Politicians who advertise themselves as “fiscal conservatives” sometimes campaign on crowd-pleasing pledges to cut taxes and simultaneously reduce budget deficits. These are difficult promises to deliver on in practice, since the budget deficit equals government spending minus tax revenue.
Aspiring fiscal conservatives may be interested in learning four innovative tricks that are commonly used by American politicians who like to promise what seems impossible. Each of these feats has been perfected over three decades or more. Indeed they first acquired their colorful names in the early years of the Ronald Reagan presidency:
The world is in the grip of a debate between fiscal austerity and fiscal stimulus. Opponents of austerity worry about contractionary effects on the economy. Opponents of stimulus worry about indebtedness and moral hazard.
Is austerity good or bad? It is as foolish to debate this proposition as it would be to debate whether it is better for a driver to turn left or right. It depends where the car is on the road. Sometimes left is appropriate, sometimes right. When an economy is in a boom, the government should run a surplus; other times, when in recession, it should run a deficit.
Some conservatives are attacking current U.S. monetary policy as being too expansionary, as likely to lead to excessive inflation and debauchment of the currency. The Weekly Standard is promoting a letter to Fed Chairman Ben Bernanke that urges a reversal of its policy of QE2, its new round of monetary easing. The letter is signed by a list of conservatives, most of whom are well-known Republican economists, some associated with political candidates. Apparently the driving force is David Malpass, who was an official in the Reagan Treasury, and he is taking out newspaper ads later this week. This follows similar attacks on the Fed by politicians Sarah Palin, Mike Pence, and Paul Ryan.
The famous Paradox of Thrift holds now more than ever: what is good for the individual, and for the economy in the long run — high saving — is bad for the economy in the short run. During the current worst-post-30s recession we need a boost to demand. In the longer run we need more saving.
Americans could not have gotten the timing worse. During the three expansions of 1983-2007 the economy grew well, and by the end of the period the first baby boomers had reached their peak earning years. Yet households’ saving rates declined, falling almost to zero in 2005-07. Meanwhile, the government ran record deficits, reducing national saving even more (in the 1980s and 2000s; the late 1990s saw surpluses). It is ironic that the pro-capital orientation to the Reagan tax cuts of 1981-83 and the Bush tax cuts of 2001-03 was largely sold as an incentive to increase saving and investment, and yet household saving fell sharply subsequent to both policy changes — to say nothing of national saving. The increase in the after-tax return to saving did not lead to a “return to saving.”
Following up on my preceding post, I will here document who has said what.
High officials in the Reagan Administration apparently did subscribe to the Laffer Hypothesis:
• Reagan himself: “…our kind of tax cut will so stimulate the economy that we will actually increase government revenues…” July 7, 1981 speech 1/
• His Secretary of the Treasury, Don Regan, even after events had falsified the proposition to the satisfaction of most observers, wrote of his “very strong opinion that a tax cut would produce more revenue than a tax increase.”2/
Also: “The increase in revenues should be financed not by new and higher taxes, but by lower tax rates that would produce more money for the government by stimulating higher earnings by corporations and workers…” (p.173).
So Arthur Laffer — still arguing the improbable “supply side” proposition that cutting income tax rates generally raises total tax revenue — is apparently now a special adviser to John McCain. And McCain has taken on a big consignment of the snake oil, to Greg Mankiw’s dismay. The political temptation for a Republican candidate to promise both lower tax rates and higher revenues is irresistible. The policy-makers who cut taxes when Ronald Reagan and George W. Bush, respectively, came to power subscribed to this claim. Remarkably, at the same time, the economists who were the chief economic advisers to Reagan and Bush during these tax cuts disavow the proposition that they increase revenue (Murray Weidenbaum, Martin Feldstein, Glenn Hubbard, Mankiw…) . Almost all serious economists – let us say Ph.D. economists – disagree with this proposition, with only a microscopic handful of exceptions like Laffer. Indeed some of the advisers who defend the Reagan and Bush economic policies claim that this formulation of supply side economics is a caricature, and was not the true rationale of the tax cuts. This wishful thinking is directly at odds with quotes from the presidents themselves and their Treasury secretaries and other economic officials, to the effect that tax cuts stimulate income so much as to produce more tax revenue. Laffer is not a straw man. (See my next post.)
Floyd Norris notes in the New York Times (Feb. 9, 2008, p.B3),“George W. Bush is in line to be the first president since World II to preside over an economy in which federal government employment rose more rapidly than employment in the private sector.” It is another bit of confirmation of the truth behind a comment that “Joe S.” posted in response to my blog entry of February 6 (“Reagan and Stalin”): “What, pray tell, does the Republican Party have to do with conservatism?”
What do Milton Friedman, Ronald Reagan, and the current US Congress have in common with Joseph Stalin?
No, it’s not that they are dead.
Recently I appeared on one of those TV shows where a right-wing host interrupts the guest frequently. (Not that I had realized what it was. I had not heard of the guy, Glen Beck, and the producer had only told me they wanted me to talk about Washington’s reaction to new recession fears.) On the show I said I thought it would be a good idea if the recipients of tax rebates this time around included lower-income Americans, at least those workers who did not make enough to pay income taxes, but who did pay payroll (social security) taxes. This would be in contrast to the last 7 years of tax cuts which have left these people out. The TV host’s reaction was “Welcome to the show Mr. Stalin.” A media watch site called Media Matters for America picked this up, as an egregious comment even by the standards of talk show hosts. Of course the Democratic and Republican leadership of Congress, with the encouragement of the White House, have decided to include precisely these lower-income workers in the tax cuts this time. So I guess they are Stalinists. And Milton Friedman originally proposed the negative income tax, which was enacted as the Earned Income Tax Credit, and became highly successful when expanded by Ronald Reagan (1986) and Bill Clinton (1993). Quite a few Stalinists around!