financed with borrowed money. Unless the government defaults on its debt, that money will eventually have to be repaid.<

Faster economic growth will not do the trick. The nonpartisan Congressional Budget Office already assumes that the economy will grow at a solid pace in the years ahead and that tax revenues will climb even if President Bush's tax cuts are made permanent.... Iraq... Bush prevents the alternative minimum tax from raising taxes on some 30 million families... deficits from now through 2014 would total $3.5 trillion.... Federal interest payments... the "debt tax"... would climb to $402 billion in 2014....

Stuart Butler, a senior fellow at the Heritage Foundation, a conservative research group, contends that political leaders will have no choice but to raise taxes if they do not cut back on trillions of dollars in unfunded commitments - most of them associated with Medicare, which President Bush and Congress expanded greatly....

Administration officials remind audiences... that the federal deficits are largely a result of economic shocks.... But... cyclical economic problems contributed only $47 billion of this year's anticipated deficit of $422 billion. Next year, cyclical economic problems are expected to have almost no impact on the budget... the entire federal deficit will be a result of structural causes - tax and spending policies set down by the president and Congress. President Bush has called for freezing... nondefense discretionary spending.... But those cuts affect less than one-fifth of the federal budget....

Federal tax revenues, which go up and down in response to policy changes and to the economy, have averaged about 18.6 percent of gross domestic product since the 1970's... are expected to make up only 16.2 percent of gross domestic product.... Absent cuts in spending far more draconian than anything President Bush has yet proposed, only one other option remains: higher taxes.

Posted by DeLong at September 29, 2004 02:37 PM | TrackBack

This really puzzles me. It seems like there are a bunch of different factions of the right, all of whom agree on a particular vision, but do not agree on the way to achieve that vision. They are unsure of how to balance the need to return to fiscal sanity with the insatiable quests for smaller government and lower taxes. And leaders in the Republican party, of course, are probably very uneasy over the notions of how to handle all of this.

I'm not really sure what to make of it, as I said, but I'm pretty sure of one thing: the solution won't be easy.

Posted by: Brian at September 29, 2004 02:50 PM

I'm not really sure how all of the different factions of the GOP are going to handle the different ideas and notions of taxes, smaller government, and deficits and debt. There are so many conflicting perspectives and competing needs.

The only thing that I feel confident in saying is, the solution won't be pretty.

Posted by: Brian at September 29, 2004 02:52 PM

When one adds in the aging of the population, and the higher voting participation level of those over 50, it really doesn't look good for the Republican desire to downsize and cut more taxes.

It'll be a shame if Kerry winds up being blamed for this. Doesn't mean we should even think of 4 more years, just that Kerry had better be ready on Day One to lay out for the public exactly how much we're screwed - if he lets it go even a month, no one will ever accept that it isn't the new admin's fault.

Posted by: fatbear at September 29, 2004 03:08 PM

We have trapped ourselves with fiscal policy. There will be fierce resistance to a federal tax increase and the only possible budget cuts that could be large enough to get the deficit under control would be intolerable cuts in Social Security or Medicare benefits. We should be furious with Alan Greenspan for warning us that the surplus we had so few years ago would present all sorts of problems if we failed to cut taxes. But, we have cut taxes repeatedly and trapped ourselves.

The problem we face is a budget deficit is rather intangible, while a tax increase is all to real to us. A party that decides to push for a tax increase could be in serious political difficulty, while a party that threatens promised Social Security or Medicare benefits will surely and deservedly be in trouble.

Where is a solution?

Posted by: anne at September 29, 2004 03:10 PM

ooooooh, the Heritage Foundation luuuuuuuuuuvs taxes.

Posted by: praktike at September 29, 2004 03:33 PM

Perhaps the Republican tax cutters should be known as the "Free Lunch" Party. That's what they promise. Or perhaps they should be known, more accurately, as the "Let's Make the Kids Pay!" party.

If I were a kid, I'd be protesting against taxation without representation.

Posted by: joe at September 29, 2004 04:12 PM

"I attribute this FUBAR situation to a combination of the Bushies' incompetence and mendacity, rather than malevolence and disconnection from reality:"

Turn in your shrillblog membership card. You can use your new free time to read old Krugman columns.

"Absent cuts in spending far more draconian than anything President Bush has yet proposed, only one other option remains: higher taxes."

Neither of these are going to happen in the Bush second term (evidence to change this opinion, please?), but you may not regain your membership by becoming shrill again.

Posted by: bob mcmanus at September 29, 2004 04:30 PM

Economic problems can persist longer than we would guess, but they are there even if we choose to think them away as they go on and on. We have a structural budget deficit and a demographic need to use more government services that will persist. We can ignore the problem and imagine the problem away, but imagining is not a solution.

Posted by: anne at September 29, 2004 04:44 PM

"We can ignore the problem and imagine the problem away"

What do you mean we, kimosabe. DeLong and Anne and the NY Times are not in charge of fiscal policy in this country. Sooner or later, yes,something will happen. But we are merely nearing the edge of the cliff, and I have no evidence that the Republican party has any intention of hitting the brakes. On the contrary.

What happens if we default on treasury bills? Can we simply default on unfunded liabilities with no other consequences? I suspect there more than two options, there are simply moderates nearby who see only two. There are revolutionaries who may see more, and they may be in charge.

Posted by: bob mcmanus at September 29, 2004 05:14 PM


The thing is, the American right *doesn't* share a particular vision. The current right wing consists broadly of economic conservatives -- largely business types -- and social conservatives. The two are united by nothing other than a fear of what liberals might do within their non-overlaping spheres of interest. Nonetheless, they became aligned as part of Nixon's southern strategy, when the more traditional economic conservatives embraced the social conservatives as a way to fend off increasing liberal power.

The social conservatives are largely populist and under some circumstances can be very distrustful of the economic conservatives -- big buisness, free trade, outsourcing (this is part of the reason why outsourcing is such a big issue this cycle). The economic conservatives tend to be socially neutral or liberal and tend to be dismissive of the social conservatives -- but they need the social conservative voting numbers.

Until fairly recently, the economic conservatives (socially moderate) held sway. This changed when the social conservative grassroots realized it had the force of numbers, and you started to see things like Pat Buchannan have presidential runs. He was held at bay, but what we've seen in this administration is that (at least temporarily) the social conservatives are completely in control of the Republican party. This means budget deficits as far as the spreadsheet can scroll, laws allowing the outsourcing of torture, and a slow increase in police powers.

Eventually something's got to shift. We're seeing, even near election time, some economic conservatives starting to break ranks, but apparently most still believe that if the Republican party remains in power, their faction can eventually wrest back control and then they can wield the power. It's not at all clear to me on what evidence they believe this.

If the current administration remains in power, I think a lot of the business crowd is going to have to reconsider their alignment. American CEOs who require an educated workforce are not going to be quiet if there is a renewed drive to teach creation `science' in schools; nor are they going to remain quiet indefinately about 1/2 trillion dollar structural deficits or foreign quagmires.

I think that the economic faction of the right really believe that everything will be better in a second term, once they succeed in bring administration officials to their senses. I just can't imagine why they'd believe that the Bush adminstration, flushed with electoral success and without another election to enter the calculations, might be convinced to moderate themselves. But that's the thing about the sort of people who make a pact with the devil -- right until they can actually feel the flames, they are sure they can outwit him.

Posted by: Jonathan at September 29, 2004 05:15 PM

is the "starve the beast" theory just dead? i think it has more credence. i mean, look, government has repeated, consistently, shown itself to be a squanderer of funds. everyone talks about the looming entitlements crisis. perhaps sinking it with debt is the only way to get it through the crisis without a ballooning of government in response. no?

Posted by: jason at September 29, 2004 05:24 PM

Fatbear’s right – and ONLY Kerry has a chance to do anything about this, because the Linguist-in-Chief is totally committed to lower tax rates and the Republican Congress has discovered how easy it is to get re-elected if you fill your state or district with pork-barrel projects and then blame “the spendthrifts in those other states” for the problem. Starve the beast, indeed – the beast is eating us alive.

We SHOULD be furious with Alan Greenspan for keeping his mouth so tightly shut in the face of all this, but I truly believe that he’s “past it” – anybody who’s watched his policy missteps since he began pushing interest rates up in the late 1990s to cure that economic horror of horrors - an asset bubble in tech stocks (!?!?) - and then engaged in an accommodative fiscal policy that effectively monetizes deficits now running at over $400 billion per year is, IMHO, a nincompoop.

Bob McManus’ 5:14 post reminds me of the story of Walter Wriston, formerly CEO of Citigroup (or Citicorp, as it was known then). During a presentation on international lending, he trumpeted “We have never lost a dime lending to sovereign governments.” And some smart-aleck in the audience (Brad DeLong in his callow youth, perhaps?) called out, “You will, Mr. Wriston. You will.” It would be a real irony if we wind up defaulting on our debt – but one richly deserved by anyone who doesn’t vote the Idiot-in-Chief out of office.

Posted by: Uncle Jeffy at September 29, 2004 06:01 PM

>What happens if we default on treasury bills?
>Can we simply default on unfunded liabilities
>with no other consequences?

Silly, Jesus is coming before all the Treasury notes and bills fall due.

Posted by: Davis X. Machina at September 29, 2004 06:05 PM

My apologies - the last line of the paragraph on Greenspan should read, "anybody who’s watched his policy missteps running at over $400 billion per year will recognize that his acquiescence is, IMHO, the act of a nincompoop."

Posted by: Uncle Jeffy at September 29, 2004 06:06 PM

Looks like that line:
"Unless the government defaults on its debt,..." snagged Tonto mcmanus above. Kinda lodged in my throat too, sorta like the way Fannie has to now hold 30% instead of 3%(?).
Good thing we fixed that up. Next!
Back in the good ol' days when men were Real Men and a buck was a buck, we knew how to deal with these little problems. But now the territory is cluttered with these damn oversight committees and commissions.
Yes, girlie men, trying hard not to pull the hyperinflation pin.

Posted by: calmo at September 29, 2004 06:13 PM


I guess some traditional Republicans don't want to make a pact:

Son of GOP President Supports Kerry

TRAPPE, Md. - John Eisenhower, son of Republican President Eisenhower, said in a newspaper column this week that he will vote for Democratic Sen. John Kerry...

...Eisenhower said he switched his party affiliation from Republican to independent after 50 years after losing confidence in his former party. He said Kerry has demonstrated courage, competence and a concern for tackling the "widening socio-economic gap in this country."

"There are times when we must break with the past, and I believe this is one of them," Eisenhower wrote...

The column assails... Bush... and the GOP for federal budget deficits, for "unilaterally" invading Iraq... and for infringing on personal liberties.

Jason: Do you really think that ballooning federal debt followed by a financial crisis will really shrink the size of the U States gov? Do you really think that shafting lower income people who have received promises from the U States gov solves the problem? You may not like social insurance and believe that it is "squandering money," nevertheless the promises were made, in a moral and political sense, if not a stricly legal one.

And we live in a democracy, and older people whose retirement income is at stake will vote, so the fed gov will be forced to try to solve the problem, one way or the other.

But there is no entitlement crisis with social security anyway, except or a temporary one created by politicians who think it is OK to shaft people and who borrowed from the trust fund. Too bad that temporary problem concerns the baby boomers, so that might be a big problem.

Posted by: jml at September 29, 2004 06:13 PM

Don't lament we will sell the highways, the bridges, airports, sewage treatment plants, farms, land get the idea.

Posted by: little alex at September 29, 2004 06:14 PM

No shit, Sherlock.

Posted by: Something Polish at September 29, 2004 07:03 PM

You forgot the prime Bush option. Continue to run deficits until forced to do otherwise.

As a businessman, did Bush ever run a company in the black? No. Bush is entirely comfortable with deficits as far as the eye can see. He should be able to string it along for at least another 4 years then dump the problem (and the blame) on someone else.

Posted by: bakho at September 29, 2004 07:12 PM

Is it the case then that we face one of:

1. Large tax increases

2. Huge reductions in Medicare and possibly other entitlement programs

3. Default on treasury debt

Well, I choose 1. And I am one of those who would be hit. Other votes?

Posted by: Bernard Yomtov at September 29, 2004 07:12 PM

"Well, I choose 1. And I am one of those who would be hit. Other votes?"

IIRC, Gosh darn it....I am really upset with moderates about this...when Paul Krugman gave this in depth thought in 2002 he decided that those were the three inevitable situations and concluded that any of the the three were politically impossible, so predicted civil disorder and great economic dislocation, but could not predict past that. It was those columns, and the claim that the evidence could be interpreted in no other way than that this was an intentional plan that got him labeled shrill. As far as I know, he has not changed his position.

Unlike Brad, he does not presume the White House is filled with idiots. Krugman still awaits some collegial support. If he had gotten it two years ago, we might be in a better position either fiscally or electorally.

Posted by: bob mcmanus at September 29, 2004 07:39 PM

You forgot the prime Bush option. Continue to run deficits until forced to do otherwise.

As a businessman, did Bush ever run a company in the black? No. Bush is entirely comfortable with deficits as far as the eye can see. He should be able to string it along for at least another 4 years then dump the problem (and the blame) on someone else.

Posted by: bakho at September 29, 2004 07:58 PM

Brad seems to confound the current Republicans with the supply-siders of yesteryear. We are seeing mendacity but not incompetence. Not, at least, from a revolutionary perspective. We are seeing the fifth stage of the Republican Revolution.

The first three are loosely confined to the last three decades:

70’s. Building the Coalition (Powell Memo to the Christian Coalition)
80’s. Building the Noise Machine and creating the brand (Reagan)
90’s. Winning Elections and consolidating political power (anti-incumbency to gerrymandering)

In a Bush second term the fourth phase will be completed: under funding government programs, cutting taxes and appointing a conservative judiciary. The fifth phase, which is already underway, has two parts. The first is to eliminate the conditions for effective political opposition. In the next few years there will be greater efforts to reduce the funding and influence of liberal non-profits, or take them over and, in some instances, effectively outlaw them (e.g., Greenpeace). There will also be a push to split the Democratic Coalition: religion for African-Americans and Hispanics, Israel for Jewish Democrats, union busting, and particularly privatization of government services to eliminate federal workers.

The second part is where the deficit comes in handy. The deficit will be used as excuse to dramatically undo the Welfare State. We will see broad, sweeping privatization of all the non-military functions of government. For Republicans ‘liberal’ and ‘government’ are two parts of the same entity. If there is only a military government there will be no liberals. Liberals will have no political platform if there are no social programs to protect and no money to initiate new ones.

Posted by: bellumregio at September 29, 2004 08:43 PM

We must consider how we are to invest properly in light of the fiscal imbalances that are building. Do we simply index to the Vanguard Total Stock Market fund, and give no thought to macro-economics? What other choices are there for ordinary investors?

Posted by: lise at September 30, 2004 04:53 AM

I think we're going to go over the cliff, folks. Big time. Think Greater than Great Depression, because when we go, we'll take most of the world's economies with us.

Posted by: Chuck Nolan at September 30, 2004 05:00 AM

By the way, on this last day of the federal fiscal year 2004, where is FY 2005 federal budget? Will the Republicans shut down the federal government again tonight (30th) at midnight?


Posted by: charles at September 30, 2004 06:22 AM

Being gloomy about fiscal policy makes sense, but I too keep asking myself how do I sensibly protect myself against fiscal policy problems. The answer so far has been to buy an index fund ignore macroeconomics.

Posted by: Ari at September 30, 2004 08:18 AM