The Public Debt Is Rising Because Of Tax Cuts and Wars

In past posts, I’ve emphasized that tax cuts don’t really generate greater revenues for the government except under the most unusual circumstances.  Tax cuts do exactly that, they cut the taxes available to the government.  And that is one of the three big reasons why the U.S. government is running large deficits today and has a rising public debt.  The three big reasons are Bush-era tax cuts, wars, and an economic recession which cuts revenue. It wasn’t the stimulus spending or the bailouts.  From Chad Stone at the CBPP:

As we’ve noted, my colleagues Kathy Ruffing and Jim Horney have updated CBPP’sanalysis showing that the economic downturn, President Bush’s tax cuts, and the wars in Afghanistan and Iraq explain virtually the entire federal budget deficit over the next ten years.  So, what about the public debt, which is basically the sum of annual budget deficits, minus annual surpluses, over the nation’s entire history?

The complementary chart, below, shows that the Bush-era tax cuts and the Iraq and Afghanistan wars — including their associated interest costs — account for almost half of the projected public debt in 2019 (measured as a share of the economy) if we continue current policies.

Tax Cuts, Wars Account for Nearly Half of Public Debt by 2019

Altogether, the economic downturn, the measures enacted to combat it (including the 2009 Recovery Act), and the financial rescue legislation play a smaller role in the projected debt increase over the next decade.  Public debt due to all other factors fell from over 30 percent of GDP in 2001 to 20 percent of GDP in 2019.

If we just let the Bush-era tax cuts expire on schedule and nothing else, we can get the public debt stabilized relative to GDP.  If we also end these multiple wars (Iraq, Afghanistan, Libya, where else?), things get much better.  We could easily afford to stimulate the economy back to full-employment.  We could pay for everybody’s healthcare bills into old age.  Just sayin’.

 

More re: National Debt

Just after I finished my Background Info on National  Debt post, I ran across this from James Galbraith at New Deal 2.0. He does a nice job of pointing out some of the errors of the “oh-my-god-the-deficit-is-going-to-destroy-us-if-we-don’t-cut-grandma’s-social-security” crowd. For  those not aware, Pete Peterson is a billionaire that has spent millions trying to frighten people with the deficit and persuade people to cut government spending benefits to people less fortunate than him. He paid for a substantial portion of the Obama Bi-Partisan Commission on Fiscal Responsibility – the ones who recommended cutting Social Security, a sound healthy program. He has also contracted with Columbia Univ. Teachers College to produce propaganda “educational materials” for elementary school children about the national debt, or at least as Peterson understands the debt. Of course, as we learn from Galbraith, Peterson and his foundation don’t really understand it very well:

Economist James K. Galbraith goes behind the scenes at a Pete Peterson gathering of deficit hawks to see what they have to say.The Fiscal Solutions Tour is the latest Peter G. Peterson Foundation effort to rouse the public against deficits and the national debt — and in particular (though they manage to avoid saying so) to win support for measures that would impose drastic cuts on Social Security and Medicare. It features Robert Bixby of the Concord Coalition, former Comptroller General David Walker and the veteran economist Alice Rivlin, whose recent distinctions include serving on the Bowles-Simpson commission. They came to Austin on February 9 and (partly because Rivlin is an old friend) I went.

Mr. Bixby began by describing the public debt as “the defining issue of our time.” It is, he said, a question of “how big a debt we can have and what can we afford?” He did not explain why this is so. He did not, for instance, attempt to compare the debt to the financial crisis, to joblessness or foreclosures, nor to energy or climate change. Oddly none of those issues were actually mentioned by anyone, all evening long.

A notable feature of Bixby’s presentation were his charts. One of them showed clearly how the public deficit soared at the precise moment that the financial crisis struck in late 2008. The chart also shows how the Clinton surpluses had started to disappear in the recession of 2000. But Mr. Bixby seemed not to have noticed either event. Flashing this chart, he merely commented that “Congress took care” of the budget surplus. Still, the charts did show the facts — and in this respect they were the intellectual highpoint of the occasion.

federal-spending-v-reveunes-chart-500

A David Walker speech is always worth listening to with care, for Mr. Walker is a reliable and thorough enumerator of popular deficit-scare themes. Three of these in particular caught my attention on Friday.

To my surprise, Walker began on a disarming note: he acknowledged that the level of our national debt is not actually high. In relation to GDP, it is only a bit over half of what it was in 1946. And to give more credit, the number Walker used, 63 percent, refers to debt held by the public, which is the correct construct — not the 90+ percent figure for gross debt, commonly seen in press reports and in comparisons with other countries. The relevant number is today below where it was in the mid-1950s, and comparable to the early 1990s.

But Mr. Walker countered that fact with another, which I’d never heard mentioned before: in real terms he said — that is, after adjusting for inflation — per capita national debt is now twice what it was back then.

The problem is that real per capita national debt is a concept with no economic meaning or importance. (No government agency reports it, either.) Even in the private sector, debt levels matter only in relation to income and wealth: richer people can (and do) take on more debt. Real per capita national income is well over three times higher today than it was in 1946 — so how could it possibly matter that the “real per capita national debt” is twice as high?

Next, Mr. Walker made a comparison between the United States and Greece, with the implication being that this country might, some day soon, face that country’s interest costs. But of course this is nonsense. Greece is a small nation that has to borrow in a currency it cannot control. The United States is a large nation that pays up in a money it can print. There is no chance the markets will mistake the US for Greece, and of course they have not done so.

Finally, Mr. Walker warned that “foreign lenders… can’t dump their debt but can curb their appetite” for new US Treasury bonds. This was an oblique reference to the yellow peril. The idea, when you think about it, is that the Chinese central bank will acquire dollars — which it does when China runs an export surplus — and then fail to convert them into Treasury bonds, thereby choosing, voluntarily, to hold dollars in cash, which earns no interest, instead of as Treasury bills, which do. Mr. Walker did not try to explain why this would appeal to the Chinese.

Walker closed by calling for action tied to an increase in the debt ceiling; specifically for a hard cap on the debt-to-GDP ratio with “enforcement mechanisms,” which could include pro rata cuts in Social Security and Medicare benefits and tax surcharges. He did not specify whether the cap should apply to gross federal debt or only to that part of the debt held by the public (a number which the Federal Reserve can change, any time it wants, by buying or selling public debt). When pressed, in the question period, he would not even say what he thought the cap should be.

I waited for Ms. Rivlin to add something sensible. But she did not. Apart from some platitudes — she favors “serious tax reform” and “restructuring Medicare” — her interesting contribution was to restate Mr. Walker’s comment about “foreign lenders,” who might say “we’re not going to lend you any more money.” That this would amount to saying “we’re not going to sell you any more goods” seems — from a question-and-answer and brief exchange afterward — genuinely not to have crossed her mind.

The Fiscal Solutions Tour comes with a nice brochure, and even (in my case) with a flash drive containing Mr. Bixby’s powerpoints. But does Mr. Peterson think he’s getting his money’s worth? The President, in his State of the Union, mostly ignored him. The Bowles-Simpson effort (which he paid for in part) and the closely allied Rivlin-Domenici plan are fading from view. And as the House Republicans forge their own course, demanding radical spending cuts right now — for political rather than economic reasons, which they don’t even bother to explain — the tired and shabby arguments of these old deficit-worriers hardly seem connected, any more, to the battles at hand.

James K. Galbraith is a Vice President of Americans for Democratic Action. He is General Editor of “Galbraith: The Affluent Society and Other Writings, 1952-1967,” just published by Library of America. He teaches at the University of Texas at Austin.

No, Sovereign Currency Nations Don’t Go Bankrupt

National debt continue to dominate economic and political talk. This week Moody’s bond rating agency downrated Japan’s national government debt. The Serious People and Talking TV Heads will be full of dire prognostications for Japan. Of course, I don’t see why we should believe Moody’s or S&P anymore after they reassured us for years that sub-prime mortgage-backed securities were AAA rated secure stuff.  It’s clear they live in an alternate reality world. And that’s where the dire prognostications for Japan belong too – in an alternate reality world, not this one.  Krugman in his NYTImes blog reminds us what happened to Japanese interest rates the last time their debt was downrated to only AA, not even AA-:

Amid all the stories about the S&P downgrade of Japan, I’ve seen hardly any mentions of the fact that Japan was downgraded below Botswana in 2002. And here was the effect on the interest rate:

DESCRIPTIONEurostat

Nada. In fact, if you bought JGBs just before the downgrade, you ended up doing very well.

I’m not saying that Japan’s long-run budget situation isn’t troubling. But the rating agencies (a) don’t know anything the rest of us don’t (b) are way too quick to downgrade sovereign debt, especially as compared with their what-me-worry attitude toward private securities (c) have very little actual influence on market.

Japan is an advanced industrial nation with a sovereign fiat currency that borrows in it’s own currency. Much like the U.S., Canada, and Australia. But “Japan has close to 200% debt-to-GDP ratio! ” the debt terrorists scream.  It’s going to collapse and go bankrupt, they say.  The truth is not in this real world.  It’s perfectly supportable. There’s no need to for drastic austerity measures in Japan. Just like there’s no debt problem in the U.S. where the ratio is only around 70-75%.

“Sovereign Default” is an Oxymoron With Fiat Money

Again, there is no risk – none, zip, nada – of default by the US (or any other currency sovereign nation) on their government bonds.  This does not mean that these governments can run unlimited deficits of unlimited amounts without any consequences.  It means the consequences don’t include default on government bonds.  If the government spending were truly too much, the consequence would be an overstimulated economy where aggregate demand exceeds available real resources. It does mean that the national debt does not ever have to be “paid off”.  It also means that deficits now do not imply “higher taxes in the future”.

Today’s support comes from Bill Mitchell ‘s Billy Blog and  Steven Major of the Financial Times.

In his FT article – ‘True sovereigns’ immune from eurozone contagion – HSBC economist Steven Major opens with the following statement:

There are plenty of doomsayers who think it is only a matter of time before the sovereign risk crisis spreads from the eurozone to other countries, including the US, UK and Japan.

This is not going to happen in my view. That is because the obsession with public debt ratios fails to distinguish between different levels of sovereignty. The US, UK and others can maintain high public debt ratios for longer, especially given the amount of deleveraging being carried out by the private sector.

Not all sovereigns are the same. The US, UK, Japan and Canada are examples of what I call “true sovereigns”. For these countries there is zero default risk. Investors should not worry about credit fundamentals, as they will always receive their coupons and original investment on redemption.

This is so contrary to what is being peddled each day in the financial press that a medal for bravery should be awarded. I just did that Steve(!)

Steven Major chooses to term a government in the former category a “true sovereign” because it:

… can issue freely in its own currency, has full taxing power over the population and ultimately, if required, can create more of its own money. None of this means that true sovereigns can afford to be profligate, far from it, but it does mean there is no externally imposed timetable on fiscal retrenchment.

I am 100 per cent in agreement with this construction.

One More Time, the Government Is NOT Like a Household or a Business

Ron Dzwonkowski of the Detroit Free Press ran a column today urging people to participate in various “town hall” discussions to help figure out the US can deal with it’s “deficit” and the “debt” that must “lead to collapse”.

Mr. Dzwonkowski adopts the posture of  “reasonable, practical man” – not that of an ideologue.  In fact he appeals to “basic math and logic”.   But again, we see that Keynes was right:   Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Mr. Dzwonkowski is the slave of defunct economists from the late 1800’s and early 1900’s when gold and bankers reigned supreme.  This is not the world we live in today.  The following is the text of the email I sent him.

I was most disappointed in your column on Sunday, June 20. There are many reasons for my disappointment, but the greatest is your repetition of economic nonsense that is flatly, factually wrong.

I quote your opening:

Basic math — and logic — says you can’t keep spending almost $2 for every $1 in your pocket. However, neither rules in Washington, where our national government now adopts budgets that authorize spending more than $1 trillion beyond tax collections and has accumulated a debt in excess of $13 trillion, a simply incomprehensible number…..This can’t go on; it’s a formula for collapse.

Actually basic math and accounting (and “logic”) brings the exact opposite conclusion. I believe you have fallen prey to a very common error, an error that is promoted by people who know better (or should) but have reasons to keep people believing the error. The error is simple:

You assume that the national government is the same as any household or any business or any corporation. It is not.

Households, businesses, corporations, and even state governments are all “financing-constrained”. This means that before they can spend, they must raise the funding through either revenue (income or taxes depending on the entitity), borrowing, or selling assets. SImply put, they must have something in the checking account before writing the check to spend.

A national government is NOT the same as these other entities. A national government CAN and DOES spend without any restriction on raising the funds first.

For these purposes, I’m using a “national government” to mean one that is:

a. sovereign in it’s money (in other words, it is the sole source of determining what is money/legal tender inside it’s territory)

b. let’s it’s money float in exchange rate and doesn’t promise a fixed conversion rate into any other currency or gold

c. borrows money in it’s own currency (when it chooses to borrow) and not a foreign currency.

Who fits this definition? The U.S., Japan, Canada, the U.K., Australia, India, among many (most) others. Who doesn’t fit? Anybody in the Euro Monetary Union (Greece, Spain, Italy, France, Germany, etc). Who else doesn’t fit? Anybody that borrows in foreign currencies (Russia & Argentina in the 1990’s).

What I am explaining is not “an economic theory” – it is basic, fundamental national income accounting and fundamental banking procedures.

The blunt truth is that the U.S. can indeed continue to run deficits. The same people who claim that we are on the verge of collapse (as you claim is obvious) said exactly the same thing about Japan in the mid-1990’s. A decade and a half later Japan is still running “high deficits” and has no problem with either it’s budget or “solvency”.

The blunt truth is that when unemployment is well in excess of 9% nationally, any attempt to reduce deficit spending now by cutting spending or raising taxes will only further contract the economy, reduce actual tax collections and make the actual deficit bigger (see Ireland over the last 2 years).

The fundamental economic reality (again, basic math and accounting, not “theory”) is that if the private sector, you and me and private businesses, want to get financially richer, that is if we want to see our bank balances and 401K’s get bigger over time, the government, the public sector, must run a deficit. It is simply impossible for the private sector to net save money AND have the government run a surplus at the same time. (technically, there is one situation where it is possible, but that can ONLY happen if net exports is so large – think 20% or more of GDP – Chinese scale. Such large net exports cannot happen in all countries at once).

These are not the thoughts of sole “crank professor”. I could provide plenty of support for everything I’ve said. In fact, if you are interested, I would be happy to discuss it further and help you learn.

I am distressed because I work so hard to educate students to think critically, evaluate the evidence, and make sound “logical” conclusions. But I can only reach maybe 150 students per semester. You, however, reach thousands of people and you repeat what are eggregious errors of math, logic, and accounting, while repeating these fallacies while posturing as a neutral adult voice of reason. I could leave it at that, except that this epidemic of illogical thinking about government budgets has consequences. Social services will be sacrificed on an the alter of 1800’s economics theory where governments were constrained by what gold the bankers would lend them.

Europe Update: Strikes in Spain, UK Austerity, ECB Bond Purchases

European leaders (read banker-types) insist on austerity (read lower real wages and services for middle and lower classes) in the midst of 10% and rising unemployment.  Dangerous mix.  The one good sign is that the ECB is actually buying govt bonds, including Greek bonds, despite it’s public hard-line position.  From Calculated Risk:

Europe Update: Strikes in Spain, UK Austerity, ECB Bond Purchases

Form the NY Times: Spain Hit by Strike Over Austerity Measures

Spanish public workers went on strike on Tuesday against a cut in their wages in what could be the first of several union-led protests against the government’s latest austerity measures.

From The Times: Osborne’s four-year austerity programme

George Osborne braced the country for cuts in government spending of up to 20 per cent as he laid the ground for an austerity programme to last the whole parliament.

From Der Spiegel (a week ago): ECB Buying Up Greek Bonds (ht Chris)

Bonds worth about €3 billion are now being purchased on every trading day, with €2 billion of the bonds coming from Athens.

From Bloomberg: Greek Default Seen by Almost 75% in Poll Doubtful About Trichet

Global investors have little confidence in Europe’s efforts to contain its debt crisis or in European Central Bank President Jean-Claude Trichet, with 73 percent calling a default by Greece likely.

From the NY Times: E.U. Finance Ministers Agree on Tighter Oversight

Despite continuing tensions over economic policy, European Union finance ministers agreed Tuesday on far-reaching steps to tighten oversight of national governments’ budgets and crack down on falsification of economic data, in a concerted effort to avert a further loss of confidence in the euro.