Bush, Obama and the federal deficit

The great economist, John Maynard Keynes, said that governments should set taxes and expenditures so that they run a surplus when times were good and a deficit when times are bad, but balance over the period of the economic cycle.   This is much like the advice that Joseph gave to Pharaoh in the Bible.

The Clinton administration, with maybe some nudging from Republicans in Congress, followed that advice.   Bill Clinton was lucky in his timing.  He came into office at the start of an economic recovery and got out before the next crash.

The boom in itself helped bring the government’s budget into balance.  Tax revenues increased, and it was easier to cut spending.  Clinton made good use of that opportunity.  A commission headed by Vice President Al Gore streamlined the government so that, at the end of his administration, there was less spending (in inflation-adjusted dollars) and fewer civilian employees [1] than at the beginning.

Clinton persuaded Congress to increase taxes [2] by a few percentage points, which also helped.  Taxes still were low compared to what they were prior to the Reagan era.

I don’t think increasing taxes makes it easier to spend money.  On the contrary, the fact that it is necessary to pay for what is spent creates an incentive to avoid unnecessary spending.

President George W. Bush changed this.  He persuaded Congress to cut tax rates while launching an expensive war.  Nevertheless, the economic recovery during his administration brought the federal budget closer to being in balance, until the crash.

Notice that a fiscal year starts on October 1 of the previous year.  Thus fiscal 2001 began on Oct. 1, 2000, and fiscal 2009 began on Oct. 1, 2008.  This means the first Bush budget was in 2002 and the first Obama budget was in 2010.

In 2010, the first Obama budget, the federal budget deficit began to close.  Maybe the need to appease Republicans in Congress had something to do with this.  Maybe the decrease is not enough since, even though the deficit is being reduced, it still exists and the debt in cumulative.   I won’t argue either point.

What I will argue is that if budget balance is your main priority, the Clinton era shows how to do it.  Cut unnecessary spending, raise enough taxes to cover the rest and hope for economic growth.

The price of averting a debt payment crisis

Congressional Republicans are threatening to shut down the government unless Obamacare is defunded.  But the real danger to the government’s functioning, as blogger Steve Benen pointed out, is the refusal of the Republicans to raise the debt ceiling unless their demands are made.  These demands are shown in the graphic above.

These demands are basically the Mitt Romney presidential platform, which the American electorate rejected a year ago.   All of them, in my opinion, are bad for the country.  But if I’m wrong about that, then let the proponents enact laws through the regular lawmaking process.

The fact that the Republicans have a majority in Congress at all is due to the way congressional districts are drawn.  Democratic congressional candidates last year got a million more total votes than Republican candidates.

I don’t know what the effect of refusing to raise the debt ceiling would be.  It seems to me that the Federal Reserve Board could solve the problem by creating money to buy up the excess debt.  Maybe this would set a bad precedent.  In any case, I don’t expect this to happen.

One of the big assets of the United States is the world’s confidence that our government debt will be repaid.  To the extent this is damaged, it could add untold billions in the government debt service costs and maybe even undermine confidence in the U.S. dollar as the world’s reserve currency.  Risking this is deeply irresponsible.

The criticism that is made of President Obama is that he refuses to compromise.  But the ordinary meaning of the world compromise is to give up something in order to get something in return.  There is no question of compromise here—only the question of whether and to what degree he will give in to threats.

Six years ago, we had the same political situation that we do now, in reverse.  Republicans occupied the White House and had a majority in the Senate, Democrats had a majority in the House of Representatives.  Congressional Democrats never threatened to close down the government or damage the credit rating of U.S. Treasury bonds in order to get their way.  Nor, for that matter, did Senate Democrats insist on a 60-vote majority for routine business.

When I studied political science in college in the 1950s, I was told of the superiority of the pragmatic American political culture to the ideological French and Italian political parties, who pushed ideology to the limit regardless of consequences.  But that was then.  This is now.

Spending cuts bigger than tax increases

The “fiscal cliff” deal between President Obama and leaders of Congress consisted mostly of restoring Clinton-era tax rates on incomes above $400,000 a year.

But researchers at the Center for American Progress, a liberal think tank, state that since fiscal 2011, reduction in projected spending has been much more than the increase in tax revenues.  The chart below shows the basis of that conclusion.

I didn’t vote for President Obama, but that’s because I don’t think deficit reduction is so important that other issues don’t matter.

Click on The Deficit Reduction We Have Achieved So Far for the Center’s full analysis

It’s the total debt, not the deficit, that matters

Double click to enlarge

This chart, which first appeared in the Washington Post, is seriously flawed, but still informative.  The flaws are:

• The color code for the House of Representatives is off.  Red, not blue, represents Democratic majorities; blue, not red, represents Republican majorities.  The color code for the Senate and for Presidential administrations is consistent with the key of red for Republicans, blue for Democrats
• Party responsibility should be moved a year to the right.  Fiscal 2009, which began Oct. 1, 2008, was the last budget of the George W. Bush administration; fiscal 2001, which began Oct. 1, 2000, was the last budget of the Clinton administration; and so on.  Nearly every chart showing the history of federal taxes and spending makes this mistake.

Nevertheless, the chart is important because it shows that the size of the total government debt, not the size of the annual deficit, is what matters.  The government’s annual deficit was slightly lower in 2010 than in 2009.  How much that was due to President Obama and how much to the economy, I can’t say.  Nevertheless, the total government debt went up, as under previous administrations.

There’s something else that’s even more important than the size of the government debt, and that is the size of the debt in relation to the size of the economy.  The United States came out of World War Two with a huge debt that never was paid off, but it ceased to matter, because the economy grew so much in the next 30 years that the debt become less and less important.

Double click to enlarge

The debt to GDP ratio can be improved by reducing or eliminating the annual government budget deficit, and by growing the economy. Economic growth will help shrink the deficit.  Shrinking the deficit may or may not help economic growth, depending on how it is done.

The federal government does not control the growth of the economy, but there are ways that it can help.  It can rein in reckless speculation by investment banks, so that they return to investing in the real economy.  And it can spend money on things that contribute to economic growth, such as education, scientific research, infrastructure and maintenance of basic services.

There is a fine line to walk.  Spend money on useless things, and you worsen both the government’s financial position and the overall economy.  Refuse to spend money on essential things, and you also stifle economic growth.

Taxes, spending and the deficit

Source: Office of Management and Budget. Click to view.

The majority of Democrats say that the federal budget deficit should be addressed by raising taxes and cutting spending.  The majority of Republicans say that the federal budget deficit should be addressed by cutting spending and taxes under no circumstances should be raised.  Based on the chart, I would say the Democrats have the better of this argument.

Notice that the only time in the past 30 years that revenues exceeded expenditures was during the Clinton administration.  This is partly a technicality of accounting; the surplus in the Social Security Trust Fund was used to offset the general government’s deficit, even though Social Security is kept separate from the general budget.  It also reflects the moderate tax increases enacted during President Clinton’s first year, and the work done by Vice President Al Gore to improve governmental efficiency and reduce civilian important.  Even so, President Clinton did not project a budget surplus.  What brought his administration into the black was the economic boom during his second term.

During the George W. Bush administration, spending increased, covering the cost of wars in Iraq and Afghanistan and a new Medicare drug benefit, and taxes were cut.  The recession caused spending to increase and tax revenue to fall during the last Bush years, and the gap has grown even greater during the Obama administration.

The Republican leadership – Senate Minority Leader Mitch McConnell and House Speaker John Boehner – say that the deficit is the overriding problem, and non-military spending can in no way be increased.  But when possible tax increases come up, they say that you shouldn’t raise taxes during a recession—in other words, that the recession, not the deficit, is the overriding problem.

My own view is that as a result of the deindustrialization and financialization of the U.S. economy over several decades, we have to think not just about the deficit and not just about restarting the economy, but about rebuilding the nation’s economic strength.

Obama, the GOP and U.S. priorities

The Republican Party is amazing.  The Republicans, after winning a majority in the House of Representatives, have done more to change the direction of the country than the Democrats did in the two years that they controlled the Presidency and had majorities in both Houses of Congress.

Click to view

President Obama has agreed to shift from doing something about the present unemployment and foreclosure crises to addressing the future federal budget deficit.  And he has further agreed that the federal budget will be balanced largely at the expense of the elderly, the sick and the unemployed rather than upper income taxpayers.

And even with this, it is still an open question as to whether the Republicans will accept Obama’s terms or force the federal government into defaulting on its debt anyway—resulting in loss of faith in U.S. financial solvency and higher interest rates for decades to come and maybe indefinitely.

Either President Obama is an exceptionally weak President, or his priorities are different from what his supporters assume they are.  Just as only a supposedly conservative Republican could go to China, only a supposedly liberal Democrat can cut Social Security and means-test Medicare.  If this is what the President had in mind to do anyway, his supposed dilemma is not a dilemma.  He is like B’rer Rabbit being thrown into the briar patch.